What is Bitcoin? | Bitcoin Basics

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What is Bitcoin?

Bitcoin is a bit like cash. Bitcoins are created by a group of people called “miners,” who use powerful computers to solve complicated math problems in exchange for bitcoins. The bitcoins are stored in a digital wallet—also called a Bitcoin “wallet”—on the user’s computer or phone.

Bitcoin also works the same way the U.S. dollar and Euro work. Each Bitcoin is then transferred from one digital wallet to another. The wallets get smaller and smaller as more and more bitcoins are created.

But because there is no central bank that has control over Bitcoin, the exchange rate between Bitcoin and the U.S. dollar has fluctuated drastically over the years. To prevent a complete run on the currency, the system is regulated by a code called the blockchain.

What is blockchain?

Think of the blockchain as a digital ledger, or ledger in which every transaction ever made is recorded. There are no copies of the blockchain. The blockchain is a secure and decentralized way to keep track of Bitcoin transactions.

As an analogy, think of the blockchain as a huge, continually running ledger for all of your credit cards. Whenever you shop online, a record is made in the blockchain about your purchases. When you buy a single credit card, that record gets filed in your bank.

The blockchain is essentially a public, digital ledger. Bitcoin transactions are also stored publicly in the blockchain.

How are Bitcoins created?

The algorithm which governs how Bitcoin is created is called the “difficulty” algorithm. This algorithm dictates how difficult it is for miners to create new bitcoins. Miners have to solve math problems in exchange for a certain number of Bitcoins every time a Bitcoin is created. The number of Bitcoins created in any given year is determined by this algorithm.

What is the value of a Bitcoin?

Bitcoin prices have varied greatly over the years. In 2011, a single Bitcoin was worth around $2. Now they are worth over $40,000. But the range is pretty volatile, too, with the lowest values being around $80 and the highest reaching as high as $40,000.40.

The fluctuations are due to several factors, including the number of users, the amount of money entering the market, as well as the volatility of the price.

What is Bitcoin mining?

Bitcoin miners are programmers who use their computing power to solve the “difficulty” algorithm. To validate a Bitcoin transaction, the miners must solve a complicated math problem. The difficulty algorithm varies every year, and at the beginning of every year, the difficulty increases. Since there is a finite amount of Bitcoins in existence, it becomes harder and harder to complete these puzzles.

As a result, the rewards become more valuable. So, it is in the interest of Bitcoin miners to continue solving the puzzles to continue earning Bitcoins.

What is Bitcoin trading?

In 2011, Bitcoin was relatively unknown and widely unregulated, and thus wasn’t widely traded. The Bitcoin exchange rate was extremely volatile, often going to and from within a few cents. Since then, the value of a Bitcoin has grown substantially and exchanges now offer leveraged trading (where more money can be put at risk in order to gain more Bitcoins) as well as trade-in over-the-counter (OTC) Bitcoin markets.

Many exchanges provide customers with tools that allow them to trade Bitcoins on the go and they have developed online software which customers use to gain Bitcoin. Oftentimes people interested in investing in Bitcoin purchase and immediately transfer their Bitcoin in exchange for fiat currency. This can be done at exchange offices, but as more exchanges are offering online trading, OTC trading is becoming more popular.

Anywhere from 15 to 1,800 Bitcoin exchanges are now operating in the world, with hundreds more waiting in the wings.

What do Bitcoin exchanges look like?

Individual exchanges operate much like stock exchanges. Customers make their purchases, often using bank transfers, at the exchanges and then trade their Bitcoin for traditional currency.

EURO/USD is a more popular choice for many Bitcoin exchanges than USD, as many institutional investors and traders use EURO.

Once Bitcoin exchanges become more established, they often incorporate smart contracts, in which software sends the Bitcoin to a specific person at a specified time, and then automatically exchanges the Bitcoin for fiat currency.

These smart contracts can be used to protect customers and provide fraud prevention.

These Smart Contract solutions are used by exchanges like Bitstamp, Kraken, Bitfinex, and others.

The reason for this unusual configuration is that many cryptocurrencies (such as Bitcoin) are not widely traded, but are instead used for large capital transactions, such as buying a house or investing in a startup.

The safest way to gain exposure to Bitcoin is through an ETF (Exchange-Traded Fund).

Funding For The First ETF

In 2013, the SEC approved the first-ever Bitcoin ETF. That ETF, which is called the Winklevoss Bitcoin Trust ETF, is sponsored by the Winklevoss brothers and has received $11 million in funding. The ETF is designed to track the price of Bitcoin and be invested only in Bitcoin.

The Winklevoss’ bitcoin ETF is currently under review by the SEC and maybe the first ETF in the world, with the exception of gold-backed ETFs, to be approved.

Over the past two years, the value of Bitcoin has grown to almost $800 and is trading at around $1900 right now.

Will The Bitcoin Bubble Burst?

The Bitcoin price has a history of both peaking and bursting. Just two years ago, it was trading at around $1200.

Currently, Bitcoin is “in bubble territory”, with many analysts believing that it will be the first Bitcoin bubble to burst.

However, the Winklevoss Bitcoin ETF may soon solve this problem and bring legitimacy to Bitcoin.

ALSO READ: What Benefits of Cryptocurrency?


Bitcoin Basics

Some see Bitcoin as a libertarian play for the masses since it can be transferred with very little bureaucracy or government involvement.

“Bitcoins are a store of value because the collective agreement that they’re going to be used to transfer wealth is incredibly strong,” said Paul McNamara, a Canadian entrepreneur and former Bitcoin miner who now runs the Canada-based Ethereum mining company Genesis Mining. “There is no way for a government or any other entity to censor or interfere with that transfer of wealth. It’s a public record. You know it exists, and you can prove to someone else that this exists, which is why it’s attractive to libertarians.”

Others, however, see Bitcoin as just another way for criminals to move their cash into the financial system, without the higher standards of credit card companies and banks. “Bitcoin is actually not safe at all,” says Michel Bauwens, a French-born policymaker and cofounder of a network for decentralized management of the internet, called xPotentials.

“Forcing all the Bitcoin out of the hands of criminals and drug dealers is probably a very good thing, but this is a logical thing to do,” Bauwens says. “But you’re putting the means for currency, and for money transfer, out in the wild with no infrastructure for supervising the transactions, which makes it very dangerous.”

In most cases, the criminals might be attempting to convert their illicit funds into fiat money, not get them out of the country, but the fact that they’ve moved their funds out of a region with some capacity to tax and verify those transactions is a reflection of a problem. “The biggest risk with Bitcoin is the ability of it to be widely adopted without any scrutiny by the financial authorities because governments and banks are forced to comply,” Bauwens says. “The implications for crime and government surveillance are very serious, and unfortunately not adequately addressed by the Bitcoin proponents.”

Who might benefit from Bitcoin?

That, unfortunately, is the big mystery, and an important piece of the cryptocurrency puzzle.

“There’s a big focus on what kind of use case people would want to have for this. We think there are lots of use cases, many of which don’t actually need any of the blockchains,” says Chris Keshian, CEO of digital currency investment firm Block.

The company’s Blockchain division created the Ethereum blockchain platform that powers the entire Bitcoin network. He is interested in the prospect of using Ethereum as a way to build “decentralized applications,” or apps that run atop the Ethereum network. “To be able to build decentralized applications, for lack of a better way to put it, means the security can come from the users, the data can come from the users, the blockchain can be immutable, and at some point, you don’t have to rely on a centralized organization to run these applications. That’s enormous potential.”

But there are plenty of other ways for Bitcoin to be useful. The company Niche Labs, for example, is developing an app that will make it easier for retailers to accept Bitcoin payments, because retailers will no longer have to calculate the cryptocurrency’s real-world value against the real-world value of their products. “The current Bitcoin situation is like selling puppies and having to keep track of their sales stats,” said Jeff Moxon, CEO of Niche Labs. “When the process is centralized, it can create more problems than it solves.”

Of course, there are concerns that the tremendous growth of the cryptocurrency in recent months, with prices spiking nearly 200% over the past month, and with volume surging, is creating bubbles that will burst once the novelty of the asset begins to wear off. In November, a Dutch Bitcoin start-up announced that it was shutting down after having raised nearly $6 million of venture capital in Bitcoin.

Earlier this month, the New York State Department of Financial Services announced that it had authorized an experimental offering of the currency by a single investor in exchange for equity stakes in a newly-formed trust. Such offers are not common, and raise the possibility that if there’s a sudden drop in Bitcoin prices, some investors could get left holding lots of worthless coins.

Other concerns center on the continuing uncertainty surrounding the legal status of Bitcoin. The IRS recently asked some Bitcoin exchanges to provide information about their users, but it was unclear exactly how the IRS would use that information.

Governments continue to weigh in on Bitcoin, with the UK and Singapore recently issuing statements saying that the currencies are not actually currency and therefore are not taxable. Still, the volatility of the currency has convinced some enthusiasts that Bitcoin might be right for the next generation of money.

Also Read: What is Cryptocurrency? | How to Invest in Cryptocurrency

How to create Bitcoin Wallet?

The bitcoin wallet is a type of application that facilitates digital currency transaction. After you download the application, you can create an anonymous bitcoin wallet to store bitcoins. The private key that is used to sign the transactions is usually stored in an encrypted format, which is protected by a secret password. The password is very complicated and also requires a high level of password security.

Once you have downloaded the software, your bitcoin wallet can be accessed by anyone that can gain access to your mobile phone or computer. The secret key can also be used to send and receive bitcoins.

Gaining bitcoin private keys?

For achieving private keys, the process is quite complex. If you have some knowledge about the basics of bitcoin, it may not be very difficult to get your private keys, but if you don’t know anything about bitcoin, you should take care of this before downloading the application.

It is recommended that you do a lot of research on this topic before downloading any bitcoin wallet software.

This is especially true if you are new to bitcoin, as the private keys and passwords can easily get into the wrong hands.

How do I generate private keys?

There are multiple ways you can do this. The first and easiest method is to go to an offline computer and use a computer server that contains a bitcoin client, such as bitcoin-qt, or a node on the Bitcoin network.

Before installing this software on your computer, you will need to install an operating system such as windows and then the bitcoin client.

You can use a website to generate a bitcoin private key. They have two approaches, you can download bitcoin software and generate a key that you can use in order to send and receive bitcoins from another person, or you can use a tool like https://simplebitcoinkeygen.com/ to generate an easy-to-use public key.

How to access the private key?

Once you have generated your private keys, you can send and receive bitcoins from other people.

The only thing that you will need is your private keys, which you can use to sign the transaction. This will help to verify whether the transactions are correct.

To send bitcoin to a person, you will need to sign the transaction with your private key.

What if I lose my private keys?

If you lost your private keys, the next time you log in to your bitcoin wallet software, it will require you to provide the new secret keys.

You have to have a really high level of security to keep your private keys safe. To secure your private keys, you should only keep it in a cold storage or offline secure location.

The bad news is that, if you do lose your private keys, you will not be able to access your coins. The good news is that, unlike a bank account or a card, if you lose your private keys, there are no repercussions, and you can always sign a new transaction.

How to make purchases with bitcoin?

Before you make any transactions using bitcoin, you must verify the identity of the person you are buying with.

First, you should check if the person is listed as a known seller on a transaction history or exchange website.

Alternatively, you can also add the person to your ‘approved’ list, which can be accessed by a simple one-click ‘Block All’ button on the browser.

How can I find the fee charged by the bitcoin network?

Generally, bitcoin transaction fees range from 2 cents to 3 dollars depending on the type of transaction that you are making.

If you are buying or selling a certain amount of bitcoins, the transaction fees may be much higher.

The best way to avoid transaction fees is to use Bip48-BIP32 bitcoin wallets that limit the number of consecutive transactions you can perform.

How can I get bitcoin quickly from my bitcoin wallet?

First, you will need to purchase bitcoin from a bitcoin exchange or an offline bitcoin exchange.
You can buy bitcoin from Coinbase, Bittrex, Kraken, and other bitcoin exchanges.

Some exchanges offer credit cards and bank deposits, while others do not, but this is becoming more and more common.

Note that if you deposit funds directly from your bank account into a bitcoin wallet, the bank account will not be deducted as part of the bitcoin deposit.

You will need to go through the above steps to receive the bitcoin that you have deposited.

Why am I not receiving any transactions right now?

If you are seeing a problem with your transaction in your bitcoin wallet, check that you have entered all the correct information correctly.

If you are only seeing one transaction on your screen, you might not be receiving any transactions.

Also make sure that you don’t have any unconfirmed transactions in your wallet.

Why can’t I see any unconfirmed transactions?

It is very important to have at least one confirmation of your transactions.

Even though your transactions are confirmed on the bitcoin network, people will not transact with you if they cannot see your transactions.

To check your unconfirmed transactions, go to the ‘Account’ tab on your bitcoin wallet.

How can I prevent bitcoin transactions from being rejected?

To prevent a transaction from being rejected, you need to have the transaction fee ready, you need to open an account with a bitcoin exchange, and you need to open an offline bitcoin exchange wallet.

You can learn more about reducing bitcoin transaction fees here.

In addition, before you make a transaction, you will need to verify a transaction on the bitcoin network. You should always wait for three confirmations before you go ahead with your transaction.

So is Bitcoin secure?

Yes. In fact, bitcoin’s cryptographic keys ensure that only you have access to your private keys and can spend them.

However, if you lose your private keys, your bitcoin will be lost forever.

What are some of the biggest challenges that Bitcoin currently faces?

As with all new technologies, bitcoin faces hurdles and limitations in adoption.

So far, many of these challenges have been a result of Bitcoin’s young age and the development of its core protocol.

Some of the key technical challenges include:

  1. How do I manage my private keys securely?

There are several approaches for securing your bitcoin private keys, and we will explore all of them in the second part of this series.

  1. How can I keep my bitcoin safe from theft?

As with any new technology, Bitcoin still has a relatively small user base.

If you lose your private keys, your bitcoin will be lost forever, and you will never be able to spend your coins again.

  1. What kind of transaction fees will I have to pay to make my bitcoin transactions?

So far, bitcoin transactions have been free to both send and receive.

Bitcoin transaction fees will increase to ease the load on the bitcoin network, but the increase will not be quite as high as was originally intended.

However, in order to deal with bitcoin’s growing user base, a small fee will probably be implemented.

Also, to make bitcoin payments as frictionless as possible, there will be an ongoing debate about the pros and cons of the transaction fees and the maximum size of a single transaction.

There are several proposals for different types of transaction fees and so far, no solution has been approved.

ALSO READ: Why the Interest in Cryptocurrency is Growing?

How will bitcoin mining be regulated?

There are a couple of possible scenarios, which the Bitcoin community has not yet agreed on.

In one scenario, the mining network will be run by the users themselves. In this case, the incentives would be similar to those of traditional currencies.

However, the second scenario is that the mining network will be run by an entity that manages all mining operations and collects fees in return for running the network.

In this case, there is a risk that mining operations will not be profitable if the bitcoin price falls, but miners will still have incentives to keep operating, because they will receive fees.

How will bitcoin transactions be paid?

Currently, bitcoin payment processors pay transaction fees in the bitcoin system, but the fees are not mandatory.

Some payment processors such as BitPay already do this, while others use the bitcoin network directly.

The following entities provide services in this space:

  • BitPay – the leading payment processor and bitcoin payment processor
  • Xapo – the leading bitcoin wallet provider
  • Bitex.la – a startup trying to provide a liquid cryptocurrency exchange

How will bitcoin transactions be regulated?

This is an important question and still an open one.

There have been various proposals to regulate bitcoin, such as a proposed system of national and international payment processors.

It is likely that any system will be more limited than what exists today.

What is a bitcoin exchange?

A bitcoin exchange (also called a cryptocurrency exchange) is a service that matches buyers and sellers of bitcoin to complete bitcoin transactions.

If you use an exchange, you can buy bitcoin on one exchange, and sell it on another exchange, which can then return the bitcoin to your exchange of origin for a fee.

With bitcoin becoming more popular as a currency, the demand for bitcoin exchange services has also increased.

The following exchanges do not process Bitcoin but are alternatives that some may find more suitable for their needs:

  • Cex.io – now owned by Circle
  • Crypto24 – now owned by Poloniex

What is a bitcoin miner?

Bitcoin miners are the people that run the bitcoin miners in exchange for being compensated by transaction fees.

Mining is the process of generating new bitcoins that are tied to bitcoin transactions.

Every bitcoin transaction creates a new block that is added to the blockchain.

Some people find this process interesting but the increased difficulty of the process means that the reward for miners is smaller than it was previously.

To make up for the decreased reward, miners have to contribute more to the network by generating more blockchains.

If this makes your mouth water, you can consider joining the Bitcoin Mining Association.

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