How Does Bitcoin Work?

How Does Bitcoin Work

How Does Bitcoin Work?

Not being able to hold an actual bitcoin in your hand contributes to the confusion when it comes to understanding how Bitcoin works.

Furthermore, to understand how bitcoin works we’ll also need to know how the bitcoin price is determined and how they’re created.

We’ll also examine ways to get bitcoins and how they can be used to make & receive payments.

By the way, don’t be fooled by the image of a bitcoin “coin” above as Bitcoin is a digital currency and doesn’t exist as a coin or other form of tangible money.

If you’re wondering whether there’s any difference between Bitcoin and bitcoin, yes there is a difference…

  • Bitcoin with a capital “B” = the Bitcoin the protocol and payment network.
  • Bitcoin with a lowercase “b” = the currency and multiples are referred to as “bitcoins”.


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How Does Bitcoin Work For Everyday Users?

How Does Bitcoin Work For a User

How Does Bitcoin Work For a User

On the face of it, Bitcoin is nothing more than a mobile app or computer program which allows users to send & receive bitcoins to & from a Bitcoin wallet just as you would with a traditional online banking facility.

For a new user, don’t get too bogged down with trying to understand all the  technical details.

It’s very easy to get started…

All you need to do is download a Bitcoin wallet onto your computer or mobile phone and it will automatically generate your first unique Bitcoin address.

You’ll need this address (once off) to receive payments from other Bitcoin users and you can generate more addresses for additional receipts.

Every time a transaction takes place, a transfer of value between Bitcoin wallets is included in the block chain.

Everyone’s Bitcoin wallet keeps a secure piece of data, called a private key or seed, which is used to “sign” transactions which provides mathematical proof that the funds have originated from that particular owner of the wallet.

Once this “signature” has been confirmed the transaction cannot be edited or corrupted and would get confirmed by the network within 10 minutes of the transaction taking place through a process called bitcoin mining (see below how it works).

For the ordinary Bitcoin user, you can rest assured that the authenticity of each transaction is protected by digital signatures corresponding to the sending addresses, which means that it’s a totally safe & secure means of transacting with bitcoins.

All users have full control over sending & receiving bitcoins from their own Bitcoin addresses as well as having the option of earning bitcoins in return for ‘mining’ bitcoins which you can read about below.

So Bitcoin is basically just electronic money that can be used to make & receive payments for goods & services without making use of a merchant or bank which keeps transaction fees to a minimum.

Bitcoin is becoming a more accepted use of currency as evidenced byFidelity Investments in Boston, USA who allows its employees to pay with bitcoins in the company canteen.

How Does Bitcoin Mining Work?

Currency, in the form of bank notes, is usually printed however bitcoins are generated by a process called ‘mining’.

This is how the bitcoin mining process works…

Bitcoin Mining

How Does Bitcoin Mining Work?

  • This bitcoin mining process involves individual miners who are rewarded by the network in the form of new bitcoins in exchange for processing transactions and ensuring the security of the network using specialized hardware.
  • The word ‘mining’ is used as an analogy to the gold mining process which is used to build gold reserves to back up a country’s currency.
  • These individual bitcoin miners can be seen as the Bitcoin data centre except that it’s not centralised and miners can be operate from anywhere in the world.
  • The decentralised model means that, whilst the system is totally synchronised, no miner has control over the network so it can’t be manipulated or corrupted in any way.
  • A bitcoin miner, as opposed to the gold miner, is an individual running a powerful computer program that listens for transactions through the peer-to-peer network.
  • The miner (the person operating the computer) is then required to perform certain actions to enable and process these transactions.
  • Once the transaction is process it is confirmed by including it in a block together with a computer generated proof of work.
  • This block chain is an intelligent piece of technology that makes it difficult for miners to locate valid blocks which need to be accepted by the network once the calculations have been performed by the miner.
  • The proof of work is also dependent on the previous block having been processed which ensures a chronological order in the block chain which also makes it almost impossible to reverse any previous transaction.
  • The bitcoin mining process cannot be gamed & miners cannot cheat or process fraudulent transactions that could corrupt the Bitcoin network because all Bitcoin nodes would reject any block that contains invalid data as per the rules of the Bitcoin protocol.
  • This ensures that the block chain will always remain secure & incorruptible even if there are some unethical Bitcoin miners working in the network.

As a sign of renewed confidence & relevance of the Bitcoin currency Fidelity Investments has recently become involved in the mining of bitcoins. (Source: )

How Do You Get Bitcoins?

Here are some of the ways you can lay your hands on some bitcoins…

  • Receive bitcoins as payment for goods or services rendered.
  • You can buy bitcoins at a Bitcoin exchange or through your Bitcoin wallet.
  • Exchange bitcoins with someone.
  • Earn bitcoins through competitive mining (see below).

How Easy Is It To Transact With Bitcoin?

Using Bitcoin To Make Purchases

How Easy Is It To Use Bitcoin To Make Purchases

For global transactions Bitcoin is generally quicker & easier to use than with the traditional financial institutions.

However for making smaller transactions, like paying for a cup of coffee your credit card would probably be a more effective payment option.

The great thing about using Bitcoin is that payments can be made or funds received without a merchant account or a bank being involved.

So payments can be effected from a Bitcoin wallet, from your computer or smartphone, just by entering the recipient’s address, the payment amount, and hitting send.

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