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=== What is Bitcoin?
Bitcoin is digital money that operates on the Internet, accessed through an application on a user's laptop or smartphone. Bitcoin currency units are stored in a digital "wallet" and transmitted instantly and securely from anyone to anyone, anywhere in the world. People can use bitcoin to purchase products or services, like a credit card, online or in person. It can be used to send money across borders, for remittances to family or international business. Bitcoins can be purchased and sold, exchanged for other currencies at a floating exchange rate, at specialized currency exchanges. Bitcoin in a sense is the perfect form of money for the Internet: fast, secure, borderless.
Bitcoin is collection of concepts and technologies that form the basis of a digital money ecosystem. It includes a currency, called bitcoin (abbreviated BTC), that is used to store and transmit value among participants in the bitcoin network. Bitcoin users communicate with each other using the bitcoin protocol, primarily via the Internet, although other transport networks can also be used. The bitcoin protocol stack, available as open source software, can be run on a wide range of computing devices, including laptops and smartphones, making the technology easily accessible to many people. By transmitting bitcoins between the digital wallets in which they’re stored, people and organizations can use them to do just about anything that can be done with conventional currencies, such as buy and sell goods, send money to people or organizations, extend credit, and exchange them for other currencies. Because bitcoin technology represents and transmits money, it includes significant features to ensure the security of the bitcoin network. Bitcoins can be purchased and sold, exchanged for other currencies at a floating exchange rate, at specialized currency exchanges. Bitcoin in a sense is the perfect form of money for the Internet: fast, secure, borderless.
Unlike traditional currencies, bitcoins are entirely virtual. There are no physical coins, or even digital coins. The coins are implied in transactions which transfer value from sender to recipient. Users of bitcoin own _keys_ which allow them to prove ownership of transactions in the bitcoin network, unlocking the value to spend it and transfer it to a new recipient. Those keys are stored in a digital wallet on each users computer. Possession of the key that unlocks a transaction is the only prerequisite to spend that bitcoin, putting the control entirely in the hands of each user.
Unlike traditional currencies, bitcoins are entirely virtual. There are no physical coins, or even digital coins per se. The coins are implied in transactions which transfer value from sender to recipient. Users of bitcoin own keys which allow them to prove ownership of transactions in the bitcoin network, unlocking the value to spend it and transfer it to a new recipient. Those keys are stored in a digital wallet on each user’s computer. Possession of the key that unlocks a transaction is the only prerequisite to spending bitcoins, putting the control entirely in the hands of each user.
Bitcoins are created through a process called "mining", which involves looking for a solution to a difficult problem. Participants in the bitcoin network may operate as miners, using their computer's processing power to attempt to find solutions to this problem. Every 10 minutes on average, a new solution is found by someone who then is able to validate the transactions of the past 10 minutes and is rewarded with brand new bitcoins. Essentially, the currency-issuance function of a central bank is de-centralized and turned into a global competition. The rate at which new bitcoins are created is reduced by half every 4 years, resulting in an exponentially decreasing supply and a fixed total of 21 million coins. As a currency, bitcoin is deflationary and cannot be inflated by "printing" new money above and beyond the expected issuance rate.
Rather than having central authorities to issue currency or validate transactions, bitcoin is a fully-distributed, peer-to-peer system, and as such there is no “central" server or point of control. Bitcoins are created through a process called "mining", which involves looking for a solution to a difficult problem. Any participant in the bitcoin network (i.e. any device running the full bitcoin protocol stack) may operate as a miner, using their computer's processing power to attempt to find solutions to this problem. Every 10 minutes on average, a new solution is found by someone who then is able to validate the transactions of the past 10 minutes and is rewarded with brand new bitcoins. Essentially, the currency-issuance function of a central bank and the clearing function are de-centralized and turned into a global competition.
The bitcoin protocol includes built-in algorithms that regulate the mining function across the network. The difficulty of the problem that miners must solve is adjusted dynamically so that, on average, someone finds a correct answer every 10 minutes regardless of how many miners (and CPUs) are working on the problem at any moment. The protocol also halves the rate at which new bitcoins are created every 4 years, and limits the total number of bitcoins that will be created to a fixed total of 21 million coins. The result is that the number of bitcoins in circulation closely follows an easily predictable curve that reaches 21 million by the year 2140. As a result, the bitcoin currency is deflationary and cannot be inflated by "printing" new money above and beyond the expected issuance rate.
Behind the scenes, bitcoin is also the name of protocol, a network and a distributed computing innovation. The bitcoin currency is really only the first application of this invention. As a developer, I see bitcoin as akin to the Internet of money, a network for propagating value and securing the ownership of digital assets via distributed computation. There's a lot more to bitcoin than first meets the eye.
@ -15,50 +17,66 @@ In this chapter we'll get started with bitcoin by explaining some of the main co
=== History of Bitcoin
Cryptographic currencies depend on cryptography to control the ownership of a piece of digital data. Using cryptographic digital signatures, a user can sign a digital asset or transaction and securely prove the ownership of that asset.
The emergence of viable digital money is closely linked to developments in cryptography. This is not surprising when one considers the fundamental challenges involved with using bits to represent value that can be exchanged for goods and services. There are two fundamental questions for anyone accepting digital money:
1. Can I trust that money authentic and not counterfeit?
2. Can I be sure that no one else can claim that this money belongs to them and not me? (aka the “double-spend” problem)
Issuers of paper money are constantly battling the counterfeiting problem, by using increasingly sophisticated papers and printing technology. Physical money addresses the double-spend issue easily because the same paper note cannot be in two places at once. Of course, conventional money is stored and transmitted digitally. In this case the counterfeiting and double-spend issues are handled by clearing all electronic transactions through central authorities that have a global view of the currency in circulation.
For digital money, which cannot take advantage of esoteric inks or holographic strips, cryptography provides the basis for trusting the legitimacy of a user’s claim to value. Specifically, cryptographic digital signatures enable a user to sign a digital asset or transaction and securely prove the ownership of that asset. And with the appropriate architecture, digital signatures also can be used to address the double-spend issue as well.
In the late 1980s, when cryptography started becoming more broadly available and understood, many researchers began trying to use cryptography to build digital currencies. These early digital currency projects issued digital money, usually backed by a national currency or precious metal such as gold.
While these earlier digital currencies worked, they had several fatal flaws. Firstly, early digital currencies used a central clearinghouse to settle all transactions at regular intervals, just like a traditional banking system. Secondly, these central clearinghouses and the organizations issuing the digital currency were highly centralized organizations, usually corporations. Unfortunately, in most cases these nascent digital currencies were targetted by worried governments and eventually litigated out of existence. Some failed in spectacular crashes when the parent company liquidated abruptly.
While these earlier digital currencies worked, they were centralized and as a result they were easy to attack by governments and hackers. Early digital currencies used a central clearinghouse to settle all transactions at regular intervals, just like a traditional banking system. These central clearinghouses and the organizations issuing the digital currency were highly centralized organizations, usually corporations. Unfortunately, in most cases these nascent digital currencies were targetted by worried governments and eventually litigated out of existence. Some failed in spectacular crashes when the parent company liquidated abruptly. Based on the issues discussed above, the creator of bitcoin recognized that, in order to be robust against intervention by antagonists - be they legitimate governments or criminal elements - a successful digital currency needed to avoid the use of a central currency issuing or transaction clearing authority that could be a single point of attack. Bitcoin is such a system, completely de-centralized by design, lacking any central authority or point of control that can be attacked or corrupted.
Bitcoin represents the culmination of decades of research in cryptography and distributed systems and includes four key innovations brought together in a unique and powerful combination. Bitcoin consists of a de-centralized peer-to-peer network, a public transaction ledger, a de-centralized mathematical and deterministic currency issuance and a de-centralized transaction verification system.
Bitcoin represents the culmination of decades of research in cryptography and distributed systems and includes four key innovations brought together in a unique and powerful combination. Bitcoin consists of:
* A de-centralized peer-to-peer network (the bitcoin protocol);
* A public transaction ledger (the blockchain);
* A de-centralized mathematical and deterministic currency issuance (distributed mining), and;
* A de-centralized transaction verification system (transaction script)
As with many inventions, bitcoin was not novel in its entirety, but combined several prior inventions. A key bitcoin innovation was to use a Proof-Of-Work algorithm to conduct a global "election" every 10 minutes, allowing the de-centralized network to arrive at consensus about the state of transactions. This elegantly solves the double-spend problem while maintaining a fully de-centralized system.
.A solution to a distributed computing problem
****
Satoshi Nakamoto's invention is also a practical solution to a previously unsolved problem in distributed computing, known as the Byzantine Generals problem. Briefly, the problem consists of trying to agree on a course of action by exchanging information over an unreliable and potentially compromised network. Satoshi Nakamoto's solution, which uses the concept of proof-of-work to achieve consensus without a central trusted authority represents a breakthrough in distributed computing science and has wide applicability beyond currency. It can be used to achieve consensus on decentralized networks for provably-fair elections, lotteries, asset registries, digital notarization and more.
****
Bitcoin was invented in 2008 by Satoshi Nakamoto with the publication of a paper titled "Bitcoin: A Peer-to-Peer Electronic Cash System". Satoshi Nakamoto combined several prior inventions such as b-money and HashCash to create a completely de-centralized electronic cash system that does not rely on a central authority for settlement and validation of transactions. The key innovation was to use a Proof-Of-Work algorithm to conduct a global "election" every 10 minutes, allowing the de-centralized network to arrive at _consensus_ about the state of transactions. This elegantly solves the issue of double-spend, a weakness of digital money, where a single currency unit can be spent twice. Previously, the double-spend problem was solved by clearing all transactions through a central clearinghouse.
Satoshi Nakamoto's invention is also a practical solution to a previously unsolved problem in distributed computing, known as the Byzantine Generals problem. Briefly, the problem consists of trying to agree on a course of action by exchanging information over an unreliable and potentially compromised network. Satoshi Nakamoto's solution, which uses the concept of proof-of-work to achieve consensus without a central trusted authority represents a breakthrough in distributed computing science and has wide applicability beyond currency. It can be used to achieve consensus on decentralized networks for provably-fair elections, lotteries, asset registries, digital notarization and more.
The bitcoin network started in 2009, based on a reference implementation published by Nakamoto and since revised by many other programmers. During the first four years of operation, the network has grown to include an enormous amount of Proof-Of-Work computation, thereby increasing its security and resillience. In 2013, the total market value of bitcoin's primary monetary supply measure (M0) is estimated at more than 10 billion US dollars. The largest transaction processed by the network was $150 million US dollars, transmitted instantly and processed without any fees.
Satoshi Nakamoto withdrew from the public in April of 2011, leaving the responsibility of developing the code and network to a thriving group of volunteers. The name Satoshi Nakamoto is an alias and the identity of the person or people behind this invention is currently unknown. However, neither Satoshi Nakamoto nor anyone else exerts control over the bitcoin system, which operates based on mathematical principles. The invention itself is groundbreaking and has already spawned new science in the fields of distributed computing, economics and econometrics.
The bitcoin network started in 2009, based on a reference implementation published by Nakamoto and since revised by many other programmers. During the first four years of operation, the network has grown to include an enormous amount of Proof-Of-Work computation, thereby increasing its security and resillience. In 2013, the total market value of bitcoin's primary monetary supply measure (M0) is estimated at more than 10 billion US dollars. The largest transaction processed by the network was $150 million US dollars, transmitted instantly and processed without any fees.
[[user-stories]]
=== Bitcoin Uses, Users and Their Stories
Bitcoin is a technology, but it expresses money which is fundamentally a language for exchanging value between people. Let's look at the people who are using bitcoin and some of the most common uses of bitcoin through their stories. We will re-use these stories throughout the book to illustrate the real-life uses of bitcoin and how they are made possible by the various technologies that are part of bitcoin.
Bitcoin is a technology, but it expresses money which is fundamentally a language for exchanging value between people. Let's look at the people who are using bitcoin and some of the most common uses of the currency and protocol through their stories. We will re-use these stories throughout the book to illustrate the real-life uses of digital money and how they are made possible by the various technologies that are part of bitcoin.
North American Retail::
Alice lives in Northern California, in the Bay Area. She has heard about bitcoin from her techie friends and wants to start using it. We will follow her story as she tries to spend her bitcoin on a cup of coffee at Bob's Cafe in Palo Alto.
Alice lives in Northern California, in the Bay Area. She has heard about bitcoin from her techie friends and wants to start using it. We will follow her story as she learns about bitcoin, acquires some and then spends some of her bitcoin to buy a cup of coffee at Bob's Cafe in Palo Alto. This story will introduce us to the software, the exchanges and basic transactions from the perspective of a retail consumer.
Offshore Contract Services::
Bob, the cafe owner in Palo Alto is building a new website. He has contracted with an Indian web developer, Gopesh, who lives in Bangalore India. Gopesh has agreed to be paid in bitcoin.
Bob, the cafe owner in Palo Alto is building a new website. He has contracted with an Indian web developer, Gopesh, who lives in Bangalore India. Gopesh has agreed to be paid in bitcoin. This story will examine the use of bitcoin for outsourcing, contract services and international wire transfers.
Charitable Donations::
Eugenia is the director of a children's charity in the Philippines. Recently she has discovered bitcoin and wants to use it to reach a whole new group of foreign and domestic donors to fundraise for his charity. She's also investigating ways to use bitcoin to distribute funds quickly to areas of need.
Eugenia is the director of a children's charity in the Philippines. Recently she has discovered bitcoin and wants to use it to reach a whole new group of foreign and domestic donors to fundraise for her charity. She's also investigating ways to use bitcoin to distribute funds quickly to areas of need. This story will show the use of bitcoin for global fundraising across currencies and borders and the use of an open ledger for transparency in charitable organization.
Remitances and Reverse Remitances::
Gopesh, the Indian web developer, is supporting his daughter Radhika who is a student in Essex, England. Gopesh is now considering sending Radhika bitcoin to reduce the fees he pays to wire transfer companies and banks.
Gopesh, the Indian web developer, is supporting his daughter Radhika who is a student in Essex, England. Gopesh is now considering sending Radhika bitcoin, eliminating the fees he used to pay for remittances. This story will demonstrate the use of local exchange and peer-to-peer exchanges for international remittances with bitcoin.
Import/Export::
Mohammed is an electronics importer in Dubai. He's trying to use bitcoin to buy electronics from the USA and China for import into the U.A.E., to accelerate the process of financing inventory which is very slow.
Mohammed is an electronics importer in Dubai. He's trying to use bitcoin to buy electronics from the USA and China for import into the U.A.E., to accelerate the process of payments for imports. This story will show how bitcoin can be used for large business-to-business international payments tied to physical goods.
Mining for Bitcoin::
Jing is an engineering student in Shanghai. He has built a "mining" rig to mine for bitcoins, using his engineering skills to supplement his income.
Jing is an engineering student in Shanghai. He has built a "mining" rig to mine for bitcoins, using his engineering skills to supplement his income. This story will examine the "industrial" base of bitcoin, the specialized equipment used to secure the bitcoin network and issue new currency.
Peer Lending::
Zenab is a shopkeeper in Kisumu, Kenya and needs a loan to buy new inventory for her shop. With the assistance of a micro-lending organization, she is financing a micro-loan in bitcoin from individual lenders all across the world.
Zenab is a shopkeeper in Kisumu, Kenya and needs a loan to buy new inventory for her shop. With the assistance of a micro-lending organization, she is financing a micro-loan in bitcoin from individual lenders all across the world. This story will demonstrate the potential for bitcoin to offer peer-to-peer micro-lending by aggregating small investments, matching them with borrowers in developing nations.
Each of the stories above is based on real people and real industries that are currently looking to bitcoin to create new opportunities.
Each of the stories above is based on real people and real industries that are currently using bitcoin to create new markets, new industries and innovative solutions to global economic issues.
=== Getting Started
@ -116,7 +134,17 @@ It is not possible to buy bitcoins at a bank, or foreign exchange kioks, at this
* Coinbase (coinbase.com), a US-based currency market, based in California, that supports US dollar exchange to and from bitcoin. Coinbase can connect to US checking accounts via the ACH system
* Mt. Gox (mtgox.com), one of the oldest bitcoin currency exchanges, based in Japan, that supports many different national currencies via wire transfer.
It takes several days or weeks to setup the necessary accounts with the above services, as they require various forms of identification to comply with KYC (Know Your Customer) and AML (Anti-Money Laundering) banking regulations, essentially like opening a new bank account. Once you have an account on a bitcoin exchange, you can then buy or sell bitcoins quickly, just like buying a foreign currency with a brokerage account.
There are three other methods for getting bitcoins as a new user:
* Find a friend who has bitcoins and buy some from them directly. Many bitcoin users started this way.
* Use a classified service like localbitcoins.com to find a seller in your area to buy bitcoins for cash
* Sell a product or service for bitcoin. If you're a programmer, sell your programming skills. If you have an online store, see <<bitcoin-commerce>> to sell in bitcoin.
Alice was introduced to bitcoin by a friend and so she has an easy way of getting her first bitcoin while she waits for her account on Coinbase, the California currency market, to be verified and activated.
===== Receiving bitcoins