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The Technical Side of Bitcoin, in Simplified Language

Bitcoin, along with other cryptocurrencies has been the subject of much discussion over the past few years. The currency that was originally only used by the computer “geeks” is now also widely used by the public as a means of investment and speculation. This article will try to deconstruct the technical work of bitcoin, in a language that is (hopefully) easy to understand.

Bitcoin works in a decentralized way, which means no one party has the absolute power to manage bitcoin transactions, but it is based on the agreement of all users. This is different from other electronic transaction tools, such as credit cards. If the seller fails to provide the goods/services you need after you swipe your Visa logo card, you can ask Visa to withdraw your funds (or help resolve the dispute between you and the seller). For this guarantee, Visa cites the cost of services. In the bitcoin system, there is no role as strong as Visa, so transaction costs can be reduced even if they are not altogether without cost.

If there is no mediator, how can we transact safely using bitcoin? First of all, we must understand that what is meant by bitcoin is a ledger which records every transaction that occurs between all participants of bitcoin. This ledger is replicated to every participating entity in bitcoin transactions. For example, if you participate using bitcoin, there will be a listing like “Transaction from Alice to Bob of 1 BTC (bitcoin unit) on April 16, 2018” in the replica of the ledger you have, even if you do not know Alice or Bob. For privacy reasons, of course, the names of Alice and Bob are not recorded as they are, but with certain codes that represent both parties. In case of a dispute between the sender and the beneficiary, this replicable ledger is visible.

The next question is how to trust the ledger? Since I have a replica of the ledger, I might change the content to “Alice Transaction to Bob of 2 BTC”. In the world of cryptography, there is a process called “digital signature”. Its function is like a signature in the real world, only electronically. Mathematically, if Alice signs something digitally, it can be proven that Alice herself did it and not others. On the transaction from Alice to Bob above, Alice signed her digital signature. That is, only Alice can initiate transactions from Alice, not by others.

Alice’s digital signature prevents the other party from spending Alice’s money without her consent. There is another problem, double spending. Alice who has only 1 BTC can transfer 1 BTC to Bob, and 1 BTC again to Charlie in the near future, and both of them realized later that Alice did not really have enough bitcoin to both of them. This is where the role of a the bitcoin miner appears.

A miner has actually attained the same degree as other bitcoin user entities, but they perform some special job. One of his/her jobs is to make sure there is no double spending. In other words, the miner ensures the transaction’s alignment (Did Alice transfer to Bob or Charlie first?) And of course its validity (Alice cannot transfer to Charlie, after spending her bitcoin on Bob). To be sure, the miner will receive a bitcoin incentive from this job.

The first incentive comes of course from Alice and Bob, because the miner has helped verify the transactions of both parties. A second incentive came from bitcoin newly generated, or with other terms extracted (mined). From here the term miner has been derived.

To obtain both incentives, a miner must only prove that he has “worked hard” (termed proof of work). Again we need to recognize a technique in the world of cryptography. Cryptographic hashing is the process of summarizing a digital message into a set of data with a constant length (called a hash). For example, a message the size of 100 kilobytes is condensed into 512 bytes only. Another 200-kilobyte message will also be condensed into 512 bytes. The requirement of a cryptographic hash is, of a long message, it is relatively easy to calculate its hash. But if its known hash it will be difficult to find a suitable long message. The proof of work referred to above is to look for a hash with n bits (the bit is the smallest unit of the digital message) the first being the number “0”. The value of n is adjusted to the number of bitcoins currently present in the world and affects the difficulty level of making the proof of work. A Miner who has proved himself to have “worked hard” according to the above rules, is believed to be the party capable of verifying Alice and Bob transactions earlier.

There are still many other details of the bitcoin system, but describing everything here would make for a pretty complicated article. However, from the above explanation, it is expected to have seen some consequences of the use of bitcoin. The most important thing according to the author is that bitcoin has no intrinsic value. The hash value with the first n bit is “0” which is meaningless if the bitcoin system has been abandoned. This is different from gold, for example, that is to say if gold is no longer traded, it can still be processed for various needs such as the manufacture of electronic devices or health. As a result, the value of bitcoin depends heavily on market speculation, and (when this article is written) its use is prohibited by Bank Indonesia (https://www.bi.go.id/id/perset/system-payment/Pages/pbi_184016.aspx ).


Pascal Alfadian Nugroho, S.Kom, M.Comp

Unpar Information Lecturer