Last week we wrote about how Bitcoin is a
great censorship resistant payment network and a great store of value. You can read about it here.
This week we take it a step further and look into how it manages to be such a great censorship resistant payment
How is Bitcoin a Great Censorship Resistant Payment Network?
Bitcoin accomplishes being a censorship
resistant payment network by using a ledger; Not any ledger, this particular ledger
was designed and used for the first time on Bitcoin. This new type of ledger is
called a blockchain; and it is a type of distributed ledger, which allows users
to create transactions in a trustless manner, while still not allowing users to duplicate transactions (also known as double spend).
The Bitcoin blockchain does this by putting
transactions into blocks that happen every 10 minutes; every block and all the
transactions contained within it are dependent on the previous blocks. If there is no transaction in a previous
block that credits you bitcoins, you will not be able to send bitcoins; if
there a transaction in a previous block that credits you bitcoins, you will be
able to send bitcoins; unless you, or whoever had access to your balance,
already sent the bitcoins to someone else.
These new blocks can be created by anyone,
but to create a block you must be the first to successfully solve a
computationally intensive algorithm, this algorithm is a partial reverse of a
cryptographic function (SHA256). Computers that work to solve this algorithm are
called miners. Solving this algorithm requires a lot of computational power and a
lot of electric power; the process can be really expensive, so to add an
incentive for the miners to create valid blocks, they are rewarded with bitcoins
for every valid block they create.
Bitcoin blockchain will always be the longest valid chain. The longest chain means the chain that required the most computational power to create; while valid means that it follows all the rules of the Bitcoin blockchain and is backwards compatible.
Finding new blocks is a competition in an
open market, where anyone can join; because of this no one miner can censor
transaction unless it has over 50% of the total computational power of that blockchain. If a
particular miner with less than 50% of the computational power tried to not include a transaction in its block, effectively censoring it, the next miner would just pick
it up and include it in their next block.
If a miner had over 50% of the power it
could potentially censor transactions by creating it’s own chain and
ignoring all blocks by other miners; the miner’s with majority of computational’s power chain would still be the
longest valid chain. If a miner had over 50% of the mining power it could also
potentially reverse blocks (and with it the transactions they contain).
As a precautionary measure it would be best
for no single entity to reach over 50% of the mining power, but even if it
happened there is still a disincentive to do it; if a miner was caught
censoring or reversing transactions the value of the coin it is mining would likely drop drastically,
destroying all the capital investment (hundreds of millions, if not billions of dollars) the miner has in equipment virtually
This is a high level explanation of how Bitcoin works as a great censorship resistant payment network.
Next week we will explain how it works as a great store of value.