BITCOIN: concepts that everyone should know

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What justifies the importance of bitcoin as a project? What are some of the more complex concepts of network transactional dynamics?

Come with me to learn important Bitcoin concepts.

THE NETWORK ARCHITECTURE

Before covering the concepts, let's go over the network architecture.
The Bitcoin network was the first decentralized payment network to be efficiently established based on blockchain technology. The peer to peer model platform gave rise to the bitcoin cryptocurrency, a crypto asset used as electronic money transacted from person to person with the proposal of excluding financial intermediaries and, consequently, increasing the
dynamism in the transactional process.

Functioning as a public ledger, that is, shared, the Bitcoin blockchain created a robust and secure network around it.

Network mining is a distributed consensus system that serves to confirm transactions and include them in the blockchain. The chronological order that this process imposes on the blockchain protects net neutrality by allowing and ensuring that different computers can agree on the status of the system during the validation steps.

For the confirmation of a transaction, cryptographic rules are triggered, so that they prevent old and already processed blocks from being eventually modified.

Determined by the network hash rate, the mining process demands endless hours, amount of electrical energy and computational power. At each four-year window (or after mining approximately 210,000 blocks) this so-called “mining difficulty” is increased by the halving process, a process by which the rewards given to miners for the
transaction processing.

So let's get to know some concepts related to the transaction.

INPUT & OUTPUT

In Bitcoin, each transaction is made up of three key variables: an amount of tokens, an input and an output. Tokens are sent from wallets to other bitcoin e-wallets and these transactions are digitally signed.

Inputs are the starting addresses of bitcoins and outputs are the addresses that will receive this amount. After generating the signature made from the private key, the network needs to confirm ownership of the bitcoins being transferred and that they have not been spent, verifying all previous transactions that are public.

Once verified that, in fact, the private key matches the key provided, the transaction is committed.

Transactions cannot be undone or tampered with, as this would imply rebuilding the blocks. This process is not instantaneous. As the Bitcoin blockchain is large and complex, it takes some time for processing to take place.

ALGORITHM SHA-256

Developed as a data protection resource in war contexts, the secure hash algorithm technology (Secure Hash Algorithm) aims to guarantee the security of information processing through the generation of unique codes (hashes) based on some standard, making -them unalterable by external agents and, therefore, safe.

The cryptographic hash is nothing more than the “fingerprint” of a dataset. It is a mathematical algorithm that transforms blocks of data into a series of fixed-length characters as a “summary” of the input data content. As it works in a unidirectional way, the hash only composes this summary, not allowing the alteration of this generated cryptographic code and ensuring the integrity of the base dataset.

This system for encoding diverse information has been used strategically by several cryptocurrencies, such as bitcoin, because it offers a high-level security level complement.

The version used by Bitcoin is SHA-256. The peculiarity of this algorithm is the size of the hash generated by it, which is always the same regardless of the content, with an encoding of 256 bits and 32 bytes.

In the case of Bitcoin, SHA-256 has its functionality in two main processes: in the mining process and in the generation of addresses.

In order for a miner to add a block to the network blockchain, he must first operate a mining node and only then begin building candidate blocks for network validation. Therefore, in the block header construction process (step in which the blockchain parameters that guide the construction of a block must be filled/reached), SHA-256 is used in the process known as double-SHA-256 for filling previously processed block hash information.

On validation, the algorithm is retriggered to evaluate specific block validity parameters as the nonce parameter.

To build a block, there are six parameters that must be filled in by the miner:

UTXO (UNSPENT TRANSACTION OUTPUT)

The unspent outputs model is used as a control method by the Bitcoin network and other protocols. UTXOs (unspent transaction outputs) are results of blockchain transactions. These are small, unspent chunks or “lost leftovers” of cryptocurrencies generated after transactions have taken place.

These chunks are all recorded in the UTXO database, under proprietary addresses, and can be used as input in later transactions.

All cryptocurrency transactions are based on incoming and outgoing amounts. Once an output is used as an input to a transaction, it can never be used again. The output is specified by an address (public key hash) and a value (which is a token amount). When a transaction is made, a user takes UTXOs to serve as input and, after validating the address, the transaction is confirmed and generates new UTXOs.

That is, when a UTXO is spent in a transaction, it is “destroyed” and one or more new UTXOs are created.

As an example, consider that Alice has a UTXO worth 1.2 BTC and wants to pay Bob 1 BTC. She must spend the entire 1.2 BTC as a transaction input, creating two transaction outputs: in the first Bob gets 1 BTC and in the second she gets back 0.2 BTC - transaction fees.

The UTXO system works on the principle that in the crypto market there are no bank accounts, but addresses.

In the Bitcoin network, the UTXO model allows all nodes on the network to agree on which Bitcoin exists at any given time, allowing anyone to audit the total supply of the token to ensure that the currency's monetary policy is maintained.

The UTXO model thus allows network nodes to verify all transactions on the blockchain, verifying that the UTXOs being spent are valid and unspent, thus solving the problem of possible double spending without relying on third parties.

The unspent output model is used as a control method by the Bitcoin network.

Each blockchain node keeps a record of the subset of all UTXOs.

This is called a UTXO set.

P2PKH (PAY-TO-PUBLIC-KEY-HASH)

Pay-to-Public-Key-Hash, also known as P2PKH, is a type of ScriptPubKey.

Most transactions processed on the Bitcoin network spend the blocked outputs via a P2PKH script, a multi-signature script that blocks the output of a transaction to a Bitcoin address (public hash) that can only be unlocked with a public key and a digital signature created by the corresponding private key.

The script is the transaction language used in the Bitcoin network that enables the conditions for the execution of transactions. When a transaction is validated (signed by the address enabled to make use of the resources placed in the transaction), the unblocking script of each entry is executed alongside the corresponding blocking script, in order to verify the expense condition and execute the requested transaction.

For P2PKH transactions, token output is blocked to a specific hash (address). The entry is simply the recipient's public key. The output, or hash, of this key is the hash to which the funds are locked. To claim the funds, the user must produce the correct public key (as well as a digital signature of the private key from which this pubkey was derived).

The network verifies that the hash of the key matches the hash of the payment, and if the two hashes match, the funds will be released to the user who has that key.

P2SH (PAY-TO-SCRIPT-HASH)

Introduced on the Bitcoin network in 2012, just like P2PKH, Pay-to-Script-Hash (P2SH) is a type of ScriptPubKey that allows the spending of bitcoin based on the satisfaction of the script, whose bitcoin address is specified in the transaction. A P2SH transaction is a transaction whose entries have been blocked using a P2SH ScriptPubKey.

In a P2SH transaction, the operation will include the hash of the script needed to spend the bitcoin in the transaction. This script may require signatures of the recipient's private keys and/or many other qualifications. When the person receiving the transaction wants to spend the tokens he received, he reconstructs the script whose hash was used to send the bitcoin and signs the transaction with any keys.
private required by the script.

Although outputs work similarly to payments for P2PKH transactions, for P2SH payments the input is more complex.

Constraints such as common digital signature or public key verification can be replaced by requiring multiple signatures with private keys, ie the script here is different.

After the funds are locked, the redemption is conditioned by the insertion of the original script used to create the initial hash.

Script model created most recently on Bitcoin network, P2SH exploits weak points of old script models and carries advantages such as increased security (supporting multi-signature transactions, provides more security for individuals or companies who want to ensure security of shared wallets) .

ECDSA (ELLIPTIC CURVE DIGITAL SIGNATURE ALGORITHM)

And as an important factor in the execution of network transactions, the signature algorithm is a key point in this process.

Offering a robust and efficient cryptographic system, the Elliptic Curve Digital Signature Algorithm (ECDSA) is a Digital Signature Algorithm (DSA) used in various networks and security systems, the algorithm is based on public key cryptography (PKC).

This algorithm is used to create a digital signature of data, in order to allow verification of the authenticity of an address or data set without compromising the security of the information, preventing forgery or copying.

Based on the mathematical principle of the elliptic curve, the model generates random numbers on the position curve that correspond to the private and public keys.

The process works by incorporating the information added by the user (private key and a hash) into an equation that will result in a signature that is validated/built in two parts: the point on the curve that was generated using the private key is used to validate the first part of the signature. If this validation gives a positive return, the algorithm returns the signature part. With the two-way process complete, the signature is validated and the transaction is completed.

BITCOIN AS A VALUE RESERVE ASSET

All this infrastructure makes Bitcoin the first cryptocurrency in the world and the first decentralized to thrive. In addition to its avant-garde character, the network has proven its resilience and security by working without any interruption since its inception.

With its characteristics of possibility of storage, durability, indivisibility, difficulty of duplication, high potential for use and adoption and scarcity, BTC is increasingly positioned as an asset considered potentially competing with gold - an asset with a millennial store of value.

Thus, we can better understand how the dynamics of the Bitcoin network and some of the more complex processes that make up transactions combine to ensure not only the resilience of the network but also sustain the value of bitcoin as a currency.

These are just a few points that help build the pillars of strength that allow Bitcoin security and position it as one of the main stores of value for the future. In the next reports we will also address the economic concepts of this wonderful and disruptive invention.

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