Bitcoin mining explained

Bitcoin mining explained

A phenomena that has taken the world by storm since its inception, when Satoshi Nakamoto created Bitcoin. For the first time ever, money could be made by anyone anywhere in the world, as long as they have computer processing power to do what is known as Bitcoin mining.

Mining can be explained as  a process of validating transactions between users, by solving blocks in the block chain, aka. the Bitcoin database. It is the process of putting valid unconfirmed transactions into a permanent record. Miners hash unconfirmed transactions into blocks.

Mined blocks are distributed to every node in the network.  Nodes validate those blocks and add them to the end of the blockchain.  The blockchain is used to confirm the validity of future transactions. The miner basically takes  a hash of the entire blockchain to-date. Then, the miner adds a nonce, random data, to the previous hash, and performs double SHA256 on it.

If the result is lower than a certain number (determined by difficulty), i.e. it starts with enough 0′s, then it is a valid solution

The miner can then publish the “block,” which is composed of a header, including proof that the miner actually found a solution, and transactions, which include a transaction which has no inputs and one 25 BTC (this will be adjusted in the future, into 12.5 then half again and so on until all 21.000.000 Bitcoin are mined) output.

The original white paper by Satoshi Nakamoto can be downloaded from here

To recap:

Blocks are solved in the blockchain

The blockchain is used to confirm validity of future transactions done in the Bitcoin network

The entire hash to date is taken by the miner and a nonce is added to the previous hash, and then performs double SHA256 on the block

Difficulty is determined by amount of total hashing power available in the network

Miners publish blocks mined by them with the solution

This is however the simple explanation as a number of other things occur when mining Bitcoins in the Bitcoin network, the blockchain. However, this should be seen as verification of valid transactions getting time stamped into a shared database, that is then downloaded by peers in the network, and thus we have an unbreakable monetary system we call Bitcoin.

What is Bitcoin Mining - Bitcoin Mining Explained (in laymans terms)

Bitcoin mining eventually grew into big sport since the world discovered the possibilities of making money from processing power. In the early days of Bitcoin, anyone with a laptop and a rather slow CPU could mine Bitcoin’s. This later became big game hunting for investors, gamers, overclockers and people wanting to mine digital “gold”, and GPU’s started coming on board as the next generation mining equipment.

Most popular were the ATI cards from AMD as they performed rather well in doing double SHA256 on the Bitcoin network, but the downside was they spend enormous amounts of power. Specialized equipment saw the light of the day, and FPGA boards became a reality with a number of companies selling power efficient FPGA boards that matched the best GPU cards back in the summer of 2012.

By the end of 2012, and early 2013 ASIC mining gear had become the fever in the Bitcoin industry, waiting for companies that had earlier pushed out the FPGA equipment to reach the ultimate stage, aka. ASIC’s hardware, specialized and produced solely to mine Bitcoin. By the time of writing this post no proof of a working ASIC device has hit the market.

Bitcoin mining is determined by three mayor factors. The difficulty on the network, the price per Bitcoin and the mining power per machine. Minor factors include price of electricity and how well a machine can run without too many reboots. A number of online mining calculators will calculate profitability and ROI.

Diving into Bitcoin mining at this time is highly unprofitable as the block reward has dropped from the original 50 Bitcoin per block to 25 Bitcoin per block. As well as ASIC machines are in a close future there is no reward for anyone thinking to purchase GPU’s or FPGA’s at this time.

Mining is not only an incentive for people to make money from utilizing their processing power, but is also a part of securing the Bitcoin network’s core system, that is the Blockchain and allowing one single party to take over the network by solely solving blocks and thus allowing for double spending. This is however theoretical as nobody has even attacked the Bitcoin network, and Bitcoin stands at the moment as the most stable and secure transaction network in the world.

For more about Bitcoin’s please see the official forums here: www.bitcointalk.org

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Everything you need to know about the new electronic currency.

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What is a Bitcoin? How did you pay for your coffee this morning, by cash? By credit card? If a growing number of bank-fearing techies have their way, you'll soon be able to pay for that mocha latte through an untraceable virtual currency called Bitcoin. As of this month, Bitcoins are worth over a billion dollars, and interest in the currency is skyrocketing. Here's everything you need to know about a currency that sounds like it belongs in a fantastical realm: You can't touch it, it's prized in the underworld, its creator disappeared in a cloud of mystery, and if you want to keep it safe, you should keep it hidden in a bunch of different places.

No, but really. What is it? A Bitcoin is a unit of currency, launched in 2009, that only exists online and isn't controlled by any kind of central authority, like the US Federal Reserve. You can send Bitcoins to anyone who has a web connection (or hand someone your hard drive containing the currency.) You hold on to Bitcoins by setting up a virtual wallet, either through a third-party website, or by storing it on software run on your computer— although storing your Bitcoin wallet only on your computer is about as secure as stuffing hundred-dollar bills under your mattress. As soon as you have your wallet, you're part of the big Bitcoin network. If you want to buy something from your neighbor, you simply need to obtain their anonymous identification number and send them some Bitcoins. which takes between 15 minutes and an hour to process. If you are confused, here is an awesome one-minute video from PandoDaily .

What is a Bitcoin wallet? A Bitcoin wallet is a service that holds your Bitcoins for you. Unlike banks, Bitcoin wallet firms don't generally invest the money you deposit with them. But there's a catch—Bitcoin wallets don't have the Federal Deposit Insurance Corporation backing that insures Americans' bank deposits up to $100,000. "There's no such thing as FDIC insurance when it comes to Bitcoin," says Reuben Grinberg, an attorney at Davis Polk & Wardwell who specializes in financial matters and wrote an early legal analysis of Bitcoin. If your Bitcoin wallet gets robbed or collapses, you're out of luck. Here's what a Bitcoin phone wallet looks like:

Why do people use Bitcoin?

Bitcoin appeals to people who are suspicious of financial institutions and central banks like the US Federal Reserve. "There are types like me, libertarian gold-buggish folks," for whom "inflation is a constant worry" and who "see the cryptography in Bitcoin as insulation against inflation," explains Jim Harper, the director of information policy studies at the Cato Institute. People seeking privacy in their financial transactions—for legitimate or illegitimate reasons—might also use Bitcoin because it's more anonymous than financial transactions using credit or debit cards. "A lot of these people who have a deep distrust of government are really interested in anonymity and autonomy. They want to keep the government out of their business," Grinberg says. "In a lot of these people's minds, governments will come and go, financial instruments will disappear, you could have have anarchy, but Bitcoin will be here to stay." As with gold, the idea is that the value of Bitcoin could survive some sort of cataclysm. The value of Bitcoin isn't actually very stable however, so that may not be a good bet.

Where do Bitcoins come from? New Bitcoins are created in a process called "mining," which involves Bitcoin users attempting to figure out a complex mathematical solution related to the current number of Bitcoins. Grinberg compares it to finding the missing piece of a puzzle. Whomever finds the puzzle piece wins a certain number of Bitcoins, and the process starts all over again. Finding the Bitcoin solution involves an incredible amount of processing power, and so users often band together in "pools" in order to find the solution and to earn Bitcoins more regularly. However, there have been incidents where Bitcoin users have illicitly attempted to use other people's computers to mine Bitcoins. You can do this by hacking people's computers and telling them to mine Bitcoins. In one incident referenced by the FBI. a system administrator at a university in New York set its computers to mine Bitcoins for him.

Is Bitcoin legal? In the United States, the answer is probably yes, but it could depend on what state you're in. Doing something illegal with Bitcoins—like bribing someone or buying drugs—is still illegal .

How much is a Bitcoin worth?

Bitcoins now worth $211 a little over a week after breaking through $100.

— Timothy B. Lee (@binarybits) April 9, 2013

In August 2012. the exchange rate for 1 Bitcoin was about $10. When Kevin Roose of New York magazine wrote about buying a Bitcoin on April 4, the price was at $140. And as of Tuesday night, April 10, it's up to $23 4. It's not clear why, but Harper says the rapid price rise could be attributed to anything from increased media attention to concern surrounding the financial crisis in Cyprus, where bank accounts were going to be taxed to finance a bailout of the island nation's financial sector.

How many Bitcoins are there? The Bitcoin foundation states that there will never be more than 21 million Bitcoins at a time. That could create a problem for the currency, however, because people might sit on their Bitcoins rather than buy things with them. hoping that they appreciate in value.

What can you buy with them?

— Free State Project (@FreeStateNH) April 9, 2013

You can buy anything from any company that accepts Bitcoins as currency. There aren't that many of them. However, privacy activists have lauded the ability of Bitcoins to preserve the anonymity of political dissidents to publish online in countries where Internet access is restricted. The Freedom of the Press Foundation says that Bitcoin "offers the potential for a censorship-resistant currency." One of the more popular uses for Bitcoin, however, seems to be the purchase of illegal drugs. because like cash the transactions are harder to trace, but unlike cash, they can take place over long distances. "When you're talking about normal American consumers, is there anything legal they can get with Bitcoins that they can't get with dollars or with their credit card?" Grinberg says. "I think the answer is no."

Why do people say Bitcoins are easier for criminals to use?

Bitcoins provide a certain amount of anonymity for users, because the accounts are just numbers and not necessarily linked to an individual identity. You can also create a new wallet for each new Bitcoin transaction, further hiding your identity. But it's not completely anonymous, says Grinberg. Bitcoin users who reveal information to third parties, either a Bitcoin wallet provider or even through joining pools to mine Bitcoins, are making it more likely their identities could be discovered. But because all Bitcoin transactions are public, it's theoretically possible that you could use the account numbers to discover someone's identity. "It’s possible that using statistical techniques and information that's publicly available you could find out a great deal about Bitcoin users," Grinberg says. Also if you're using a third-party Bitcoin wallet, the feds have a number of ways to compel corporations to reveal user information when it comes to matters of national security.

Can you use Bitcoin to avoid taxes? Yes, in the same way you could use cash to avoid taxes. The more that people use Bitcoin this way, however, the more likely that governments will get get better at finding people who do so. "Just like people who accept cash, it's generally easier to evade taxes," says Grinberg, "but as a large-scale tool to evade taxes," he's "not sure" it would work. If you earn income with your Bitcoins, you technically still have to pay taxes on them.

Can they be hacked?

Bitcoin wallets and exchanges can be hacked. "There's plenty of stories where Bitcoin exchanges have been hacked," says Cato's Harper. "One of the weaknesses of Bitcoin by far is that people don't know very well how to secure their Bitcoin." Of course, identities can be stolen and regular bank accounts hacked too.

Which famous people use Bitcoins?

Wikimedia Commons

Ashton Kutcher's venture capital firm, A-Grade Investments, invested in a Bitcoin pay network, according to Beta Beat. And BuzzFeed speculates that there has to be at least a few Bitcoin millionaires, although they only managed to track down a Reddit user claiming to be one. So if celebrities are using Bitcoins, they're not bragging about it. Who should be the next Bitcoin celebrity spokesperson? Users in this Bitcoin forum note that Sean Penn, Charlie Sheen, President Obama, and the woman who "works for Fox Sports and also plays the character 'Chelsea' on TNA Wrestling on Spike TV" would all make good candidates.

What does Obama say? The Treasury Department released a statement in March saying that certain entities—but not the average Bitcoin user—may have to register with FinCEN. the wing of the Treasury Department that deals with financial crimes and money laundering. "Someone who mines some Bitcoins and then uses them to buy goods or services, and not as part of business—would likely not have to register," Grinberg says. "However, once you move beyond that minimal level of involvement in the Bitcoin world," like setting up a Bitcoin exchange, you might have to register. Grinberg says it's still not entirely clear what the rules are yet.

Will Bitcoins ever replace national currencies? That seems like a long shot right now. "There's enough to be cautious about with Bitcoin that I don't see whole countries abandoning their currency and using Bitcoin," Harper says, although he argues that Bitcoin could be useful to people in countries without a stable currency. "It doesn't bring us to libertarian Shangri-La or anarcho-capitalism or anything like that."

Is Bitcoin going to bring down the world financial system? Probably not. "It's still a drop in the bucket in terms of the world economy," Grinberg says. "It's not crazy to think it might go much higher and that its market cap might become so large to exert some influence on, if not the world economy, the local economies where it starts getting used more

Who invented Bitcoin? Bitcoin's founder is Satoshi Nakamoto, which is a pseudonym. Nakamoto "released Bitcoin to the world at the beginning of 2009, but said he had been working on it since 2007," explains Gavin Andresen, whom Nakamoto made coadministrator of the software when he left the project. The idea was mentioned before that, but Jon Holmquist, head of marketing at BitcoinStore.com, says Nakamoto was responsible for combining and solidifying the ideas into a practical paper. Both Andresen and his colleague say they have "no idea" of the founder's real identity. Nakamoto's alleged profile on P2P Foundation claims that he is a 38-year-old male living in Japan, although that has been met with skepticism, given his strong command of American English.

How do I convert dollars to Bitcoins?

There are a number of ways to convert dollars to Bitcoins, but as Grinberg notes, "it's not straightforward" for the average person, and "even the 'easy' version is hard." Also, if you live in a rural area, or have qualms about handing over all of your bank information to an anonymous internet stranger, then you might want to just give up now. The major Bitcoin exchanges don't accept credit cards—because of that whole anonymity problem–so instead, you're encouraged to purchase Bitcoins by adding your bank account information to a site like Coinbase. and transferring money that way. You can also get Bitcoins by using your phone, the virtual program Second Life, wire transfer, or at a cash deposit location like CVS. Bitcoin users caution against PayPal—because it might freeze your account—and say that "buying Bitcoins in person can be fun and safe!" If you want to meet a stranger in 7-11 and give them cash for Bitcoins, here is a website to find a trusted serial killer distributor.

In which other countries can you buy Bitcoins? Canada, Mexico, Argentina, Brazil, parts of the European Union, the United Kingdom, Russia and Malaysia, to start. Mother Jones asked Andresen whether you could buy Bitcoins with, say, the Indonesian rupiah, and he said that "I don't know if there is an exchange from Indonesian currency to Bitcoins yet."

Will Bitcoins ever be used by banks? Many users like Bitcoin precisely because they see it as an alternative to putting their money in banks. But it's possible that more traditional banking institutions using Bitcoin could pop up at some point.

This piece has been edited to clarify that how federal regulations apply to Bitcoin entities remains hazy.

UPDATE 1, 7:10 a.m. PST, Friday, April 12: Winklevoss Twins Revealed to Have Millions of Dollars in Bitcoins

The New York Times reported Thursday that Cameron and Tyler Winklevoss, the Olympic rowers turned Internet entrepreneurs who sued Mark Zuckerberg for allegedly stealing the idea for Facebook, own almost $11 million in Bitcoins. They also appear entirely unfazed about the violent drop in the value of a Bitcoin over the last couple days (as of Friday morning, it had plummeted to $77 from the $234 it was valued when this article was published on April 10).

“People say it’s a Ponzi scheme, it’s a bubble,” Cameron Winklevoss told the paper. “People really don’t want to take it seriously. At some point that narrative will shift to ‘virtual currencies are here to stay.’ We’re in the early days.”

Geeks Love The Bitcoin Phenomenon Like They Loved The Internet In 1995

Bitcoins are a bit like the Internet. Or, rather, the Internet as it was in the mid ‘90s: something strange, coming out of geekdom into mainstream perception, greeted by puzzlement over how it works, why it works and why anyone would think it’s useful.

Even more intriguing is that the creator of Bitcoins is unknown, pseudonymous like Banksy. And maybe like installation artist JSG Boggs producing a work exploring the meaning of money.

A common analogy for Bitcoins is gold: like gold, they have value only because people want them, the supply is limited, more Bitcoins are created only by ‘mining’ for them and the difficulty in mining grows as they are mined. But rather than being stored in underground vaults Bitcoins are simply entries in a notional ledger held across many computers around the world.

The actual mining of Bitcoins is by a purely mathematical process. A useful analogy is with the search for prime numbers: it used to be fairly easy to find the small ones (Eratothenes in Ancient Greece produced the first algorithm for finding them). But as they were found it got harder to find the larger ones. Nowadays researchers use advanced high-performance computers to find them and their achievements are noted by the mathematical community (for example, the University of Tennessee maintains a list of the highest 5000 ).

For Bitcoins the search is not actually for prime numbers but to find a sequence of data (called a ‘block’) that produces a particular pattern when the Bitcoin ‘hash’ algorithm is applied to the data. When a match occurs the miner obtains a bounty of Bitcoins (and also a fee if that block was used to certify a transaction). The size of the bounty reduces as Bitcoins around the world are mined.

The difficulty of the search is also increased so that it becomes computationally more difficult to find a match. These two effects combine to reduce over time the rate at which Bitcoins are produced and mimic the production rate of a commodity like gold. At some point new Bitcoins will not be produced and the only incentive for miners will be transaction fees.

The raw performance of a Bitcoin mine is measured in hashes per second (i.e. the number of tries per second to find a block). With the difficulty and bounty settings it becomes possible to calculate the expected rate of Bitcoin production. An ordinary computer can do this work running software and typical high-end PC (using an Intel Core i7) can perform about 6.7MH/s (6.7 million hashes per second). This would have been quite successful at mining a couple of years ago but today it would have an expected rate of 0.0005BTC per day (this is a actuarial measure: a miner finds a block or doesn’t, and in this case it would likely take decades to find one).

Fortunately, there are more powerful computers available quite cheaply: your graphics card used for gaming is actually a massively parallel computer (quite often containing more than a thousand CPUs). My PC’s GPU (Graphics Processing Unit) contains a Radeon 6870 chip that will do 300MH/s. That’s enough for 0.02BTC per day (it would take on average more than three years to find a block). But there’s the cost of the electricity to run the PC (and the cost of the PC) to take into account. The PC uses about 250W of electricity (the graphics card alone uses 150W).

At current difficulty and electricity price ($0.15/kWh) it would cost $44 in electricity for each Bitcoin mined. But crucially, the low probability of finding a block means that the economics are likely to have shifted before one is found. The only viable way to mine Bitcoins with a GPU is to have lots of fully-amortised cards in a datacenter running right now. In short, if you didn’t get into Bitcoin mining ages ago with your PC, you’re too late now.

There is another way to calculate hashes faster: using FPGAs (Field Programmable Gate Arrays). In essence this is custom programmable electronics. Rather than using general purpose processors running software, the hardware is directly performing the calculations. FPGA programming is quite specialist engineering used in applications like HFT (High Frequency Trading) and ULLDMA (Ultra Low Latency Direct Market Access). An FPGA mining rig can achieve a hash rate as high as 800MH/s, but at some expense (the cost can run to $1000 per module).

A high-end rig of 8 modules could expect to generate 0.5BTC per day on average (allowing the hardware costs to be amortized over 130 days at current BTC prices and difficulty levels). However, anyone who invested in FPGAs recently will likely have lost their money: a new generation of mining hardware has hit the market rendering all previous mining rigs obsolete.

ASICs (Application Specific Integrated Circuits) are the kind of chips found in cellphones and other electronics. They are expensive and time-consuming to design (taking months or even years) and hard to get the production right (requiring large silicon wafers, people in cleanroom bunny suits, etc.) but once they work properly can be manufactured cheaply in quantity.

The first dedicated mining rigs built from ASICs shipped a few weeks ago: Avalon claims their first product achieves 65GH/s, uses 650W of electricity and is priced at ฿72 (yes, it’s priced in BTC). Butterfly Labs say they will be shipping imminently kit that will do 50GH/s (currently priced at $2499). This should at current difficulties find a block about every 6 days, giving a BTC rate of 3.75BTC per day. At current BTC/USD prices that would allow the hardware cost to be amortized over just 5 days.

ASIC-based Bitcoin mining has created a step-change in Bitcoin mining economics. In keeping with the analogy with gold, there is now a rush to be amongst the first with the new mining technology and scoop the current set of Bitcoin nuggets that are easily mined before someone else does - the difficulty will step up as ASIC-based rigs become widespread. And just as in California in 1849, the suppliers of mining equipment are likely to be the ones who make the most money. In the end the limiting factor will be the amortization costs of ASIC rigs (given the economics of silicon this need not be high) and electricity (perhaps the future of Iceland’s economy is hosting air-cooled Bitcoin mining rigs powered by volcanoes?)

As to whether all of this is a fool’s pursuit and Bitcoins are really modern-day tulips (albeit tulips that weigh nothing, don’t decay and have no storage costs) it is difficult to say. In the end a form of money is a human construct that has utility when it is widely agreed that it has utility. Of course, it could be a huge geeky joke. Like the Internet used to be.