Cryptocurrency, How It Works?


If you’re a part of this century, you must have heard or seen the word CRYPTOCURRENCY at least once before now. You probably have heard BITCOIN even more times! Have you wondered what these words really mean? Since it contains ‘currency’, it must have a relation to money, but what country’s currency is it? Is bitcoin a coin? Where is it being printed or forged? Can it really be spent? Where and how can it be spend? Is it safe to use? These questions and more have been asked across the globe both openly and privately. This article provides all the answers.

What is cryptocurrency?

Simply put, it is digital money. Cryptocurrency is an encrypted universally controlled currency sent from one holder to another in a peer to peer string and confirmed in a public ledger through a process called Mining.

Cryptocurrency can be best explained to be digital currency as it only exists on computers. It is money or currency transferred between two wallet owners i.e there is no middleman like a bank controlling the transaction. The transactions are recorded on a digital public ledger called a Blockchain. It is called Cryptocurrency because the transactions and the Blockchain or public ledger are encoded using ‘cryptography’. It is not controlled by any central government but by users and a computer algorithm.

Bitcoin is the foremost and most popular Cryptocurrency. However, there are others like Ethereum, Litecoin, Ripple, Bitconnect coin, Davor and a host of others. There are more than 200 Cryptocurrencies.

Basic Concepts That Are Key To The Understanding Of Cryptocurrency

  1. PUBLIC LEDGERS: Cryptocurrency like any other currency, involves transactions, and these transactions, right from the creation of the cryptocurrency or coin are recorded in a ledger which is available to the general public. The cryptocurrency system employs a cryptographic system to make sure the records kept are real and correct. All the coin owners have encrypted identities. The public ledger makes sure related ‘digital wallets’ (like bank accounts) can correctly calculate  the balance that can be used in transactions. It secures the coins, giving users access to only the coin they own. This Public Ledger is called a “Block Chain”.
  2. TRANSACTIONS: As we can already deduce the meaning of the word, it is a transfer of funds between wallets (bank accounts). The way it works in the cryptographic system, when a transaction is initiated, the wallets use an encoded digital signature (a code convey some data; a cryptographic signature) to provide the transaction proof that ties the transaction to the wallet of the Sender. The details are sent to the Public Ledger where it awaits confirmation. The confirmation takes a short while to process. At this time, the miners ‘mine’ to confirm the transaction and record them in the public ledger.
  3. MINING: I have used this word a few times already, but I will explain it better for further clarification. Like in the last statement in the previous paragraph, Mining is simply when a transaction is confirmed and added to the public ledger, as opposed to the popular belief of someone digging some gold out of the ground. This is what a Miner does; he solves a progressively-complex mathematic puzzle, a computing trouble, in order to add the transaction to the Blockchain. Also, there is no specific miner who confirms transactions. Mining is an open source, so the first person or miner to solve the problem adds a ‘block’ of transactions to the public ledger or blockchain. The system is complex in a way that no single miner can change a block when or how he wants. How does this relate to the word mining in real sense? The confirmation of transaction adds a ‘transaction charge’ to the miner’s account and also adds newly created or mined coins to his wallet. This process is called the Proof-of-Work system.

How does cryptocurrency work?

Cryptocurrency is also a currency, and using it is like using PayPal or a Debit Card. However, quite a number of things differentiate Cryptocurrency from our normal fiat currency. One amazing thing about Cryptocurrency is that no physical coin was ever created. It’s all digital; digital coins, digital wallets and digital transactions.

The circulation and creation of Cryptocurrencies or digital coin is not controlled by anyone, it is decentralized and cannot be regulated by any third party like other fiat currencies. It is controlled by codes and its transactions are open source, relying on peer-to-peer networks. There is nothing that can affect the currency externally.

Its supply is limited over a period of time to keep it valuable and to reduce the amount of coins mined or created. They are built in a way that they can work well in any quantity, small or large. For example, Bitcoin is programmed to allow only one transaction block to be confirmed and added to the ledger at an interval ten minutes. The algorithm gets harder after 2016 blocks have been created. Its complexity is however regulated thus; if it takes only 13 days or less to mine 2016 blocks, it’s too easy and it will become more difficult. If it takes 15 days or more, then it’s too difficult and it will become easier.

All one needs to use cryptocurrency is to create a wallet. This can be done on a platform like Coinbase.

Like we have already mentioned in this article, transactions are sent from wallet to wallet digitally by matching up public codes which relate back to the wallet addresses (cryptographic keys) of the wallet owners involved in the transaction. The transaction is then recorded on the public ledger called ‘BLOCKCHAIN’. It is called Blockchain because lots of transactions are sent to the Ledger at once. There is always a chain of transactions and these transactions are called ‘blocks’, so it is a chain of blocks; Blockchain. Access to this Blockchain is for everyone but it is only provided in a “Full Node” wallet, not on third party wallets.

The details of the transactions of Cryptocurrency are public, including the amount sent or received. However, the users are anonymous. Only wallet addresses (cryptographic keys) are seen in the ledger.

When a transaction is made, that transaction is sent out to all miners or users with “full node” wallets. At the receipt of the transaction, the miners will try to solve a cryptographic problem (making use of software specially designed for this purpose) which if they are able to solve, allows them to add a “block” of transactions to the Blockchain. The first miner to solve the puzzle gets a few newly mined coins into his wallet as payment for the work done. The algorithm is based on agreement. Sometimes, the miners share the new coins if they all submit the correct data at the same time.