Let's Unravel How Crypto Actually Works

In the past 18 months, Crypto has taken the world by storm.

But let's be real. In fact, I'll start.

I have a confession.

I've been working in the space with a guilty secret. I have only a vague idea of what a blockchain is. What's a smart contract, you say? I don't know either!

How does mining actually make a bitcoin? Stop! You’re embarrassing me.

If a guilty smile spread across your face because you're in a similar boat, congratulations. I love the honesty. Take my hand.

Today, we're going to demystify the basic tech of what cryptocurrency actually is. All in plain English!

At the end of this lesson, you'll know more about Crypto than 99% of those actually working in the space. And it'll be easy and fun.

You don't believe me? Read on.

Diving into the meaning of blockchain

Okay, this is so embarrassing. I’m working in blockchain, but I keep forgetting what blockchain means.

Is it an anonymous network? No.

Well, then, is it a cryptocurrency? Absolutely not.

I think I forget because no one has fully explained it to me, and if you are in the same boat, we are about to fix that. It's used all the time in crypto, so let's rip the band-aid off.

A blockchain is a public ledger that records every transaction ever made in cryptocurrency.

Each block is like a page of the ledger, containing a timestamp and links to the previous block. Those links connect them. Hence, chain.

To win the right to write the block, cryptocurrency miners must win a race to solve a math problem. There's no other way to alter the blocks once written. This makes it the ultimate ownership record, which is why people say Bitcoin is so secure.

Every ownership is recorded on the block, and the chain of blocks is linked. Put those two words together and you get a blockchain, but it’s a fancy way to say ledger.

At its core, a “bitcoin” is an input written on a public ledger that records ownership, stored in a crypto wallet.

Decrypting Bitcoin

Bitcoin is a form of money.

Bitcoin isn’t like traditional money. Money can be held in your hand. It can be stolen from your pocket or broken or burned. It’s printed by a central bank. It’s always issued by a government or a large centralized institution. Its value is usually in the trust of this issuer and sometimes backed by gold or other assets.

Bitcoin is different. Most strikingly, no government or central institution may mint it. It’s not backed by other assets. It’s scarce and the supply has an absolute limit, and it’s created by users through a process called “mining.”

Understanding mining is key to understanding what a bitcoin actually “is”.

But What is Bitcoin Mining?

Bitcoin mining is actually a lot like the way coins are made today. Yet, instead of using paper to print money, bitcoin miners use computers to solve complex math problems. The first person to do so gets to add a block of transactions to the blockchain, which is the public ledger of all bitcoin transactions.

By adding a block of transactions, they are able to "mint" the next bitcoin.

Let’s Dive Into What the Minting Actually Is

The "minting" is actually writing on the public ledger, or blockchain. The writing is recorded as an "input".

The input records that the coin went into their wallet. Easy, peasy, lemon squeezy. They won the chance to write the next lines on the ledger, and they write, basically, this coin or coins went into my wallet, and now I own them.

So, the ownership is recorded as an input, or a record on a ledger showing something was put in (input) to their wallet.

This first "input" into their wallet is the creation of the bitcoin.

If they spent it or sent it to someone else, that would be a publicly recorded "output". It went “out” of a wallet. When entering the next wallet, it's another "input".

So a mining rig is a very powerful computer set up to solve very hard math questions. With each block, the questions get harder. The rewards also get smaller.

Because of the computer processing power involved, more electricity is needed. Thus it becomes more expensive to mint a single bitcoin.

So, bonus. Now you understand another reason why bitcoins are rare, valuable, and expensive. More importantly, you know a bitcoin is actually just an input and an output, written on a public ledger.

No physical or digital rendition of a “coin” actually exists, but as humans understand tokenization as it relates to money, we naturally refer to them as coins, tokens, cryptocurrencies, etc.

No! Did I just ruin the fun for you? Well, you know what they say. If you like sausage, don’t learn how the sausage is made. This may have made things a little less fun because you realized there are no actual Chuck-E-Cheese tokens involved. Yet, later, with this understanding, it may be a lot more fun for you in the crypto space when you’re more equipped to fully understand it, and hence, be able to build. Or divide and conquer.

Currently, it costs tens of thousands of dollars in electricity to mint just a single bitcoin. Not to mention the upfront costs of buying a “mining rig”. Or as I like to call it in plain English, a very expensive, very powerful computer good at math problems.

Wait! How is Cryptography Involved in Cryptocurrency?

Surprisingly, the answer is simple. Cryptography is the science of securing information. "Crypto" in cryptography (and cryptocurrency) is the Greek word for “secret.”

A crypto wallet is secured by a set of private keys--a string of words that can unlock and access your wallet. By a process called "hashing", your private keys are processed as a string of data by an algorithm, which generates a public key.

Wait! I know, that was a little bit complicated. But in plain terms: your private keys are encrypted, and out pops your public keys. They have been hashed. Take a deep breath!

This process is almost impossible to reverse. The public key is generated from an anonymous private key not linked to your digital identity. So, you can freely share your public key without revealing who you are. Due to the nature of hashing, it should be impossible to guess your private key from your public key. You can send and receive assets by sharing your public keys.

At the same time, the mathematical equations miners must solve to win the right to write in the ledger are cryptographic puzzles.

So, cryptography isn't part of the actual coins. It's an obstacle through which miners earn the opportunity to write on the blockchain.

It’s also how wallets are both secured and made anonymous. Hence, cryptocurrency is a "secret" currency, which is both anonymous and secure.

If you keep your private keys, both your digital assets and your identity are secret.

The refinement and complexity of this technology have led to the rise of Bitcoin Maximalists. A Bitcoin Maximalist is someone who believes in bitcoin above all other forms of cryptocurrencies.

And It’s Decentralized

Yes. From the minting process explained above, to where the blockchain is stored, cryptocurrency at its core was developed to take control of money away from centralized institutions and give that power to the people.

For instance, the blockchain, or ledger, is stored and updated in duplicate over a network of computers called nodes. In this way, one person couldn’t alter the ledger in a forgery, unless they controlled thousands of computers that make up the network. In the bitcoin network, at press time, this would be all but impossible for the very reason that it is so widely distributed and decentralized.

A central authority is able to unilaterally print extra money, causing inflation and making the money everyone else holds worth less. However, if they wanted to create more bitcoin, they would need to buy mining rigs, and compete to solve math problems, in a similar way to if they wanted to mine gold, they would need to create actual gold mines to do so. In this way, the long-term value of bitcoin is protected through decentralization.

So What’s an Altcoin

Altcoins are any other cryptocurrency besides bitcoin.

Some of these altcoins are based on blockchain (remember, that means ledger) technology, while others are based on the concept of decentralization.

The most well-known altcoin is Ethereum. Ethereum is a developer-friendly blockchain, that invites other projects to write new apps upon its network.

Many modern cryptocurrencies are actually ERC-20 Tokens. ERC-20 means "Ethereum Request for Comment", and they are purely digital inputs and outputs recorded on the Ethereum ledger.

Any person can create these, as long as you pay a small fee (called gas). Thus, came a rise of "meme-coins", with funny names and often without practical uses.

Since new developments in crypto are made all the time, all new cryptocurrencies fall under “altcoin”.

Proof of Stake

Whereas the above-mentioned method of securing and minting bitcoins is called Proof of Work, other altcoins are experimenting with new ways of minting their currencies, one such popular example being Proof of Stake.

Proof of Stake relies on proving you have a collection of coins to win the right to process transactions, write the next block, and mint new coins. Proof of Stake uses much less energy than Proof of Work.

Smart Contracts

A smart contract is a way to make it so two computers, or networks, can talk to each other and have transactions without a middle man. This is called a “trustless system”, which means two parties are able to transact without knowing each other, without trusting each other, and without the help of a third party.

They are a foundational technology that powers decentralized applications (dApps). Decentralized because the applications are able to register transactions without a central authority approving them.

So What is Cryptocurrency Again?

The term “cryptocurrency” was coined by Satoshi Nakamoto, the mysterious creator or creators of Bitcoin. He used it to describe the digital currency he invented.

As a result, many people have different ideas about what it is. Some think it’s a type of money that uses encryption. Others think it’s a type of money that doesn’t use banks. Still, others think it’s a new way to buy stuff.

In reality, it’s all of those things. It’s an entirely new kind of money that works differently from anything else, and at its core is powered by a public ledger known as a “blockchain” that records every transaction in a secure way that cannot be manipulated, or controlled by centralized organizations.

Hey. I bet you understood that whole thing.

Conclusion

So there. You now understand more than 99% of people who are actually working in crypto.

Through this article, I've worked to demystify the most basic, and sometimes confusing concepts in crypto in plain English, and equip you to better understand the nature of what a cryptocurrency and blockchain actually are.

This is by no means a comprehensive list of concepts, however, it’s the most commonly used term that I’ve identified that almost no one understands, and serves to be a 101 which most people, even those who may work in the space, probably haven’t taken yet.

By understanding how crypto works, you’re more likely to make good decisions, less likely to make poor investments, and armed with the basic tools (that being knowledge) to start building in the space.

Go forth and conquer, my friend!

Notes:

1. This isn’t investment advice, and shouldn’t be used itself to evaluate projects or make financial decisions. As always, do your own research.
2. At press time, the writer of this article owned some cryptocurrencies.
3. The explanation of private and public keys is rudimentary in this article and should not be taken as security advice. If you are holding crypto in a real, actual crypto wallet with private keys, you should yourself very carefully research how to store your keys, understand which one is your public and private keys, and learn how to secure your own assets.