Digital Scarcity by Design
To help explain the main elements of Bitcoin I will outline simplified a model (or protocol) for enforcing digital scarcity. The article will finish off by discussing how Bitcoin matches and differs in some detail from this model.
Let’s say there are 1000 numbers: 1, 2,…,999,1000
- We want to share these numbers world wide in such a way that a number can be owned by no more than one person.
- A person can own no numbers or all 1000 numbers.
- A number that is not owned by anyone is unissued. Later we will see how such numbers can enter initial circulation.
- Each number can be transferred in such a way that the recipient can be certain to be the unique owner of that number.
- To prove ownership of a number the owner needs a code or key.
- To send the number to another person, one must own the number and then one just sends it to the recipients key.
- The sending of a number from key to key is called a transaction.
- Transactions are recorded in a non-centralised (decentralised) way. That is, there is no central authority (or bank) with a list of all transactions (ledger).
- Anyone that wants to, can keep and receive updates to the ledger. To do that, they do not need to own a number. Let’s for the moment call such a person a scribe.
But how to keep a check on these scribes? A good and honest scribe follows an agreed process (or protocol), however, bad or dishonest scribes may not follow that process. Let’s describe the process:
- Each scribe receives transactions sent to them, and keeps them in a transaction pool for later processing. These transactions may or may not be valid, so the scribe checks the validity against their current ledger.
- The most important thing to check is that the person owning the number has authorised the transfer of the number to the next owner. To do this the scribe checks that the transaction has been signed by the owner.
- A person sending a transaction has to sign a transaction using their key and lock the number to the recipients key.
- Once a transaction is signed it is tamper proof. Changing a single byte of the transaction will invalidate the signature.
- The scribe processes these transaction in batches (called blocks). These blocks can only have a maximum size.
- At any moment there are many scribes doing this same validation and batching into blocks.
- But only one scribe can be selected (the winner) to provided the next block and then share this block with all the other scribes.
- The selection process is done using a mathematical puzzle. The puzzle can only be solved by guessing (hash) until one gets the right answer. Like a lottery ticket, the more often one guesses in a given time the more chances one has of winning the lottery.
- The processes is called Proof of Work. Each guess or hash requires a certain amount of computation, and computation uses energy.
- Once the scribe guesses correctly, they broadcast the block to all other scribes. Other scribes, sceptical by nature, check that the block contains only valid transactions. If an error is found the block is rejected and the race continues.
- The first block ever broadcast is called the genesis block.
- To incentivise the scribes to perform this service, a scribe that has solved a block will receive an unissued number via a issuing transaction to the scribe’s key.
The above is a highly simplified description, of essentially how bitcoin works. The numbers are bitcoin, or really the parts of a Bitcoin called satoshi. A satoshi is 100 millionth of a Bitcoin and 21 million Bitcoin can only ever be issued. So, rather than only 1000 numbers there are effectively just under 2 100 000 000 000 000 numbers (2,100 trillion satoshi), plenty to share.
The fact that the number of Bitcoin is limited to 21 million is what digital scarcity stems from. It is the process similar to that described above that is central to ensure that the digital scarcity is enforced by software and cryptography.
The scribes in bitcoin are really called miners. The term miner draws parallels with mining of gold or silver. The mining process requires energy, there is an element of luck, new supply is derived from this process, and, over time, the scarce metals are harder to mine.
The above simplified protocol of Bitcoin is misleading in one important respect. It give the impression that a Satoshi, by corresponding to a sequence number, has distinct identity. This is not strictly the case as only amounts can be accounted for. Traceability of amounts of Bitcoin can be hampered by using coin-mixing transactions. This topic is an important but complex subject and will be covered in a later article.
Finally
Decentralisation is a core element of Bitcoin. If decentralisation is compromised then Bitcoin is compromised in its main reason for being. If miners or validating nodes fall under central control then the mutual checking function is essentially broken (a 51% attack become possible). Even strong cryptography is then no effective protection, since a key is only strong if its rights are also strongly enforced.
The above still leaves many questions unanswered:
- How do the miners agree on which software or protocol to run? Could they not agree to double the maximum supply? And if so, what is holding them back.
- What if the recipient loses their key or the key is invalid? What happens to the bitcoin?
- How do the miners communicate and what happens if two blocks are found at the same time?
- How quickly are blocks generated and how does this rate depend on the intensity of mining?
To answer these questions and delve into detail of the Bitcoin protocol I highly recommend to read “Mastering Bitcoin” 2ed, by Andreas Antonopoulos.
Please comment if there are misleading inaccuracies or you see ways to improve or extend the simplified description.
