Reliance on financial institutions by online stores for transactions faces a number of challenges; it’s not only impossible to have absolutely non-reversible transactions but also expensive and therefore impractical to make small transactions. To tackle these challenges, Satoshi Nakamoto proposed an electronic payment system known as Bitcoin that leverages cryptographic proof, as opposed to trust, to allow parties transact without third parties.
Bitcoin comprises of a decentralized peer-to-peer system that makes transactions computationally impractical to reverse to ensure sellers are not defrauded. New transactions are broadcast to all nodes with each node using the new transactions to create a block. Every node then works to find a proof-of-work for its block which it broadcasts to all nodes. Other nodes will only accept the block if all its transactions are valid and work on extending that block in the chain using the hash of the accepted block as the previous hash. The longest chain represents proof of the sequence of events witnessed.
To prevent coins from being used more than once, otherwise known as double spending, a peer-to-peer distributed time stamp server generates computational proof of the chronological order of transactions. This system is secure as long as honest nodes collectively control more CPU power. With the chances of dishonest nodes taking over the network exponentially getting difficult, nodes are further encouraged to be honest by incentives.
Bitcoin as a cryptocurrency utilizes the distributed and immutable nature of blockchain to facilitate peer-to-peer transactions while eliminating expensive intermediaries. Blockchain can be further applied in processes and applications that require trust and immutability, including voting systems and contracts.
Disclaimer: The views expressed by the author above do not necessarily represent the views of the Ethereum Foundation.