Understanding Bitcoin: Cryptography, Engineering and Economics

CHAPTER 2Technology (Introduction)

Until the introduction of Bitcoin, transmitting money digitally had required the mediation of a third party. The main breakthrough of Bitcoin has been to allow digital payments with no trusted third party. This chapter serves as an overview of the technology behind Bitcoin.

2.1 CENTRALIZED DATABASE

The most straightforward way to try to create digital value is to assign value to a certain data pattern, basically a string of zeroes and ones. The problem with this approach is that digital information is easy to replicate at basically no cost. This leads to the double-spend problem, exemplified in Figure 2.1. Say Alice has a digital coin, represented by the binary number 01000101. She could transfer this value to Bob, by sending him a message with this number, so that Bob had a copy of the number and thus the value. The problem is obviously that nothing prevents Alice from sending this same number to another user or indeed to many other users.

FIGURE 2.1 Double-spending problem

So digital value cannot be represented simply as a number because digital data is very easy to replicate many times and thus knowledge of the number does not have any value. As common sense suggests, for something to have value it must be scarce. The challenge then is how to create scarcity using digital technologies that allow the perfect copying of information. ...