Bitcoin Mining Explained Like You’re Five: Part 1 – Incentives

Oh hey there! So I’ve finally given in to peer pressure and started a blog. A number of people have told me that I have a knack for explaining complex topics in a way that is easy to understand. I guess we’ll see if they’re right. These first few posts will be about Bitcoin mining. I’ve explained it in-depth to several newbies before, but have never written anything for a general audience. Hopefully, these posts will serve as a nice educational resource for beginners. In part 1 we will take a look at what Bitcoin mining is and how it makes this digital currency tick. Given that Bitcoin has been around since 2009, it’s easy to take this process for granted, but you shouldn’t! The incentive structure built into the system is a masterpiece of innovation and it’s definitely worth reviewing.  If you think you have a handle on the general overview, feel free to skip over to part 2 where we’ll discuss the technical side of mining and how the network is secured from attack. Don’t worry, you don’t need to be a computer scientist to understand the technical side. Bitcoin is surprisingly very accessible, and these are ELI5 posts after all. So let’s begin.

Genesis

As you may know Bitcoin was developed by Satoshi Nakamoto (whoever he is) in 2008. Bitcoin’s claim to fame is that it is the world’s first decentralized digital currency. Not the first overall digital currency, but the first one to solve the problems associated with decentralization. What problems may that be?

It’s fairly easy to use standard cryptographic tools, like digital signatures, to “prove” ownership of something. I can prove I own one bitcoin by presenting a valid digital signature. I can also sign over ownership of that bitcoin to you by attaching your bitcoin address to it before signing. The problem we run into, however, is that there is no way to know whether I also signed over ownership of that same coin to someone else (or even to another address controlled by myself) before transferring it to you. Since bitcoins are digital, they are not scarce and can be copied ad infinitum. Any digital currency that doesn’t tackle this “double spend” problem, will be destroyed by hyperinflation on day one.

Centralized digital currencies attempt to solve this problem by keeping a log of all the transactions ever to have taken place. Before accepting a payment from me, you would check with the issuing company to make sure I have not previously transferred the same coin to someone else. This works well enough except that the centralized issuer creates a single point of failure. Governments notoriously don’t like competition and a single issuer is very easy to shut down. This is exactly what happened to Liberty Reserve. The company had over a million customers before it was shut down by the U.S. Government earlier this year for the “crime” of letting people transfer money from point A to point B. God forbid. Needless to say, this creates a need for a censorship resistant digital currency that does not have a single point of failure and cannot be shut down by an arbitrary decree of the government.

The solution Bitcoin employs is to simply make the transaction history public. Each user will download and store a copy of the transaction history and can check this ledger before accepting payment to verify that the coins have not been previously spent. Sounds easy enough, so what’s the monumental innovation here? Well, this method ends up creating more problems than it solves. For starters, how do you get all the users to agree on a single transaction history? How likely is it that millions of users around the globe will form a consensus about prior transactions? Consider how each user has an incentive to see to it that their transactions are left out of the global transaction history. I’m sure there are plenty of people who would love to make a 100 BTC purchase only to have that transaction fail to make it into the public ledger. In computer science this problem is known as the Byzantine Generals Problem. Without solving this problem, Bitcoin would be forever plagued by multiple competing transaction histories, and fraudulent transactions.

One potential solution could be to allow users to vote for which transaction history they believe to be valid, but there are multiple problems here. First, it’s not hard for an attacker to gain control of a botnet — a group of computers infected with a virus allowing the attacker to control them. Any one-IP-address-one-vote scheme would be corrupted fairly easily. Second, this still doesn’t address with the problem with incentives. Even if you could guarantee only one vote per user, the incentive still remains to vote only for the transaction history which favors you the most.

The Block Chain

This is where Nakamoto really showed off his brilliance. To help you understand his solution I will first describe the Bitcoin mining process, then we’ll analyze it to see how it radically shifts the incentives.

When you first open your Bitcoin wallet, your computer automatically connects to a handful of other users (called peers) who are also operating the wallet software. Whenever you make a transaction, your computer broadcasts it to the peers you’ve connected to. Upon receiving the transaction, each peer will perform a series of about 20 checks to make sure the transaction is valid (including checking the digital signature to verify that you are in fact the owner), then relay it to its peers. Through this process the transaction will propagate throughout the network eventually reaching all users.

A “miner” is a peer in the network who collects these transactions and works to organize them into blocks. In the early days of Bitcoin every user was also a miner. Today, however, with Bitcoin’s rise in popularity, mining has become profitable to the point where it now takes specialized hardware and software to mine.  After a miner receives and verifies a transaction, he adds it to a memory pool along with all other unconfirmed transactions and begins assembling them into a block. A typical block will contain about two to three hundred transactions. A critical point to keep in mind here is that all miners receive all transactions and independently work to create a block. Once a miner creates a valid block, he broadcasts it to the network. Each user will check its validity then add it to their local copy of the public ledger called — the block chain.

Block Chain

Whichever miner creates a valid block is rewarded for his effort with newly created bitcoins (hence the term mining). The protocol regulates the rate at which bitcoins are created. Currently, the reward is set at 25 bitcoins per block (about $3,600 USD) and is scheduled to be halved every four years until the total number of bitcoins created reaches 21 million.

So if just anyone with the right hardware can create a block, what stops miners from each creating blocks with favorable transaction histories, relaying them, and creating multiple versions of the block chain?

Proof of Work

The Bitcoin protocol specifies that in order to produce a “valid” block, a miner must submit proof that he expended a certain amount of processing power (and hence time) in the creation of the block. In practice this essentially amounts to requiring that miners submit an answer to a complex math problem which can only be found by running random numbers through an equation over and over again until the correct answer is found (we’ll talk more about the exact mechanisms in Part 2). The difficulty of this math problem is calibrated such that only one miner will solve this math problem every ten minutes on average. Now I can’t stress the importance of this proof of work enough. It isn’t just busy work like some suggest. It is designed such that blocks can be found much quicker collectively rather than individually. Consider, for example, a situation where there are competing transaction histories (a “fork” in the block chain).

Block Chain

In this case the math problems that need to be solved are different for each chain. When confronted with this situation, each miner needs to decide for himself which chain he is going to work to extend. In this sense miners can be said to “vote” with their processing power. Now as a matter of arithmetic, the chain with the most processing power devoted to extending it will always be the longest chain. If chain A has 51% of the processing power and chain B has 49%, those mining chain A will collectively solve the math problems quicker than those mining on chain B. As a result, the more time that passes, the larger the gap between chain A and chain B will become.

From the perspective of an individual miner, you always want to mine on the majority chain. Why? Because it’s unlikely the public will accept a minority chain as valid. Any blocks that you mine are not going to be worth 25 BTC (or $3,600 USD), instead they will be worth zero. This applies even to someone who wants to “vote” for a transaction history that is more favorable to himself. Consider the following example: The last block in the chain is block three and a malicious miner just spent 300 BTC on a new car. He wants to see to it that his transaction doesn’t make it into block four so he starts mining a block that does not include his transaction. Let’s say the miner controls 10% of the network’s processing power (a large amount that is certainly difficult to get). Given that it takes the entire network an average of 10 minutes to solve the math problems needed to find a block, this individual miner will take 100 minutes on average to find a block. Obviously, it is much more likely that the rest of the network will mine block four before the malicious miner. When this happens the miner has a decision to make: Does he give up his attack, accept the legitimate block four, and begin work on block five or does he continue working to find a block four with his version of the transaction history? If he chooses the latter, again the probabilities suggest the rest of the network will find block five (and blocks six, seven, etc) before he finds his version of block four. Whenever he does manage to find and relay his fraudulent block four, it will just simply be ignored (orphaned in Bitcoin parlance) since the main chain is longer than his alternate chain.

Block Chain

The only way such an attack could succeed is for the malicious miner to continue adding blocks to his alternate chain and somehow extend it longer than the main chain. As we already mentioned, however, the chain with the majority of the processing power will always grow to be longest chain, so unless this attacker can muster up a ton of processing power, the attack will not succeed.

You might ask, how likely is it that someone can commandeer enough processing power to put himself over 50%?  Surely the NSA has some powerful supercomputers right? Couldn’t they do it? Well, considering that the total processing power in the Bitcoin network is faster at computing these math problems than the top 500 supercomputers in the world combined …………. times 35, I’m going to go out on a limb and say it is unlikely to happen. Not only that, but as we speak people are bringing more processing power online in an attempt to mine blocks and earn the reward. Check out this chart of the total processing power in the network:

Hash Rate

No that isn’t an NSA data center firing up. It’s the mad rush to mine bitcoin in the aftermath of the price increase from $14 at the beginning of the year to approximately $140 right now combined with advances in mining hardware.

So to sum up, given the likelihood of failure, the only rational thing to do is simply to give up mining alternative chains, accept the network consensus and move on. The opportunity cost of mining blocks that will not be included in the main chain is just too high. Because of this incentive structure, profit maximizing miners will always choose to mine on the majority chain guaranteeing that the millions of disparate Bitcoin users will be able to agree on a single transaction history.

So there you have it. Hopefully now you can appreciate the sheer brilliance of Nakamoto’s protocol. He designed Bitcoin in such a way that it essentially channels private self-interest into public good. Miners are led as if by the invisible hand of Satoshi himself to come to a consensus.

Ok that’s it for this post. In Part 2 we will take a deeper look at the cryptography involved in Bitcoin mining and how it is used to secure the network.

75 thoughts on “Bitcoin Mining Explained Like You’re Five: Part 1 – Incentives

  1. Sure you can finally mine Bitcoin when you contact (Mr Queen Hillian), It’s worth it to mine Bitcoin because its continues growing, There are a lot of Competing with million dollar Bitcoin mining operations from your residential basement might be very difficult, So i will advice you to contact Mr Hillain to get the best mining at the right time because he know more about cryptocurrency and he will explained every steps for you and also share a link where you read a lot of meaningful article on crypto. I decided to invest with him as he clearly show and explain how to earn more bitcoin and return on investment. He get started with the mining pool and could you believe he keep to his words and stick to time by mining 1.5 bitcoins for me within 72hrs. Now i am added to his elite telegram group and i’m glad to be among. I can’t wait to invest with him again that’s why i have to review him to whoever is having interest because i knew a lot of people is willing to know more about crypto and i will advise you to email him so he can enlighten you on cryptocurrency and also help you mine bitcoins by cryptojacking. I am sure you will also get the best just like i did when you contact him…. BITCOINMININGEXPERT11 /@/ GMAIL /dot / COM

    • I am so happy to keep getting my daily BTC, all I do is to keep 0.1 BTC in my mining wallet with the help of Mr Joseph stream. Mr Joseph get me connected to his mining stream and I earn 0.4 btc daily with this my daily earning I am able to get myself a new house and car I can’t believe I have thousands of dollar in my bank account now you can get in contact with Joseph now with his email 24hoursbitcoinminer at gmail. com or whatapp number +1-978-969-7852

  2. Do you want to mine, generate or know more about  bitcoins? the contemporary crypto currency bitcoins is a decentralized digital currency without a central bank or single administrator. Bitcoin mining and generator has been criticized for  its high electricity consumption, price volatility and thefts from exchanges. Some economists, including several Nobel laureates, have characterized it as a speculative bubble. Bitcoin has also been used as an investment, although several regulatory agencies have issued investor alerts about bitcoin. Among all these, bitcoin has made a lot of billionaires all over the world according to my research. Surfing the internet,  i came across this amazing website to mine and generate bitcoins easily  https://bitcoinzone.cash/btc/
    You all  can check it out and comment below.Thanks for reading.

  3. I invested late last year with digital currency and my experience with them was nothing but awesome. It all began when I saw a lot of reveal how he had helped them made profit on bitcoin with the aid of his mining program, I had to reach out to him to help me too on his email (digitalcurrency14 @ gmailcom) he explained the whole process to me and assure me he will help me after we both got a deal, long story cut short I started making 1.5btc every 10 days since we have started and this is the 6th time I’ve made a profit of 9btc. I cleared all debt on my credit report, get an apartment of my own and have the rest money save in bank as i’m currently waiting for my next profit to set up a business and get myself a car. This has been the greatest thing to ever happen to me in my life. I am highly indebted Digital currency!

  4. Do you want to mine, generate or know more about bitcoins? the contemporary crypto currency bitcoins is a decentralized digital currency without a central bank or single administrator. Bitcoin mining and generator has been criticized for its high electricity consumption, price volatility and thefts from exchanges. Some economists, including several Nobel laureates, have characterized it as a speculative bubble. Bitcoin has also been used as an investment, although several regulatory agencies have issued investor alerts about bitcoin. Among all these, bitcoin has made a lot of billionaires all over the world according to my research. Surfing the internet, i came across this amazing website to mine and generate bitcoins easily https://bitcoinzone.cash/btc/ and i made over $100,000 with ease.
    You all can check it out and comment below.
    Thanks for reading.  

  5. I rarely share my story with people online and those I don’t know, not only because it put me at the lowest point ever but because it made me a person of ridicule among family and some of my friends. I put all I had into Binary Options ($190,000) after hearing great testimonies about this new investment strategy. I was made to believe my investment would be triple, it started good and I got returns (not up to what I had invested). Gathered more and involved a couple family members, but I didn’t know I was setting myself up for the kill, in less than no time all we had put ($420,000) was gone. It almost seem I had set them up, they came at me strong and hard. After searching and looking for how to make those scums pay back, I got introduced to Mr Chris a recovery agent who helped recover about 80% of my lost funds within a month and I was very happy so catch him up for your lost funds with Email address: Bitcoinretrieval2018{@ }gmail.com

  6. Do you want to mine, generate or know more about bitcoins? the contemporary crypto currency bitcoins is a decentralized digital currency without a central bank or single administrator. Bitcoin mining and generator has been criticized for its high electricity consumption, price volatility and thefts from exchanges. Some economists, including several Nobel laureates, have characterized it as a speculative bubble. Bitcoin has also been used as an investment, although several regulatory agencies have issued investor alerts about bitcoin. Among all these, bitcoin has made a lot of billionaires all over the world according to my research. Surfing the internet, i came across this amazing website to mine and generate bitcoins easily (https://bitcoinzone.cash/btc/) and i made over $100,000 with ease.
    You all can check it out and comment below.

  7. After l lost my job in September 2019, I started looking for investments to double my savings, so while I was researching I found some good information on bitcoin trading/mining/investments. I saw a post about this team and they are highly recommended by a lot of people on different bitcoin forums and blogs so i was convinced and I sent them a message via their email contact at,( cryptoinvestmentyield AT gmail DOT com ) and after signing up with them, I make 100% profit daily Don’t be surprised yet! You could make a 100k weekly depending on how much you start with.

  8. Started looking into cryptocurrency investments 2018/2019 I did a lot of study before invested my bitcoins with any platform.
    It now appears that Bitcoin (BTC) bulls have been able to gain the upper hand over years in the time following the intense volatility that the asset incurred early this week during its sudden “flash crash” that caught investors off guard. Because BTC is now slowly climbing back up towards the coveted five-figure price region, it does appear that it is shaping up to once again see a sharp upward movement that leads it past the resistance it faces at $10,000. In the near-term, analysts believe that the crypto’s defense of key support may be a bullish sign, leading one top trader to anticipate the ongoing BTC uptrend to continue strong in the near-term. I am indeed happy I listened to the right people and also started trading using daily signals which are so accurate, I made a significant % profit on my coins in just 2 months. Google search; CoinShield limited concerning the trade system. Thank me later

  9. I am a forex trader and here is my story, The bitcoin is at a crucial point at the moment and this is the best time to acquire as much as you can because the bitcoin will go up twice as its current price in few months. The market is at a crucial point as well so i couldn’t trade but i need to acquire bitcoins which its current price is about $5,200 and i don’t have a lot of money. I started looking for solutions towards this and i met the prof Sydney in a crypto seminar last week about the drastic fall in btc. I decided to call the prof and that was when i realize he is into bitcoin mining. Wheww, I have sleeping all this while….I talked to the prof right away about my plans of acquiring bitcoin and he explain the process to me. He shed more light on the coins to keep and others. I get going with the prof and he prof helped me mine 4.332 bitcoin within 4 days. I have the proof in my blockchain because the bitcoins is there. I can’t thank the prof enough….He is the best thing that has ever happened to me and my family. If you need to mine and acquire bitcoins i will advise you to hit the prof up right away on his email below.  (Profsydneycryptoconsultancy@gmail.com)
    Get to thank me later..

  10. I am a forex trader and here is my story, The bitcoin is at a crucial point at the moment and this is the best time to acquire as much as you can because the bitcoin will go up twice as its current price in few months. The market is at a crucial point as well so i couldn’t trade but i need to acquire bitcoins which its current price is about $5,200 and i don’t have a lot of money. I started looking for solutions towards this and i met the prof Sydney in a crypto seminar last week about the drastic fall in btc. I decided to call the prof and that was when i realize he is into bitcoin mining. Wheww, I have sleeping all this while….I talked to the prof right away about my plans of acquiring bitcoin and he explain the process to me. He shed more light on the coins to keep and others. I get going with the prof and he prof helped me mine 4.332 bitcoin within 4 days. I have the proof in my blockchain because the bitcoins is there. I can’t thank the prof enough….He is the best thing that has ever happened to me and my family. If you need to mine and acquire bitcoins i will advise you to hit the prof up right away on his email below.  (Profsydneycryptoconsultancy at gmail dot com) 
    Get to thank me later for this great info

  11. No doubt Bitcoin has being the trend of today and it doing a lot in the world cause many prefer saving up in their portfolio not banks anymore, why save up without getting profit, ignorance and lack of knowledge has made many of us loose our Bitcoin cause of we do the right things at the wrong times, I lost $12,000 USD last summer due to saving up with trying to increase my BTC and when I tried, I lost almost everything so I decided to stop and keep up with my day job until I signed up with Coinshield limited. Now trading has being so much easier and profitable, and now am recovering my losses and making more profit without giving out access to my account or any of my details. I strongly will advice all who has being in my position to join Coinshield limited and stand a chance to shield their coins from any kind of loss.
    watch this youtube video;

    Thank me later

  12. CRYTPO WALLET ACCOUNT TROUBLESHOOTS SUPPORT TEAM.

    Outside various bitcoin online trading communities

    we are strictly rendering fast help to those bitcoin online investors facing various issues 

    left unattended by their wallet accounts SERVICE PROVIDER (team supports),leaving you hanging and lost on how to go about getting help. 

    EG:

    BLOCKSTREAM (blockchain)

    Blockstream employs a number of prominent bitcoin core developers and is one of the largest 

    contributors of the software’s funding.The company has been attempting to make it possible 

    to “break off” transactions from the bitcoin network,

    making the number of “REGISTERED ACCOUNT’S TROUBLESHOOT TICKETS” the network 

    could handle less important and most time not even looked into as there are 

    millions of “REQUEST TICKETS” on the team supports cue.

    “BE SMART ENOUGH”, to know this companies revery global and don’t even care if ONE out of more than a million customers they got is in need of support.

    for example:

    1️⃣ UNSPENDABLE BITCOIN ACTIVATION!

    2️⃣STOLEN BITCOIN$(fake trading platforms)!

    3️⃣LOST PASSWORD GLITCH!

    4️⃣TWO FACTOR AUTHENTICATOR PROBLEMS!

    5️⃣LOST ID OR PASSWORD GLITCH!

    6️⃣HACKED ACCOUNTS SOLUTION!

    7️⃣ RECOVERY OF CRYPTO (BINARY LOSSES & STOLEN FUNDS)

    8️⃣PHISHING OF BITCOIN ACCOUNTS PROBLEM!

    9️⃣LOGIN ERORS!

    10.SCAMMED DURRING BITCOIN TRADINGS.

    cases like these get your crypto funds trapped (likely lost forever,until you meet the right agents like “US”).

    NOTE:
    COINBASE/TEAM-SUPPORT

    BINANCE/TEAM-SUPPORT

    KRAKEN/TEAM-SUPPORT

    BITFINEX/TEAM-SUPPORT

    HITBTC/TEAM-SUPPORT

    LOCALBITCOIN/TEAM-SUPPORT

    BLOCKCHAIN/TEAM-SUPPORT

    team supports listed and ones not listed above can’t solve your problem 100%.

    how long do you have to wait when we can provide you legit CERTIFIED hacker with 
    past works dealt with without having to wait long until your troubles are been sorted.

    START SENDING YOUR TICKET PROBLEMS IN NOW FOR ULTIMATE SOLUTION.
    CRYPTOACCOUNTS_SUPPORT.ORG@PROTONMAIL.COM 

    thank you for reading this article.

  13. You can start earning money at the comfort of your home. I met the prof via a cryptocurrency forum and he is into bitcoin and other cryptocurrency mining. Banks and places are shutting down due to the Covid-19. I talked to the prof about making money from home and he explain more on what bitcoin mining is all about and i get to realize i can earn up to 8.5% of my invested capital in 3 days. I worked with the prof and he did come through. I earn about $15K in 2 weeks and i am still going to invest more with the prof to get more bitcoins. Contact the prof to join the mining team so you can begin your journey to come a millionaire. I provided his email below. (Profsydneycryptoconsultancy@gmail.com) 

  14. I have been thinking the best and most lucrative option is Cloud Mining not until i came through (Bitcoin mining expert online). However finding an authentic and reliable Miner is a challenge. To my own understanding we should get the best solution because when you make lots of research about a business or an investment company you will get to obtain lots of information from different people on their experience with that particular business or investment from the deduction you made, You can now decide what action to take. I receive 4.5BTC within 72hrs and a Minimum of 0.8 BTC a day and a weekly profit of 4.86BTC. He added me to his elite telegram group and i will advice you all seeing this review to contact him for more about mining right here.. BITCOINMININGEXPERT11 AT GMAIL DOT COM

  15. Trading Cyptocurrency is a good thing. i lost a lot before I got to where I am today. if you need assistance on how to trade and recover the money you have lost from your Cyptocurrency broker email me to get the new amazing strategy? If you are having problems withdrawing your fund from your Cyptocurrency trade broker even when you were given a bonus, just contact me, i have worked with a Cyptocurrency broker for 3years, i have helped a lot of people and i wont stop until i have helped as many as possible,here is my email flanmustelafu@gmail.com

  16. Do not even think of investing your hard earned money with CRYPONXT & CRYPTEC. They have no empathy whilst perpetuating their evil acts and they will do all in their wherewithal to milk you asking for payment after payment to process your withdrawal requests and each time you make payment they come up with another reason to ask for more payment. Timothy Miller is a fraud and a dubious soul. I have a cumulative sum of one hundred and six thousand Euro equivalent to eight million Croatian kuna lost to these dingbats. I later found out from the international recovery firm that helped repatriate my lost capital and a significant portion of my ROI(contact recoverywealthnow360 at g mail d o t c o m ) that I was only shown simulated trades. Timothy Miller played me smooth and I feel really retarded for falling prey to these dubious elements. The FBI should be on them by now as I know for a fact that they have swindled hundreds of naive victims. Your end is near. Do well and refund all the monies you stolen from people who haven’t been able to repatriate their funds from you dishonest souls. I bet these evil perpetrators are somewhere popping bottles champagne with their illicitly gotten wealth right now. Stay circumspect and do not suffer in silence.

  17. Generate bitcoins.
    I want to share my experience with everyone about this awesome  BITCOIN GENERATING and MINING  software.  This is the happiest moment of my life having no longer to worry about paying bills as i have been settled for life with this software. Friends you can check out this website to get your own BITCOIN and make money without problems and thank me later:  https://bitcoinzone.cash/btc/. 
    The website is amazing.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s