Bitcoin (BTC) has been leading the cryptocurrency world since its launch in 2009 and has since evolved into a true digital currency used and accepted by entrepreneurs, startups, and companies worldwide. It still isn’t accepted as a legitimate payment method by banks and government institutions, but the financial market is clearly dictating the trends and the multi-billion dollar market cap of BTC can’t be ignored.

The immense popularity of Bitcoin is a mixture of various factors. Technological innovation is one of the key reasons because the blockchain technology launched by BTC was a first of its kind and the impeccable programming of the whole network clearly paved the way for BTC becoming the first digital cash, but it was also pathfinder for other altcoins like Ethereum (ETH) and Litecoin (LTC) in the world of finance.

The success of BTC is on a constant rising path, with investors endorsing the digital currency and companies such as Paypal including it in its payment options. Let’s take a look at how BTC actually works, with a special focus on its blockchain, so that we can understand the importance of Bitcoin mining and the role of hashing algorithms.

Laptop on table showing financial market trend on screen beside glass and phone

A Brief History of Bitcoin

Bitcoin was launched in 2009 by a mysterious figure only known pseudonymously as Satoshi Nakamoto. Nakamoto was the developer behind BTC and the publishing of the Bitcoin whitepaper was the point when the currency was launched, introducing the first-ever blockchain network to the world.

When BTC was launched, it was barely worth anything in terms of fiat money. Except for Nakamoto and a small community of dedicated crypto enthusiasts, there were very few people interested in using this new digital cash or mining it. The situation soon started changing, however, because the utility of BTC quickly gained trust first among the crypto community and then among developers and tech-savvy individuals through social media and internet forums.

Just a couple of years later, Bitcoin was gaining massive popularity and its price started rapidly rising, from a few dollars per coin during its first years, to several thousands of dollars in the late 2010s. The biggest jump in value started happening in 2020, when BTC’s price exploded to several tens of thousands of dollars per coin. At this point, people and companies that invested in BTC in its early days practically became millionaires and billionaires thanks to this market fluctuation.

With a multi-billion dollar market capitalization and enormous daily trading volumes, BTC became the living proof that cryptocurrencies have a very real financial impact even though they don’t physically exist and “aren’t real”, as crypto critics say. The thousands of altcoins that appeared after BTC are all trying to break through to the wider public and achieve similar success, providing their users with different functionalities and utilities.

Yet, when we speak about the undeniable success of Bitcoin, there are several factors that seem to have been determining contributors. On that note, one of the main reasons why Bitcoin managed to gain the trust of millions of people worldwide is its blockchain technology.

The Bitcoin Blockchain

In order to work properly and facilitate transfers in a fast and secure way, cryptocurrencies needed a system developed by advanced programming, as digital cash is still cash and people won’t risk their funds using an insecure and unreliable method for transferring or storing value.

These issues were addressed perfectly by the Bitcoin blockchain, which became a literal blueprint for the development of future altcoin blockchains. The BTC blockchain is a type of data storage in the form of blocks that are set in a linear, chronological string from first to last. The chain acts as a distributed public ledger of all transactions of BTC, which means that anyone can access and search the chain to find certain transactions, although sender and receiver data is fully protected and kept private (and pseudonymous).

The fact that the blockchain is a distributed, decentralized ledger means that there is no central server that houses all of the blockchain data. Instead, there are numerous copies of the chain located on system nodes which are computers of BTC miners. This decentralization ensures that no one can manipulate and change transaction data. For instance, if someone were to edit a single transaction, all the other nodes would be alerted because that copy of the blockchain doesn’t fit with the rest. Also, a new block can’t be created until all the data from the previous block has been verified.

A cyber attack that aims to trick the BTC network would have to gain control over 51% of all system nodes to successfully alter block data, but this would require enormous amounts of computing power and resources that simply aren’t available to anyone in practice, especially since BTC is the most popular and widely used blockchain.

Block Data Capacity

Each block of the blockchain has a certain data capacity used to store transaction data. This capacity can vary between different cryptocurrencies, and for BTC, each block has a 1MB data capacity. Once this threshold is reached and all the data is verified by miners, the new block is included in the blockchain. 

Block Headers

Block headers are pieces of data that are used to identify each block of the chain. Block headers provide a unique identity for every block. Each block header is hashed by miners in order to create proof-of-work for their mining rewards. Block headers are the confirmation of a validated, newly created block and at the same time, they are used to identify a specific block of the network.

Block Timestamps

Every block of the BTC blockchain has its timestamp. A timestamp is a small piece of data included in each block and it acts as a serial number that determines the moment in which that specific block was created (by mining) and processed into the BTC blockchain.

Bitcoin Transactions

BTC transactions are facilitated through the blockchain network. Cryptocurrencies can’t be transferred by classic bank transfers because they require the use of blockchain technology and most banks still don’t even accept cryptos. Digital currencies can’t be transferred physically because they don’t exist beyond their native blockchains. This is why crypto wallets were invented as a means for storing assets like BTC.

An enormous portion of BTC transactions are done between different crypto wallet addresses or between wallets and crypto exchange platforms that are used for buying and trading BTC.

When you want to send someone a certain amount of BTC, you need to have their public key, also referred to as public address. On the other hand, you need to have your own private key that acts as proof of ownership over your funds on the BTC blockchain. Your private key unlocks your funds on the blockchain and lets you use them as you wish.

Once you have initiated a BTC transaction, the transfer data goes to a memory pool (mempool) out of which miners select transactions which they will validate and process through the blockchain, including them in the next block of data. The 1MB of data that can be housed in each block doesn’t necessarily contain just one transaction. In fact, it is very common for a block to contain multiple transactions.

In order for a block to get created and included in the chain, all of the transactions within the block need to be verified by multiple system nodes. When your transaction is verified by miners as a legitimate transfer of funds, it is included in the next block and processed to its final destination.

Bitcoin Mining

Bitcoin mining is an important part of every BTC transaction because the computing power that is necessary for validating transactions comes entirely from mining rigs that act as system nodes of the blockchain. 

It is well known that the BTC mining process can earn you large amounts of money if you carefully plan your mining operation and invest some serious funds into one or more mining rigs. There are even companies that own mining farms with hundreds of mining rigs. What is less well-known, however, is the particulars of the BTC mining process.

In order for a miner to mine new Bitcoins, they need to actively participate in the BTC ecosystem by solving complex mathematical tasks and puzzles that are an integral part of the transfer verification process. When a miner verifies a transaction, they are awarded miner’s fees set by the senders. The higher the miner fee (or transaction fee), the higher the probability that miners will process that transaction sooner. 

This is a sort of token of appreciation for the miner’s work by the sender, but the real reward for miners comes when they participate in the creation of a new block of the blockchain. When a new block is created, the miners that created it get rewarded in newly minted bitcoins. The number of BTC awarded to miners is halved every 4 years, raising the mining difficulty level in order to make Bitcoin more scarce, since it is capped at a maximum amount of 21 million coins that can be in circulation.

Proof-of-Work Algorithm

The method used to process transactions on the BTC blockchain and make sure there are no scams or fraudulent transactions is called the proof-of-work (PoW) algorithm. This algorithm takes advantage of the fact that the BTC blockchain is a decentralized public ledger and utilizes the computing power of system nodes to verify every transaction. 

A proof-of-work is the winning result of complex mathematical puzzles and tasks that miner rigs are constantly solving. The miner that solves the tasks associated with the next block of the blockchain is the one that has proven the work of the block data and is thus eligible for a reward in BTC. These tasks are so complex that only very powerful computers, i.e. mining rigs are able to efficiently solve them with the processing power of their GPUs

In the early days of BTC mining, CPUs were also used for but they were quickly abandoned because graphics processing units have much more adequate computing power. Nowadays, there are even more advanced specialized mining computers called ASIC miners, but they are very expensive.

Hashing Power and Bitcoin Mining

The metrics behind mining rigs and solving these mathematical tasks are quantified in hashing power, which is measured in hashes per second. Hashes are mathematical functions that are used to convert a certain input of data into an output that has a predetermined length. This means that no matter the size of the file or the originally involved amount of data, the output data has a fixed length after it’s hashed out.

Once data is hashed, it cannot be reversed. In other words, you can’t get the original input based on a hash output, but you can use the hash of the output to validate that it belongs to the original data.

This process is the most important part of data processing within the BTC blockchain because it is responsible for solving the complex mathematical problems that result in transaction verification, block creation, and mining new bitcoins. 

The hash rate of a mining rig shows how fast a rig can complete these puzzles and subsequently, how much BTC it can mine in a set period of time. Different hash rates bring different amounts of BTC to the rig owners as block rewards.

Since mining BTC requires lots of computing power and only the miner that solves the puzzle gets rewarded, Bitcoin miners have created mining pools in order to share the block creation rewards and earn higher amounts of BTC than they would earn had they mined alone.

SHA-256 Hash Function

The SHA-256  cryptography algorithm is the block hashing algorithm Bitcoin uses for hashing new blocks and running the network. This algorithm creates output data hashes which are set to always have 256 digits.

SHA stands for Secure Hash Algorithm and it converts any amount of input data into 32 bytes worth of output. It is used to quickly and efficiently hash new Bitcoin blocks. The algorithm was first developed in 2001 by the National Security Agency (NSA), but it was later adopted by a string of cryptocurrencies, with Bitcoin being the first one. One of the key characteristics that make the SHA-256 hash great for retaining user and data privacy is that the output data doesn’t contain any information about the input that created them.

This algorithm’s cryptographic hash function is also behind the proof-of-work method for validation of all transactions on the BTC blockchain and is used as an identifier to all other system nodes that a certain miner really did verify a certain transaction and has the right to create a new block of the chain.

Merkle Tree and Merkle Roots

When we talk about hashes, we need to mention the Merkle tree and Merkle roots. The Merkle tree is a sort of data structure that is used in various cryptocurrency blockchains, such as Bitcoin, to structuralize data storage and encode data safely.

A Merkle tree is very useful for verifying transactions since it provides a blockchain overview with hash roots serving as decoders that can verify whether a transaction really was processed through the blockchain. Users don’t have to download the whole blockchain which has hundreds of gigabytes, they can use the Merkle tree to check if a transaction was processed instead.

The Merkle root, on the other hand, is the name for the root hash of every transaction which was included in a block of the blockchain since all transfers that are in the same block have the same hash root.

A Few Words Before You Go…

The Bitcoin blockchain is a rather complex network when it comes to its structure, but that is exactly one of the reasons it runs so smoothly. Every aspect of the Bitcoin protocol is carefully programmed and pieced together for users to have a very reliable means of financial transfers and storing value.

The high speed, trustworthy service, and high security of the Bitcoin network are the result of a fully decentralized network based on computing algorithms that make scams and fraud nearly impossible. The SHA-256 hashing algorithm is one of these key programming components used for hashing new blocks and minting new bitcoins.