Bitcoin and Cryptocurrency Technologies

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Trivial to verify. Let’s now turn to the third important property of this proof of work function, which is that it is trivial to verify that a node has computed proof of work correctly. Even if it takes a node, on average, 10 20 tries to find a nonce that makes the block hash fall below the target, that nonce must be published as part of the block. It is thus trivial for any other node to look at the block contents, hash them all together, and verify that the output is less than the target. This is quite an important property because, once again, it allows us to get rid of centralization. We don’t need any centralized authority verifying that miners are doing their job correctly. Any node or any miner can instantly verify that a block found by another miner satisfies this proof‐of‐work property. 2.5 Putting it all together Cost of mining. Let’s now look at mining economics. We mentioned it’s quite expensive to operate as a miner. At the current difficulty level, finding a single block takes computing about 10 20 hashes and the block reward is about 25 Bitcoins, which is a sizable amount of money at the current exchange rate. These numbers allow for an easy calculation of whether it’s profitable for one to mine, and we can capture this decision with a simple statement: If mining reward> mining cost then miner profits where mining reward = block reward + tx fees mining cost = hardware cost + operating costs (electricity, cooling, etc.) Fundamentally, the mining reward that the miner gets is in terms of the block reward and transaction fees. The miner asks himself how it compares to the total expenditure, which is the hardware and electricity cost. But there are some complications to this simple equation. The first is that, as you may have noticed, the hardware cost is a fixed cost whereas the electricity cost is a variable cost that is incurred over time. Another complication is that the reward that miners get depends upon the rate at which they find blocks, which depends on not just the power of their hardware, but on the ratio of their hash rate to the total global hash rate. A third complication is that the costs that the miner incurs are typically denominated in dollars or some other traditional currency, but their reward is denominated in bitcoin. So this equation has a hidden dependence on Bitcoin’s exchange rate at any given time. And finally, so far we’ve assumed that the miner is interested in honestly following the protocol. But the miner might choose to use some other mining strategy instead of always attempting to extend the longest valid branch. So this equation doesn’t capture all the nuances of the different strategies that the miner can employ. Actually analyzing whether it makes sense to mine is a complicated game 68
theory problem that’s not easily answered. At this point, we’ve obtained a pretty good understanding of how a Bitcoin achieves decentralization. We will now recap the high level points and put it all together in order to get an even better understanding. Let’s start from identities. As we’ve learned, there are no real‐world identities required to participate in the Bitcoin protocol. Any user can create a pseudonymous key pair at any moment, any number of them. When Alice wants to pay Bob in bitcoins, the Bitcoin protocol does not specify how Alice learns Bob’s address. Given these pseudonymous key pairs as identities, transactions are basically messages that are broadcast to the Bitcoin peer‐to‐peer network that are instructions to transfer coins from one address to another. Bitcoins are just transaction outputs, and we will discuss this in much more detail in the next chapter. Sidebar.Bitcoin doesn’t have fixed denominations like US dollars, and in particular, there is no special designation of “1 bitcoin.” Bitcoins are just transaction outputs, and in the current rules, they can have an arbitrary value with 8 decimal places of precision. The smallest possible value is 0.00000001 BTC (bitcoins), which is called 1 Satoshi. The goal of the Bitcoin peer‐to‐peer network is to propagate all new transactions and new blocks to all the Bitcoin peer nodes. But the network is highly imperfect, and does a best‐effort attempt to relay this information. The security of the system doesn’t come from the perfection of the peer‐to‐peer network. Instead, the security comes from the block chain and the consensus protocol that we devoted much of this chapter to studying. When we say that a transaction is included in the block chain, what we really mean is that the transaction has achieved numerous confirmations. There’s no fixed number to how many confirmations are necessary before we are sufficiently convinced of its inclusion, but six is a commonly‐used heuristic. The more confirmations a transaction has received, the more certain you can be that this transaction is part of the consensus chain. There will often be orphan blocks, or blocks that don’t make it into the consensus chain. There are a variety of reasons that could lead to a block being orphaned. The block may contain an invalid transaction, or a double‐spend attempt. It could also just be a result of network latency. That is, two miners may simply end up finding new blocks within just a few seconds of each other. So both of these blocks were broadcast nearly simultaneously onto the network, and one of them will inevitably be orphaned. Finally, we looked at hash puzzles and mining. Miners are special types of nodes that decide to compete in this game of creating new blocks. They’re rewarded for their effort in terms of both newly minted bitcoins (the new‐block reward) and existing bitcoins (transaction fees), provided that other miners build upon their blocks. A subtle but crucial point: say that Alice and Bob are two different miners, and Alice has 100 times as much computing power as Bob. This does not mean that Alice will always win the race against Bob to find the next block. Instead, Alice and Bob have a probability ratio 69
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Bitcoin and Cryptocurrency Technolo
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Preface — The Long Road to Bitcoi
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work, there is also the issue of co
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Finally, CyberCash has the dubious
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This was the first serious digital
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and so on — powers of two. That w
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Figure 3 shows the user side of the
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initial cost to acquire all the equ
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Page 19 and 20: original design. However, after Bit
Page 21 and 22: A final reason that’s often cited
Page 23 and 24: Chapter 1: Introduction to Cryptogr
Page 25 and 26: Figure 1.2 Because the number of
Page 27 and 28: Property 2: Hiding The second pr
Page 29 and 30: ecome: ● ● Hiding: Given H(
Page 31 and 32: SHA‐256 uses a compression functi
Page 33 and 34: Figure 1.5 Block chain.A block c
Page 35 and 36: Figure 1.7 Merkle tree. In a Mer
Page 37 and 38: throughout this book. 1.3 Digital S
Page 39 and 40: Figure 1.9 Unforgeability game.
Page 41 and 42: andomness just in making a signatur
Page 43 and 44: 1.5 A Simple Cryptocurrency Now let
Page 45 and 46: The first key idea is that a design
Page 47 and 48: Figure 1.13 A PayCoins Transa
Page 49 and 50: Perusing the NIST standard that def
Page 51 and 52: Chapter 2: How Bitcoin Achieves Dec
Page 53 and 54: state of the system. The implicatio
Page 55 and 56: consensus is somewhat pessimistic,
Page 57 and 58: Implicit Consensus. This assumpt
Page 59 and 60: Figure 2.2 A double spend attempt.
Page 61 and 62: In general, the more confirmations
Page 63 and 64: Figure 2.4 The block reward is c
Page 65 and 66: puzzle‐friendliness property from
Page 67: possible outcomes, and the probabil
Page 71 and 72: this interlocking interdependence b
Page 73 and 74: Further reading The Bitcoin whitepa
Page 75 and 76: Chapter 3: Mechanics of Bitcoin Thi
Page 77 and 78: In this example, Alice specifies tw
Page 79 and 80: 3.2 Bitcoin Scripts Each transactio
Page 81 and 82: the Bitcoin language and one has to
Page 83 and 84: exactly the same script, which is i
Page 85 and 86: in the normal case, this isn’t th
Page 87 and 88: Technically all of these transactio
Page 89 and 90: The header mostly contains informat
Page 91 and 92: in turn sends it to all of its peer
Page 93 and 94: Figure 3.10 Block propagation ti
Page 95 and 96: that actually affect them. So they
Page 97 and 98: that the old version would accept a
Page 99 and 100: Exercises 1. Transaction validation
Page 101 and 102: Chapter 4: How to Store and Use Bit
Page 103 and 104: software can automatically turn the
Page 105 and 106: The cryptographic magic that makes
Page 107 and 108: may never know (or care) who the co
Page 109 and 110: Given this stringent requirement, s
Page 111 and 112: There is a formula called Lagrange
Page 113 and 114: Ideally, the site will encrypt thos
Page 115 and 116: seen exchanges that fail due to bre
Page 117 and 118: Figure 4.5: Proof of liabilities.
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crypto and we won’t cover it here
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Figure 4.8: Payment process involvi
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transaction can't create coins, but
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of U.S. dollars per day pass throug
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Now if you look at a particular sec
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alance of 500,000 BTC. It then sign
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Chapter 5: Bitcoin Mining This chap
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In most cases you'll try every sing
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You can see in Figure 5.3 that over
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steady‐state, the period to find
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TARGET=(65535
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Disadvantages of GPU mining. GPU
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may be the fastest turnaround time
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Figure 5.10: Evolution of mining
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Hopefully, over time the embodied e
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Still, if we could replace Bitcoin
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Figure 5.11: Illustration of uncert
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Figure 5.13: Mining rewards. Thr
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Some mining hardware even supports
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By April 2015, the situation looks
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Figure 5.15 Forking attack.A mal
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Temporary block‐withholding attac
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the transaction from address X
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Chapter 6: Bitcoin and Anonymity
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Unlinkability. To understand unl
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eason is that use cases that we cla
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But this reveals something. The tra
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the other hand, are often not new a
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Figure 6.5. Labeled clusters.
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Luckily, this is a problem of commu
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they are unhappy with anonymity pro
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Fees should be all-or-nothing. M
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Somebody looking at this transactio
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a single transaction that combines
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just minting one doesn’t automati
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Efficiency. Recall the statement
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We start with Bitcoin itself, which
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An alternative design to Zerocoin i
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elieve the same thing. So consensus
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of developers who maintain Bitcoin
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The interesting case is if the fork
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eing effectively bankrupt. As of ea
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In an important sense it doesn't ma
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of illegal items becomes potentiall
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arrest. So although Ulbricht was th
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kind of business that will handle l
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een enough time for sellers to buil
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The text refers to “activities in
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A book that looks at the history of
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It’s easy to see how Bitcoin’s
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Why might memory‐hard and memory
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Until recently, it wasn’t known i
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meaning the exponential growth peri
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Next, consider the problem that SET
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In Permacoin, each miner Msto
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Interestingly, these concerns have
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they can perform the signatures on
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schemes also require a small amount
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to provide an effective solution, t
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Chapter 9: Bitcoin as a Platform In
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means that if you actuallydo
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CommitCoin exploits this property.
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features without needing to change
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would just look like a dollar bill.
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you. In particular, you can’t use
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To solve this problem we can once a
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NBA draft lottery.One example th
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that there’s no way for anyone to
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to predict the low‐level fluctuat
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design, because miners have to veri
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Here's another example, this time f
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You can also trade shares for futur
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Order books.The final piece o
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Chapter 10: Altcoins and the Crypto
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Attracting miners has special impor
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with the launch date of the altcoin
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Namecoin is technically interesting
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10.3 Relationship Between Bitcoin a
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Switching costs are certainly not z
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If our altcoin is merge‐mined, we
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When we think about a rational mine
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DepositA [Altcoin block chain] Refu
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Sidechains. The sidechains vision i
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lock themselves could tell us. This
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written in bytecode and executed by
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Bitcoin. In particular, there are c
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The simple binary Merkle tree used
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Chapter 11: Decentralized Instituti
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Bitcoin, Alice can remotely transfe
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only these signatures of limited fo
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11.3 Template for Decentralization
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Sidebar: trust.Some people in th
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competition among intermediaries. P
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To drive home the mismatch between
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Conclusion to the book Some people
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