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Opinion: Bitcoin White Paper – An Overlooked Benchmark

The 10th anniversary of the Bitcoin white paper has officially passed, with it first being published by Satoshi Nakamoto on 31 October 2008, almost a week ago.

While Bitcoin is widely-acknowledged as the first recognized cryptocurrency and a precursor to blockchain innovation, its technological mark on history is often overlooked. Instead, its incredible growth in value on speculative markets continues to take center stage – Bitcoin is more commonly referenced to as a store of value, a yardstick for cryptocurrency market performance, a modern investment vehicle.

But the Bitcoin white paper contains a manifesto that silently initiated the revolution of traditional finance and money, a revolution somewhat obscured by the creation and proliferation of the current cryptocurrency and blockchain space.

This article deep dives into the Bitcoin white paper, analyzing every aspect of it, section by section.

Introduction

The Bitcoin white paper opens with the fact that financial institutions act as 3rd parties to process payments and this was the only option on the internet prior to the invention of cryptocurrency. This system is inherently weak because transaction disputes arise and financial institutions cannot avoid mediating disputes, often leading to payment reversals. Therefore, payment methods offered by financial institutions are generally reversible.

Dispute arbitration makes transaction fees much more expensive than they would be in an immutable payment network, making micropayments impractical. Further, payment reversals can be quite challenging for individuals and merchants. This often leads to merchants asking customers for large amounts of identification information to protect themselves against a payment reversal; this lack of privacy can be troublesome for customers.

Satoshi proposes that an electronic payment system is needed that operates on cryptographic proof instead of trust. This would allow for peer-to-peer immutable payments that do not require a 3rd party.

Further, Satoshi proposes that people who buy this electronic currency can use an escrow system for protection when converting from fiat currency into the electronic currency. This single sentence in the Bitcoin white paper is what likely led to the creation of Localbitcoins.

Satoshi then alludes to how the new electronic payment system he is proposing will solve the double spend problem, a fatal flaw for electronic currencies that do not use trusted 3rd parties. Satoshi says a timestamp server is used to generate computational proof of the chronological order of transactions, and this is secure as long as honest nodes dominate the network’s CPU power.

Transactions

At the beginning of this section, Satoshi defines an electronic coin as a chain of digital signatures, transferred by signing a hash of the previous transaction with the private key, including the public key of the next owner, and adding this data to the end of an electronic coin. The new owner verifies the signature to authenticate ownership.

In previous electronic currency systems, the new owner of the coin cannot verify if a previous owner double spent the coin, without the help of a trusted 3rd party to verify no double spends in a coin’s history, which would make the electronic currency have the same flaws as a fiat payment system as described in the introduction.

What makes Bitcoin unique is it solves the double spending problem. This is done by being aware of all transactions, which can be accomplished by announcing all transactions publicly, and then the participants in the electronic currency’s network agree on a single transaction history for the coins. Therefore, the new owner of the coin has to show proof that the majority of nodes agreed they were the first to receive the coin.

Timestamp server

In this section, Satoshi begins to describe the solution to the double spend problem in depth. The timestamp server is a critical component for preventing double spends; it takes a hash of a block of items and broadcasts it to all the nodes. This provides proof that the data existed at the time it was broadcast. Further, each timestamp includes the previous timestamp in its hash, to form a chain, where each additional timestamp re-enforces the timestamps before it.

This is the smallest section of the Bitcoin white paper but is in fact where the entire concept of blockchain originates from.

Proof of Work

Satoshi declares that a Proof of Work (PoW) system is necessary in order to implement a timestamp server in a peer-to-peer network. According to Satoshi, PoW originates from Hashcash which was developed by Adam Back. In this section, Satoshi mentions SHA-256 for the first time, which is the cryptographic algorithm that provides the backbone for Bitcoin’s cryptography.

PoW functions by scanning for a value that returns zero bits at the beginning of a hash, where the work to find the hash becomes exponentially more difficult the more zero bits that are required. Keep in mind bits refers to binary, where 0 and 1 are the possible bits. This is where the idea of mining difficulty for Bitcoin stems from. If blocks are mined too fast, the difficulty is increased to ensure blocks occur every 10 minutes – this is how the Bitcoin network handles fluctuations in mining hash rate.

Once a block is found via PoW, it would not be possible to redo the block unless all the work is repeated. As blocks are added to the blockchain, if someone is trying to rework a block in the blockchain, they would have to redo the work for all the blocks after that. This makes it so miners have no chance of redoing blocks since in the time it takes them to redo a block, another would be found. This makes the blockchain immutable.

Satoshi describes how PoW is a decentralized way to vote on which blockchain is the real one, where 1 CPU = 1 vote. The longest blockchain is equivalent to the majority vote. As long as the majority of CPU power is controlled by honest nodes, the honest blockchain will outpace any attacking one.

Network

The Bitcoin network functions by broadcasting new transactions to all the nodes; the nodes collect new transactions and hash the transactions into a block via PoW. When a block is found, it is broadcast to all the nodes and other nodes verify that the block only includes valid transactions that are not double spent. Nodes indicate that they have accepted the block by using its hash to create the next block.

Satoshi says that the longest blockchain is considered the correct one. If a block is found at the same time by two different nodes, other nodes may receive one or the other and work on finding the next block based on the block they received first. When the next block is found one of those two earlier blocks remains in the blockchain – if it is the one used to find the next block, then the other gets orphaned. Nodes working on the orphaned block will switch back to the longest chain.

Further, Satoshi clarifies that not 100% of nodes need to receive a block for it to successfully propagate. Nodes that miss a block due to a dropped message will receive the missed block when they receive the next one as they will realize they missed the preceding one.

Incentive

In this section, Satoshi lays the framework for the Bitcoin mining industry, one worth billions of US dollars today. The creator of a new block receives the block reward, which is called the Coinbase transaction. This block reward gives miners the funds and motivation they need to keep securing the network. Further, the block reward is a mechanism to mint new Bitcoins into circulation without a central authority issuing them.

This incentive prevents 51% attacks, as someone who amasses enough hash power to attack the network has to choose between defrauding the network with double spends or earning a majority of block rewards. It would not make economic sense to double spend since earning a majority of new coins is far more profitable.

Satoshi planned for the future by including transaction fees in the block reward. Satoshi says that in the future, miners will just receive transaction fees for their efforts, once all the Bitcoins that will ever exist are in circulation, making Bitcoin inflation-free.

Reclaiming disk space

Bitcoin transactions are hashed into a Merkle Tree, where only the root is included in a block’s hash. Older transactions can be pruned from the Merkle Tree after it is buried under enough new blocks. Thus, older blocks can be compacted by discarding spent transactions, while still preserving the block’s hash and therefore the continuity of the blockchain.

Satoshi correctly predicts that due to Moore’s Law, blockchain storage should not be a problem in the long term, especially since blocks can be compacted down to the block headers which just have the root, nonce and previous hash.

Simplified payment verification

Satoshi explains how it is possible to verify payments without running a full node, where users only need a copy of the block headers, which can be obtained by querying nodes. The user then obtains the Merkle branch and links the transaction to the block it is in. The caveat is that the user cannot verify the transaction but knows a node has accepted it; further blocks added after that confirm that the transaction is real.

This simplified payment verification becomes troublesome if an attack occurs on the network. Satoshi says an alert can be integrated into Bitcoin’s software to warn if an invalid block has been broadcasted, which is the first sign of a double spend attack. In this case, the user can download the full block to verify that the transaction received is not a double spend.

Satoshi recommends that businesses use a full node instead of relying on simplified payment verification.

Combining and splitting value

Transactions contain multiple inputs and outputs to allow Bitcoin to be split and combined, instead of sending each fraction of a Bitcoin in separate transactions. There can be a single input or multiple ones, depending on the size of the inputs relative to the outputs. Outputs depend on the number of outgoing transactions and the returning change transaction, although if there is no change and only one destination, a Bitcoin transaction can have just one output.

Privacy

According to Satoshi, public keys can be kept private and the only thing broadcast to the public would be the transaction amount with no identifying information. This is similar to how stock platforms show the time and size of trades, but not the identifying information. This concept was not implemented for Bitcoin, since public keys are visible in any block explorer.

Satoshi suggests that a new key pair be used for every Bitcoin transaction to increase privacy and this is a common practice used today.

Calculations

If a 51% attack occurred, the attacker would only be able to double spend and not create coins out of thin air or change other aspects of Bitcoin’s protocol, since all the other nodes would reject blocks with any invalid transactions.

Satoshi calculates with statistical equations that an attacker would have an exponentially harder time at creating a longer blockchain the farther behind they fall. One method of attack is that the attacker prepares a blockchain and double spends after sending a transaction when they already have the longest chain. This can be prevented if the receiver uses a new key pair instead of a used key pair, forcing the attacker to start creating a competing blockchain after they send a transaction, making it much more difficult to achieve a double spend.

Conclusions

Satoshi describes that the Bitcoin white paper started with the concept of an electronic coin with digital signatures, which proves ownership and drastically improves this concept by providing a solution for double spends.

One important point about the Bitcoin network is it is simple and decentralized. Nodes can leave and rejoin the network at will and do not have to be identified to function. Nodes vote based on how much CPU power they put forth to secure Bitcoin, enforcing consensus rules.

The final result is a trustless, decentralized, and cryptographically secure electronic transaction system, i.e. a cryptocurrency. Bitcoin is the first cryptocurrency but now there are over 2,000 cryptocurrencies with a total market cap in excess of USD 200 billion.

References

Satoshi references b-money and Hashcash, the predecessors to Bitcoin that did not solve the double spend problem. There are three references to papers involving timestamps, which is essential information to solve the double spend problem. There one to a paper about public key cryptosystems and secure names for bit-strings, both essential to Bitcoin’s cryptographic backbone. Finally, there is a reference to a probability paper, which is the information Satoshi used to calculate how robust Bitcoin is against attackers.

 

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