Bitcoin Simplified for India

Bitcoin is a global digital currency, which can be bought or sold via digital currency exchanges. The transaction is secured using cryptography, hence it is also called a cryptocurrency.

Think about when you travel abroad. Then you use your local currency like Indian Rupees (INR) and you purchase currency from the region you are visiting e.g. Kuwaiti dinar (KD). To carry out this transaction, you go to a currency exchange like Thomas Cook or a bank, like the National Bank of Kuwait.

So, to buy or sell Bitcoin, you go to a Bitcoin currency exchange system like WazirX, Zebpay or Tradn (compared to a foreign exchange like Thomas Cook for normal currency), where you first carry out a KYC like with a normal bank and then invest your money in the exchange, in exchange for Bitcoins BTC.

The basic concepts are: Each Bitcoin is basically a computer file which is stored in a 'digital wallet' app, which also stores your private key, on a smartphone or computer. People can send Bitcoins (or part of one) to your digital wallet, and you can send Bitcoins to other people. Every single transaction is recorded in a public list called the blockchain. This makes it possible to trace the history of Bitcoins to stop people from spending coins they do not own, making copies or undo-ing transactions.

Cryptocurrency works a lot like bank credit on a debit card. In both cases, a complete record that issues currency and records transactions and balances works behind the scenes to allow people to send and receive currency electronically. Likewise, just like with banking, online platforms can be used to manage accounts and move balances. The main difference between cryptocurrency and bank credit is that instead of banks and governments issuing the currency and keeping ledgers, the digital exchange (cryptoexchange) does it for you right on your phone or laptop, as a digital wallet or external wallet.

What are the types of digital currency (cryptocurrency)? Bitcoin (commonly traded under the symbol BTC) is one of many digital currencies (cryptocurrencies); other digital currencies (cryptocurrencies) have names like “Ether (ETH),” “Ripple (XRP),” and “Litecoin (LTC).” Alternative digital currencies to Bitcoin are called “altcoins.”

How do we transfer digital currency (cryptocurrency)? Transactions are sent between peers using desktop software or mobile applications called “Bitcoin wallets (Bitcoin addresses)” The person creating the transaction uses the wallet software or app to transfer balances from one account (Bitcoin address) to another. To transfer funds, knowledge of a password (private key) associated with the account is needed. Transactions made between peers are encrypted and then broadcast to the digital currency (cryptocurrency)’s network and queued up to be added to the public ledger. Transactions are then recorded on the public ledger via a process called “mining” (explained below). All users of a given digital currency (cryptocurrency) have access to the ledger if they choose to access it, for example by downloading and running a copy of the software called a “full node” wallet (as opposed to holding their coins in a third party wallet). The transaction amounts are public, but the sender’s details are encrypted (transactions are pseudo-anonymous). Each transaction leads back to a unique set of keys. Whoever owns a set of keys, owns the amount of cryptocurrency associated with those keys (just like whoever owns a bank account owns the money in it). Many transactions are added to a ledger at once. These “blocks” of transactions are added sequentially by miners.

Note: Some altcoins don’t use blockchain.

How does blockchain work? Blockchain is a history of transactions which cannot be tampered with (due to crypography). Therefore, whenever a transaction is made, that transaction is sent out to all users hosting a copy of the blockchain or transaction history. So this transaction is added as a block to the existing history of transactions, so it becomes a chain of blocks of transactions.

 What is cryptocurrency mining? Miners basically are the people involved in the processing and verifying transactions before then recording the transactions on the Bitcoin blockchain. Miners will then receive transaction fees in the form of newly created Bitcoins.

How does cryptography work with cryptocurrency? For a transaction, we require three fundamental pieces of information: the address, associated with a balance and used for sending and receiving funds, and the address’ corresponding public and private keys. The generation of a Bitcoin address begins with the generation of a private key. From there, its corresponding public key can be derived using a known algorithm. The Bitcoin address, which can then be used in transactions, is a shorter, representative form of the public key. Hashing is used to verify the integrity of the transactions by maintaining the structure of the records, securely storing (encoding) the transactions, securely stores the Bitcoin address and makes auditing of these transactions (blockchain mining) possible. Meanwhile, transaction data sent and stored on the blockchain is tokenized (tokenization is a type of one-way cryptography that points to data but doesn’t contain all the original data).

Therefore, the private key is very important for Bitcoin transactions, and needs to be safely stored by the owner of the Bitcoins, as they say “no key, no coin”. If you use a wallet like Tradn, the private key is stored there. Using the private key, the public key is generated for use by the receiver.

How does one obtain or trade cryptocurrency? You can exchanges goods and services for cryptocurrency, you can trade rupees for cryptocurrencies, or you can trade cryptocurrencies for other cryptocurrencies. Trading is generally done via brokers and digital (crypto) exchanges. Brokers are third parties that buy/sell cryptocurrency on digital exchanges, digital exchanges (like WazirX, Zebpay or Tradn) are like online stock exchanges for cryptocurrency. One can also trade cryptocurrencies directly between peers. Peer-to-peer exchanges can be mediated by a third party, or not. Be aware that cryptocurrency prices tend to be volatile. One should ease into cryptocurrency investing and trading and be ready to lose everything they put in (especially if they invest in or trade alternative coins with lower market caps).

Note: There are tax implications to trading or using cryptocurrency. Make sure you understand the tax implications with your chartered accountant, by declaring your Bitcoin holdings.