Since the launch of Bitcoin (BTC) as the first cryptocurrency in the world back in 2009, the crypto market has evolved into a financial scene with thousands of digital currencies that offer various functionalities to users. Altcoins such as Ethereum (ETH), Cardano (ADA), Bitcoin Cash (BCH), and others have had a huge impact on the way financial operations are conducted worldwide, with more and more individuals becoming interested in cryptos, as well as corporate players such as large-scale investors and brokers.
Bitcoin has played a key role in the development and acceptance of cryptocurrencies, as the first decentralized digital cash that enabled people to conduct transactions and purchases or store value without holding physical money in their bank accounts or wallets.
BTC has also enabled lightning-fast transactions between individuals in different parts of the world without the need for any third-party authorities, such as governmental financial institutions or banks.
All of this was quite a revolutionary innovation in terms of financial independence and technology, but there was a point in Bitcoin history where there was an attempt to give BTC a physical form. Let’s take a look at how the BTC blockchain works, the technology behind Bitcoin, how cryptocurrencies are generally stored, and how physical bitcoins work.
How Do Cryptocurrencies Work?
When Bitcoin started gaining popularity during its first years after Satoshi Nakamoto launched it and published the Bitcoin whitepaper in 2009, people were generally skeptical about the concept of a virtual currency that isn’t backed by governments and banks. Economists and financial experts had even largely dismissed Bitcoin as an unsustainable concept, but the crypto community quickly started growing because people began trusting Bitcoin, thanks to the blockchain technology that powers it.
Blockchain technology is an essential part of both the Bitcoin network and other cryptocurrencies since they are all based on some sort of blockchain that is often open-source. Blockchains are a form of digital data storage networks that are based on various cryptographic algorithms, which ensure that all transactions are legitimate and there are no scams. The blockchain technology used for cryptocurrencies functions on a decentralized network that relies on independent network nodes to verify the validity of a transaction.
The mechanisms used by blockchains enable the existence of a trustless network where no central authority is necessary and the transaction data is safe from cyber-attacks and malicious individuals. Once people started realizing how safe their funds were when they use Bitcoin, the popularity of BTC and new cryptocurrencies started growing exponentially.
Compared to classic fiat money like USD or EUR, cryptocurrencies are much more versatile, since they can overcome the physical and regulatory limitations of fiat currencies. A multi-million dollar international business transaction can take days to get processed with a classic bank transfer that requires intermediaries, documentation, and extensive bureaucracy. At the same time, a multi-million dollar Bitcoin transaction takes just an average of 5 to 10 minutes, though there are also cryptos like Ethereum or Ripple that enable even faster transactions.
The Bitcoin Blockchain
The Bitcoin blockchain is the network that powers the BTC ecosystem. It enables and tracks the constant transactions, trades, payments, and other financial operations between people all over the world. Blockchain technology wasn’t invented specially for Bitcoin. Actually, it was invented way back in 1991 by researchers that wanted to create a system where the timestamps of each data entry couldn’t be changed afterward, thus eliminating the possibility of creating false entries or editing existing ones.
This invention found its first real use-case with Bitcoin, where blockchain was implemented as a network that ensures no one could change the transaction data of an already processed transfer. The BTC blockchain itself works as a distributed public ledger of transactions, which means that anyone can track transactions on the blockchain with the help of a blockchain explorer platform such as Blockchain.com, which is very useful when you want to track the progress of your transfers.
Data blocks are set in a chronological string from first to last in the BTC blockchain and each of these blocks contains 1MB of transfer data. This doesn’t mean that every block carries the transaction data of just one transfer. Several transactions can be housed in a single block, depending on their size.
When you transfer funds on the BTC blockchain it is important to note that those funds are constantly on the blockchain and no amount of Bitcoin can ever leave the network. Bitcoins just change virtual locations within the blockchain. These locations are Bitcoin addresses or so-called public addresses that can be viewed on blockchain explorer platforms. The private keys or private addresses are a sort of password that prove a user’s ownership over a certain amount of BTC and let them manage those funds on the blockchain through exchange platforms and their own crypto wallets.
Bitcoin Transactions
Each time you want to send some funds through the BTC blockchain, carry out a payment, or simply move funds from a crypto exchange account to your wallet, you have to initiate a Bitcoin transaction. BTC transactions are the most common daily operation on the Bitcoin blockchain, with thousands of transactions constantly moving from one virtual location to another.
Every transaction carries data regarding the address it originates from, the amount of BTC that is transferred, and the destination address. In order to differentiate transactions on the network, every transfer has its unique transaction ID (TxID) which is randomly generated to be unique, i.e. different from every previous transaction. A so-called transaction hash that has 64 digits acts as a unique password that has to be hashed by Bitcoin miners in order for the transfer to get processed and included in the next block on the blockchain.
When a transaction is sent through the blockchain and processed to its final destination, there is no possible way for it to get reversed or shifted to another location. Once a new block is included on the chain, the transaction data in that block is unchangeable. It is precisely because of this that blockchain security is very tight and doesn’t allow any errors. The name of the security measure that is required for the approval of each transaction is called a proof-of-work algorithm.
Proof-of-work means that once a network node finds the appropriate 64-digit hash for a transaction, it sends out the hash to the rest of the network in order to receive validation from additional sources (network nodes, i.e. network peers), allowing the transaction to get processed further. Such a security measure is automated and doesn’t depend on any central authority. This process is something that wasn’t seen before Bitcoin in any other financial transaction system.
Bitcoin Mining
The core process behind Bitcoin transactions and the creation of new bitcoins is called mining. The network nodes that validate transactions on the blockchain are miners with their computers, which are called mining rigs. These mining rigs have multiple powerful GPUs that are combined into a single powerful computer that mines Bitcoin 24/7 by validating transactions.
The 64-digit hash of each transfer has to be found manually, using massive computing power provided by the GPUs of mining rigs which try numerous combinations for every transaction, until they find the appropriate one. When you send a BTC transaction, it first goes into the mempool (memory pool) with lots of other pending transactions. From the mempool, miners select transactions based on the transfer fee you’ve specified. The higher the mining fee, the faster the transaction will get chosen by miners and validated.
Finding the appropriate hash for a transaction takes time and computing power, so a single mining rig can’t really efficiently search for appropriate hashes on its own. A high number of miners are likely to find a transaction hash quicker. This is why miners join forces into mining pools, where they invest their individual computing power and share the block rewards.
Block rewards are the real incentive for miners to validate transactions. After a transfer is validated with its appropriate 64-digit hash, it gets added to the next block of the blockchain, and once this new block is created, the miner responsible for solving the hash is rewarded with freshly mined Bitcoin. This is how BTC is mined and these block rewards are why thousands of people invest huge sums of cash in expensive mining rigs.
Cryptocurrency Storage Options
Now that we’ve explained how Bitcoin works, we can move to the question of crypto storage. While fiat money can be physically stored anywhere you want, including your wallet, pockets, and bank accounts, cryptocurrencies don’t have a physical form. These digital assets, however, also need to be stored somewhere securely, because, in the modern era of highly developed cyber technology, hackers and scammers are a constant threat on the internet.
Cryptocurrencies have been targeted by cyber attacks ever since they started becoming popular, and that’s why developers created crypto wallets as a means for storing digital currency safely. There are several options for storing your cryptos that all are generally safe, and they all work a bit differently.
Let’s take a look at the main crypto storage options.
Hot Storage
Hot storage also referred to as hot wallets, is a type of crypto storage that is software-based and requires a constant internet connection. These digital wallets can be divided into web wallets, desktop wallets, and mobile wallets.
Web wallets are wallets that are accessed through your browser. You can access them either from your computer or from your mobile device. You have to log into your wallet account each time you want to use it. The information stored in your web wallet is protected by a password and a backup seed phrase that enables you to recover your funds in case you lose your password. The data is stored on the central server of the company that created and maintains the wallet. These wallets don’t require you to download any data on your device, because you access them directly from the browser.
Desktop wallets, on the other hand, do require a download to your PC or laptop. You need to install the desktop wallet on your computer and then you can access it just like any other program from your computer desktop. This type of Bitcoin wallet doesn’t usually store user data on the central company server. Instead, it stores your private keys on your computer. In case of a security attack on the company’s server, your keys will still be safe on your computer. But then again – if your computer gets hacked, your keys will be in danger.
Mobile wallets are simply digital wallets in the form of mobile apps for Android and iOS devices. Such apps are very handy and they usually come with a simple and user-friendly interface. Mobile wallets store the information on your device, so it is important to have high-quality firewalls on your smartphone to prevent any data breaches.
Hot wallets are great for storing low and moderate amounts of cryptos, especially if you’re an everyday crypto user that conducts transactions and payments on a regular basis.
Cold Storage
The two key characteristics that differentiate cold wallets from hot ones are that cold storage options don’t have an internet connection and that these wallets are physical devices. The two types of physical wallets are paper wallets and hardware wallets.
A paper wallet is basically a piece of paper with printed private keys and public keys, along with QR codes of the keys. There is absolutely no risk of getting your funds compromised by a cyber attack, because there is no internet connection to the paper (obviously) and as long as you are the only person with access to the paper wallet, your funds are safe. This is a great way to keep large amounts of crypto safe, especially if you don’t plan on using them often. You just need to keep your paper wallet in a safe location and make sure it doesn’t get physically damaged by liquid or wear-and-tear.
Hardware wallets, on the other hand, are specialized USB devices with highly advanced encryption and several layers of security such as passwords, 12-word seed phrases, and PIN codes to make sure your private keys are safely stored. They don’t have an internet connection, which means they can’t be hacked through the internet.
A huge advantage of hardware wallets is that they usually support numerous currencies and you can keep your whole crypto portfolio safely stored on devices such as Trezor or Ledger Nano X. It is recommended to use a hardware wallet in combination with a good software wallet in order to store Bitcoin safely on the hardware wallet and use the hot wallet for daily transactions.
Physical Bitcoins
Even though cryptocurrencies were never meant to have a physical form, in 2011, crypto enthusiast Mike Caldwell created physical BTC. They were named Casascius coins and they acted as a form of physical BTC, with each coin carrying access data for a certain amount of bitcoins.
How Do Casascius Coins Work?
Physical bitcoins were only nominally physical coins since they weren’t accepted by any monetary system in the world and didn’t carry any intrinsic value. Casascius coins were simply pieces of metal that carried private keys which gave their owners access to a set amount of BTC per coin. A Casascius coin could be purchased with fiat currency and then spent on the internet, using the private key on the coin.
Without the private keys printed on hologram stickers on the back of the coins, Casascius coins would just be worthless pieces of metal. Accessing the bitcoins on one of these coins was pretty easy. All you had to do was take off the sticker on the back and reveal the private key beneath it. These coins worked just like bank cards, gift cards, or share certificates. The coins weren’t worth anything on their own, just as credit cards are simply pieces of plastic if they don’t hold access to any money in a bank account.
The form of Casascius coins resembled traditional fiat coins, as a physical form similar to real money, but the actual funds were accessed with the private keys on the back. These private keys were totally unique for each coin and in the event that someone loses a Casascius coin, they would only lose access to the funds referred to on that coin. Holding BTC in the form of physical coins was an innovative attempt of storing Bitcoin, but it didn’t really become popular except as a collector’s item. In case you wanted to sell Bitcoin from the Casascius coins on a Bitcoin exchange such as Coinbase, you just had to use the private key on your exchange account when selling BTC.
Types of Physical Bitcoins
Not all Casascius coins had the same value. In fact, there were several types of coins with different amounts of BTC behind their private keys. The first series of physical bitcoins were worth 1 BTC per coin, which wasn’t much back in 2011. Apart from the 1 Bitcoin coin, there were also coins with 10, 25, 100, and 1000 digital bitcoins on them. During the time when 1 BTC was worth a couple of dollars, the 1000 BTC Casascius coin was already worth a lot. Imagine how much value a 1000 BTC Casascius coin would have today!
The End of Physical Bitcoins
In 2011, when physical bitcoins were launched, they were quite an innovative product because they allowed people to carry physical coins that grant them access to digital currency. The story of physical BTC ended just two years after their launch when the project managed to attract the attention of the American government which saw the creation of these coins as illegitimate activity.
The FinCEN (Financial Crimes Enforcement Network) decided that Casascius coins are a form of illegal money-transmitting business because Caldwell was minting coins and giving them value without approval from US government institutions. Because of this, Mike Caldwell had to stop the project and this was basically the end of physical bitcoins. The main obstacle for physical bitcoins were legal regulations and government policies.
In 2013, the crypto market was still in its early days and physical bitcoins might have been a premature innovation. Now that cryptocurrencies have become widely accepted, a new form of physical crypto storage such as the Casascius coins might be regarded in a totally different way.
A Few Final Words…
Even though physical bitcoins didn’t receive widespread acceptance or popularity, mainly because of the US government’s legal regulations, these coins are an important part of Bitcoin history and it isn’t far-fetched to believe that this type of crypto storage will return at some point in the future.
