But how does bitcoin actually work?

This video explains how Bitcoin and cryptocurrencies work by tracing the idea from a simple public ledger to a decentralized, trustless system. It covers how digital signatures prevent forgery, how public/private keys verify transactions, and how a blockchain of blocks secured by proof of work creates a shared record. The narrative then introduces mining, block rewards, and transaction fees, and explains why the longest chain becomes the source of truth in a distributed network. It also highlights the economics behind crypto, including the supply cap and scale considerations, and emphasizes that while you can use crypto without understanding the details, knowing the underpinnings helps illuminate the design choices behind this technology.

From ledgers to cryptocurrencies: the central idea

The video starts with a communal ledger used to track payments among friends, highlighting how a public record can become a shared truth when every participant follows a common protocol. The idea evolves into a cryptocurrency by introducing digital signatures and public key cryptography, which allow a sender to prove intent and authorization without relying on a trusted intermediary. The core premise is that Bitcoin is the first deployed example of a broader class of digital currencies that rely on cryptography to enable trustless, distributed verification rather than centralized oversight.

"Bitcoin is just the first implemented example of a cryptocurrency" - Presenter

Digital signatures, public and private keys

To secure the ledger, participants generate a public key and a private key. A signature binds a specific message to the signer’s private key, making forgery infeasible because verification uses the public key. Signatures depend on the message, so copying a signature to a different transaction won’t work. The private key remains secret, ensuring that only the rightful owner can authorize a transaction.

"The private key ensures that only you can produce that signature, and the fact that it depends on the message means that no one can just copy one of your signatures" - Presenter

Preventing double spending: the need for a trustworthy history

Even with signatures, you must prevent the same transaction from being spent twice. The history of previous transactions is essential to validate current ones, highlighting why the ledger’s integrity depends on having a complete, auditable history. This leads to the concept of a shared history that everyone can trust, forming the basis for the decentralized system.

Decentralizing the ledger: ledger dollars and the blockchain

Instead of a central website, each participant keeps their own copy of the ledger. Transactions are broadcast and recorded independently, but consensus is needed to agree on the correct history. This is achieved through a proof-of-work mechanism that ties work to the block you’re validating, creating a secure, verifiable chain of blocks. Money in this system can be understood as ledger dollars (LD), distinct from physical currency, and entries on the ledger constitute the currency itself. Exchanges between LD and real money are not guaranteed by the protocol, echoing how currencies are exchanged on foreign exchange markets rather than being minted by a central authority.

Hash functions and proof of work

A cryptographic hash function outputs a fixed-length digest that appears random but is deterministic for a given input. The key properties are preimage resistance and sensitivity to input changes, making it infeasible to reverse-engineer inputs or forge hashes. A block’s hash must satisfy a target, often expressed as a number of leading zeros, which requires substantial trial and error to discover. This is the proof of work that ties computational effort to the block’s validity, ensuring that tampering with a block would require redoing the work for all subsequent blocks.

"This is called a proof of work, and importantly, all of this work is intrinsically tied to the list of transactions" - Presenter

Mining, blocks, and block rewards

Blocks group a set of transactions and the proof-of-work solution. The block header includes the previous block’s hash, creating an unbroken chain. Miners compete to find the special number that yields the required hash pattern, earning a reward when they succeed. In Bitcoin, the block reward is paid in new bitcoins and serves as an incentive for miners to secure the network. Over time, this reward changes, integrating new money into the economy while the total supply grows only as blocks are discovered.

Decentralized consensus and the longest chain

If two valid blocks or chains conflict, nodes defer to the longest chain—i.e., the one with the most cumulative work. This rule makes it extremely unlikely for a fraudulent chain to overtake the honest chain unless a malicious actor controls a majority of total computing power. Waiting for several new blocks reduces the chance of accepting an invalid block, reinforcing security in a decentralized system.

"If you hear two distinct blockchains with conflicting transaction histories, you defer to the longest one, the one with the most work put into it" - Presenter

Bitcoin economics: supply, halving, and fees

The protocol reduces the block reward over time, with a fixed upper limit of 21 million bitcoins in existence. The initial reward has halved several times, and further halvings are programmed to occur roughly every four years as more blocks are mined. Miners’ incentives aren’t limited to block rewards—transaction fees can be added by users to encourage inclusion in the next block. This economic design helps balance network security, incentives, and scalability, even as the throughput of Bitcoin remains limited compared to centralized payment networks. For context, a block can contain about 2400 transactions, which pales beside Visa’s throughput, highlighting the ongoing tension between security incentives and scalability.

"There will never be more than 21 million Bitcoin in existence" - Presenter