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Bitcoin’s security model removes trusted third parties, relying on cryptographic hashing, decentralization, and proof-of-work mining to ensure transaction integrity. While this provides censorship resistance and user autonomy, it also demands personal responsibility for safeguarding private keys and securing funds.Bitcoin security is one of the more interesting new phenomena in computer science, as it involves a complete reversal of the security model found in traditional digital financial systems. While the old systems involve trusted third parties who operate and control centralized databases of everyone’s assets and transactions, the bitcoin model flips the script and gives each individual user full autonomy over their digital money. While this altered security model is also what enables bitcoin’s underlying utility as a digital cash and apolitical monetary system, it can be difficult for new users to understand this financial paradigm shift.
Through the right combination of preexisting technologies, such as cryptographic hashing and public-private key encryption, bitcoin creator Satoshi Nakamoto was able to create a revolutionary new model for digital money. And since 2009, Nakamoto’s experiment has turned into a resounding success up to this point, with more than $1 trillion worth of value now held on the network, and increasing interest coming from the largest asset managers in the world such as BlackRock and Fidelity.
But how is this new model even possible? And how can we know that bitcoin is secure? Let’s take a look at how security works on the bitcoin network from both a high-level and a deep, technical perspective.
What New Users Need To Understand About Bitcoin Security
The first attribute of bitcoin security that must be understood by users is that, unlike traditional digital financial systems like PayPal, users are put in full control of their own security at the base layer. While systems like PayPal involve trusted third parties who are able to hold their users’ hands and provide customer support when something goes wrong, bitcoin is a system where each user has complete control over their assets at all times. And while the full control users have over their bitcoin is the general point of the decentralized digital cash system in the first place, it also creates a situation where they must accept a much larger degree of personal responsibility when it comes to the security of their assets.
The best analogy for bitcoin security is physical cash. If you’re going to hold a large amount of physical cash, you must also be able to secure it yourself, as there is no one who is able to reverse the transaction in a situation where the cash is lost or stolen. In the case of bitcoin, users must protect the private keys associated with their public bitcoin addresses.
Unlike bitcoin, traditional banks have a number of measures, such as chargebacks and identity verification, to add a number of safety nets for their users. Again, these additional safety precautions come with trade-offs, as they effectively mean the bank is in control of the customer’s assets rather than the customer themself. As a side note, those who prefer the extra assistance found in the traditional banking system can still use bitcoin banks to gain a similar level of ease-of-use with the cryptocurrency; however, this setup also removes many of the benefits of using bitcoin as a store of value or medium of exchange (more on that later).
Understanding this key difference between bitcoin and traditional online financial systems is a key piece of education that should be viewed as a prerequisite for using the cryptocurrency network in the first place. Otherwise, financial loss is bound to occur.
Best Practices For Users Securing Their Bitcoin
So, how are users supposed to take responsibility for their own financial security in bitcoin? The first step is to not fall into the same traps that are found in the traditional financial system, namely handing over one’s bitcoin to a “trusted” third party. While this structure is problematic enough in traditional systems, the reality is it can be even worse in bitcoin because there are oftentimes less avenues for practical legal recourse when something goes wrong. For example, former customers of bankrupt cryptocurrency exchange FTX were only able to recover a fraction of their cryptocurrency holdings through the bankruptcy process, and there have been plenty of situations throughout bitcoin’s history where third parties were able to successfully run off with other people’s money.
Of course, general education and awareness of how bitcoin works is also necessary before deciding to take full control over one’s own digital finances. There have been plenty of instances of people who try to bite off a bit more than they can chew when they first hear about bitcoin and end up making a mistake that leads to a loss of funds, so newcomers are advised to educate themselves first and play around with small amounts of money before diving into the deep end.
In terms of general tips for users to successfully secure their own bitcoin, it’s important to understand a variety of concepts such as non-custodial wallets, multisig addresses, and cold storage. These avenues for secure storage of private keys, which are what allow users to move their bitcoin, are the best way to make sure one’s money remains secure without the assistance of a trusted third party.
Fundamentals Of Bitcoin Network Security
When talking about the security of the bitcoin system itself, rather than individual users’ private keys, there are a variety of different aspects of the system that must be understood. That said, the key ingredient that keeps the bitcoin network, and thus the transactions that take place on that network, secure is decentralization.
As covered previously, the key innovation with bitcoin is that there is not a trusted third party that controls everyone’s account balances and payments. Instead, everyone on the network participates in coming to consensus on the current distribution of bitcoin and future valid transactions.
Each node on the bitcoin network checks and verifies that every transaction published on the network is valid according to the consensus rules, which were effectively set in stone by Nakamotoo when the first version of the node software was released. This is what prevents things like someone creating new bitcoin out of thin air or spending some coins that they don’t actually own.
By operating a node, a bitcoin user can confirm that the bitcoin they receive are legitimate and valid. This system where everyone checks the legitimacy of transactions and blocks of transactions is what enables the system to remain decentralized, and the relatively low number of on-chain transactions that can be processed per second (compared to traditional, centralized systems) makes it much easier to connect to the network and participate in the consensus process. In this way, the cost of operating a node on the network can be viewed as a very rough measure of the level of decentralization found on the network.
The health of the bitcoin network can be tracked by the percentage of economic activity that is taking place via individual users operating their own nodes. If too many people start outsourcing the verification of network rules to a third party, the system starts to look very much like traditional online banking.
To understand this point, just imagine a scenario where all bitcoin users are outsourcing their connection to the network to a third party, that third party would be able to make up whatever version of bitcoin transaction history they’d like. They would be able to do things like create bitcoin out of thin air and block certain types of transactions from happening, as no one would have the ability to verify what is actually happening behind the scenes. Economically relevant nodes could also more easily alter the rules of the network in a situation where too many users are outsourcing their node operations to someone else. Therefore, in addition to running a node to check the validity of the payments they receive, bitcoin users should also run their own nodes for the overall health of the network.
The Role Of Miners And Proof Of Work
Of course, not all nodes on the network are in charge of processing payments into new blocks of transactions, which are finalized roughly every ten minutes. Special nodes on the network, known as miners, earn the right to participate in the bitcoin accounting process by provably expending computational resources.
While miners are sometimes mistakenly referred to as the new type of trusted third party that still exists in the bitcoin network, the reality is their power is extremely limited, and kept in check by the nodes. This is due to the fact that the nodes on the network are what provide value to the asset that miners generate through their work.
Miners are only able to cause issues on the network if they become too centralized and a single party or multiple nefarious parties working together account for 51% of the network hashrate, which is the total amount of computing power that is pointed at the network at any one point in time. This is what is known as a 51% attack.
Even then, miners are unable to do things like steal users’ bitcoin or inflate the bitcoin supply. Instead, they’re basically only able to implement a denial of service attack on bitcoin transactions, which would be extremely costly due to the large amount of resources that go into the industrialized bitcoin mining process these days. In fact, the system is built to incentivize a bitcoin mining cartel to continue acting in the best interest of bitcoin users in a situation where they gain a majority share of the network hashrate, as that should be more profitable for them. That said, there is still plenty of room for further decentralization of bitcoin mining.
How Does Bitcoin Mining Work?
Miners expend energy on the bitcoin network via the proof of work (PoW) mining process. PoW is the consensus mechanism used in bitcoin, meaning those miners that are willing to expend energy in exchange for newly issued bitcoin and transaction fees are the ones who process transactions and package them into blocks. They “prove” their worth to the network by “working” on figuring out the answers to complex mathematical problems with their computer hardware. The specific hashing algorithm that miners work on in bitcoin is known as SHA-256.
Essentially, miners gather a group of unconfirmed transactions and combine them into a “block.” To validate this block and add it to the blockchain, they must find a hash—a unique, fixed-length alphanumeric code—that meets specific difficulty criteria. The miners achieve this by inputting various possible “nonces” (random numbers) into the SHA-256 algorithm until the resulting hash starts with a certain number of leading zeros, set by the network’s current difficulty level. In other words, it’s a guessing game, and having more computational resources allows someone to make more guesses.
While some commentators have espoused the view that the computing power that goes into the bitcoin mining process is wasteful, the reality is it plays a critical role in the bitcoin network. In fact, it would not be possible for bitcoin to exist without it. In short, the use of PoW mining in bitcoin solves the double-spending problem seen in previous digital cash systems, and without the introduction of a trusted third party. The centralized parties that controlled the transaction ordering process to prevent double spending in previous systems were effectively security holes that could be targeted with regulation or other forms of attacks. In other words, the PoW mining process is what enables bitcoin’s accounting system to operate in a decentralized manner, thus enabling the entire value proposition of the system as a whole.
Put another way, PoW mining is what ensures that the decentralized accounting ledger on the bitcoin network, known as the blockchain, can be trusted. While bitcoin transactions are never finalized in the true sense of the word, they become increasingly difficult to reverse over time due to the chaining of transaction blocks in a way that requires an increasingly large amount of computing power to reverse. In other words, it takes exponentially more computing power to rewrite 100 blocks of bitcoin transaction history than it does to rewrite one block due to the cryptography that underpins the network.
Once a transaction is included in a block and confirmed by miners, that block is linked to the previous block through a cryptographic hash. Each subsequent block reinforces the transaction’s validity, creating a deeper chain that would need to be altered in order to reverse the transaction. To tamper with a confirmed transaction, a malicious actor would have to re-mine not only the block containing the original transaction but also all subsequent blocks, which would require vast amounts of computational power. The more blocks that follow a transaction, the more secure it becomes. This concept of "block depth" or "confirmations" is why a transaction is generally considered irreversible after six confirmations, as the cost and effort to modify the blockchain grows with each new block added.
If PoW mining were not used in bitcoin and each node was given an equal vote in the consensus process, the network would be open to Sybil attacks where the operator of the most nodes is able to corrupt the accounting process. Instead, PoW mining creates a situation where only those who are willing to provably expend resources (and therefore need the bitcoin block reward to recoup their expenses) are able to participate in consensus. The miners are thus financially incentivized to act according to the demands of the nodes on the network that are using bitcoin and providing its monetary value in the first place.
Bitcoin Is Secured By A Structure Of Incentives
This point regarding miner incentives helps illustrate the point that the bitcoin network as a whole is able to operate successfully due to the way in which its technical aspects are implemented rather than the simple use of technology itself. The economic incentives at the core of the system have a lot to do with why bitcoin has been able to function properly without many hiccups for more than a decade.
These incentives were most clearly demonstrated during the bitcoin block size war, especially when it came to the role of PoW miners in the system. While many prominent users of the bitcoin network, such as Coinbase and the vast majority of miners, claimed that miners effectively have the power to vote on hard-forking changes to the bitcoin protocol rules, the revolt that ensued from bitcoin node operators indicated that these entities were wrong. A lot about bitcoin security can be learned from the blocksize war, and our article on the history of the event should be seen as complementary reading to this article.
Public-Private Key Encryption
In terms of the security of bitcoin transactions themselves, everything is based around the concept of public-private key encryption. Each user’s public bitcoin address, of which a user can have an unlimited number of, also has an associated private key. The structure here can be seen as similar to a username and password in traditional online services. The public bitcoin address is shared with others for the purpose of receiving payments, and the private key associated with the bitcoin address is required to sign off on any transactions being sent from that address. This aspect of the bitcoin system is closely associated with the “not your keys, not your coins” mantra that is often touted by the cryptocurrency userbase.
As a technical sidenote, it should be pointed out that a bitcoin address is not actually the public key derived from the private key. Instead, it is a hashed derivation of the public key that has effectively shortened the public key’s character length.
This public-private key encryption method relies on complex mathematical problems—typically factoring large prime numbers or using elliptic curve cryptography—that are easy to compute in one direction (encryption) but extremely difficult to reverse without the corresponding private key (decryption). Most notably, this encryption method does not involve sharing private keys or encrypted data with a trusted third party, which is a critical reason as to why it is used in bitcoin. A system where a trusted third party also had access to users’ private keys would be a complete departure from the philosophy behind bitcoin and more similar to the traditional online banking system.
Public-private key encryption is a rather old concept that can be traced back to the 1970s when cryptography moved from being the exclusive domain of military and government institutions to the wider world of academia and technology. In 1976, Whitfield Diffie and Martin Hellman introduced the concept of public-key cryptography in their paper “New Directions in Cryptography,” which proposed a method allowing secure communication over insecure channels. Their innovation centered around the idea of using two keys—one public and one private. Shortly after, in 1977, Rivest, Shamir, and Adleman developed the RSA algorithm, a practical implementation of public-private key encryption. RSA relies on the difficulty of factoring large prime numbers to ensure security, and it quickly became one of the most widely adopted encryption methods in digital security. This encryption method underpins the modern security of online communications, from email encryption to secure financial transactions.
In addition to being used in on-chain bitcoin transactions, there are also a variety of alternative use cases of public-private key encryption in bitcoin. For example, a private key associated with a particular address can be used to sign any kind of message, not just a protocol-compliant bitcoin transaction that transfers some bitcoin to another address. This can be useful for proving ownership over some bitcoin associated with a particular address without moving the bitcoin. Additionally, nonbroadcasted bitcoin transactions are critical infrastructure for various bitcoin Layer 2 networks, such as the Lightning Network.
Varying Degrees Of Security In Different Bitcoin Layers
There are also technical differences in bitcoin security found at different layers of the overall bitcoin protocol and application stack, as bitcoin can be held in a wide variety of different ways and forms. For example, as previously explained, many of the most important security features of the bitcoin asset are lost when it is held in a bank-like structure, such as Coinbase or another cryptocurrency exchange, rather than a non-custodial wallet that is not directly connected as a node on the bitcoin network.
The differences between interacting with bitcoin directly as opposed to the bitcoin banking layer found in traditional financial structures are quite clear, but there are also different layers of the bitcoin network as a whole that are more directly tied to the initial intentions of Nakamoto’s creation. In other words, there is a spectrum of security and decentralization found in various bitcoin applications.
The most well-known Bitcoin Layer 2 network is the Lightning Network, which is effectively a system of cached bitcoin transactions that is able to lower costs and increase the speed at which bitcoin-denominated payments can happen. Since this Bitcoin Layer 2 network is literally just signed transactions that have not yet been broadcast to the greater bitcoin network, the Lightning Network is able to retain much of the security that is found at the base layer.
However, there are still notable trade-offs made here. Perhaps most notably, loss of funds can occur if a counterparty on the Lightning Network cheats, and a cryptographic proof of that cheating cannot be published to the blockchain, due to either congestion on the network or nefarious intentions from a majority of miners. Many other Layer 2 bitcoin networks that are currently live or in development, such as Ark, also rely on the ability to get a message included in the blockchain in order to prevent loss of funds. Additionally, a light bitcoin client that is not directly connected to the network can be lied to by their middleman node if that node is also colluding with a majority of the network hashrate.
There are also various sidechains to bitcoin that come with alternative security models than what is found at the base layer. Many of these sidechain systems, such as Liquid and Rootstock, effectively rely upon trust in a federation of entities, as the bitcoin that is used on those sidechains are held in multisig addresses.
Recently, it was found that an innovation known as BitVM may create a situation where only one of the entities in the federation needs to be honest in order to guard against potential theft or a hack of the federation. Additionally, there are now sidechains based on proof of stake (PoS), such as Lorenzo Appchain, rather than multisig federations. When using any sidechain, it’s important to understand the trade-offs in security that are made as compared to bitcoin’s base blockchain.
At the end of the day, there are serious trade-offs made when it comes to balancing security with convenience in bitcoin, and it’s critical for these details to be understood in order to use bitcoin properly.
Challenges To Bitcoin's Security
Indeed, making bitcoin easier for the average person to use is a major challenge for the security of the cryptocurrency network. While the Coinbase app makes it much easier for the average person to store and transact with their bitcoin, the reality is they aren’t really interacting with the bitcoin network at all. There is an inherent challenge in making bitcoin more user friendly due to the fact that the whole point of the system is to allow users to take more personal responsibility over their digital finances. Due to the need to preserve decentralization, there is also a limit to the amount of activity that can take place at the base layer, which can also make the system more costly and less user friendly. Scaling the system to more users is a closely related security challenge; however, the current plan is to allow bitcoin to scale via multiple layers for specific use cases, allowing users to opt into different security models depending on their needs.
Mining centralization also poses significant security risks to the bitcoin network, as a small number of mining pools controlling the majority of the network's hashrate undermines the decentralized ethos of bitcoin. When just two or three mining pools dominate the network, they can theoretically collude to launch a 51% attack. This would allow them to double-spend coins, deny anyone from using the network, steal coins from certain types of Bitcoin Layer 2 networks, and more.
Perhaps more troubling, mining centralization also increases the risk of regulatory interference if governments target these pools, potentially forcing them to comply with rules that have previously been applied to traditional banks, such as identification requirements for every bitcoin user. In terms of potential solutions to the challenge of mining centralization, changes to mining protocols, such as ones that give individual miners more power over the transaction selection process, could be helpful. Additionally, privacy improvements at the base layer would make it less possible for certain types of bitcoin transactions to be discriminated against, as all transactions would effectively look the same.
In addition to the security challenges that bitcoin already faces today, there are longer-term issues that could eventually materialize in the future. For example, the potential development of quantum computing could break the encryption that secures the bitcoin currently associated with bitcoin addresses on the network today. However, there is at least one proposal for fixing this potential issue via a soft fork.
Additionally, there are concerns regarding the long-term security budget of bitcoin in terms of the incentive for miners to point their computing power at the network. The block reward currently includes a subsidy that is cut in half roughly every four years, and eventually the system will need to be secured by nothing more than transaction fees. A lower economic incentive to mine bitcoin means it could become less costly for a malicious party to gain enough of the network hashrate for the purpose of attacking bitcoin. While many predict that the further development of Layer 2 bitcoin networks will allow on-chain fees to dramatically rise, while keeping fees relatively low for end users on secondary layers, this is not something that is definite.
Another lurking concern is the potential introduction of technical bugs when upgrading critical, consensus-level software such as Bitcoin Core, which has happened multiple times in the past. Such a development could potentially force a hard fork of the bitcoin protocol rules, which would not be an easy task in an increasingly decentralized environment. However, if a hard fork were to succeed in the future, it would likely be one where the bitcoin network is literally broken without the implementation of the hard-forking change. That said, there exists a hope that the bitcoin protocol will eventually ossify, meaning that the base layer can remain completely unchanged while more experimentation and technical development takes place on upper-layer protocols.
The Future Of Bitcoin Security
To review, bitcoin’s security operates fundamentally different from traditional online banking, relying on decentralization and cryptographic methods instead of trusted third parties like banks. Each bitcoin user is in control of their private keys, which allows them to own and transact their assets independently. This shift from central control to personal responsibility is underpinned by bitcoin’s decentralized network of nodes, which is key to bitcoin’s security.
By distributing the process of transaction validation across a large number of participants, the network becomes more resilient against attacks and failures. However, as scalability becomes a challenge, especially with bitcoin’s base layer only processing a limited number of transactions per second, Bitcoin Layer 2 networks, such as the Lightning Network and Lorenzo Appchain, offer a path forward. These secondary layers enable faster and cheaper transactions while retaining a sufficient degree of decentralization necessary for the security of various financial activities.
In the long run, ossification of the base layer could play a crucial role in preserving bitcoin’s security, ensuring that its core protocol remains resilient while allowing innovations to continue at other levels. Either way, the health of the network will continue to rely upon individuals taking the initiative to run their own nodes and take full responsibility for securing their digital assets.
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