The Explanation

Taken from this article (Wayback machine link in case the live link stops working). Quoting:

Let’s see how Bitcoin cryptocurrency actually works. Bitcoin is an encrypted, public, shared form of money generated by a longer Blockchain code. Blockchain is a set of collective records, also known as Ledger, which stores cryptocurrency transactional records as we do in Excel spreadsheets.

Bitcoin’s model is to store transaction data on volunteer computers for transaction verification. A volunteer computer runs software to verify transactions made under certain rules that involve mutual agreement between both parties, and the buyer has enough money in his Bitcoin wallet.

The volunteers are known as Miners. Miners are rewarded for their hardware and the energy that computers consume by kickbacks. These kickbacks are in the form of cryptocurrency.

Bitcoins don’t rely on single computer verification. If the system gets enough verified results from different Miners then the transaction joins the recent transaction of the world as “Block”.

The math required for the transaction requires so much computing power that it cannot be validated by a single computer or group of users, which prevents the system from generating fake currency.

Bit mining requires dedicated machines.

This whole process requires dedicated hardware and consumes a lot of power. In addition, more cooling systems are needed to keep the temperature of the machine low for complicated mathematical processes.

What’s wrong with it?

This explanation is bad on many levels. It’s poorly written and contains many false claims. There’s quite a lot to unpack:

• “Bitcoin is an encrypted, public, shared form of money generated by a longer Blockchain code”.
  Bitcoin isn’t encrypted. Bitcoin is a public ledger. All transactions are processed in the open. The last part, “generated by a longer Blockchain code”, just doesn’t make any sense. Bitcoin is a currency and a payment network. This network relies on a protocol (specified here) and nodes running software implementing this protocol (what the author refers to as “longer Blockchain code” perhaps?

• “stores cryptocurrency transactional records as we do in Excel spreadsheets”.
  Wow. There is a world of difference between a spreadsheet and Bitcoin. But I’m sure you knew this already. Bitcoin’s transaction ledger is distributed (each Bitcoin node holds a copy), and based on Unspent Transaction Ouputs (UTXO). The data model is very different from a standard spreadsheet of transactions.

• “Bitcoin’s model is to store transaction data on volunteer computers for transaction verification”.
  Again this is false. A transaction is checked before it is broadcasted on the network. After a transaction is broadcasted it is not included in a Bitcoin block right away. The transaction typically stays in Bitcoin’s “mempool " (memory pool) until a miner chooses to include it. See this excellent video for more details on the life cycle of a Bitcoin transaction.

• “A volunteer computer runs software to verify transactions made under certain rules that involve mutual agreement between both parties”.
  Again, plain wrong. Bitcoin’s protocol and consensus rules are established ahead of time. There is no agreement between parties! In fact, this is one of the fundamental values of Bitcoin: you can transact with anybody else on the network without agreeing with them.

• “The volunteers are known as Miners”.
  Partly true, but partly false. Mining is optional in Bitcoin. Full nodes hold a copy of the Bitcoin ledger and validate transactions without mining.

• “Miners are rewarded for their hardware and the energy that computers consume by kickbacks. These kickbacks are in the form of cryptocurrency”.
  This is misleading. Miners are rewarded when they add blocks to the shared ledger. They aren’t directly compensated to consume energy. The “kickbacks” are coinbase transactions.

• “Bitcoins don’t rely on single computer verification. If the system gets enough verified results from different Miners then the transaction joins the recent transaction of the world as ‘Block’”.
  A Bitcoin block is proposed by the miner who finds it first. There is no verification or threshold of nodes in Bitcoin. The longest chain of valid blocks wins, period.

• “The math required for the transaction requires so much computing power that it cannot be validated by a single computer or group of users, which prevents the system from generating fake currency”.
  Blatantly false. Finding a block is hard. But validating a block is easy! What the author hints at when they mention that it “prevents the system from generating fake currency” is the double-spend problem. For a good explainer about it, see this page.

• “Bit mining requires dedicated machines. This whole process requires dedicated hardware and consumes a lot of power. In addition, more cooling systems are needed to keep the temperature of the machine low for complicated mathematical processes”.
  OH. MY. GOD. Finally something the author got right, somewhat! While in theory bitcoin mining is open to everyone and every machine, the reality is that you need dedicated beefy servers with specialized ASICs (Application-Specific Integrated Circuits) to stand a chance in this game. Another option is to participate with your home computer as part of a mining pool.

On the ecological impact of Bitcoin

This “how bitcoin works” explanation was written in the context of Bill Gates stating he was concerned about Bitcoin’s ecological impact. While this is the worst Bitcoin explanation I’ve ever read, I don’t want to ignore the larger point of the article. Bitcoin in its current form is harmful for the planet because of the enormous amount of energy consumed by Proof-of-Work. I tend to agree with this, and would like to see blockchain networks move towards Proof-of-Stake (PoS) systems, where validators acquire voting power based on a pool of money locked as part of the protocol (their “stake”). Modern networks are mostly using PoS. Ethereum is also moving to PoS (see this to get started!). Bitcoin should also move to Proof-of-Stake, although I’m not optimistic given how conservative the Bitcoin community is.