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Cryptocurrency 101 for Lawyers – What is Mining?

Matt Stankiewicz, a senior associate at The Volkov Law Group, rejoins us for another posting on cryptocurrency.  He can be reached at [email protected].

As we have continued with our cryptocurrency posts, we are often asked questions about the foundational elements of the technology behind cryptocurrency.  This is not surprising really, it’s a new technology that’s still finding itself and innovations are occurring monthly, if not daily.  Further, our readers are obviously in the legal and compliance fields, so they may not have direct exposure to the technical underpinnings.  This post, and future ones, will help to explain certain aspects in layman’s terms – or at least as close as we can get to that.

Cryptocurrency is rife with hyperbole.  Whether you’re an expert or just learning about the sphere, you’ve surely heard that the blockchain will end world hunger, bring peace to the world, get us to Mars, all while making you a millionaire in the process.  Pushing past all that nonsense (though it may certainly end up being true), it’s more important to understand why those sorts of feats are all possible with the blockchain.  To really understand what this technology is capable of, we need to better understand how it works.

At the core of the blockchain is the concept of mining.  The unheralded miners underpin the various blockchains of all the different cryptocurrencies and provide the safety, security, and stability that make the entire network work effectively.  Think about it – we hear almost daily about cybersecurity breaches, even at major corporations that should really have the resources needed to prevent those attacks.  And yet now we have something like Bitcoin, a “digital currency,” so it is only natural to wonder: “who knows how many Bitcoin each person has?”, “who keeps my Bitcoin safe from hackers?”, “how can I trust something like this?”, and “who is in control?”  The short answer to all of these questions – the miners.

When I think of miners, I think of the seven dwarves slogging into the caves with pickaxes, singing songs to pass the time, only to emerge later in the day with diamonds and gold.  Cryptocurrency mining is the 21st century version of that process.  Mining essentially consists of running the data from that block through an incredibly complex algorithm.  Think back to high school algebra (PTSD warning) and trying to figure out x3+4x2+xy=189z.  Remember trying to solve for the variables?  That’s essentially what mining is, but on a significantly more complex scale.  This is called Proof-of-Work.  The key to know here is that the algorithm is so complex, that a significant amount of computing power is needed to find the solution.

All of the miners on a network compete to be the first one to discover the number that will provide the desired result.  They compete because they are rewarded for this effort by receiving new bitcoin (or whatever cryptocurrency they are mining).  Once the proper variable is discovered, other miners on the network will validate the answer by running it themselves to ensure the answer was correct.  These miners will also receive minor rewards for their efforts.  Bitcoin mining can be so profitable that there are warehouses all over the world filled with computer servers that are doing nothing but mining cryptocurrency 24/7.

Once a majority of the miners come to a consensus and confirm the result, that block will be closed and a new one will begin.  As you can see, mining is essentially a group effort.  All the miners compete against each other, but also ultimately work together to verify each other’s work and ensure the entire network continues to thrive.  For the network as a whole, there is power in numbers.  Take Bitcoin for example, the preeminent cryptocurrency with the largest number of miners.  To better understand the mining power, absorb this impressive stat – at the network’s peak, the amount of electricity used to secure a single Bitcoin transaction was enough to power the average American house for eight days.

Therein lies the security of mining.  How can we be sure all transactions are legitimate and hackers aren’t moving Bitcoin around surreptitiously?  Well, it’s effectively impossible to overcome that mining power.  Again, transactions are recorded based on a consensus.  Hackers would need to control at least 51% of all mining power (and Bitcoin’s consensus threshold is actually higher than that).  This proves impossible as long as there are warehouses throughout the Chinese countryside, Russian highlands, and all throughout the world that are full of servers mining cryptocurrency.  Setting all that up and powering it with enough electricity to run it just isn’t economically feasible – that would cost more than what you could possible hope to hack from the network.

This incredible amount of computing power also offers unique benefits.  The mining network is essentially a distributed, peer-to-peer supercomputer.  Now Bitcoin does not take great advantage of this, but other cryptocurrencies are attempting to figure out the best way to tap into it.  Newer cryptocurrencies are embedding computer code onto the coins, so that the miners also run this code as the coins move through the network.  New cryptocurrencies are looking to use this incredible computing power for artificial intelligence, predictive analytics, and a whole host of impressive processes.  These types of use cases are what has the world buzzing about this new technology.

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1 Response

  1. Lore W says:

    Nice explanation.