In the realm of finances, Bitcoin (BTC) is the first digital currency that gives its users actual possession and ownership of their assets by employing different hash mechanisms into its blockchain platform. However, this top-notch technical solution designed for fast and highly convenient decentralized transactions couldn’t offer the high security protection of both user and transaction data if it weren’t for the underpinning hashing algorithms.

With the help of these cryptography security mechanisms, Bitcoin gained traction in the realm of online trade. On the other hand, a rising number of businesses incorporate the Bitcoin blockchain into their operations as a fast, secure, transparent, and autonomous payment system open to everyone, regardless of their location on the globe.

But, how was the first hashing algorithm configured, what exactly is hashing, and in what way does it protect our data online? Let us start from the beginning to find out the answers to these questions – and more.

A Short History of the Hashing Algorithm

Born in Barmen, in 1896, German inventor Hans Peter Luhn was always ahead of his time. His exploration of electromechanical machines and efforts to discover innovative solutions to improve them were mainly focused on text processing algorithms.

Bitcoin icon in purple and blue neon lights on black background

The KWIC (Key Word in Context) algorithm was one of Luhn’s first computing solutions, aimed at generating an organized and classified index of a large body of text. As it was a revolutionary invention for that time, the KWIC algorithm brought worldwide fame to the German inventor, along with a prosperous work position at IBM (International Business Machines Corporation) –  one of the largest American multinational technology corporations.

Among the numerous patents that Luhn created during his work at IBM, there was one patent labeled under the name of “Computer for Verifying Numbers (CVN)”. It was a small, handheld gadget devised to solve a practical problem. Namely, the main concern of this prolific inventor during the years after WWII was the security of credit cards, social security, ID, or any other kind of numbers that could be easily falsified. In the midst of this problem, Luhn saw the need of a device that could verify these numbers in a fast and secure manner. 

With that purpose in mind, he came up with the idea for a checksum algorithm, which he implemented in the CVN gadget. Ultimately, this digital solution became the basis of one of the most significant cryptographic mechanisms of modern days – the hashing algorithm.

The Bitcoin Cryptocurrency Project

Bitcoin (BTC) is a decentralized digital currency that, unlike fiat currencies, allows its users to conduct transactions quickly, securely, and transparently without the necessity of an intermediary (central bank, regulatory body, or government).

Designed by the enigmatic developer Satoshi Nakamoto in 2009, the goal of this peer-to-peer electronic system is to give users complete control over their finances. For this, Nakamoto built this crypto project upon a blockchain network secured by various algorithms and protocols based on cryptography methods.

Blockchain Basics

For the first time, blockchain technology was implemented on the Bitcoin platform. Nowadays, it is more extensively utilized as a digital solution in various branches of our everyday life to provide quick and secure transactions and minimal transaction fees. It also popularized the encryption of data as one of the most reliable solutions for digital data safety.

In light of the fact that the blockchain is a highly complex technological product, let’s take a more in-depth look at each of its components. Some of the blockchain’s features we will talk about apply to the network structures of cryptocurrencies other than Bitcoin.

Distributed Ledger Technology

A record of every Bitcoin transaction that has been conducted on the blockchain is kept on the Bitcoin network’s public ledger, and copies of the ledgers are sent to all of the full nodes (i.e. computing units) that are part of the blockchain network.

Physical bitcoin on top of motherboard

Any unauthorized access to transaction data becomes easily traceable under this system, since if someone modifies the data recorded in the public ledger on one node, all other nodes will quickly establish a consensus that the file differs from all other copies of the ledger and prevent the network intrusion.

Lightning Network

The Lightning Network protocol is a proposed technological solution to the Bitcoins blockchain scalability issue. Designed as a second layer to the blockchain platform, the lightning protocol enables processing of large volume transactions by taking over some of the blocks that are pending for verification on the Bitcoin blockchain. 

While the BTC blockchain normally takes around 10 minutes to complete a transaction, Lightning Network transactions are confirmed in less than a minute.

Proof of Work Algorithm

The Proof of Work (PoW) mechanism underpins the Bitcoin blockchain architecture. Bitcoin miners are given a complex mathematical challenge to solve as part of this consensus method. When miners provide the algorithm task result as proof of their work on the blockchain, they are rewarded with the right to add the next block to the blockchain as well as some new bitcoins.

Proof of Stake Algorithm

Created as a more cost-efficient alternative to the excessively power-consuming PoW protocol, the PoS protocol secures the right to validate the next block on the blockchain for the miner who puts the largest stake of digital assets and also has the greatest computational power.  

Smart Contracts

The innovative smart contracts represent a unique digital solution that supports the decentralized character of the blockchain platform. Smart contracts give an assurance for the safe, timely, and fair completion of a transaction by automatically implementing a set of predefined agreement conditions. As a result, the participating parties in the agreement do not require the assistance of a bank, lawyer, or other middleman to safeguard their transactions.

Blue and orange particles forming handshake on black background

The Genesis Block

Genesis block refers to the first block in the chain of confirmed transaction data on the blockchain. The second transaction block validated on the blockchain is linked to the Genesis block, and then all subsequent new blocks of encrypted transaction data are always appended to the preceding one.

The Hash of the Previous Block

During the verification process, the preceding block’s transaction data is encrypted into an arbitrary code by employing hashing mechanisms. This unique code comprises a predetermined number of alphanumeric characters that are difficult to get deciphered without the assistance of specialist software or custom-built Bitcoin miners. This transaction data summary is known as the hash of the previous block.

Merkle Tree

The Merkle tree consists of the hashes of the blocks containing encrypted transaction information. It incorporates data of all the transactions that have occurred on the Bitcoin blockchain.

In this way, the Merkle tree generates the transaction root value of the block hashes, labeled as the Merkle root of blockchain transactions. This blockchain feature enables authentication of the blocks by using only a small portion of the block headers contained in the Merkle root, instead of checking the entire blockchain for verification. 

Unix Time Formatted Timestamp in a Block Hash

A Unix time timestamp is included in each block hash. These timestamps not only give information about when a block was created, but they also help safeguard the blockchain against manipulation by an unauthorized party.

Bitcoin Mining

To begin with, every Bitcoin transaction is recorded on a public distributed ledger known as the blockchain. Bitcoin miners are the crypto enthusiasts that validate blockchain transactions on the blockchain. They employ sophisticated software and specialized hardware to compute a complicated mathematical function specified by an algorithm.

Shelf full of mining rigs in a mining farm

When a miner solves a math challenge, they submit the solution as a Proof of Work in exchange for the privilege to validate the next block and add it to the previous block of the blockchain. Bitcoin miners also contribute to the safety of the network with their mining operations, for which they are rewarded a new Bitcoin after each added transaction data block to the blockchain.

Bitcoin miners generally use the SHA-256 hash method to generate hashes and validate new blocks. If the arbitrary nonce value is smaller than the target, the problem is solved.  Alternatively, they continue to adjust the nonce and execute the SHA-256 hashing algorithm over and over again until they calculate a result that is smaller than the objective hash value. For this, miners obtain a coin reward as well as the right to validate that transaction data block.

Given the costliness of the equipment and power necessary for a crypto miner to generate new bitcoins, a mining pool is a more cost-effective and feasible Bitcoin mining option. A Bitcoin pool is, in fact, a group of cryptocurrency miners that pool their computing resources for a higher hashing rate to make Bitcoin mining more efficient and profitable. 

On a related note, a hash rate denotes how quickly these hashing processes are performed. So a high hash rate indicates that more individuals and specialist Bitcoin mining equipment are participating in the mining process, which suggests that the system of transaction validation and mining of new Bitcoins is functioning well.

The Cryptographic Hash Functions in Bitcoin Mining

As all digital signatures and certifications linked to information security must employ protective hashing algorithms, Bitcoin developers have incorporated several SHA algorithms, which are considered to be some of the most secure data protection protocols.

Hash functions are data structures that are commonly used in computer systems for text or data authentication, among other functions. A cryptographic hash function must include multiple facets.

To begin with, the hashing function must be fast in order to generate the hash value. Then, there’s the matter of its deterministic nature. This means that the hash function must be pre-image resistant, that is, it must not expose any information about the input in the output message digest. Finally, it must be collision-resistant, which means it must ensure that two separate inputs do not result in the same output when combined.

The SHA-1 and SHA-256 algorithms are two of the most popular Bitcoin protocols employed by this blockchain network for the heightened security of both user and transaction data. 

SHA-1 (Secure Hash Algorithm 1)

Developed by the United States National Security Agency, the SHA-1 algorithm refers to the hashing process of an input sequence of characters with a preset length, which is encrypted with the SHA-1 algorithm. This algorithm secures the data by using cryptographic methods to generate a 160-bits message. The SHA-1 protocol is typically used for the protection of highly sensitive data, such as personal information, passwords, etc.

Bitcoin on green circuit

SHA-256 Protocol

Bitcoin uses the SHA-256 hash function as its main mining protocol. This method is used for digital signatures as well as transaction authentication and protection of the public keys. Its main feature is that it converts different inputs of data into a string of characters with a fixed length of 64 characters.

A Few Words Before You Go…

There is a widespread misconception that computers can digest data rapidly, and that that’s how they can offer us customised restaurant suggestions, generate sports results, or provide market statistics at the click of a button. This could not be farther from the truth, because every time you come across a computer-generated data, summarized results, purchase an item, or pay for a service over the internet, the hashing algorithms are the ones that handle the task.

In the crypto ecosystem, Bitcoin (BTC) is the first digital currency that provides its users with a decentralized and secure system for trading. These functions are strongly supported by the cryptographic hashing mechanisms that encrypt the data of both use’s and the transaction itself for increased security during the trading processes.

Finally, data organization, the online safety of the transactions, and the search for information are common challenges when it comes to information technology. As a result, hashing algorithms have become fundamental mechanisms of data protection in areas such as online trading, finances, cryptography, graphic design, and many more.