Q&A: "How is crypto made?"

Here's the question we'll be tacking today:

hey Nicole! My name is Adam and I live in SF. I pride myself on being the crypto nerd in my friend group and am always the first person of my friends to invest in the newest coins. But I actually don't really understand how crypto is created... I think it would help my investing if I actually understood how it worked. Could you write an article about how crypto is made? Ask and you shall receive!

Cryptocurrency is created in a process called mining. But I promise you, crypto mining is not what you think of when you picture traditional mining. When you think of mining you probably think of, well, a mine— with hardhats and caves and canaries. But, cryptocurrency mining doesn’t happen in a mine, it happens on a computer.

This is the interesting part about cryptocurrency. Anyone can mine it; and you can do it anywhere in the world, so long as you have access to a computer. That makes cryptocurrency completely different from government-backed currencies, like the U.S. dollar. Can you imagine if anyone could print dollar bills? Not only that, but imagine that you could print dollar bills and do it at home, without even getting out of your PJs?! If this was a thing, I would do it... wouldn’t you? So why isn’t everyone making bitcoin?

Well, here’s the catch. While you can mine crypto through a computer— it’s a pretty complicated process. In order to create one coin, you need to program your computer to solve billions of calculations per second. So, to quote the great Hilary Duff: “If you can’t do the math, then get out of the equation.” But if you can do the math, you can mine crypto.

Calling the process “crypto mining” is a bit misleading. To me, mining implies that you’re doing some work to find something valuable, and then you get to keep it. With crypto, miners do work to upkeep the entire cryptocurrency network; and the incentive to upkeep the crypto network is the promise of earning cryptocurrency.

Let’s double-click on the mining incentive.

At the most macro level, the incentive of mining is similar to a food co-op model: at a co-op, you donate your time and do work for the store; and in exchange, you get some goods from the co-op, like veggies, fruit, coffee. Similarly, crypto miners upkeep the network, and in exchange, they (hopefully) get some crypto.

When you read articles about crypto, you’ll likely hear network upkeep and cryptocurrency mining described as two distinct processes, but that’s not an entirely accurate picture; up-keeping the crypto network is part of the mining process. For the most part, the folks monitoring the crypto network are the crypto miners.

Which transitions us ever-so-smoothly into breaking down the process of crypto mining. Mining crypto happens in two steps: confirming transactions and creating blocks. Let’s get into it.

1. Confirming Transactions

The first step of crypto mining is confirming transactions that folks have recently made with the cryptocurrency. So remember— crypto founders really wanted a decentralized currency, but they didn’t necessarily want an unchecked currency. So without a bank or any other central figure guaranteeing whether someone is good for their money, how would crypto founders prevent fraud?

Crypto creators solved this problem with the network. Let’s use the example of the Bitcoin network. Each time there is a transaction made with bitcoin, the record of that transaction is sent to the network to be verified. Before the transaction is verified, it hangs out in transaction limbo, known as transaction pools or memory pools. It’s the miner’s job to review the transactions in the memory pools and confirm whether they are legit. The miners are essentially checking that the person spending bitcoin… actually has bitcoin.

Let’s not forget that miners aren’t confirming these transactions out of the goodness of their hearts. To return to our co-op metaphor, people who work at co-ops aren’t just working there because they’re passionate about broccoli, they’re working there because of the promise that they’ll get some goodies in return. Bitcoin miners aren’t just confirming bitcoin transactions because they want to prevent fraud, they are confirming transactions because it’s the first step on the road to earning bitcoin. That brings us to the next step…

Creating a Block 

At a top level, the next step is for miners to take some transactions that are chilling in the memory pool and group these transactions together in a unique combination. That unique combination of transactions acts as a secret password that opens a spot on the cryptocurrency ledger. Once a transaction is on the ledger, it has officially been validated— in other words, a crypto miner has said “Yep! This transaction was legit.”

These cryptocurrency ledgers are built with super-cool-ultra-secure blockchain technology that acts as a database to store records of crypto transactions.

A blockchain database simply allows these confirmed cryptocurrency transactions to be recorded. It may sound confusing, but actually, blockchain tech was actually named somewhat intuitively. The blockchain holds these verified transactions and stores them in virtual compartments (or, blocks) and those blocks are strung together in, yep, chains.

Let’s zoom back out to make sure we’re understanding the big picture of this step in the mining process: once miners confirm transactions, their next goal is to add these transactions into the next block on the Bitcoin blockchain; thereby creating a record of the transaction on the Bitcoin ledger.

Here’s where mining gets extremely competitive: remember when I said that miners group transactions together that form a key to unlock the next block on the blockchain? Not every group of transactions will make a key. So miners need that super computing power to generate a ton of different combinations of transactions. The goal is to beat all other miners in making a combination of transactions that successfully unlocks the next block on the blockchain. If you can do this, you will earn your payment: bitcoin, plus any transaction fees that were associated with the confirmed transaction you grouped together (more on bitcoin transaction fees in future articles!). When a block is added to the chain, it gets a digital timestamp. This helps miners verify and track transactions, by allowing them to keep track of timing and reference previous transactions.

And there you have it! A beginner's guide to crypto mining. Now, Adam, you can level-up your crypto-nerdiness and show off your mining knowledge at your next friend-group-hang. Happy geeking out!

xo,

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