How Bitcoin Wallets Work (Public & Private Key Explained)

In the past, I’ve made quite a few Simply Explained videos on how blockchains and cryptocurrencies00:04work.00:05And there are a few questions that keep coming, like: how do wallets work?00:09You see, to use a cryptocurrency, you need a wallet to store your virtual coins.00:14And just like a bank account, it has a unique address.00:17It looks somewhat like this, depending on the cryptocurrency.00:21It seems like a completely randomly generated string of letters and numbers but in reality,00:26there is a bit more going on.00:28The first thing we need to know is how these are created.00:31Anyone can create a new wallet by generating a public and private key pair with a certain00:35algorithm.00:36In the case of Bitcoin or Ethereum that is via an elliptical curve digital signature00:40algorithm.00:41That’s quite a mouthful, but the take away here is that the algorithm will spit out a00:46private key and an associated public key.00:49These keys are mathematically linked to each other.00:52You can take the private key and derive the public key from it.00:56But you cannot take the public key and turn into the private one.00:59I made a video about this right here.01:02Now, these two keys serve a different purpose.01:05The public key will become your wallet’s address, kind of like your bank account number.01:09And the private key is your way of proving that you are the owner of the wallet and thus01:14that you can spend the money inside of it.01:17So in summary: public keys can be shared with everyone while private keys must be kept to01:23yourself.01:24Unless you want other people to decide what to do with your money.01:27So far so good.01:28But this system has a few interesting side effects that I want to mention.01:32For starters, everyone can generate an unlimited amount of wallets, right on their own computers.01:37It’s only limited by how fast your computer can generate key pairs.01:42However, nobody will know about the existence of your wallet until it receives some coins.01:47See, a cryptocurrency only keeps track of transactions between wallets.01:52It does not have a list of all existing wallets.01:55So if your newly created wallet has not been involved in any transaction, it simply doesn’t02:01exist for the outside world.02:03Think of it this way: the blockchain is just a giant spreadsheet with transactions going02:07from one wallet to another.02:08The blockchain itself doesn’t really care about if these wallets exist or not.02:12It’s only when you want to spend coins in a wallet that you have to prove that you’re02:17the owner.02:18And you can only do that with the private key that is associated with the address of02:22the wallet.02:23Another side effect is that you can transfer coins to a wallet address that doesn’t exist.02:27Again a Blockchain doesn’t have a list of valid addresses, so it cannot check if you’re02:33transferring coins to a valid one.02:35In case you transfer coins to an invalid address then they’re just lost unless someone can02:41generate the private key for that particular address.02:45Which, right now, isn’t really possible because of how the algorithm works.02:50Fun fact, this is referred to as “coin burning” and it’s sometimes done intentionally by02:54cryptocurrency projects that want to reduce the total supply and therefore increase the02:58value of their coin.02:59Or they do it to get rid of coins that weren’t distributed during the initial coin offering.03:05The last cool side effect I want to mention is that you can create a wallet while being03:09offline, you can then give that address to someone else and they will be able to transfer03:13coins to it.03:14And later when you get back online, you can use the private key of that wallet to spend03:18the coins.03:20Cool huh?03:21So if you want to store some coins, in the safest possible way, you can generate a wallet03:26while being offline, print out your public and private key, destroy the key on your computer03:32and transfer coins to it.03:34This is called a paper wallet and is the most radical but super secure way of storing coins.03:41So that was a quick overview of how wallets work in a cryptocurrency.03:44I hope you liked this video and if you did, consider subscribing, clicking the bell icon03:48and liking this video.03:49Thank you very much and see you on the next Simply Explained episode!


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