What is Bitcoin's UTXO model and how are UTCXs managed
What is Bitcoin's UTXO model and how are UTCXs managed
What is the Bitcoin UTXO model?
Before entering UTXOs, the Bitcoin transaction lifecycle is important. Technically, Bitcoin transactions are slightly more complex than fiat transactions. While cash transactions typically occur in whole dollar increments such as $5 or $10, Bitcoin transactions can be as small as the eighth decimal satoshi, showcasing its high degree of divisibility.
When initiating a Bitcoin transaction, it is important to understand that the cryptocurrency itself is not physically stored in the wallet. Instead, the wallet merely acts as a means to access and manage the funds associated with the user's Bitcoin address.
The blockchain serves as a ledger that records all transactions made on the network, including those involving the user's funds. When someone makes a new transaction, Bitcoin nodes initiate the transaction verification process. Valid transactions then enter the mempool, which miners choose to include in a new block.
Miners compete to solve a complex puzzle, and the winner adds the block to the blockchain. Other nodes verify the block's transactions. If valid, the block becomes a permanent part of the ledger and the winning miner receives the newly mined Bitcoin.
The Bitcoin blockchain splits the payment process into blockchain inputs and outputs to properly track Bitcoin transactions. The output is the wallet that initiates a transaction as it extracts funds to create the “input” for the receiving wallet. However, if there is no previous entry in this wallet, the network cannot exit. And these inputs into your Bitcoin wallet balance. The input can be anything from a few satoshis to multiple Bitcoins. These inputs are accumulated in a wallet through various transactions. For example, let's say Bob's wallet received 3.75 Bitcoin in three separate transactions, resulting in three unspent UTXO.
When Bob wants to spend 0.50 BTC, the Bitcoin network will search his wallet for available UTXOs to use as input for this new transaction. Since Bitcoin transactions require spending the entirety of an input, if Bob uses 0.75 BTC UTXO, the 0.25 BTC excess will be sent back to his wallet as a new UTXO, often referred to as an “exchange.” ”
How does a Bitcoin wallet decide which transaction outputs to spend?
The Bitcoin UTXO model typically uses the first-in, first-out (FIFO) method when classifying UTXOs to spend. This coin selection process means that it will automatically spend the oldest Bitcoin in a wallet to initiate a transaction. However, most Bitcoin wallets offer ways around FIFO for more experienced spenders.
Just like a Bitcoin wallet is a representation of funds, a UTXO is a representation of a wallet's unspent transaction outputs.
In every Bitcoin wallet, the wallet address is used to send and receive funds. However, users can configure their Bitcoin wallets to generate a new address with each transaction to increase their privacy. Over time, users can hold Bitcoin at various addresses linked to a wallet.
The Bitcoin network distributes UTXOs to these addresses and when the user receives funds, they can create a new address. As a result, it is quite difficult for others to track a wallet's transaction history without accessing all of its addresses. If Bob makes a transaction with another user, he only sees the address generated for that transaction.
What are the pros and cons of the UTXO model?
While using various models for different networks, the tracking transactions were built with the Bitcoin protocol UTXO tracking capabilities. Here are the pros and cons of the model:
Pros of the UTXO model
Trustworthy
The UTXO model tracks ownership of Bitcoin by verifying that previous transactions sent funds to a specific wallet. After all, an entry carries the public wallet information of the user who sent it. Using the input and output scripts of a transaction, the network can trace the Bitcoin back to the mined wallet. This loophole in history is the double spending method.
Thoughtful
Transactions do not show the entire wallet balance. Users can configure a Bitcoin wallet to create new addresses with every transaction, making it even more difficult to track their total Bitcoin holdings.
Cons of the UTXO model,
Traceable
Since the Bitcoin blockchain is a public ledger of transactions, a wallet's transactions are very private. The UTXO security model ensures that transactions are spread across the network, while a dedicated user can track each transaction in a single wallet and see their spending habits. While this lack of UTXO pruning is not inherently threatening, some users spend privacy money to avoid it.
expensive
Sending any amount of Bitcoin will cost a transaction fee based on the amount sent. Higher amounts result in higher transaction fees. Additionally, if a user has multiple UTXOs across multiple wallet addresses, they will pay more fees due to the number of transactions that occur to create the entry.
bitcoin dust
Improper UTXO management can cause Bitcoin to gather dust. Bitcoin dust is a common byproduct of receiving many small Bitcoin transactions over time. Dust UTXOs increases the size of the Bitcoin blockchain.
Dust UTXOs can hinder network congestion, effective confirmation times, as miners prioritize transactions based on fee size. However, some wallets and exchanges offer tools to combine small UTXOs into larger ones, reducing their footprint on the blockchain.
