Explainer: Bitcoin goes through major upgrade. Here is what it means

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A rep­re­sen­ta­tion of the vir­tu­al cryp­tocur­ren­cy Bit­coin is seen in this pic­ture illus­tra­tion tak­en Octo­ber 19, 2021. REUTERS/Edgar Su/File Photo/File Photo

NEW YORK, Nov 15 (Reuters) — Bit­coin went through a major upgrade on Sun­day that enables its blockchain to exe­cute more com­plex trans­ac­tions, poten­tial­ly widen­ing the vir­tu­al cur­ren­cy’s use cas­es and mak­ing it a lit­tle more com­pet­i­tive with Ethereum for pro­cess­ing smart contracts.

Smart con­tracts are self-exe­cut­ing trans­ac­tions whose results depend on pre-pro­grammed inputs.

The enhance­ment, called Tap­root, is the most sig­nif­i­cant change to the bit­coin pro­to­col since the Seg­Wit (Seg­re­gat­ed Wit­ness) block capac­i­ty change in 2017. Seg­Wit effec­tive­ly increased the amount of trans­ac­tions that could fit into a block by pulling data on sig­na­tures from bit­coin transactions.

Noelle Ache­son, head of mar­ket insights at Gen­e­sis, a dig­i­tal cur­ren­cy prime bro­ker, said bit­coin’s poten­tial appli­ca­tions have become broad­er with Taproot.

“More flex­i­ble trans­ac­tion types and low­er costs are like­ly to sup­port more devel­op­ment of DeFi (decen­tral­ized finance) and NFTs (non-fun­gi­ble tokens) on bit­coin, and could set the stage for a wave of tech­no­log­i­cal progress on the orig­i­nal cryp­to net­work,” she added.

The run-up to Tap­root’s acti­va­tion has spurred, in part, a ral­ly in bit­coin, push­ing it to an all-time high of $69,000 on Novem­ber 10. Over the last two months, bit­coin has surged about 47%.

WHAT IS TAPROOT?

The Tap­root upgrade con­sists of three sep­a­rate upgrade pro­pos­als. How­ev­er, at its core, the upgrade intro­duces a new dig­i­tal sig­na­ture scheme called “Schnorr” that will help bit­coin trans­ac­tions become more effi­cient and more pri­vate. Schnorr can also be lever­aged to let bit­coin users exe­cute more com­plex smart contracts.

WHEN WAS TAPROOT OFFICIALLY ACTIVATED?

Tap­root was offi­cial­ly acti­vat­ed on Sun­day on block 709,632. Blockchains set­tle trans­ac­tions in batch­es or blocks. Each block can con­tain only a cer­tain num­ber of transactions.

Dis­cus­sions on this par­tic­u­lar upgrade began as ear­ly as 2016, mar­ket par­tic­i­pants said. The Tap­root upgrade has been includ­ed in the bit­coin soft­ware since September.

WHAT IS ITS IMPACT ON BITCOIN?

The biggest impact would be the bit­coin net­work’s abil­i­ty to process more smart con­tracts, sim­i­lar to what Ethereum does.

Kather­ine Dowl­ing, gen­er­al coun­sel & chief com­pli­ance offi­cer at dig­i­tal asset invest­ment firm Bit­wise, said bit­coin has his­tor­i­cal­ly been much more lim­it­ed in pro­cess­ing smart con­tracts com­pared with Ethereum.

“But, while bit­coin like­ly won’t ever be as flex­i­ble as Ethereum from a smart-con­tract stand­point, with Tap­root that gap will now nar­row. And that means we’ll like­ly see an increase in day-to-day appli­ca­tions for bit­coin,” she added.

WHAT ARE THE OTHER ENHANCEMENTS?

Tap­root increas­es pri­va­cy by obscur­ing what type of trans­ac­tion is being exe­cut­ed. The Schnorr sig­na­tures can make more com­plex trans­ac­tions on the bit­coin pro­to­col, such as those from wal­lets that require mul­ti­ple sig­na­tures, look like just any oth­er trans­ac­tion. This makes trans­ac­tions more pri­vate and more secure.

Bit­coin trans­ac­tions will also become more data-effi­cient, opti­miz­ing block capac­i­ty and lead­ing to low­er trans­ac­tion fees, said Gen­e­sis’ Acheson.

WHAT DOES TAPROOT MEAN FOR INVESTORS?

Bit­wise’s Dowl­ing said these large scale upgrades have paved the way for the next phase of inno­va­tion in the bit­coin net­work. She not­ed that the last major upgrade in 2017 helped launch the Light­ning Net­work, which facil­i­tat­ed much faster and cheap­er bit­coin pay­ments than before.

She expects Tap­root to lead to sim­i­lar wave of inno­va­tion in bit­coin cen­tered around smart contracts.

Report­ing by Gertrude Chavez-Drey­fuss; Edit­ing by Alden Bent­ley and Chizu Nomiyama

Our Stan­dards: The Thom­son Reuters Trust Principles.

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