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Why do we need deterministic wallets?

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Written by   76
6 months ago

To maximize privacy, it is advised to use a different address for each transaction. This minimizes the risk, that someone can use a blockchain explorer and see the total amount in your wallet, in case you used a single address. So, over time the addresses increase and it becomes difficult to manage 100+ private keys. There is also another reason, that addresses grow over time. The way transactions are handled by the wallets.

How cryptocurrency transactions work

When we want to send funds to an address, it is unlikely to have the exact amount of cryptocurrency in one of our addresses, It is not possible to spend part of the coins, contained in an address. The wallet software creates two transactions. The first is the payment transaction and the second is “change”. To handle change, the software adds a new address in the wallet, and sends the “change” there. This is another source of new addresses, so the address number may grow fast, over time, more and more, as we use the wallet to send funds.

Deterministic wallets

To solve the problem of many private key handling, the developers created a new kind of wallet called Deterministic wallet. A deterministic wallet is deriving addresses from a single starting point known as a seed. The seed guarantees that, each iteration of a new address will create a new address calculated upon the base seed. This simplifies the private key handling, because only the seed is needed to create the same sequence of addresses. The seed is usually a 12 or 24 word Mnemonic phrase. When someone enters the seed on any deterministic wallet, the software starts generating addresses, and checks the blockchain, to see if the address is used. If there is a transaction, then the wallet creates the next, and so on. It stops, when the last generated address is not on the blockchain, and marks this, as the next address to use.

Modern wallets

Most modern wallets are deterministic, even those that can handle many cryptocurrencies. The seed is the same, and the wallet use different functions, to create addresses compatible with the coins they support. Without the functionality of the seed, it would be very difficult to handle and import a great number of private keys into any wallet software. To increase security, the wallet software stores the seed encrypted with a password. The wallet has functions to show the seed if the user needs to write down again the mnemonic phrase. Again, the seed must be kept as cash. If it is gone, goodbye cryptocoins.

Cryptocurrencies evolving

Since 2008, when Satoshi Nakamoto created the white paper for Bitcoin, there was an enormous development during the ten years passed, till now. Many problems come up and the developers propose and create solutions. We are at the beginning of the cryptocurrency era. More and more developments will come up, and we will see many fascinating solutions for our everyday transactions, Stay tuned!

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Written by   76
6 months ago
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Comments

Quite informative. Wallets are quite important in crypto ecosystem since you are the only owner of it and any mistake will be irreversable :)

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6 months ago

Wow this article is very informative! Thank you so much for sharing this because I learned a lot about it, I read it from top to bottom. From how cryptocurrency transactions work, Deterministic wallet, Modern wallets, cryptocurrency evolving it gives me an idea and I should try it now. Thank you so much again 😇

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6 months ago

I'm glad, that it helped you a lot.

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6 months ago

Yes it is, thanks for sponsoring me 😍

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6 months ago