Blockchain Transaction Fee: What It Is and How It Works

    How to Calculate Bitcoin Transaction Fees

    A transaction fee is generally defined as a charge that a company has to pay when it processes a customer’s electronic payment. The cost of the transaction fees varies from  business to business, depending on given services.

    Talking about transaction fees in connection to blockchain networks, we need to mention that they have the purpose of rewarding miners or validators whose job is to confirm transactions and help protect the network from spammers. Note that transaction fees can be large or small, but their size depends on what a specific network does. The cost of your transaction fees is also influenced by market forces. Usually, blockchains strive to occupy the middle ground, since high fees may prevent a blockchain’s adoption by a multitude; low fees may bring security concerns.  

    Why to Pay Transaction Fees When Dealing with Cryptocurrencies?

    If you possess any digital money, you have undoubtedly dealt with transaction fees. Most likely, you were asked to pay them when you were sending, depositing, or withdrawing your cryptocurrencies. Indeed, from the time when Bitcoin was founded in 2009, transaction fees were a part of the game. No blockchain system exists without transaction fees.  

    Cryptocurrencies require transaction fees for two reasons. First and foremost, transaction fees fight spam on the network, reducing its ferocity. With their help, implementing large-scale spam attacks becomes expensive. Cryptocurrencies also use transaction fees to motivate users to help verify and validate transactions.  

    Because costly transaction fees would drive people away from the blockchain, most fees are affordable. Yet they indeed may become expensive sometimes, depending on network traffic. Although users are not interested in paying large fees, they should not strive to pay excessively low fees either. The problem is that the amount users choose to pay as their transaction fees determines how quickly their transaction will be added to the next block. The more they pay, the quicker is the confirmation process.

    Bitcoin Transaction Fees

    Bitcoin is the first cryptocurrency invented in 2009. Its transaction fees have long become the standard adopted by other cryptocurrencies. The idea behind the decision to charge transaction fees for Bitcoin was the protection of the network from spam attacks. Transaction fees were also designed to inspire users to behave decently.

    Bitcoin miners, that is, people who verify Bitcoin transactions and record them in the public blockchain ledger, receive transaction fees for confirming transactions to a new block. There is a pool of unconfirmed transactions, called the memory pool, or mempool, for short, from which miners choose transactions for confirmations. When choosing transactions, miners understandably give priority to transactions with higher fees paid by users to send their Bitcoins to another wallet.

    Transaction fees are an effective weapon against spammers. When spammers want to slow down the network, they are required to pay fees for every transaction. Although they want to pay the lowest amount possible, they cannot do this, because they know that miners will not validate their transactions. But they cannot pay high fees either, since they avoid investing money in transactions. Many malicious actors are thus discouraged from interfering with the network by the necessity to pay transaction fees. Without transaction fees, there would be much damage done to Bitcoin blockchains and the cryptocurrency’s prices. 

    How Are Bitcoin Transaction Fees Calculated?

    People believe that Bitcoin fees are calculated according to the amount they send. This is wrong. Bitcoin fees depend on the transaction size in bytes. Suppose you are making a transaction in 500 bytes. We know that an average transaction fee is now at 80 satoshis per one byte, with satoshi being the smallest unit of a bitcoin. This means that you need to pay 40,000 satoshis to get your transaction noticed by miners, approved, and added to the next block.

    Note also that you need to factor in the intensity of traffic. In the time of thickened network traffic and increased demand for Bitcoin transactions, the transaction fee jumps, because Bitcoin users want to receive quick confirmation and raise prices. Take this phenomenon into account, especially in the time of increased volatility at financial markets. In such situations, also avoid using Bitcoins to pay for insignificant, inexpensive items. If a fee on the transaction of your Bitcoins is high, paying with Bitcoins in Starbucks would be wasteful.

    Also remember that only a certain number of transactions can be included within a block. A block’s size is 1MB, which is its limit. Although miners add blocks to the blockchain as quickly as possible, their speed is still restricted. There is always a limit to how fast they can go.

    Scalability is crucial, too, for understanding how Bitcoin transactions are calculated. Generally speaking, scalability is a system’s ability to grow so that it can accommodate increasing demand. In computers, users upgrade their software so that it performs faster. With regard to cryptocurrencies, scalability means growing blockchains’ capacity so that they handle more transactions. Scalability may drastically influence network fees, and blockchain developers address the issue by constantly updating the network.  Researchers and developers constantly work on improvements, introducing different supports to blockchains in the hope of making the transactions of cryptocurrencies more efficient.

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