How exactly would anyone know from where I got a given "bit of Bitcoin", or who I send it to?

Question

Let's say I buy 0.1 BTC using Bisq. Okay, so the person I bought it from will know my name since I have to give it up to make the international bank transaction. And I will know their name because that's how Bisq works and apparently has to work. Alright.

Us two strangers know each others' identities.

So, does this mean that the person I bought the 0.1 BTC from now can track exactly how I spend it? How? Isn't the truth that, at best, they can see when I spend it (if ever) and which "receive address" received it? Which tells them exactly nothing whatsoever?

Ever since I first heard about Bitcoin, over a decade ago, I've been trying to get clear answers on the most fundamental questions, but never receive anything but assumptions/guesses or such technical and in-depth explanations that they might as well be made up and I couldn't tell the difference between that and the truth.

The most common "explanation" is to vaguely state that "it's completely trackable and 100% non-anonymous", but that seems to be utter nonsense to me. It actually seems to be very anonymous. The person I bought the 0.1 BTC from cannot possibly know if I'm selling it, paying for something, or just moving it to another wallet of mine. They have no clue. It's just a gibberish string of computer-generated characters -- not a full name and address and photo id in a neat little digital package.

I seriously believe that only a handful of people in the world truly understand how Bitcoin works on any deeper level, and that all the others are just pretending in order to not be seen as "stupid". Like the old tale of the naked emperor.

Answer 1

All Bitcoin transactions are public information, and each transaction is uniquely identifiable via its txid. Each piece of bitcoin (called a transaction output) is uniquely identifiable as well by means of the transaction that created it, and the index of the output on the transaction. This makes the "outpoint" txid:vout the unique identifier of a UTXO.

So, what your trading partner learns is your name via the bank transfer, the address you gave them, and the transaction output they created for you. That alone is not very informative as you noted, but it can become useful in combination with large swaths of other information. For example, if multiple of your counterparties on Bisq collected the names of whom they trade with, they could cluster your addresses and unspents to the same name. They can also track your on-chain activity: when you spend the funds, they will assume that any other funds used in the same transaction are also owned by you, clustering the other addresses to you. When you send to a recipient and receive the remaining funds back as a change output, they may be able to guess which of the two outputs went to a recipient and which went back to you. In that case, they will be able to probabilistically associate your next payment to you as well. They may have information on the address that you sent to, because you paid into a KYC'ed entity like a payment provider or Bitcoin exchange. In that case, they learn more about the purpose of your payment, or potentially could even look up other account activity if you deposited into an account.

So, basically your bitcoin activity is generally private, in that no personally identifiable information is directly collected in the bitcoin network, yet it is also inherently pseudonymously associated with you which reduces your anonymity set depending on how traceable your activity is. However, since the blockchain is a permanent record, anyone sufficiently motivated and well-connected may be able to fill in the transaction graph to trace back step by step to you.

If you want to read more about privacy in Bitcoin, I would recommend this excellent treatise on the Bitcoin wiki: Privacy

Answer 2

does this mean that the person I bought the 0.1 BTC from now can track exactly how I spend it?

Lets imagine a scenario with three parties: Me, You and the chocolate factory. If I sell you 0.001 BTC, can I tell if you spend it on chocolate?

It's the early days of Bitcoin and I also like chocolate.

I use my wallet and send 0.001 BTC from my address III to the address CCC of the chocolate factory. The chocolate factory send me chocolate. The Blockchain records:

    III ----0.001----> CCC 

Later you send me a bunch of $10 bills (banknotes) and I send you an equivalent amount of Bitcoin to your address YYY. The blockchain now contains:

    III ----0.001----> CCC 
    III ----0.010----> YYY

Later still you buy chocolate. The blockchain now contains:

    III ----0.001----> CCC 
    III ----0.010----> YYY
    YYY ----0.002----> CCC

I deduce that you have a secret passion for chocolate.

Nowadays most people use a separate address for each transaction to preserve privacy. But the transaction data is all public and there are businesses that specialize in blockchain analysis looking for patterns of usage that reveal how money is being used.

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It's just a gibberish string of computer-generated characters

Some reading you might find interesting:

• The Hut Six Story, Gordon Welchman, 0-947712-34-8
• Station X, Michael Smith, 0-7522-7148-2
• Codebreakers, F.H.Hinsley and Alan Stripp, 0-19-285304-X
• Enigma, Hugh Sebag-Montefiore, 0-75381-130-8
• Enigma and its Achilles Heel, Hugh Skillen, 0-9515190-1-8

These are all about exploiting poor habits of usage and implementation weaknesses into surprising ways of turning gibberish into information with life and death consequences.