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I heard that in the future Bitcoin has the ability to track physical assets.

Can someone explain how this would be done? (generally speaking)

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Any assets can be represented on the blockchain using marked or colored coins. Therefore it's also possible to transfer the ownership of any asset using colored coins. Since the blockchain is public, assets being represented on the blockchain can also be tracked.

Colored or marked coins are basically bitcoins representing -other than their face value- ownership or access right to some other asset assigned to them by the original owner.

Very simple example: I'm a gold merchant and I'm announcing that I just transferred 0.0001 btc from my address A to address B and that transfer also represents 1kg of gold at my merchant store. Whoever B sends that 0.0001 btc to can transfer it back to me and claim ownership of 1kg of gold.

Now everyone can trade that 1kg of gold using the blockchain. I can track which address owns it. The owner can trade it with other assets as well.

It actually does not need to be the same amount. It works using inputs and outpus of bitcoin transactions.

It's pretty cool stuff but the Bitcoin protocol might not be able to carry the extra load this type of transactions can bring.

Here is a paper discussing the idea: https://docs.google.com/document/d/1AnkP_cVZTCMLIzw4DvsW6M8Q2JC0lIzrTLuoWu2z1BE/edit#

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