What is a multi-signature wallet?

Multisig stands for multi-signature, and multi-signature is a specific type of digital signature that will allow more than two users to sign documents as a group. Therefore, multi-signatures are generated by combining multiple single signatures. Now that multi-signature technology has been applied to the world of cryptocurrencies, this principle actually existed long before the birth of Bitcoin.

Multi-signature technology in the context of cryptocurrencies was first used for Bitcoin addresses in 2012, and a year later this application gave rise to multi-signature wallets. Multi-signature addresses can be used in different contexts, but mostly in areas related to security issues. In this article we will discuss the use of this technology in cryptocurrency wallets.

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How does it work?

As a simple analogy, imagine a safe with two locks and two keys. One key is held by Alice and the other is held by Bob. The only way to open the safe is for both of them to provide the keys, and when there is only one of the keys, the safe cannot be opened.

This means that the multi-signature address where the funds are stored can only be accessed by using 2 or more multi-signatures. Therefore, the use of multi-signature wallets can create an additional layer of security for the user’s funds. But before going any further, let’s first look at the standard Bitcoin address because it relies on a single key, not multi-signature.

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Single key vs multi-signature

Typically, bitcoins are stored in standard single-key addresses, which means that anyone with the corresponding private key can access the funds. This also means that only one key is needed to sign transactions, and anyone in possession of the private key can transfer the tokens in the address without any authorization.

It is true that single-key addresses are more manageable than multi-signature addresses, but they also present a number of problems, especially in terms of security. With only a single key, funds are protected by a single point of failure, and this has led cybercriminals to continuously develop new phishing techniques to steal cryptocurrency users’ funds.

Also, single-key addresses are not the best option for businesses involved in cryptocurrencies. Imagine a large company storing funds in a standard address that only has a unique corresponding private key. This means that the private key is either delivered to only one person, or delegated to multiple people at the same time, but these two methods are obviously not the most secure and optimal way.

At this time, multi-signature wallets provide a solution to the above problems. Multi-signature is completely different from single-key, i.e. when funds are stored in a multi-signature address, the transfer of funds is only allowed if multiple signatures (generated by different private keys) are provided.

A multi-signature address can be programmed with the key combination it needs: the most common is two-thirds (2/3), which means that only 2 initial signatures are required to access funds in a 3-signature address. In fact, there are many other types, such as 2/2 (two-thirds), 3/3 (three-thirds), 3/4 (three-quarters), and so on.

This technology has many potential applications. Below are some common use cases for multi-signature crypto wallets.

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Increase security

By using a multi-signature wallet, users can avoid security issues caused by lost or stolen private keys. Therefore, even if the key of one of them is stolen, the funds will be safe.

Suppose Alice creates a 2/3 multi-signature wallet and then stores each private key in a different place or device (such as a mobile phone, laptop, or tablet). As a result, even if her mobile device were stolen, it would be impossible for a thief to use only 1 key to steal Alice’s funds. Likewise, phishing attacks and malware infections are unlikely to be successful, as hackers are only likely to break into a single device or steal a single key.

Malicious attacks aside, if Alice loses one private key, she can still use the other two keys to access her funds.

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Two-factor authentication

By creating a dual-key multi-signature wallet, Alice can establish a two-factor authentication mechanism for her funds. For example, Alice could store one of her private keys on her laptop and the other on her mobile device (or even a piece of paper). This ensures that a transaction of funds is only possible if someone has access to both keys at the same time.

However, keep in mind that using multi-signature techniques for 2FA can also be risky (especially 2/2 multi-signature addresses). Because, if when one of the keys is lost, you will lose access to the funds. So it’s safer to use a 2/3 setting, or use a third-party 2FA (two-factor authentication) service with a backup code. For exchange trading accounts, Google Authenticator is highly recommended.

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Escrow transaction

Creating a 2/3 multi-signature wallet can allow third-party escrow transactions between the two parties (Alice and Bob), and there is also a third party (Charlie) between the two parties as the arbiter of mutual trust to prevent a crisis of trust.

In this case, Alice first needs to deposit funds in the wallet, after which the funds are locked and cannot be accessed by any user alone. Then, if Bob provides the corresponding product or service as agreed, the two of them can use their keys to sign and complete the transaction.

Charlie, the arbiter, only needs to step in when there is a disagreement. At that point, Charlie will use his key to create a signature and give this signature to the correct party (Alice or Bob) based on his ruling.

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Decision making

A company board can use a multi-signature wallet to control the company’s funds. For example, the board sets up a 4/6 multi-signature wallet, after which each board member will have to hold a key. Then in the end any individual board member cannot misuse the funds, as access to the funds can only be performed with the consent of a majority of the board members.

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Disadvantage of multi-signature wallet

While multi-signature wallets can provide solutions to a range of problems, there are some risks and limitations involved. Because the necessary technical foundation is required when creating a multi-signature wallet, especially when you don’t want to rely on third-party providers.

Also, since both blockchain and multi-signature addresses are relatively new technologies, it may be difficult to find applicable laws to resolve issues if they arise. Funds deposited in shared wallets (with multiple key holders) have difficulty finding a legitimate custodian.

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Conclusion

Despite its shortcomings, multisig has many satisfying practical applications that make Bitcoin and other cryptocurrencies more useful in commerce. Since it requires multiple signatures to complete the transfer of funds, multi-signature wallets provide higher security and allow third-party escrow transactions of mutually untrusting parties. Such advantages may make this technology more widely used in the future application.

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