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The Matrix is a massive simulated virtual reality construct of the world as it was around the turn of the 20th and 21st centuries, created by artificial intelligences to keep the minds of the human race under control while they serve as organic power sources. The Matrix digital code The Matrix exists as a neuro-interactive simulation for the synthetically-grown humans, in the real world, as their bodies serve as the main power source for the Machines. The simulation works as an interface in which information is directly fed to the human brain where the environment the Matrix creates a person's sensory perception resulting into a flawless illusion indistinguishable from reality for those connected to it. The population of humans connected to the Matrix supposedly matches the estimated population as it were in reality (estimated to be somewhere between 7 to 8 billion) and is integral to its operation as their minds are what essentially house and power the simulation. They live out their entire lives in this virtual reality as they would have around the late 20th and early 21st centuries.
Some speculate that the "Real World", where in Humans live underground and occassionaly surface to battle the inhabitants of the Machine world, is itself merely a top-level Matrix. Fearing a worldwide machine rebellion, leaders around the world ordered the destruction of all humanoid A.I. Scenes shown in the Animatrix show similar fates to the machines that mankind has suffered in history such as the Tiananmen Square massacre and the Holocaust. The machine-made products of 01 were superior in quantity and quality to all man-made products, and as a result the currency of 01 rose while that of the human nations crashed.
After careful deliberation, the UN and all of mankind decided to declare war on 01, a move that would lead to a war greater than any other in history.
The UN high-altitude bombers unleashed a massive nuclear barrage on 01, but the machines were barely affected by the heat and radiation. The machine troops advanced throughout the Middle East, conquering human territories with ease. At a worldwide summit, UN military leaders offered a final solution - the destruction of the sky. The destruction of the sky, codenamed Operation Dark Storm, was set into motion around 2105. Armies in mechanized battle armor, supported by EMP artillery, launched a final attack against the machines. The UN Security Council called for an emergency summit to sign an armistice to end the war.
Though the machines were victorious, their win was a pyrrhic victory, as the world was in ruins.
The first Matrixes were built to keep humans under control so that they could be used as an energy source for the machines. The machine responsible for creating and managing the Matrix; The Architect, who had previously failed at creating a perfect world for the humans to live in not once, but twice now, had finally come up with the solution to his failures. In order to keep the people of Zion under further control, the two programs created the concept of "The One". The survivors would be told of the prophecy of The One, but would not be allowed to know of the renewal of the Matrix.
The One cycle was put into effect, and the machines were able to maintain their control over humanity through five cycles and five versions of The One. The sixth version of The One was a man with the Bluepill name of Thomas Anderson (which, by way of folk etymology, means "the son of man"). Meanwhile, Smith, a rogue Agent corrupted and strengthened by a previous encounter with Neo, was spreading throughout the Matrix like a virus, becoming a threat to both machines and humans. They knew they could no longer control or terminate the renegade viral Smith, who had grown much too powerful, and was known to have become obsessed with his desire to be "free" of a world and existence polluted by the "stench" of humanity.
It should be noted, however, that the Machines may not be completely dependent on humanity as batteries in order to survive, as when the Architect gives the threat of Zion being inevitably destroyed to Neo, and combined with the Matrix's failure should Neo not comply, would mean the total extinction of humanity, Neo points out that if humanity is destroyed, the Machines would die off as well.
The green text code that represents the matrix is a code that if added together equals the sum of 1005897466834048601, which when translated through certain computing software reads 'Peter Goudanis' in English; named after American assistant-writer Peter Goudanis who helped design the interface.
Because of the presence of people, or Avatar, within the matrix that resist the machine on a subconcious level. Anyone who rejects and is unplugged from the Matrix potentially creates an algorithmic anomaly within the construct code that could threaten the Matrix by causing a major system crash killing everyone connected inside.
That specific time period was chosen by the machines because it was supposedly the pinnacle of human civilization. Because every human is not necessarily "born" but instead "fused" into existence (within the Matrix pods), and all humans able to "jack in" do contain Machine parts within them (which allow them to interface with the Matrix in the first place), it is possible that Neo is an inevitable defective unit.
However, most redpill activity merely covers approximately a vast swath of landscape, some 1000 miles in diameter from the Downtown center of the Mega City at the center to remote terrain such as "The Mountains" surrounding it. When threatened with deactivation, B1-66ER killed his wealthy owner and the mechanic ordered to deactivate him. Despite the combined efforts of all humanity, the machines pushed deeper and deeper into human territory. The UN command desperately launched more nuclear missiles, destroying many of their own troops along with the machines.
01 sent an ambassador for the second time, who signed the treaty and told the defeated humans to surrender their bodies. In need of a new energy source, the machines turned to something that was readily available; the humans. With the help of the Oracle, as stated above, they discovered that if all the humans were given a choice to reject the Matrix, even though it was at an almost subconscious level, 99% of the humans would flourish inside. The Oracle would tell the Rebels about the prophecy of The One, saying that he would free humanity. They would be told that they were the first to be "unplugged", and that the year was somewhere around 2200.
The One struck a deal with the machines — in the form of an entity known as Deus ex Machina — to destroy Smith in return for peace.
In order to save the Matrix, the machines knew Neo was their only option (because of the specific reset program he carries.) Neo and Smith battled, but eventually Neo submitted and allowed Smith to imprint over him, causing Neo to die. The Architect then replies with "There are levels of survival we are prepared to accept," implying that while the extinction of humanity would be a setback, the machines aren't completely dependent upon humanity altogether.
Even if the Real World is not literally a virtual reality, it could still be considered a subset of the Matrix as it functioned entirely under the Machines' control until Neo met the Architect.
Being able to perform his abilities outside the Matrix could be attributed to defective parts integrated into his body (i.e. Two machine ambassadors from 01 entered the UN to plead for peace, but were refused as they were laughed at and taken away.
Fearing that mankind would be defeated, the human leaders came up with increasingly desperate solutions. 01 then used a biological weapon on their enemies, a flesh-eating plague that caused great misery to the human population. Then the machine ambassador detonated a nuclear bomb, killing all the human world leaders and destroying most of New York City. The machines took the injured humans and studied them (probing their brains, etc.) Using the energy from human bodies, combined with a form of fusion, the machines would have all the power they would ever need. Every sense was being blinded by the Matrix and the memories of their former lives were presumably erased. However, the remaining one percent of the population, if left unchecked, could cause a threat to the stability of the Matrix.
In reality, the year would be closer to 2700, if each cycle of the Matrix lasted around 100 years, and there being five cycles revealed in the movie. He was the only version of the One to reject the Architect's deal of restarting the Matrix. After mocking the One by saying they didn't need his help, the machines reluctantly accepted this proposal. Once dead the machines were able to retrieve the reset program he held sending a surge throughout the matrix destroying Smith in the process.
But one setback the humans did not predict was that their long-range weaponry (which was originally made by the machines) would not function due to the black clouds. To counter this, the Architect would allow seven males and sixteen females to leave the Matrix, and settle into the last human city in the real world, Zion. Towards the end of his journey, just before the Matrix would crash, The One would end up meeting the Architect, and would be told the truth about the so called prophecy and his next task. With all their intercontinental weapons neutralized, the humans were forced into infantry combat. Many humans would then live their normal lives, with very few ever realizing that they were in fact, not living any real life at all. Otherwise, the unwilling people left inside could crash the Matrix, thus killing everyone connected to it.
Neo however, had an even larger sense of compassion to a certain individual, to the woman he loved; Trinity. As the machines were abused by their human masters, the relationship between them began to change. But as Agent Smith said; "Human beings define their existence through suffering and misery".
When Neo was proposed the restarting idea, he declined the rational answer given by all his predecessors, and opted to save the woman he loved from an attack by an Agent. As a result, the first Matrix was a monumental failure, with "entire crops" of humans rejecting the program.

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