What is Bitcoin

The Bitcoin currency system is a decentralized electronic cash system developed in 2008 by Satoshi Nakamoto, an unidentified programmer. Bitcoins are generated using a process called mining where peer to peer networking, digital signatures and cryptography is used to generate currency. The Bitcoin, as a currency, can be traded and its value is determined through market pricing of goods and services. However, unlike other national currencies it does not have the backing of a nation and is not regulated in the traditional sense.

When compared to traditional definitions of types of money, Bitcoin can be classified as fiat money. To the extent that the term fiat is used to differentiate faith-based non-collateral-backed currency system from a collateral-backed currency system (i.e. commodity money), Bitcoin could be described as fiat money due to the fact that its value lies in the mutual interests of its users rather than a collateral pool.

How is Bitcoin created?

Mining, the process through which Bitcoins are generated, is based on a computer solving a complex mathematical problem where the result is a 64-digit number. Every time this mathematical algorithm is solved then the solver becomes owner of 25 Bitcoins, which is currently worth roughly $425USD. The network adjusts the difficulty of mining so that 25 Bitcoins are created roughly every 10 minutes. However, there is not an unlimited supply of Bitcoins. Much like for mining for precious metals, there is only a set number of Bitcoins that can be mined, 21 million Bitcoins to be exact. It’s been predicted that around the year 2140, the currency would reach its preordained limit of 21 million Bitcoins. This is an arbitrary cap. Once this cap is reached those parties contributing their computer power will be rewarded through transactional fees paid by users rather than through mining (like a credit card processing fee).

Although anyone can be a “Miner”, at the beginning the mines were primarily computer enthusiast. However, as the Bitcoin Currency System matures, enthusiasts will no longer have the computing power or resources to do the work required. The increasing difficulty of work and cost has essentially eliminated smaller Miners in favor of larger organizations (This is a similar outcome as it happened with the gold-mining system.). The Bitcoins mining process requires intense amounts of computational power, not to mention the accompanying electricity bills, which deliberately restricts the rate at which Bitcoins can be created. Users willing to devote CPU power to running a special piece of software would be called Miners and would form a network to maintain the block chain collectively. In the process, they would also generate new currency.

How is Bitcoin exchanged in the market?

Bitcoins (or fractions of Bitcoins known as satoshis) can be bought and sold in return for traditional currency on several exchanges such as Bitstamp, Bitfinex and BTC-e, all based in Europe, and can also be directly transferred across the internet from one user to another using appropriate software. While these web sites known as exchanges will let you trade Bitcoins for conventional currencies with other users, even more convenient are companies like Coinbase, which will withdraw cash from your bank account and convert it to Bitcoins at the current exchange rate. A few Bitcoin ATMs are popping up, which will directly trade paper money for Bitcoins as well. Each Bitcoin has a unique ID and can be transacted over the internet by any customer and vendor that accepts them. A public ledger known as a “block” records all transactions that occur with Bitcoin in order to ensure that transactions are authentic.

The economy based on Bitcoin is designed to be a self-stabilizing economy. The exchange allows people to buy and sell Bitcoins with each other. One of the largest exchanges at this point is Bitstamp, where one can purchase Bitcoins using local currency and store Bitcoins in digital wallets.

The debate around Bitcoin?

One of the main debates around Bitcoin is about the anonymity surrounding it (although recently Irish scholars specializing in network analysis demonstrated that Bitcoin wasn’t nearly as anonymous as many had assumed: they were able to identify the handles of a number of people who had donated Bitcoins to Wikileaks.). The anonymous nature of crptocurrency lends itself to illegal trade, tax evasion and investment fraud. For example, Dread Pirate Roberts, the owner of Silk Road, an online drug market, admitted that Bitcoin helped attract more illegal business. Second, Bitcoin is completely unregulated which is a source of concern for potential investors. Third, the digital nature of Bitcoin makes it easier for users to lose their accumulated Bitcoins if they accidently lose their computer or account in which it is stored.

In addition to the aforementioned concerns, the dramatic price rise has attracted people who saw Bitcoin as a commodity in which to speculate. As such, Bitcoin is being used more like a stock than a currency, which has made policy making with its regard more complex. Although no country has issued comprehensive rules governing the digital currency, the Internal Revenue Service (IRS) in the U.S. has declared the currency as an asset for tax purposes, which has had an effect on the volatility of the value of Bitcoins.

What is next for Bitcoin?

Bitcoin’s future is uncertain. While it presents a variety of opportunities that did not exit prior to its development, it has failed to convince investors concerned about its potential rate of adoption as an alternative currency. Concerns over such things as perceived value fluctuations, high variance in perceived function as a store of value, little option value to large holders of the currency, failure of major exchange centers, and tax treatments of Bitcoin have hampered the adoption of the currency more extensively.

On the other hand, Bitcoin-based ventures have been growing, such as the development of startups like Coinffeine, which aims to create a new way to exchange Bitcoins. Furthermore, the influence of Bitcoin is growing as organizations such as Wikileaks and Overstock.com have started accepting Bitcoin as cash. The influence of Bitcoin even extends to central banks issuing electronic currencies based on the philosophy of Bitcoin as epitomized by Canada’s mintchip. Mintchip in Canada is an electronic currency backed by the Canadian central bank.

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