What Is Bitcoin?

Move over gold and silver, bitcoin is money too.

More than $1 billion dollars worth of a digital currency known as "bitcoins" now circulate on the web.

There are three eras of currency: Commodity-based, Politically-based, and now, Math-based.
– Chris Dixon, Technology Investor

More specifically, Bitcoin is the first secure and non-inflationary money system the digital world has ever seen. This new computer generated money provides the best financial privacy one could possibly hope for because it is both autonomous (self-governing) and anonymous (like cash). Those two qualities that give bitcoin it’s value are 1) the privacy it affords the user, and 2) the limited supply, there will never be more that 21 million bitcoins.

Indeed, Germany has just recognized bitcoin as "private money."

Using Bitcoins is as simple as getting a Bitcoin address and telling people the address.
Any Bitcoins sent to that address are now yours—it is really as simple as sending a text message!

Bitcoin is a virtual currency. It is a string of 1s and 0s, much like a lot of what we interact with in this day and age. It’s something new. It’s unique. It’s controversial. The detractors say it’s only useful for terrorists or drug lords who want to move money around undetected, which no doubt they do. But much like the Internet is so much more than pornography, so is Bitcoin so much more than drug money. E-mail liberated the letter from the postage stamp, Skype liberated telephone calls from crippling AT&T long-distance rates, Facebook liberated photos from the dusty photo album sitting on your shelf unopened. You can think of Bitcoin as what will liberate financial transactions from the grip of the financial institutions and the state. -source

Here are a few notable articles on the subject:

Unlike traditional currency, bitcoins are not issued by a government or even a private company. Instead, the currency is run by computer code that distributes new bitcoins at a set rate to people who devote web servers to keep the code running.

A Brief History

There are lots of ways to make money: You can earn it, find it, counterfeit it, steal it. Or, if you’re Satoshi Nakamoto, you can invent it. That’s what he did on the evening of January 3, 2009, when he pressed a button on his keyboard and created a new currency called Bitcoin. It was all bit, and no coin. There was no paper, copper, or silver—just thirty-one thousand lines of code and an announcement on the Internet. Nakamoto wanted to create a currency immune to the predations of bankers and politicians. The currency was controlled entirely by software. Every ten minutes or so, coins would be distributed through a process that resembled a lottery. This way, the bitcoin software would release a total of twenty-one million bitcoins, most all of them over the next twenty years. Interest in Nakamoto’s invention built steadily. More and more people dedicated their computers to the lottery, and forty-four exchanges popped up, allowing anyone with bitcoins to trade them for dollars, euros, or other currencies. At first, a single bitcoin was valued at less than a penny. But merchants gradually began to accept bitcoin, and at the end of 2010 the value began to appreciate rapidly. By June of 2011, a bitcoin was worth more than twenty-nine dollars. Market gyrations followed, and by September the exchange rate had fallen to five dollars. Still, with more than seven million bitcoins in circulation, Nakamoto had created thirty-five million dollars of value. And yet Nakamoto was a cipher. There was no trace of any coder with that name before the début of bitcoin. He used an e-mail address and Web site that were untraceable. In 2009 and 2010, he wrote hundreds of posts in flawless English, invited other software developers to help him improve the code. Then, in April, 2011, he sent a note to a developer saying that he had “moved on to other things.” He has not been heard from since.
http://www.newyorker.com/reporting/2011/10/10/111010fa_fact_davis

Each bitcoin currently sells for more than $100 U.S. dollars — which bitcoin insiders say is because of world events that have shaken confidence in government-issued currencies. In Cyprus, the government is considering taking a percentage (upto 64) of all citizens’ bank accounts to solve its fiscal woes. That has led Cypriots — and other Europeans worried about the same thing happening to them — to take their money out of banks.

“The premise and promise of Bitcoin—the part that appeals to folks who don’t happen to be gold bugs, conspiracy theorists, or cryptography geeks (obviously they all love it)—is that the current plan is for only a finite number of Bitcoins to be created. This is in direct contrast to standard government-issued currencies, which governments can always print more of. If the supply of Bitcoins remains finite, this should theoretically eliminate inflation, which is one of the biggest drawbacks of paper money.” —source

But the biggest difference between bitcoin and other virtual currencies is that bitcoins are the only one which have speculative value. What’s more, because they’re not tied to a corporate parent, bitcoins appeal to the web’s anarcho-libertarians in the way that no other virtual currency can. Bitcoins hold exactly the same gleaming promise for techno-utopians as gold does for Glenn Beck. They’re a scarce resource, and there’s no government or corporation which can control that resource.

Bitcoins, like gold, are beholden to no government; they can’t be printed by any central bank, and they certainly won’t be subject to hyperinflation, since the global supply of bitcoins will never exceed 21 million. Like gold, bitcoins are mined; but unlike gold, no one can stumble over some large seam and make a fortune. Mining for bitcoins involves an enormous amount of computer power, and very little luck, and the global rate at which new bitcoins will be mined is both predetermined and slowing down. There were about 3 million coins outstanding at the beginning of 2010, there are about 11 million coins outstanding today, and we’ll get to 14 million in early 2014. Come 2021 or so, assuming bitcoins are still used then, the rate of growth of bitcoins will be so low that to a first approximation the money supply will be constant. This carries with it its own problems, as we’ll see. But there’s no risk that some central bank will print millions of new bitcoins, thereby diluting or inflating away the value of existing ones.

How does it work?

Technically it’s not bitcoins that trade hands since they never move. When you send a bitcoin you’re signing ownership of that static fixture to the recipient. Think of it as an entry in an accounting ledger, rather that one the ledger with limited access this is an open ledger shared on a peer-to-peer network. The nodes of this "ledger" network do the work of a bank and verify that the transactions are legitimate.

Bitcoin is a decentralized, open-source digital currency that will eventually have a fixed number of units: 21 million. That amount will not be reached until 2140, however. The currency releases 25 new Bitcoins per 10 minutes. That number will decline, being set to halve in 2017, and every following four years. At that rate of exponential decline, the number of new Bitcoins will slow to a veritable trickle long before the cap is reached.

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Who gets the Bitcoins that are released every 10 minutes? Miners. A miner is an individual or group of individuals who verify Bitcoin transactions. It’s a technical process, but in essence people who solve exceptionally difficult mathematical problems that allow for the transfer of Bitcoins between parties – and thus allowing the system to function at all – are rewarded for their efforts.

Now, if the number of Bitcoins that will be distributed via mining will decline, would that not provide a negative incentive for those actively mining? No; as the number of Bitcoins coming into the market declines, simple economic theory would stipulate that their price would rise. Assuming that usage of Bitcoin grows over time, the non-Bitcoin value of a Bitcoin should rise as the new supply of Bitcoins decreases.

In short, the value of Bitcoins will rise over time as the money supply is tightened. Thus, even though fewer Bitcoins will be given out in later stages of mining, they will be worth more per unit, thus making mining economically feasible for some time.

With Bitcoin you can buy goods and services, convert it to cash at the going rate and the like. You can also trade Bitcoin with other users. It’s a currency like any other, except that it’s digital only, as opposed to digital-as-well.

If you can mine Bitcoin, why not simply set all your computers to the task, and collect your profits, laughing all the way to the bank. You could try, but the math involved is hard, the number of miners active plenty, the cost of hardware and electricity upfront.

According to the paper “Bitter to Better — How to Make Bitcoin a Better Currency” by Simon Barber, Xavier Boyen, Elaine Shi, and Ersin Uzun, it can take up to 6 months for a purchased GPU used to “accelerate Bitcoin puzzle solution[s]” to pay for itself.

There are charts up online where you can look at various hardware setups, and calculate their mining efficiency.

Risk Vs Reward?

What are the risks of Bitcoin? The largest to the average user is its swings in value. As the total Bitcoin monetary base is worth north of $1 billion, but Bitcoin goes up, and it goes down. The markets fluctuate quite a bit; in the two months prior to writing this, the value of bitcoin increased from $30 to peak at $150. Get a rate update at these sites:

The price of a bitcoin can unpredictably increase or decrease over a short period of time due to its young economy, novel nature, and sometimes illiquid markets. Consequently, keeping your savings in bitcoin is not recommended. Bitcoin should be considered as a high risk asset, and you should never store money that you cannot afford to lose with Bitcoin. If you receive payments with Bitcoin, many service providers allow you to convert them instantly to your local currency.

“One of the more interesting elements of Bitcoin is its rise as a purely endogenous form of money. I often refer to bank money as endogenous in that it is created entirely INSIDE the private sector, but even bank money exists on a centralized system (the US payments system) that is regulated by US government law. But Bitcoin is completely decentralized and a purely endogenous form of money. So the decentralization creates a form of money that has grown entirely independent of government and its taxes. In other words, Bitcoin proves that money can exist ENTIRELY for the private purpose for the means of transaction. This not only shows that money can be entirely endogenous and independent of government, but that it can also grow entirely independent of government taxation.” —source

In reality, then, bitcoin doesn’t really behave like a currency at all. In terms of its market value, it looks much more like a highly-volatile commodity. That’s by design: bitcoins were created to be the most fungible commodity the world had ever seen – to the point at which they would effectively erase the distinction between a commodity and a currency.

Despite its growing size and interest, bitcoin remains mostly an enthusiasts tool. If you value privacy, and wish to have a way to transfer small amounts of money without government oversight, and the other party involved will accept Bitcoin, well you are in luck.

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The Real Value of Bitcoin

It's real value isn't what the market price is this week or next week, but rather the real value in the code itself. Historically, governments inevitably debased their own currencies to finance expensive foreign wars and/or a run away welfare state (in our case both).

Naturally, these governments force the people to only use the so-called “money” that they declare to be legal tender (…even if something else would work better). So we find that through out time, legal tender laws are always put in place where ever there is a fiat currency. Before bitcoin it was precious metal that provided the “anchoring” for fiat currencies and held inflation in check. Now the same principle of sound money that used gold and silver to chain down the mischief of governments is the fundamental operating principle employed in the bitcoin code.

Simply stated, bitcoin is electronic cash that is not subject to the false authority of government and therefore, like pure gold or silver, it will NEVER loose it’s value due to inflation. In short, Bitcoin is an alternative to the Federal Reserve System that may in fact change the world.


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