Bitcoin Basics - Magic Money, The Bitcoin Revolution
Read This If You Want To Master Bitcoin Basics!
What is Bitcoin?
Bitcoin is the first iteration of a Decentralized Digital Cryptocurrency that was created on a Blockchain. It was invented by the anonymous entity Satoshi Nakamoto who released the Bitcoin Whitepaper and the first version of the working software in 2009. In the beginning, only a small network of computer science enthusiasts installed and ran the software. The network has since expanded into a multi-billion dollar economy with millions of users worldwide.
Bitcoin is not issued by a central bank, government, or company, its issuance and circulation occur on a Decentralized Ledger which is maintained by a dedicated network of Bitcoin users who run and maintain the open-source Bitcoin software.
The protocol incentivizes a certain group of capable bitcoin users to build out and secure the infrastructure that is needed for the network’s operation. These users are known as miners and they are rewarded by being allowed to mint and keep a set number of Bitcoin for their efforts. Each such ‘reward’ is included as the first transaction in each block on the Bitcoin Blockchain, which the miners subsequently use to continue investing in the growth of the Bitcoin infrastructure. This incentive mechanism assures the continual growth and investment in the maintenance and security of the Bitcoin network. This block reward is also how each Bitcoin comes into existence.
Its issuance rate and final Total Supply of 21 million Bitcoins is algorithmically set in the protocol and cannot be altered. This feature alone differentiates it from the minting of government-issued currencies that are subject to the whims of policymakers that are in power at any given time.
Who is Satoshi Nakamoto?
Satoshi Nakamoto went to great lengths to remain anonymous and very few clues exist about the identity of Bitcoin’s inventor. After the initial release of the Whitepaper and Bitcoin software, Satoshi remained involved to some degree in the early development of the software that the network operates on. The Bitcoin Whitepaper, titled “Bitcoin: A Peer-to-Peer Electronic Cash System” first appeared in October 2008 and the first version of the Bitcoin code was released on January the 9th, 2009 which was used to mine the first block on the Bitcoin Blockchain. The first block, also known as the Genesis Block included a cryptic timestamp message famously quoted that day’s headline in The Times newspaper, reading “The Times 03/Jan/2009 Chancellor on the brink of a second bailout for the banks.”
Satoshi remained in communication with other early Bitcoin software developers for a couple of years, mainly by posting on the Bitcoin mailing list. Bitcoin’s early development mainly happened in obscurity and Satoshi ceased communication with the outside world once Bitcoin started gathering more widespread mainstream attention. Before disappearing, Satoshi handed over control of the Bitcoin’s source code repository to Gavin Andresen, a leading source code contributor at the time.
To this day it is unclear if Satoshi Nakamoto was an individual or a group of people acting under a pseudonym. What is known is that Satoshi mined a lot of the initial blocks.
Who Controls Bitcoin?
The nature of a decentralized network is that it is not controlled by any one particular entity. This makes it highly resistant to being captured and controlled by any government, corporation or even extremely well-coordinated collusion of powerful interests. The reason for this is that the network’s power is distributed to the edges of the network instead of it’s center.
This effectively means that Bitcoin is controlled by it’s users, that is, those that own, run, maintain, develop and use Bitcoin and it’s vast network of computing power which is widely distributed across multiple jurisdictions and in all regions of the world.
Any would-be attacker would need to overpower the majority of the computing resources of the network to establish any control over the network. Even if they managed to compromise the network’s security, the network of users would be able to recognize any attempts at takeover and could change the software they run to simply reroute around the would-be attackers in order to protect their investment.
How To Make Bitcoin Transactions?
To make a bitcoin transaction, you need software that is capable of sending and receiving Bitcoins, also known as a Wallet. You can operate a wallet on a computer, laptop, tablet, or smartphone by installing software or a browser extension, you can install one of several mobile app wallets, you could use a hardware wallet device that is capable of running the required software, or you could even sign up with a company that allows you to operate a wallet on their servers. Although there are different types of wallets that vary widely in terms of their security features, ease of use, they all perform similar functions in terms of allowing you to send, receive and store Bitcoins.
There Are 5 Main Wallets The We Recommend For Beginners:
- Luno.com – Create a free Bitcoin wallet, use the following code to get a discount when doing transactions – Y9UKZ
- Valr.com – Be borderless Buy and sell cryptocurrencies. Trade South Africa’s largest selection of cryptocurrencies.
- Paxful.com – Paxful allows you to buy Bitcoin very fast from anywhere in the world using Bank Transfer, FNB E-Wallet, Cash Deposit, PayPal, Perfect Money, Alipay, Steam Wallet Gift Card, Amazon Gift Card, iTunes Gift Card, Google Play Gift Card, eBay Gift Card, and MyVanilla Prepaid Card.
- CoinBase.com – Create a free Bitcoin wallet, Coinabse is the world’s most popular way to buy and sell Bitcoin and Ethereum.
- LocalBitcoins.com – Create a free Bitcoin wallet, buy and sell Bitcoins.
- Blockchain.com – Create a free Bitcoin wallet, view live Bitcoin transactions.
To receive Bitcoin from someone that wants to send you some, you generate a receiving address in your wallet. The address will be a text string of randomly generated numbers and characters from the alphabet. Most wallets also generate a corresponding QR code. You then make this receiving address available to the sender, either by supplying them the text string address or the QR code.
The sender will create a transaction using your bitcoin address and their software will broadcast the transaction to the Bitcoin network. To complete the transaction, the sender needs to send you your requested amount of bitcoin along with a small transaction fee that is paid to the miner who enters this transaction into the Blockchain. Once a miner becomes aware of the transaction, they can add it together with other pending transactions into the next block in the Bitcoin Blockchain. Once the transaction is entered into the Blockchain, your wallet software will notify you of the receipt of funds. A new block is generated on the Blockchain every 10-minutes on average.
A bitcoin transaction can be from one party to another, one party to multiple parties, multiple parties to one party, and multiple parties to multiple parties. Certain bitcoin transactions can be executed in such a way where they need multiple signatures to sign off on the transaction, these are known as multisig transactions.
Is Bitcoin Really Being Used?
The short answer is Yes and it’s usage is growing. As more people become increasingly aware of Bitcoins use cases, more people are adopting it and using it for transactions. Even though bitcoin is being used by a small percentage of the population, there are now hundreds of thousands of Bitcoin transactions occurring every day. According to BitInfoCharts, the average Bitcoin transaction is upwards of $20,000USD at the time of publication.
Bitcoin is increasingly used for international remittance payment from migrant workers to their families in their country of origin and is increasingly being used for fast transnational cross-border payments. In countries where the local economy is faltering and the national currency is devaluing, Bitcoin is increasingly being looked at for its ability to store value. Bitcoin also attracts a lot of speculative investment due to its price volatility.
Mining For Bitcoins
When people first learn about Bitcoin and how it comes into circulation, they got keen to mine some bitcoins for themselves. In the early days, when it was still possible to run the mining software on a laptop, early adopters managed to mine Bitcoins using spare computing resources. At the time they were doing it mainly for fun and to be part of the then new and experimental technology – after all, it wasn’t worth all that much, one of the earliest bitcoin transactions cost 10,000 Bitcoin for a Pizza!
As Bitcoin grew in popularity and it’s value increased, miners started competing more seriously. It began with dedicating more resources to their mining efforts. Dedicated computing resources such as dedicated computers with multiple graphics cards and high bandwidth internet connections replaced ‘spre resources’. It wasn’t long before silicon chip manufacturers made Bitcoin-specific chips which outperformed graphics cards. Owning one of these ASIC chips is now an entry level requirement to gain a share of a pool of miners, who compete with data-center scale mining operations running thousands of these ASIC machines while being powered by direct feeds to hydroelectric dams for electricity.
So although Bitcoin mining is still a valid pursuit, it is now one of the most highly competitive ventures in the world, a far cry from the early laptop mining days.
Other Ways to Collect Bitcoins
- Earn Bitcoins from Mining – Bitcoin mining is the process by which new Bitcoins are generated. When you perform mining, your computer adds new Bitcoin transactions to the block chain.
- You can Buy and Hold Bitcoins – When the value of Bitcoin goes up, the value of your Bitcoins you hold in your Bitcoin Wallet will also grow, if the value of Bitcoin goes down, the value of your Bitcoins held in your Bitcoin Wallet will also go down.
- You can accept Bitcoins as a Form of Payment for goods and/or services you rendered – In our opinion, the best and easiest way to earn Bitcoins is to accept them as a means of payment. If you have a small business, the integration is done quickly and easily.
- Earn Bitcoins through Trading – One of the ways to earn Bitcoins from trading is simple speculation. In this case you would buy Bitcoins, wait until the price increases, then sell for a fiat currency. When the price drops again, you buy more Bitcoins and start all over.
- Earn Bitcoins as a Regular Income – There aren’t many organizations who would pay you in Bitcoins but there are some at least.
- Earn Bitcoins by Getting Tipped – When you earn Bitcoins through tips, it is much like accepting Bitcoin as a means of payment. You need a Bitcoin Wallet, a QR-code with your Bitcoin address on it and the people who can potentially give you a tip need to be aware of it.
Is Making Bitcoin Payments Difficult?
New users are often surprised at how easy it is to conduct a Bitcoin payment. Whether it is to pay someone directly into their wallet or for making a Cryptocurrency payment on a website for a product or a service, paying in Bitcoin can often be a lot simpler than paying with a debit card or credit card.
To make a payment, you will usually be presented with a QR code that contains the Bitcoin address and the payment amount information. You sometimes may be presented with a simple text-based Bitcoin address if, for instance, you are receiving a payment request through via an email or a text message. Your wallet software is designed to recognize Bitcoin Addresses and any corresponding QR codes. Your wallet will prompt you to use any available funds to make the payment. You may also be prompted to choose the transaction fee that is to be paid to the bitcoin miner that adds your transaction to the Bitcoin Blockchain. With no more two or three swipes or button presses, your Bitcoin payment should be on its way. Your wallet will notify you of when the payment is confirmed.
Unlike debit and credit cards, you do not need to enter additional identifying information such as your credit card number, expiry dates, names and security codes. This means that Bitcoin payments are more like electronic cash payments – no identifying details need be exchanged to make the purchase – just like cash. Further advances in Near-Field Technology (NFC) will allow most smartphones to make a Bitcoin payment with a simple tap of the phone.
Why Use Bitcoin?
The decision to use Bitcoin or not varies from individual to individual and is highly dependant on circumstances. Most people that live in first world nations have a high degree of access to the financial system that offers them banking services and international trade and investment opportunities. Yet, a vast number of the world’s population has no access to these services and this limits their opportunities to trade and to achieve financial inclusion.
The internet has made it easier for international trade to occur from all parts of the globe and Bitcoin along with other Cryptocurrencies are seen as a way for improving international transactions, once the domain of middlemen and brokers that all extract fees.
The fact that the blockchain operates at all times of the day and is not dependant on business hours, weekends and international time zones makes it ideal as a money to be used for the internet and international trade. International transactions are settled within minutes and not days, anyone with basic computing or mobile devices and access to the internet can get involved. Once payments are entered into the blockchain they can no longer be reversed which reduces the rates of fraud that occur with international trade.
Bitcoin is also being used for remittances from migrant workers to their families back home, saving them time and exorbitant charges that traditional remittance workers used to levy on these payments, especially when they are sent to the poorest third world nations. These are the very same nations where banks only service wealthy customers and where bank accounts have higher maintenance fees than mobile phone bills, allowing the unbanked to have access to services they are typically not offered.
Charities, non-for profits, and activist organizations are increasingly finding new use cases for censorship-resistant money. In economies where the local currency is collapsing, families are increasingly turning to Bitcoin and other Cryptocurrencies for maintaining their savings and hedging against rapid deflation.
Each day, more and more people are discovering new use cases for Bitcoin, a permissionless payment and wealth storage money system that cannot be censored or confiscated at a border.
When to Not use Bitcoin!
Although Bitcoin has come onto the scene as a disruptive technology, it still only accounts for a tiny fraction of the money that is being used around the world today. Many people have still not heard of it and many of the ones that have are skeptical. And although it can bring third world users closer to financial services, many third world people are reluctant to use any form of money that is not cash, not even debit cards that are linked to savings accounts – meaning it will still take some time to conquer their hearts and minds – if ever!
Where people do have access to the first world’s financial system, they find that it suits most of their needs, and Bitcoin is only used in edge cases for very specific trades and investments. In comparison, Bitcoin’s value displays frequent price fluctuations which makes it volatile as a money or store of value. Merchants and businesses that warmed to Bitcoin in the early days also faced situations where they were paid for a product and service only for the price to drop within days or even hours, enough to make the trade nonprofitable, sometimes even incurring the merchant a loss.
Using Bitcoin is not as straightforward as dealing with cash or savings in a bank. Even though it displays a lot of superior monetary characteristics, it still has some way to go in its development to replace existing financial services and reach widespread adoption.
Can Bitcoin Be Trusted?
The issue of trust is fundamental to the success of Bitcoin as the whole concept of trust in money moves away from trusting in money that is characterized by centralized authorities, issuers and policymakers and moves to a money that is autonomously created algorithmically.
Instead of trusting the policymakers at any given time to not devalue your savings based on arbitrary whims and changing economic circumstances, the Bitcoin monetary supply and issuance rate is set in an algorithm that does not change – there will only ever be 21 million Bitcoins with its issuance occurring as described in the Whitepaper and set in the software code.
Bitcoin’s transparency, where every transaction is recorded into the blockchain for all time and for anyone to see adds a new level of transparency to money. If Bitcoin were to be adopted by governments or institutions and charities, there would be no need to trust them – their budgets and payments could all be accounted for and be left on public display for all time. People would be able to account for their tax payments at all times.
When the benefits of Bitcoin and other Blockchains become more widespread over time, people will start to wonder if they can trust their governments and institutions to not use Bitcoin!
That said, Bitcoin is still an evolving and new technology and it is subject to issues that that can occur in such technologies such, including coding errors, hacks, communications and storage errors that may even result in loss of funds.
Adopting and using Bitcoin should only be done by people that make themselves aware of the risks of the technology and developing trust in any new technology begins with learning more about it and becoming familiar with it’s benefits and limitations.
Is Bitcoin Lucrative?
There is little doubt that early Bitcoin investors have seen the value of Bitcoin appreciate spectacularly over the years from fractions of a cent in the first year to thousands of dollars for one Bitcoin. Bitcoins value is derived as a result of the competing market forces of Supply and Demand. Seeing as its supply is algorithmically fixed, it’s price is mainly determined by the amount of demand that exists for it.
Many argue that Bitcoin’s price will only go up as it gains wider circulation and more people need it. It is also fair to say that Bitcoin has seen some spectacular price drops, sometimes losing even up to 90% of its value. Many of these sudden price variations result from changed circumstances in the market, positive or negative news events and they may also result from technological advances or failures.
More seasoned investors may be more comfortable with such risks and may be better versed on reading market signals before any major moves occur.
As with any speculative investment, and especially one like Bitcoin that displays a high degree of price volatility, investors should never risk more funds than they are comfortable loosing.
Bitcoin and all other Cryptocurrencies should be treated as experimental technologies as they are still being developed. Although the Bitcoin technology and network has displayed an astounding resilience against would be attackers and takeover attempts, there is no guarantee that this will always be the case.
Any potential investor should carefully consider their personal financial circumstances and take reasonable precautions to keep their wealth and savings secure which can also include consulting with a professional.
Why is Bitcoin called a Virtual Currency?
The term ‘virtual’ here mainly refers to the fact that Bitcoin does not have a physical form in the material world, as is the case with other forms of money that can be represented by cash notes and coins.
There is a range of products designed to look like coins and even notes that bare the bitcoin logo and related insignia. Although these coins often appear in Bitcoin and Cryptocurrency related posts and media releases, the coins are all cleverly marketed after-market products and none of them are official Bitcoin products in any way.
Although Bitcoin has no material form, it is no less real than a debit, credit or bank account balance appears when you log into your banking account. Essentially, Bitcoin is a representation of value that exists on a publically transparent ledger.
If you own Bitcoin, it simply means you are in possession of the means to access the value that is stored in the public ledger and that you possess the means, technology, and know-how to transfer that value to someone else.
Is Using Bitcoin Anonymous?
Although it is technically possible to transact in Bitcoin in a private way that maintains a high degree of anonymity, it is typically not used that way.
The system itself is anonymous in that you don’t need to identify yourself to the system to mine bitcoin, to transfer bitcoin or to own it – all of these uses do not require you to reveal any identifying details. In this sense, Bitcoin is permissionless, anyone can participate if they have the technology required and the know-how to conduct a transaction.
Bitcoin transaction occurs over the internet and the blockchain is a public ledger which means that there are ways to gather enough information about a Bitcoin transaction to trace it’s ownership and movements.
Add to this that the majority of Bitcoin in existence are bought and sold on third-party Cryptocurrency exchanges that require the users to identify themselves to the service provider. The users may not know each other details, but the service provider is privy to all their users identifying details and are also subject to handing over these details when requested by law enforcement authorities. In fact, many crimes that involved Bitcoin have been uncovered based on the series of digital breadcrumbs that each transaction receives.
Can Bitcoins be Lost?
Just like with other forms of money and things of value, Bitcoin can be lost, and usually, this is the result of forgetting a password or secret key. Depending on how you store your Bitcoin, be it a software wallet or through a user account, you should take measures to safeguard it, just as you would with any possession of value. On the other hand, Bitcoin developers are at the cutting-edge of leading technology in terms of recovering Bitcoin.
If you intend to store Bitcoin on a device using software or a mobile app, you must take great care in following the instructions carefully and you should fully familiarize yourself with the process. Most wallet software includes special password-like recovery phrases that you can make a note of and store somewhere safe. These recovery phrases allow you to reconstruct your wallet on a new device should your current device be lost, stolen or malfunction. If you don’t follow the instructions properly during the wallet set up phase and are unable to restore your wallet successfully, your Bitcoins will be lost and due to the strength of the cryptography involved, there will be no way to recover the lost funds.
Alternatively, if you store your Bitcoins on a third party service such as an exchange account, they will have security measures in place to recover lost passwords and you should be able to use their support services to regain access to your account. That said, you should note that all third parties are also vulnerable to having their security compromised through hacking or data loss. If you start storing serious amounts of wealth in Bitcoin, you should also look at more appropriate storage security, such as hardware wallets and offline storage options.
Will Bitcoin Payments Become Mainstream?
With Bitcoin, you can send payments of almost any amount near instantly around the globe. Although Bitcoin can perform the functions of a payments system, in its current form, it doesn’t currently have the transaction volume capacity to become a mainstream payments system.
Unlike highly centralized payments systems like VISA, MasterCard, and PayPal whose networks use centralized servers for efficiency and scale, Bitcoin transactions are processed over a decentralized network of user nodes that each verify the validity of the transactions they process. It has been argued that decentralized networks can never achieve the efficiency of their centralized counterparts.
Bitcoin developers are currently working on payments scaling solutions, such as increasing the network’s capacity or building more payments layers on top of the base Bitcoin protocol layer. Some development plans are being tested and are showing promise in increasing Bitcoin’s transaction capacity by several orders of magnitude. As these developments come through that will make it easier to incorporate bitcoin into more mainstream payments systems.
Beyond payments capacity, there are other factors that are hindering mainstream adoption, such as Bitcoin’s price volatility, transaction confirmation times averaging 10-minutes and the user interfaces not being as slick and as easy to use as mainstream financial apps. These challenges offer opportunities for entrepreneurs to develop Bitcoin products and services that compete with mainstream offerings.
Is Bitcoin Legal?
Bitcoin itself is not illegal, but just like any other form of money and depending on which jurisdiction it is being used in, certain uses of Bitcoin may be illegal. This may range on certain restrictions to outright bans of its use. It is important to become aware of the laws surrounding Bitcoin in the states that you intend to use it in. You can begin learning more about the regulations that apply in each country here.
Regardless of specific restriction and regulations that apply, Bitcoin is not above common and local laws in any way. This means that if any activity is illegal to do using any other form of money, such as cash, it is also illegal to perform the same activity using Bitcoin – so common sense still applies.
Is Bitcoin Being Used illegally?
Just like any currency and network of payments, it can be used for a range of activities, including activities that are illegal in certain jurisdictions. Bitcoin’s degree of anonymity and permissionless gained it an early reputation as a currency for illicit activities and this was highly sensationalized in the press.
Looking beyond the hype, however, it has become increasingly clear that Bitcoin has features that make it extremely unsuitable for use in illegal activities, such as the transparency of transactions on the open public blockchain, and the success that law enforcement authorities have had in tracing back transactions to specific illegal payments and events. A range of crimes has been uncovered over the years including attempts at tax evasion, money laundering, purchases of illegal substances, weapons purchases and more. Each year the number of Bitcoin-related crimes seems to get smaller as criminals are quickly finding out that they have to use less traceable forms of payment, such as cash.
Another issue that arises with Bitcoin it’s ability to be used across borders so effortlessly, anywhere you can send an email you could theoretically also send Bitcoin. This raises the issue of a transaction being legal in one jurisdiction and being illegal in another that has different laws. Certain products, services, and substances may have different legal classifications in different states. It is always a good idea to check the legality of a certain payment before making it.
Can’t the Government Just Regulate or Ban Bitcoin?
Although the use of Bitcoin can be regulated by each state, Bitcoin itself cannot be banned or regulated by a government. Bitcoin is a decentralized network of thousands of users that maintain the network’s hardware and software across many jurisdictions around the world. This makes it a permissionless and headless network. This basically means that no single county could ban, regulate or change the Bitcoin protocol in any way.
If a country were successful in regulating the use of Bitcoin within its own borders, users would not be stopped from using or operating the network in other states. Even if a coalition of powerful countries collaborated in an attempt to impose regulations, they would still not be able to regulate it’s use elsewhere and their enormous efforts would have very little effect on the network. So as long as the internet and other communications platforms remain functional, and as long as people are free to access and use these platforms in some parts of the world, Bitcoin cannot be stamped out.
As mentioned, the use of Bitcoin, however, can be regulated. Governments can regulate how their citizens and businesses can use Bitcoin. They can place identifying requirements on them that are already in operation in the financial system, such as KYC and AML laws (Know Your Customer and Anti-Money Laundering). Governments can impose taxes on the use of Bitcoin, such as capital gains and even income tax. Governments can even go so far as ban the use of Bitcoin within their borders. Although this would have a chilling effect within the country, it would simply only force Bitcoin underground – but certainly not eliminated. You can check the legal status and types of regulation imposed on the use of Bitcoin by different states in this list maintained by Wikipedia.
Is Bitcoin Taxable?
Different tax laws exist in each of the jurisdictions where Bitcoin is being used. Each county would impose its own laws and the onus is on the taxpayers to become aware of the laws that are in operation in each country.
Anyone that mines, uses, holds, trades, inherits, pays with or gets paid in Bitcoin should seek clarification from their local taxation department and find out if any of these events are taxable events in their country.
In some jurisdictions, there are capital gains taxes applicable for any gains made trading Bitcoin. Users should be aware that most Bitcoin-related businesses and exchanges are required to give up any information they have on users trades on request by authorities. This is not restricted to where the exchanges and businesses exist, as exchanges may – in good faith – pass on information to the authorities their users reside in.
Does Bitcoin Provide Consumer Protection?
Bitcoin offers its own kind of decentralized protection for consumers. Unlike the centralized financial services companies that are obliged to protect consumers, Bitcoin users are protected as long as they use it in accordance with the rules set out by the network. Once a bitcoin transaction is successfully executed and entered into the blockchain it can no longer be reversed because there is no central authority that a bitcoin user can appeal to for a reversal. This in and of itself eliminates fraud that is associated with fraudulent chargebacks made on credit card services.
Bitcoin also offers the ability to perform transactions that require multiple parties to sign off on – known as multisig transactions. This means you can stipulate which parties have to sign off to complete a transaction. If you had a simple multisig setup with your lawyer or a family member, even if someone coerced you into signing over a transaction, or even if someone compromised your systems and gained password access to your wallet, they wouldn’t be able to spend it without the other party signing. Using multisig can even happen with one party via multiple devices. You can set it up that you had wallets in different locations that both had to sign, say one at the office and the other at home. These extra security options offer more layers of protection for the Bitcoin user.
Bitcoin transactions are transparent on the blockchain, which is an open and public ledger. This means that even though the transactions themselves have no personally identifying details, it is possible to prove that you made a transaction to another wallet and that the other wallet that you sent it to actually received the transaction amount. This means that nobody can claim to not have been paid if they have in fact been paid as it is easily disprovable.
How are Bitcoins Made?
Bitcoins are computationally made through a process called ‘mining’. A mining node is a special type of node that is capable of successfully finding solutions to exceptionally difficult equations using its computational power. The node is in a race competition scenario with other similar nodes that are also on the network, all competing to find the successful solution. This process is called proof-of-work (PoW).
Mining node operators, also known as miners, are the only ones capable of editing the blockchain as they prove to the network that their computational power is sufficient to find the cryptographic solution a certain percentage of the time when competing with the other miners, yet not often enough to dominate the mining performed on the network. If the network has enough miners with such computational power, this means that the network is exceptionally difficult to attack, meaning a would-be attacker would need to exceed the computing power of more than half of the network to make edits to the blockchain – a very costly and extremely unlikely scenario for little reward.
Each time a miner solves the puzzle, the Bitcoin protocol allows them to create a certain amount of Bitcoins into their own wallet – this is called the mining reward. Currently, this reward is set at 12.5 Bitcoins and it is the first transaction entered into each block in the blockchain. Every Bitcoin that has come into existence has been created in this way. Every 4 years on average, the block reward is halved and over time, miners will become more reliant on collecting transaction fees that getting block rewards. This also ensures that there will only ever be a certain amount of Bitcoins ever made as the block reward one day becomes near zero – which means that only approximately 21 million coins will ever come into existence in total.
How is the Value of Bitcoin Determined?
Bitcoin is subject to the market forces of Demand and Supply. As long as there are people that find it useful and that are willing to pay for it, it will have a value. So it is important to look at what factors determine Bitcoins demand and supply when determining its value.
In terms of its supply, there will only ever be 21 million Bitcoins. Unlike other currencies where the supply of coins is determined by policy and usually inflated, or unlike other forms of currency like Gold and Silver that the Total Supply is unknown, the Total Supply of Bitcoin is known. Bitcoin’s actual circulating supply may even decrease over time as people lose access to their Bitcoin by losing access to their private keys. Private keys can be forgotten or lost. If people forget to pass on access of their Bitcoins in their inheritance, the secrets will be lost with them. Another supply-side factor is if a payment network comes about that offers the exact same value and security that the Bitcoin network offers, then it could be argued that any coins in that network would share the same value space as Bitcoin and erode its value proportionally – but this so far is only hypothetical and a lot of other factors would be at play.
On the demand side, as long as people have the need to use a currency with the characteristics that only Bitcoin offers, and as long as those people are willing to trade their other forms of money to gain more Bitcoin, then Bitcoin will accordingly have value. In theory, the more people become aware of its properties and find that they have a need for those properties, then the value of Bitcoin is likely to go up as it has a limited supply.
Can Bitcoin Lose All its Value?
This possibility cannot be ruled out! Bitcoin is still considered an experimental technology and it’s software versioning is still in the beta phase, meaning it is still undergoing continual development and improvement. Bitcoin stands on its strength of not missing a beat from 2009 since the first block was mined. No Bitcoins have been lost due to any network errors or failures and it has been consistently working as it is supposed to. Although past performance can give us a high degree of confidence in the network, it cannot give us absolute certainty. There are many things that could occur.
The Bitcoin network has not gone down, but it has come across some notable glitches. It has proven resilient against hack attempt, but this doesn’t guarantee that it is not vulnerable to new hacks. Bitcoin is also a network that exists over the internet and communications channels, if these fail in any way, they can make Bitcoin unstable. Bitcoin may also lose favor over time. There may be competing networks that outperform it and become favored. A bug in the network could cause Bitcoin to catastrophically crash, and if it can’t be restarted, it could become worthless.
So far many of these scenarios have not played out. The good thing about Bitcoin is that it is an open source technology that holds a lot of value, which means it is being scrutinized daily by some of the world’s most experienced engineers, cryptographers, and mathematicians. Flaws in the network are likely to be picked up and dealt with before they turn into existential threats to the network. So although Bitcoin could fail catastrophically or lose favor, it seems only a remote possibility at this point in time.
Is Bitcoin in a Price Bubble?
Over it’s brief history as a currency, the value of Bitcoin has seen exponential growth! Once you could get thousands of Bitcoins for $1US Dollar, now you need thousands of US Dollars to get 1 Bitcoin. Exponential growth is not something that we are used to seeing in our modern economies and financial system, especially when it comes to currencies. This has prompted a lot of pundits, reporters, and even economists to claim that Bitcoin is experiencing a price bubble. The defining characteristic of a price bubble is that at some point the price gets so high that it pops! After the pop, prices dramatically drop off and the negative price adjustments are usually drastic.
It could be argued that bitcoin has seen many bubbles in its price as it has dramatically dropped to lose over 80% of its value multiple times throughout its history. The latest such bubble is when the price peaked around $20,000USD in December 2017, only to drop to less than $6,000 USD by February the following year – only two months later.
If one was to look at Bitcoin over the course of a few years, they would observe that these massive price fluctuations could be described as price bubbles, but they could also be described as high volatility. Many argue that describing Bitcoin as highly volatile is more accurate than describing it as being in a bubble, especially seeing as it has recovered from almost every price drop to date an has carried on growing exponentially over time – which is easier to see on a logarithmic chart that shows price growth over a few years.
Is Bitcoin a Ponzi Scheme?
Some have described Bitcoin as being a Ponzi scheme. To see if this is true, you first need to become familiar with what a Ponzi scheme is. Made famous by Charles Ponzi, according to Wikipedia, A Ponzi scheme is:
“…a form of fraud which lures investors and pays profits to older investors by using funds obtained from newer investors. Investors may be led to believe that the profits are coming from product sales, or other means, and remain unaware that other investors are the source of profits. A Ponzi scheme is able to maintain the illusion of a sustainable business as long as there continues to be new investors willing to contribute new funds and most of the investors do not demand full repayment and are willing to believe in the non-existent assets that they are purported to own.”
It should be clear to see that such a scheme requires charlatans to entice investors and promise them rewards. The scheme continues as long as new investors keep supplying fresh funds to the charlatans, who are able to make payouts to older investors.
Although the proposition of buying Bitcoin may resemble a Ponzi scheme, as many people buy for the promise of future riches, the defining difference is that the investor is enticed into the investment by their own greed or fear of missing out (FOMO) rather than being enticed by a charlatan personally offering high returns for a small outlay.
Bitcoin is an open and voluntary network. It’s Blockchain, which displays every transaction in it’s entire history is open for anyone to scrutinize. The Bitcoin network does not make any profits, and no Bitcoin holders make Bitcoin profits as there is no product or service being sold. This means that no profits can be promised to anyone. The only way people profit from investing in Bitcoin is if they are able to sell it at a higher value than what they purchased it for. They sell it on the open market and people voluntarily and willfully buy it.
It is true that investors that got into and purchased Bitcoin in the early years managed to buy it at an extremely low price relative to it’s current value – but that is also true of real estate investors that purchased decades ago – that doesn’t make it a Ponzi scheme.
Have I Missed the Early Adoption Phase?
This really depends on the time scale you are looking at because the Bitcoin network is still largely growing and its penetration into the wider financial market is still only minimal. Bitcoin is a new technology and new technologies face different adoption phases as they go through their adoption lifecycle.
The typical phases of the ‘Technology adoption lifecycle’ are:
- The Innovators – Generally those that were closely associated with the invention and birth of a new technology. The riskiest of the adopters, they generally believe in the promise of the technology, often exceeding rationality.
- The Early Adopters – One level detached by the invention of the technology and all that was involved in birthing it, these adapters are equally captivated by the promise of the technology and want to get in early. Before it goes mainstream.
- Early Majority – At this stage of growth, the technology has now been adopted by almost half of the population. It’s benefits are now obvious to almost everyone.
- Late Majority – Almost everyone now uses this technology and it is almost second nature to be using it. If you are not using it by now you are considered odd.
- The Laggards – The technology is now almost universally used, even by people that have no interest in the technology itself, or even averse to use it, but use it anyway just to be able to get along with the norms of their society.
It can be argued that Bitcoin is still far off from having an early majority of users. It’s use counts for a fraction of a percent of global daily trade volumes. Very few merchants accept it and it is still considered novel by mainstream society. It can safely be said that anyone who owns Bitcoin today is still an early adopter.
Is 21 Million Bitcoins Enough?
There are only ever going to be 21 Million Bitcoins and this number is set, but unlike Dollars or other popular currencies, Bitcoin’s can be denominated down to 8 decimal places. This means that the smallest unit of a Bitcoin – named the Satoshi in honor of the inventor – would look like 0.00000001.
In fact, even this number is a digital representation as even smaller denominations are being traded on Bitcoin’s second layer Lightning Network. You can find out more about the various Bitcoin denominations here.
Doesn’t Bitcoin’s Fixed Supply Make It a Deflationary Currency?
Unlike other currencies whose supply is increased each year, Bitcoin’s supply is algorithmically set. Currencies that are issued by central banks have a flexible supply that can be adjusted as part of the monetary policy. Historically, central banks increase their money supply and this makes the currency inflationary. Over time, inflation gradually erodes the value and buying power of a currency. Many economists argue that having a currency that slowly loses it’s value encourages savers to either spend money or invest their money in seeking higher returns, both of which stimulate economic activity and growth.
Seeing as Bitcoin’s supply is fixed at 21 million, many argue that it resembles the gold standard that was used years ago to back money. When the gold standard was in effect, economist found it difficult to stimulate the economy. But unlike Gold, Bitcoin is highly divisible. Bitcoin supply may be fixed algorithmically, but it is continually increasing each year until it reaches it’s algorithmic maximum. Bitcoin’s value is measured in terms of other currencies, meaning that is value will always be relative to demand. This means that Bitcoin could only ever be deflationary if it was exclusively used as a national reserve currency or the world’s global currency. Seeing as it exists in relation to other currencies, it’s fixed supply should never pose a problem.
Doesn’t Bitcoin’s Price Volatility Only Attract Speculators?
Although this is true in the early stages of Bitcoin’s development, it is also one of the leading factors that drive it’s adoption. As mentioned above, Bitcoin is still in it’s easy adopter stage. Early adopters of any new technology usually have a higher risk appetite than regular investors and are less conservative, and this is usually a necessary stage to bootstrap the network. It is predicted that as the network grows, the volatility should naturally decrease as the relationship between demand and supply is harmonized.
In terms of investment potential, Bitcoin is widely considered a risky investment proposition. Although it displays a lot of the properties of regular money, it should not be considered a replacement for a savings account.
That said, Bitcoin displays many other properties that make it useful in ways that regular money isn’t, such as it’s ability to be sent electronically to any corner of the world almost instantly and at low cost. Bitcoin transactions are usually settled in a matter of minutes, whereas finality on wire and bank transfers can often take days or even weeks. Many migrant workers are also finding it useful for sending money back home to their families without needing to pay remittance fees. Many charities are also finding it beneficial that all donated money remains trackable on the transparent blockchain, meaning that all money can be accounted for. So although Bitcoin attracts the most speculative of investors, for now, it certainly has found it’s way in other use cases.
Can Bitcoin be Hijacked By Powerful Interests or Governments?
Theoretically, Bitcoin can be interfered with by powerful interests, but it has inbuilt deterrents based on game theory that make this an extremely unlikely scenario. Let’s say a wealthy individual tried to buy all the Bitcoins in existence. This would create a massive demand on the available supply and drive up the price astronomically. Even so, even if someone had an unlimited supply of money, all they would achieve is to make every current Bitcoin holder incredibly rich, own all the supply and then not be able to trade it with anyone. In all likeliness, anyone that found the Bitcoin network of use could simply spin up a new one as it is an open source program and it can be started again from scratch, or even switch to another network, rendering the attackers new assets largely worthless in the open market.
Some argue that instead of buying up the available supply, a would-be hijacker would need to buy all the mining equipment in the world and in so doing dominate the network. Although this kind of attempt could be made, there is nothing stopping new miners from entering the market to take advantage of Bitcoin’s rewards. The would-be hijacker would soon find himself sharing a balance of power with other miners due to Bitcoin’s open source and permissionless nature. It can safely be said that any such attempts would be costly and largely futile.
Why do I have to Wait for Payment Confirmations?
Although a Bitcoin transaction can be made almost instantly, it still needs to be entered into a block to be considered a settled transaction. As explained in the mining section, a new bitcoin block is entered into the blockchain every 10 minutes on average. When you send a Bitcoin transaction from your wallet, the receiving wallet is notified within seconds, but the transaction shows as pending. The miners also receive a notification of your transaction near instantly, but hey have to wait for their mining equipment to make the required operations to make their block of transactions valid for entry into the Blockchain. Until this condition is met, your transaction enters into a mempool, which is simply a pool of transactions that are pending and waiting to be confirmed.
Theoretically, a transaction that is pending in the mempool can be double spent. This means that you could in theory and with a large degree of expertise manipulate your wallet in such a way that it makes two transactions with the same funds. In theory, you could make a purchase in a store, walk out of the store seconds later and send the same money back to your own wallet with a higher fee attached to the transaction. Both transactions would be pending in the mempool and both claim equal validity. The miner is incentivized to include the transaction with the higher fee into the next block, and disregard the first transaction making it invalid. This would leave the store owner unpaid.
Although this scenario is highly unlikely, it is one the less advisable that you should not accept a transaction as settled until it has at least one confirmation – meaning that it has been included in a block and added t the blockchain and no longer pending. With higher value transactions, it is advisable to wait for multiple confirmations to be sure of settlement.
How Much are Bitcoin Transaction Fees?
This entirely depends on the network traffic at the time you make the transaction. There is only so much available space within each bitcoin block to write transactions, and depending on the transaction type, it can be range from one to a few thousand. A block of transactions is generated every 10-minutes, meaning that the available space for transactions is limited. Attaching a higher fee to a transaction makes it more likely that a miner will add the transaction to the next block in preference over transactions with lower fees. When the demand for Bitcoin transactions is high, users that want to make urgent transactions need to bid against other users. Users who are not so concerned about the speed of the transaction can enter a low fee and their transaction will be included into a block once the network congestion clears.
Typically, the network is not used at maximum capacity and has only reached this level a few times in its history. Most wallet software can track the status of the network and give you a fee estimate before making a transaction with some wallets even giving you the ability to change the fee according to how quickly you need your transaction to be processed.
Can Someone Send Me Bitcoin When I am Offline?
Yes! This is possible because the sender is not actually sending you bitcoin, they are simply giving your wallet access to a set amount of Bitcoin that exists on the Bitcoin Blockchain. This means that your wallet is the only wallet that has access to those Bitcoins.
Next time you are online, your wallet software will check the status of the Blockchain to see how much Bitcoin it has access over. Your wallet will also notify you of the status of the transaction that occurred while you were offline.
Doesn’t Syncing a Bitcoin Wallet Take A Long Time?
Only certain types of wallets sync and validate the whole Bitcoin blockchain – the rest don’t. To become a peer on the Bitcoin network, you need to install a full validating node. This kind of software independently downloads and validates every transaction that has ever occurred on the Bitcoin blockchain – block by block. The software begins with the first block – known as the genesis block – and synchronizes with the network up until the current block – which can be visualized here. As of 2019 over half a million blocks have been mined. So depending on your PC’s computing power and your internet connection speed, the loading times can vary from a dozen hours to a few days.
Typically most user wallets are not peer wallets and don’t download, validate and synchronize with the blockchain. These wallets typically rely on connections with peer nodes for making transactions, checking balances and confirming the status of transactions on the blockchain. If the amount of Bitcoin you are transacting is high, you should consider operating a full validating node and accompanying wallet to be sure of the validity of transactions on the blockchain.