Bitcoin introduction for absolute beginners and LBC presenters…
I began this week early Monday morning heading to work for a 5AM start. On my short journey along the icy roads, I listened to my favourite radio station, LBC (Leading Britain’s Conversation). I usually listen to Nick Ferrari on my work commute, who along with David Buik, the markets commentator from the investment company Panmure Gordon, have done a sensible job of covering bitcoin breaking through the $10K and $15K price barriers last week.
Today I caught a segment with Ian Payne, the discussion topic was Bitcoin. Ian hosted a number of calls from people with views and questions about Bitcoin. From the conversations it was clear that there is still a huge knowledge gap to be bridged as people have some wild mis-conceptions about what Bitcoin is, how it works, and why it exists. As people are attracted to this fascinating new digital currency from the stories of vasts profits to be made, there is an urgent need, and arguably a duty of broadcasters, to give clear unambiguous and unbiased information and advice on the subject. The naivety in some conversations is reminiscent of some ‘expert’ predictions for the Internet back in the 90’s, such as ‘Why the web won’t be nirvana’.
The LBC presenters are to be commended for covering Bitcoin with an open mind, unlike some other media outlets like the BBC and The Times of London who can’t help slipping in fear mongering references to bubbles, crime and tulip mania whenever Bitcoin is newsworthy.
Below is a representation of some of the questions which were raised in the aforementioned Ian Payne segment, mixed with a selection of typical questions one encounters when discussing Bitcoin.
Disclaimer: This article represents the viewpoints and experiences of the author and while there is no intention to mislead, we all make mistakes. Always do your own research, and never trust anyone without checking the facts, even the information in this article.
What is Bitcoin?
Bitcoin is a digital currency, resilient to fraud or counterfeiting, allowing people to transact with one another directly, without going through a 3rd party such as a bank, and with no centralised governmental control. Anyone can use bitcoin, even the billions of people who don’t usually have access to banking services. Transactions can cross borders with ease. For example, $1 Million worth of bitcoin can reach an address held by someone on the other side of the world within minutes, and with a tiny transaction fee. Bitcoin is the first ever truly global form of money.
Bitcoin is still in its early days. Remember how confusing it was using the Internet in the 90s? However one day, we could be routinely sending bitcoin to one-another in the same casual way that we email or text each other today.
Who created Bitcoin?
We don’t know who created it. The person (or group of people) created Bitcoin using a false name, a pseudonym. The Japanese sounding name of Satoshi Nakamoto. Previous creators of digital cash ended up in trouble with the law, perhaps that was the motivation for wanting to be anonymous.
When was Bitcoin launched?
Satoshi launched Bitcoin with the mining of the first ‘block’ of transactions on 3rd Jan 2009. Known as the ‘Genesis Block’, it contained a message referring to a headline in The Times of London from that day:
“The Times 03/Jan/2009 Chancellor on brink of second bailout for banks.”
Why was Bitcoin created?
Bitcoin was created and launch just as the 2008 ‘Credit Crunch’ was taking hold following the Sub Prime Mortgage Crisis. We saw the fall of Lehman Brothers, Bear Stearns, Northern Rock, Royal Bank of Scotland and HBOS. People lost their jobs, their investments, and witnessed a ‘run on the banks’ as people queued to take out the money, in fear that the banks simply didn’t have enough money to fund the withdrawals.
We saw governments stepping in with huge bank bailouts, followed by quantitative easing, burdening citizens, and their children, with unprecedented levels of government debt.
It became clear to many that our financial and economic system was broken. Satoshi Nakamoto’s White Paper proposed a system for electronic transactions without relying on trust. By ‘without relying on trust’ he means without having to rely on a 3rd party authority, such as a corporation, a bank, or a government.
Where is Bitcoin based?
Bitcoin is not a registered company, it does not have a head office or a CEO. Bitcoin is code running on a network of computers all over the world. Anyone can join or leave the network at any time. Bitcoin is based on the internet only, it has no physical presence.
What are fiat currencies?
In Bitcoin discussions, you may often hear the term ‘fiat currencies’. Fiat currencies are simply the Government currencies we’re all used to. Pounds, dollars, Euro, Peso etc. Fiat is from the Latin for ‘let it be done’, so ‘fiat currency’ is a currency by order of the government, a currency by force.
If I own one Bitcoin worth £10,000, how can I go into a shop and buy something for £500?
Firstly, each bitcoin is divisible into 100 Million individual units. One single unit is called a Satoshi, after Satoshi Nakamoto, the inventor of Bitcoin. So one Satoshi is 0.00000001 of a bitcoin. It’s therefore easy to split up a bitcoin into the amount you wish to pay.
So, are shops accepting my bitcoin?
There are not many everyday shops where bitcoin is currently accepted, although the number is reported to be growing. Merchants aren’t fond of the current volatility of the bitcoin price, and recently transaction fees have risen which puts people off buying low priced things directly with bitcoin. There are however a growing number of debit card services available which are ‘loadable’ with bitcoin, or other cryptocurrencies, allowing you to pay via payment networks like Visa.
This is an ever-growing field, and may well be commonplace in a few years time. See Bitcoin debit cards.
Why will there only ever be 21 million bitcoins? Why can’t they just create some more?
A limit of 21 million bitcoins was set when Bitcoin was created and launched. Currently, 12.5 new bitcoin are created every 10 minutes, paid to the computers as a reward for processing a ‘block’ of transactions. This is a predictable and controlled supply of money and is differentiated from the way governments and central banks issue money, which can vary over time. With tools like ‘quantitative easing’ at their disposal, governments can inject vast quantities of money into the economy which effectively decreases the purchasing power of every Pound or Dollar in our pockets.
The supply is built in from the start and cannot be changed. There is no reason to create more because each bitcoin is divisible by 100 million so there are more than enough units for everyone around the world.
But if you don’t like the limited supply of coins, you can clone the Bitcoin code and launch your own coin with your own money supply. You can also tweak other features of the coin. This is what happened with Litecoin which has a total money supply of 84 Million.
Who decides what the bitcoin price should be?
The bitcoin price is determined by supply and demand, in just the same way as the relative price of any foreign currency is determined. People trade bitcoin in exchanges. In simplistic terms, if there are more people wanting to buy than those wanting to sell, we say there is a rise in demand, and the sellers will ask a higher price. At an exchange, there are ‘bids’ representing what people want to pay in order to buy, and ‘asks’ representing what people want to sell for. The price is an ever changing average between the two. This process is known as ‘price discovery’ as thousands of peoples buying and selling interactions result in an average market price.
There is no single person or group of people who can decide price, it is through the price discovery process involving many people engaged in free market trades.
Why has the price of bitcoin gone up so much?
The price has risen so much because bitcoins are scarce, only 21 million will ever be produced, and the number of people wanting to buy (demand) is out-stripping those wanting to sell (supply).
Historically the price of bitcoin has gone through many peaks and troughs. Recently, more and more people have been hearing about Bitcoin and learning about it and are buying for purely speculative reasons, trying to jump on the gravy train to make a quick buck, or through a belief that digital cryptocurrencies will be a commonly used form of currency in the future.
Can I trust the people at Bitcoin with my money? What is their customer service like if something goes wrong?
There is no customer service because there is no Bitcoin company. You are your own bank and are responsible for your own transactions, your own security, your own store of wealth. People have lost bitcoin by losing the keys to their wallets or sending bitcoin to the wrong address. You can’t phone someone up to complain.
If bitcoin is used for crime and money laundering, won’t governments shut it down?
The US Dollar probably remains the most used currency for funding drugs deals, terrorism, illegal wars and a whole manner of misdemeanours, depending on your moral and political perspective. Bitcoin provides criminals with all the conveniences of a fast, secure, decentralised digital currency that ordinary decent people will derive. Media headlines will inevitably focus on the criminal uses of bitcoin because it feeds our insatiable demand for drama and intrigue. Good news stories are boring.
Governments would have a very tough job shutting down Bitcoin itself, due to its global decentralised design, but they can target Bitcoin exchanges or mining outfits. Approaches vary from country to country. China, for example, has recently been very tough on the exchanges, banning them from operating entirely. Other countries have a more relaxed approach.
Recent developments have seen the acceptance of Bitcoin in the grown-up investment world of derivatives markets, where investors can buy futures contracts for Bitcoin, just as they can for other commodities such as oil, wheat, or pork-bellies. This is seen by many as ‘legitimising’ Bitcoin as a serious asset class.
It seems like governments may have to begrudgingly accept they cannot control the further propagation of Bitcoin.
What is blockchain?
You may have heard the term blockchain associated with Bitcoin. Blockchain simply refers to transactions being grouped together into a single block, currently with a maximum size limit of 1Megabyte. All the transactions in a block are secured and verified by cryptography. When a new block is processed, it is appended to the last block to form a chain of blocks, hence ‘blockchain’.
In Bitcoin the blockchain is publicly accessible, so anyone can see the transactions, although the addresses are a bunch of jumbled up letters and numbers so you can’t actually see whom those addresses belong to. This public blockchain, therefore, is like a public ledger of transactions. Once the blocks are formed it would be unimaginably difficult to go back a few blocks and change the transactions, thus making the blockchain fraud-proof.
Blockchain has become a bit of a marketing buzzword to refer to the underlying technology within Bitcoin which can be re-purposed and used in all kinds of other business applications. The emergence of ‘smart contracts’, allows businesses to develop applications which live on the blockchain.
What are smart contracts?
A smart contract is computer code which lives on the blockchain to intelligently control transactions between people and other applications, replacing the role of 3rd party intermediaries in everyday transactions.
Smart contracts on the Blockchain are the disruptive force heralding the death of the middleman, resulting in money without governments, payments without Visa, investments without a broker, loans without banks, insurance without underwriters, charities without trustees, escrow without agents, betting without bookmakers, book-keeping without accountants, music and rights management without lawyers and record companies, arbitration without lawyers, property sales without estate agents, and taxis without Uber.
If anyone can see the public ledger of transactions, can they see all of my transactions?
The public ledger can be downloaded to a PC or there are explorers available so that anyone can scrutinise the transactions in a block, e.g. blockexplorer.com. However, the addresses are a jumbled block of letters and numbers known as a hash, so you can’t see the private identities of the people who own the keys to the addresses.
Bitcoin is pseudonymous rather than fully anonymous. Your address hash is your pseudonym and anyone can see all the transactions between different pseudonyms.
Does Bitcoin allow you to transfer money without any fees?
Prior to 2017, Bitcoin fees were tiny and people could transfer large or small amounts with tiny fees. $10 million worth of bitcoin could be transferred in minutes with minimal costs. This is unheard of traditional financial services.
The popularity of bitcoin during 2017 has pushed the number of transactions per block to its hard limit of 1 Megabyte per block, and at busy times, this pushed up transaction fees significantly so that very small transactions, such as paying for a coffee, became unviable. There have been differences of opinion within the Bitcoin community about how to resolve this which did result in a new clone of Bitcoin called Bitcoin cash, and the Bitcoin adoption of Segwit (Segregated Witness) which changed the way transactions are stored so more can be processed per block.
Other technological improvement proposals include the ‘lightning network’ which will allow a high volume of small transactions to take place separately from the main Bitcoin blockchain.
Clearly, Bitcoin has some continued challenges to overcome before it is as fluid as cash.
Will Bitcoin put banks out of business?
Who knows? Bitcoin and other cryptocurrencies need to go through many adoption struggles for that to become a possibility but some commentators suggest it is not out of the question, just as the motor car replaced the horse and cart, technological progress is relentless.
How are Bitcoins created?
By the end of 2017 there will have been around 15.5 million bitcoins created. There will never be more than 21 million bitcoin. These bitcoins are created as a reward for ‘miners’, which are specialised computers, for processing the blocks of transactions. The reward is known as the coinbase. Currently, a miner will receive a coinbase reward of 12.5 bitcoin per block processed, and this reward will half every 4 years to give a smooth and predictable money supply over time. The miners are connected on a peer-to-peer network, meaning they are are equal peers running the same software, and they compete with each other to solve a difficult algorithm with, and winner claims the reward and appends the new block onto the chain of all the old blocks.
This difficult mining work is one of the things which makes bitcoin so secure and resilient to fraud. The miners also have the job of verifying and validating blocks of transactions so if any malicious miner tries to change history, they will be found out.
Each miner maintains a full history of the entire blockchain which gives rise to the concept of a ‘distributed ledger’. It’s a bit like everyone having the same spreadsheet of all the accounts and transactions.
Who can become a Bitcoin miner?
Anyone running the correct software can join the network of miners although only extremely powerful and specialised processors running on cheap electricity stand a chance of making it a financially viable pursuit.
Is my bitcoin safe, or can it be hacked?
The Bitcoin blockchain has not been ‘hacked’ in the 9 years it has been operating, and yet there is such a prize for anyone able to hack it. This in itself is proof of its security. If you want to have a go, you can see some Bitcoin addresses containing vast sums on the Bitcoin Rich List, the bounty is yours if you can do it.
Although the actual Bitcoin addresses on the Bitcoin blockchain are very difficult to hack, the exchanges and sloppy personal security are certainly vulnerable, so be careful.
I have some savings in my bank, isn’t it safer just to keep it there?
Technically you don’t have your savings in a bank. When you deposit money it is recorded as a liability on the bank’s books. You’ve given an unsecured loan to the bank.
In some countries, there are schemes to help savers if a bank collapses. Under the Financial Services Compensation Scheme (FSCS) in the UK for example, up to £85,000 per person is guaranteed by the government. But how will they fund this? By issuing more national debt and more quantitative easing, we’ll all pay for it.
Banks are perceived as safe in many countries, but may not be perceived that way by a Greek or Cypriot who’ve lived through terrible financial collapses.
I heard that Bitcoin is a fraud, like a Ponzi scheme, is that true?
The JP Morgan banker, Jamie Dimon called Bitcoin a fraud in 2012, without really saying why. Read Satoshi’s White Paper, Jamie, does that look like fraud? We often hear these warnings from bankers, but of course, bankers have a vested interest in keeping the current system going, with its record low-interest rates, quantitative easing, and massive national debts. This is ‘extend and pretend’ economics. Clearly, the system is broken.
The Investopedia definition of a Ponzi scheme is:
A Ponzi scheme is a fraudulent investing scam promising high rates of return with little risk to investors. The Ponzi scheme generates returns for older investors by acquiring new investors. This is similar to a pyramid scheme in that both are based on using new investors’ funds to pay the earlier backers. For both Ponzi schemes and pyramid schemes, eventually there isn’t enough money to go around, and the schemes unravel.
If someone’s argument against Bitcoin is to say it is a ‘Ponzi scheme’ then disengage. It’s akin to calling shares in Amazon or Facebook a Ponzi scheme or using the term to describe gold and silver investments.
Here’s an interesting article by Miguel Cuneta proposing that Bitcoin is the total opposite of a Ponzi scheme.
I heard that Bitcoin is in a bubble, like ‘tulip mania’, is that true?
Mainstream news outlets like the BBC and The Times of London expose their total idiocy in Bitcoin reporting by repeatedly wheeling out references to tulips and bubbles.
It’s sometimes difficult to have a rational and balanced conversation about the cryptocurrency markets because people adopt extreme views about it. The value of new technologies is difficult to judge, especially when the benefits it promises are unlikely to be fully realised until several years in the future. We need to think about its market value, e.g. its current price, and compare that against its intrinsic value, what it will actually be worth to society.
Here is an excellent article by Jose Maria Macedo assessing the phenomena of bubbles: Are we in a cryptocurrency bubble? A comparison with the 2000 dotcom bubble.
How can I get some bitcoin?
Most people use exchanges to convert to buy bitcoin with cards or by bank transfer. Choose from a list of exchanges, ensuring that you do your research and read the small print, especially regarding their transfer fees. Some exchanges allow you to buy bitcoin with fiat currencies (E.g. Pounds and Dollars), others are purely for trading cryptocurrencies so not useful as an entry point.
Remember that on an exchange you are unlikely to control the private keys to your account.
If you don’t own the keys, you don’t own the coin!
If you don’t own the key, the exchange is controlling the account for you. The Bitcoin network and its blockchain are resilient to hacks and fraud, but the exchanges tend to be centralised companies who are potentially a single point of failure. An exchange could collapse due to mismanagement, as famously happened with the MtGox exchange in 2014, or it could be ordered to stop trading, as happened with the Chinese exchanges this year. The exchange could be hacked or an unscrupulous employee at the exchange could gain access to your account. Only leave money on the exchanges you can afford to lose. Best to store it in a wallet on your computer, where you control the keys, or in cold storage to hold onto it for the long term.
Exchanges will be safer once we see the rise of decentralised exchanges, which allow people to trade from one type of currency to another directly, through a process called ‘atomic swaps’. On a decentralised exchange, people will control the keys to their accounts.
Perhaps the best way to acquire bitcoin is by earning it, either by working for someone willing to pay in bitcoin or setting up an account with a company like BitWage who could take remittances directly from your employer and convert them into bitcoin for you. Another way to earn is through Bitcoin mining, but that’s no longer easily accessible unless you have the right equipment and access to cheap electricity.
Why is the price of Bitcoin so volatile?
Bitcoin prices are volatile because this is a new technology the world has never seen before. People disagree on whether bitcoin will be used in everyday purchases, or whether a different coin will emerge to take precedence. Markets are influenced by news stories, and Bitcoin is rife with drama and intrigue. There is also the heard mentality causing ‘bull’ markets where people want to ‘buy, buy, buy’ through FOMO (Fear Of Missing Out), or a ‘bear’ market when it is time to ‘sell, sell, sell’.
Prices are determined, as with like all currencies on free-floating exchanges, by speculative supply and demand. With a market capitalisation of $295 Billion, Bitcoin is still relatively small, especially compared to gold markets, the circulating supply of Dollars and Pounds, or the staggeringly huge national debt of many governments. As market capitalisation rises, it is expected that price volatility will decline.
What other cryptocurrencies are there?
New currencies are emerging all the time, each with their own configuration tweaks or dedicated purpose. Some will thrive, and some will die. Pure survival of the fittest.
Currently, there are 1345 public coins listed on CoinMarketCap.com, and the only limit is people’s imaginations. People could even create private coins to run their local sports club, raise funds for their children’s school, or to track spending within a local council.
What is the combined market value of all the cryptocurrencies?
At the beginning of 2017, the total market capitalisation of all coins was $17 Billion. This week it crossed the Half-Trillion Dollars threshold, or $500 Billion.
This is significant. It’s not just about the money people are making from speculation, but a landmark moment in a venture that is so unimaginably impossible to pull off. Creating a global digital currency, not through the force and control of a government, but by the voluntary consensus and acceptance of the people who want to be involved with it.
It’s like merging the free market thinking of ‘right-wing’ politics, with the ‘left-wing’ values of cooperation, equality and participation.
It feels like we are witnessing something truly historical…
Should I invest in Bitcoin?
It’s up to you. Perhaps speculation is a better term than investment. There will continue to be big swings in price and fortunes will be made and lost. Do your own research, adopt a critical view of the hype, and only play with what you can afford to lose.
But investment doesn’t have to be financial. What about your time? What about mental and emotional investment? Perhaps the starting point is to commit to understanding the technology and the social, economic and political impacts it could have. Approach the subject with an open mind and maybe the emotional investment will follow, where just like the early adopters of Bitcoin, the geeks and libertarians who got into it right from the start, you may gain a sense of awe and emotional commitment to a technology that could set mankind free from the control, and in some cases tyranny, of governments and banks.
Where to find more information:
There are a wealth of resources online if you want to put the time into knowing truly investing in Bitcoin by investing your time and attention:
Jameson Lopp has a great page of links to Bitcoin Resources
Andreas M. Antonopoulos has been a great ambassador for Bitcoin over the years and excels at explaining difficult concepts in a way that anyone can appreciate. See his Bitcoin for Beginners playlist.
Michael @Boxmining is on of a new breed of young and enthusiastic YouTube presenters giving a professional, informative and polished daily round-up of Bitcoin and cryptocurrency news. See Boxmining.
Everyday Blockchain on Facebook
I’ve recently started a Facebook group called Everyday Blockchain to look at all aspects of Bitcoin, blockchain technologies and cryptocurrencies. Feel free to join.
Note: As per convention, I’ve tried to correctly use ‘bitcoin’ with lowercase ‘b’ when referring to the currency, and capitalised Bitcoin when referring to the technology.
