Why fiat money fails and how Bitcoin is better
Most attempts to explain Bitcoin might as well be in elvish. This one is not. We get straight to the point and do not use any technical mumbo-jumbo to hide the fact we don’t know something. Keep reading to learn:
- The history of money and why our economy is failing;
- The person that created Bitcoin and how they viewed their project;
- How Bitcoin solves the problems of the traditional money;
- When will Bitcoin take over the world;
- The best way to start using Bitcoin in 2018.
What made Bitcoin necessary
The current state of the world economy is “on life support”. We’ve been sweeping its issues under the rug for at least five centuries now, and quite soon we will run out of the rug. The global economic crises are becoming common, the countries are going broke. It’s hard to feel sure about tomorrow.
Bitcoin was created to solve all those problems. But to understand what is wrong and how it came to be this way, we need to know how it was initially supposed to work.
What is money and how it works
The economy is the system that allows transferring value between members of the society. To illustrate everything we will be talking about, let’s have a simple example:
You grow beans. Your neighbour grows apples. When your neighbour gets sick and can’t grow apples, you feed them beans and help them get better. You will not get any compensation for that, but your neighbour will survive and will care for you when you get sick.
This is Gift Economy — an altruistic form of economy that first developed around 12 000 BC. But it didn’t last.
You still grow beans. But your neighbour does not grow apples anymore — instead, they wait for you to bring the beans. Since they do not produce value for you, you stop feeding them. This gets them off their butt, and they start growing apples again. Now you exchange 1 basket of beans for 1 basket of apples. However, your other neighbour — who also grows apples — hates beans and doesn’t trade with anyone.
This is a Barter Economy — the first value-based form of economy. It existed in many primitive societies. The Barter Economy is based on the concept of equivalent exchange. It also has an issue — people that produce the same product (or do not need each others’ product) cannot take part in the economy. And then this happens:
You still grow beans. Your neighbours still grow apples. One day, a stranger comes to your village and starts growing cows. Both you and your neighbours want cows too, so you exchange beans and apples for cows. As cows take more time to grow and they are rarer than beans and apples, the prices of every product in the village becomes expressed in cows. Soon, cows become the currency of the island.
This is a Monetary Economy, a.k.a. the one we are using now. It has been around at least since 9 000 BC, and up until the last millennia, it has been going strong. The defining characteristic of the monetary economy is money.
Money is an item that has a universally recognised value and can be exchanged for the products of equal value.
The Metal Age
Useful objects do not make good money. Since they are useful, you always want to make more of them — and that breaks the economy. After a couple of tries, most societies concluded that money should be:
- rare;
- unproducible by individuals;
- permanent;
- useless in everyday life.
This led to the Metal Age when the monetary value was assigned to precious (and rare) metals. In most societies, it was copper, silver and gold. In some regions with undeveloped metallurgy, i.e. Japan, even iron had seen use.
TRIVIA: Not every civilisation arrived at this at the same time. For example, a Central American society used cacao beans for money up until the XVIII century.
The Gold Standard
Carrying a dozen coins or even a single gold nugget is not bad. Lugging around even a dozen nuggets requires help. On an even larger scale, a problem becomes apparent — gold is too heavy and unwieldy to use as a primary currency. In the XIV century, the banks and banknotes solved this problem.
A bank is an institution that stores gold and issues banknotes that guarantee this gold.
A banknote is a document promising that the bank will issue the owner of the document a certain amount of gold.
Soon, banks had enough gold to make their banknotes trustworthy and stable enough to be considered money. The banks now had actual power. They integrated themselves with governments, further legalising the banknotes as paper money.
Around the late XIX century, paper money replaced precious metals. Gold and other valuable resources were stored in banks and never saw direct market. However, bank obligations were reinforced with the promise of that gold — a so-called Gold Standard. Instead of being useless pieces of paper, they were representations of actual, physical value.
They aren’t anymore.
The Fiat Supremacy
In the early XX century, the gold standard became very hard to support. The countries that instituted the standard were at war with each other, and the value of gold changed every day.
By 1931, Britain, Germany and Austria cancelled the gold standard. The United States followed suit in 1934. In order to keep the market from collapsing, President Roosevelt had prematurely banned the US citizens from owning any savings in gold. This order will not be repealed until 1974.
However, some measure of logic and sustainability remained. The currencies could still be exchanged for gold, but only at the rate defined by the government. For example, the Bretton Woods system fixed the cost of gold at 35 dollars per ounce.
Everything changed in 1971. In response to a financial threat from France, Richard Nixon abolished the Bretton Woods system. From that point, the dollar’s value was measured in relation to other currencies.
Other countries followed soon, and since then money only had relative value. Or, some might say, no value at all.
CHAPTER REFERENCE LIST
1. “The Bitcoin Standard: The Decentralized Alternative to Central Banking” by S. Ammous. Mr. Ammous clearly did his research and offers good insight towards the state of modern economy.
2. “Debt — Updated and Expanded: The First 5000 Years” by D. Graeber. We skipped over this subject for the sake of conciseness. If you really want to know the history of banking, this book is the place to start
3. “Paper Money — Extra History” by Extra Credits. Bite-sized videos on how the money we know came to be. Very good content and production value, although don’t expect them to be as detailed as the books above.
Why fiat money is bad
Fiat currency is a currency that holds no intrinsic value. It is valued only in relation to other currencies. All currencies that we are using today are fiat.
This means that the banks can print as much money as they can without necessarily guaranteeing its value. If done poorly, the money starts losing value quickly. It is called hyperinflation. It happened in Russia in 1992 and is currently happening in Zimbabwe and Venezuela. And yet, this is a best-case scenario.
In the worst case, a government that prints money is strong enough to dictate the worth of their currency to other countries. In other words, they get to print more money at the value they insist it has.
The USA has been doing this ever since 1976. And then they loaned those dollars as debt to other countries or exchanged them for natural resources. The abundance of the dollar in the world economy led to other currencies being valued only in relation to the dollar. The same dollar that is not guaranteed by any real-world resources. Right now, the actual cost of the dollar is 3 times higher than it should be.
And that is the problem with fiat money — the economy cannot regulate itself if it is isolated from the physical (or at least real-world) values. It becomes detached from reality. And when the level of detachment reaches a critical point, the economy crashes.
Before we continue, let’s summarise the problem that Bitcoin set out to solve:
Current money is not backed up by any physical object, controlled by governments and can be devalued due to their incompetence.
What is Bitcoin and who created it
Bitcoin is a digital currency. It operates on blockchain — a digital ledger that exists on all computers that are connected to the blockchain network. Blockchain does not have any centre or authority — but it is still trustworthy and open.
There is a limited supply of Bitcoin — there will only ever be 21 000 000 coins. 10 500 000 of them were issued between 2009 and 2013. Another 5 250 000 were issued between 2013 and 2017. By 2021 we will have another 2 625 000 Bitcoins added to the circulation.
Every four years the Bitcoin miners will produce N/2 coins, where N is the amount produced in the previous four-year span. The final Bitcoin will be mined in 2140 — and there is already a plan on how to proceed afterwards.
We will go into further details on how Bitcoin really works a bit afterwards. For now, let’s talk about how Bitcoin came to be and who made it happen.
Who is Satoshi Nakamoto
Bitcoin started in 2008 when an anonymous mathematician sent out an email blast on a cryptography mailing list. It began with:
The name of the sender was Satoshi Nakamoto (later revealed to be an alias). In the next decade, he would become a legend — but at the moment he just wanted to discuss his new system. It was supposed to be independent, scalable and trustworthy — or, to be more exact, built on trust. There would be no controlling centre for it, and all the power would belong to the actual users.
In the next couple of months, Satoshi’s project was brought into reality. By early 2009 the Bitcoin community had dozens of users all over the world sending each other “coins” as digital collectables. Even they had not suspected that something serious would ever come out of it. And yet…
- In October 2009, 5 050 Bitcoins were sold for $5.02 on an Internet exchange.
- In May 2010, 10 000 Bitcoins paid for two $25 pizzas.
- In November 2013, Bitcoin reached the $1000 mark.
- In December 2017, 1 Bitcoin cost $20 000 — only to crash afterwards and drop to $6000 level by August 2018.
Satoshi Nakamoto, whoever they are, disappeared long before that. Their last post was in December 2010, and since then Satoshi was never heard from again.
There is still no tangible evidence on who Satoshi was and what happened to them. Their 980 000 Bitcoins lie dormant on the Blockchain, waiting for Nakamoto’s return. In December 2017, this fortune cost almost $14 000 000 000 — and yet they have not claimed it.
The internet has several suspects that somewhat fit the role of Satoshi Nakamoto.
- Mathematician Dorian Nakamoto is probably the most promising target — however Dorian denies even knowing about Bitcoin before 2014. And is not afraid of suing those who claim otherwise.
- Programmer Hal Finney was one of the first cryptocurrency adopters and Bitcoin developers — and his death in 2014 explains the disappearance of Satoshi.
- Jed McCaleb is the founder of Mt. Gox, Ripple and Stellar.org — all of them high-end cryptocurrency companies. However, he once again denies being Satoshi.
- A Tesla intern claimed that Elon Musk was at least somewhat involved in the creation of Bitcoin — and yet have failed to provide any proof.
- Blockchain developer Gavin Andersen is the official successor of Satoshi and clearly enjoys fanning the flames of mystery that surrounds his predecessor.
- Another cryptography legend Nick Szabo clearly has the necessary skills, but claims to have had no interest in Bitcoin until much later in its lifespan.
- Entrepreneur Craig Wright actually claims to be Satoshi — but his proof is extremely vague and for the most part based on hearsay.
- Ross William Ulbricht — the developer of the largest online black market The Silk Road — was suspected to be Satoshi. Claim has since been withdrawn.
Whoever Satoshi is, they didn’t start Bitcoin to get rich — and neither did the other Bitcoin Core developers. They wanted to provide a viable alternative to the fiat centralised money — and in this aspect, Satoshi’s legacy lives on.
How Bitcoin works
By itself, Bitcoin is nothing. It’s like a point in the game — it does not exist outside of it. To have meaning, Bitcoin needs to exist inside the system — the blockchain.
The blockchain is a digital ledger, a virtual list of all transactions made with Bitcoin. All computers that are connected to the Bitcoin network store a copy of the Blockchain and sync this copy with each other. There is no central authority, no “master copy” — all users are equal in this system.
The name “blockchain” is also the best description. All Bitcoin transactions for a certain period are compressed into a single block. This block then gets encrypted and linked to the previous block. This creates an unbroken chain of blocks that keeps track of every single Bitcoin traded since October 2009.
Blockchain employs miners for new block generation. Miners are the users that run a cryptographic program on their computers. Not every block is accepted — the correct block has to contain an answer to a mathematical puzzle that is a core part of the blockchain. The first miner to solve this puzzle gets some Bitcoins, while the others switch to generating another block.
TRIVIA. The time when an individual miner could resolve a block has long passed. Nowadays, blocks are generated by mining pools that combine thousands of miners into a single unit. The miners then share the reward between themselves.
It is a waste of computing power on the industrial scale. However, this is what makes blockchain unbreakable. If there are many miners on the network confirming the validity of the existing chain, the hacker cannot introduce their own version of it. It will be rejected by the majority rule. That’s why it is in Bitcoin’s interests to have as many Bitcoin miners — and waste as much power — as possible.
CHAPTER REFERENCE LIST
1. “Is it safe to share a Bitcoin address” by Bonpay. At the first part of the article, we explain how Bitcoin addresses work in much more detail.
2. “How does a Blockchain work” by Simply Explained. A well-made and simple explanation of Blockchain, even if it skims over some more geeky details.
3. “What is Blockchain? The Best Explanation of the Blockchain Technology” by L. Mostazo. A more excessive and visual explanation, marred by its 480p quality.
4. “The Bitcoin Standard: The Decentralized Alternative to Central Banking” by S. Ammous. If you want to learn more about Satoshi and the origins of Bitcoin — this book has got it covered.
Why Bitcoin is better than fiat
Bitcoin tackles a lot of the problems that plague the traditional financial systems. Here’s what makes it so great:
All this allows for a much simpler and more coherent economic system than any based on the fiat money. Also, it is easy to start using Bitcoin.
What is a Bitcoin wallet
Inside blockchain ledger, there are no users — there are only accounts and Bitcoins that they hold. Each account is defined by two keys — private and public.
A private key is a randomly generated string of characters, 30–60 symbols long. It has complete access to the account and can be used to transfer Bitcoins.
Private Key Example
L51nbjF1wDgx3fxEW4K95Hpu9MeWE14NnMVjgEnhJDtqvYfUWg63A public key is a mathematical derivative of the private key. It is also a string of seemingly random characters, 30–60 symbols long. It can be used to receive Bitcoin payments and check how much Bitcoin a wallet has.
Public Key Example
03e7b16a1a7fb443b9dc8d53b6837b0d6e593fdf3675d849f966c72fd024c41ddcSince public keys are unwieldy and can be a security risk, Satoshi Nakamoto introduced Bitcoin addresses. A bitcoin address is a mathematical derivative of the public key that can be used only once.
Bitcoin Address Example
1KedTZBPJuGazs7NxW88c3i7Tanfo3YbrhSince addresses can only be used once, you need to discard them and reissue new ones after each payment. To keep this process simplified, we use special software and hardware that is called “Bitcoin wallet”.
How to create a Bitcoin wallet
There are several types of Bitcoin wallets, each with its own use-cases. However, if you want the most streamlined experience, you should go with an online wallet. For example, a Bonpay Wallet.
Bonpay Wallet is an online wallet. It lets you use your Bitcoin from wherever you are and from any device. It keeps track of your keys and addresses and helps you maintain privacy and anonymity. Bonpay Wallet is secure and easy to use.
If you do not want to share your personal data with anyone, you can also use a paper, hardware or software wallet instead.
How to buy Bitcoin
The safest way to buy Bitcoin is to use your wallet provider services. For example, you can buy Bitcoin at Bonpay.
There are other ways to buy Bitcoin too, but they are less convenient and introduce more risks.
How to use Bitcoin
Bonpay Cards is the best way to use Bitcoin. They allow you to transform your BTC into cash at any ATM that supports VISA. Or pay with Bitcoin in any card terminal in EU.
If you want to know more about Bonpay Cards — create a Bonpay Wallet. All Bonpay Users receive notifications and updates on the card creations and very soon will be able to order the first cards.
There are other ways to use Bitcoin too — you can make a direct transaction, purchase goods and pay for services all over the world. There are even other ways to convert Bitcoin to USD, although Bonpay Cards are better.
When Bitcoin will replace fiat money
Ever since January 2017, the internet is full of crypto evangelists. They claim that this is the age of Bitcoin and you should sell all your fiat to invest into this bright future. They claim that Bitcoin will become the official currency of the world in the next decade. They also have no idea what they are talking about.
Bitcoin is not ready to replace fiat. And it won’t be for a while. Current 5 million users are low numbers compared to the worldwide population, and the system itself does not scale well enough. Introduction of The Lightning Network will help, but not completely alleviate this problem. The technology needs to mature — and that takes time, trust and many other resources Bitcoin does not have.
However, it doesn’t mean that you should stop using Bitcoin. Bitcoin users already can feel the benefits it provides — anonymity, decentralisation and ease-of-transfer. More and more businesses start supporting Bitcoin every day, and it becomes more and more viable. Even the governments that initially criminalised Bitcoin are beginning to embrace it.
Getting rich was never the goal for Bitcoin. It was meant to become the currency of the digital world and provide an alternative to the dying economy. It is subject to high volatility and that is by design. It will never be a safe investment. If you just want to make a quick bank — maybe you should invest in something else.
But if you are sick of living in the failing economy that makes no sense — Bitcoin is the answer you need. The revolution for the better future and a more honest world has begun — and it is only getting bigger.
Originally published at bonpay.com on August 21, 2018.
