Bitcoin is the first decentralized electronic cash payment network that enables value to be transferred peer-to-peer. Unlike traditional payment networks, Bitcoin bypasses the need for a centralized body of control, such as a government or a central bank. Instead, activities and balances are stored on a public, shared ledger called the blockchain, which is verified by thousands of computers (called nodes) maintaining the network across the globe. Transactions are made with no middlemen so anyone with access to the Internet can transfer money to anybody anywhere in the world.
I’ll be using the terms: Bitcoin (capital B) to reference Bitcoin’s protocol/network and bitcoin (lowercase b) to reference Bitcoin’s currency
“Bitcoin is a peer-to-peer version of electronic cash that allows payments to be sent directly from one party to another without going through a financial institution. The network timestamps transactions by hashing them into an ongoing chain of hash-based proof-of-work, forming a record that cannot be changed without redoing the proof-of-work.”
– Satoshi Nakamoto
Who created Bitcoin and why?
The fallout from the Financial Crisis of 2008 includes a bitter realization that the public is a pawn in a game led by the most wealthy and powerful institutions of the world. It proved that banks could not be trusted to regulate our economy, and that federal monetary policies are often predictable and favor the rich and powerful.
The first Bitcoin specification was published by Satoshi Nakamoto in 2009. Little is known about Satoshi and he mysteriously disappeared from the project in late 2010. However, a popular belief is that Satoshi Nakamoto is a pseudonym and Bitcoin was created in a collaborative effort by a group of people spread over different continents. What is evident is that Satoshi wanted us to never forget about bank bailouts and the failings of our financial institutions as he inscribed “The Times 03/Jan/2009 Chancellor on brink of second bailout of banks” to Bitcoin’s Genesis (first) block. Bitcoin carries on today as an open source project. Its community of developers has grown exponentially since its inception. A non-profit known as the Bitcoin Foundation oversees Bitcoin’s development.
“Bitcoin is completely decentralized, with no central server or trusted parties, because everything is based on crypto proof instead of trust. The root problem with conventional currency is all the trust that’s required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust. Banks must be trusted to hold our money and transfer it electronically, but they lend it out in waves of credit bubbles with barely a fraction in reserve. We have to trust them with our privacy, trust them not to let identity thieves drain our accounts… With e-currency based on cryptographic proof, without the need to trust a third party middleman, money can be secure and transactions effortless.”
– Satoshi Nakamoto
How does it work?
Please note my goal is not to do a technical deep-dive but rather to provide a general overview of how Bitcoin works.
Bitcoin has been described as a decentralized currency because the participants govern bitcoin generation and transactions instead of a central authority. Let’s say Bob wishes to sell his bicycle in exchange for Alice’s bitcoins. How would this work?
To send or receive Bitcoins, users must first have a Bitcoin “wallet” which allows them to facilitate transactions. Bob would first provide Alice with his Bitcoin address (similar in concept to an e-mail address) so she knows where to send her bitcoins. Alice creates a payment with her wallet to Bob’s address, and signs her payment with a digital signature that is the mathematical equivalent of a traditional signature that binds Alice’s identity to the details of her transaction.
Once Alice hits send, her transaction is broadcasted to the nodes maintaining the network. Pending transactions are grouped together into “blocks”. From there, special nodes called miners verify that Alice has the bitcoins to spend and that her signature is valid. Miners play the crucial role of verifying and adding blocks to the official records. Miners spend computing resources to compete with other miners to solve a complex mathematical puzzle to arrive at a solution called Proof-of-Work. Each block contains a group of transactions that points to a previous set of transactions all the way to the first set of Bitcoins called the genesis block, effectively forming a chain. The first miner with the correct solution broadcasts their block to rest of the network. Once the solution is verified, the block is appended to previously verified blocks, officially updating the blockchain’s records. As a reward, the winner is compensated with newly created Bitcoins and transaction fees associated with that block. At this point, Bob will see Alice’s payment in his wallet and he can send the bicycle to Alice.
Why use Bitcoins?
“Instant transactions, no waiting for checks to clear, no chargebacks (merchants will like this), no account freezes (look out Paypal), no international wire transfer fee, no fees of any kind, no minimum balance, no maximum balance, worldwide access, always open, no waiting for business hours to make transactions, no waiting for an account to be approved before transacting, open an account in a few seconds, as easy as email, no bank account needed, extremely poor people can use it, extremely wealthy people can use it, no printing press, no hyper-inflation, no debt limit votes, no bank bailouts, completely voluntary. This sounds like the best payment system in the world!”
– Trace Mayer J.D., a Leading Monetary Expert on Bitcoin and Gold
No middle man means lower transaction cost. Traditional wire transfers and foreign transactions are costly and slow. On average among national banks, it costs $25 for outgoing domestic wire transfers and $44 for outgoing international wire transfers; in comparison, most e-Wallets and cryptocurrency exchanges charge a nominal 0.25% to 1% fee to send bitcoins that reach your recipient in hours. Fees associated with bitcoins are negligible compared to fees of established banking institutions, credit unions, or companies like PayPal and Venmo.
The absence of a centralized governing body means no one can tell you what you can or cannot do with your digital cash at any time — there are no bank holidays, no borders, no restrictions. Traditionally, sending cash internationally takes at least 3 days of processing time plus paperwork and fees. When you send bitcoins to someone, you transfer directly to his or her address within a day with no additional hurdles. There is also no way for a third party to suspend or confiscate your bitcoins. Bitcoin offers a global payment system that is fast, secure and cheap. You have complete control of your money with Bitcoin.
Lower Risk for Merchants
Once a transaction has been verified and recorded on the blockchain, it cannot be reversed. Bitcoin transactions are immutable once on the blockchain. Merchants can have peace of mind knowing they can send out goods with no risk of “charge-backs” where customers receive goods then reverse payment; this mechanism inhibits fraud which lowers merchants’ risk to conduct business online. Since Bitcoin can be used by anyone with Internet, merchants can expand to new markets by accepting bitcoins where currency or credit cards are unavailable. Furthermore, Bitcoin’s fast settlement time can streamline a merchant’s business operations.
With the blockchain, the complete bitcoin transaction history is readily available for anyone to view. The fully auditable nature as well as Bitcoin’s cryptographically secure protocol make Bitcoin difficult to be manipulated by any individual or organization.
Banking for the Unbanked
It is estimated that there are 2 billion unbanked people worldwide who are limited to transacting in cash, which is feasible only in local transactions or in relatively small amounts. Bitcoin enables the unbanked to participate in the global market where bitcoins are accepted. Bitcoin offers a stable banking system that’s robust and accessible to everyone.
Bitcoin is not Inflationary
A problem with fiat currencies is that Central banks can print more money when they feel there is a need. Whether the reason is to jump start the economy or to help pay off national debt, an artificial increase of money supply creates inflation by driving down the overall value of a currency. Bitcoin is not subjected to inflation as Bitcoin is capped at a maximum of 21 million coins.
Originally published at crypt0bits.com (that’s Crypto with a zero) on October 19, 2017.