Bitcoin. Bit-coin. Bit Coin. (Sign: ; code: BTC or XBT ). Get used to the word folks – you’re going to be rolling it around your tongue quite a bit in the years to come. Paged as the “next revolution in currency”, many are saying that it will do to the economic world what the internet did to mass media. So we will answer – the all-important question: what is the bitcoin, and does it matter?
It all began in 2008 with an unknown cryptographic researcher named Satoshi Nakamoto and his research paper describing the design for a new digital currency called the bitcoin. Till this day no one knows who Mr. Satoshi is or was – a person, an organization – we’ll never know. The name was a pseudonym – no one ever met him – and after producing the first 50 bitcoins and establishing a small community of users and “miners” (more on that later), communicating with them only digitally, he has disappeared. His community of bitcoiners remained – and grew. There have been digital currencies before the bitcoin – a great many of them actually – Ecash, bitgold, RPOW, b-coin, etc. – but all of them failed, due to one fundamental reason.
Okay – this bit is a wee bit complicated, so pay attention. Any currency, especially a digital currency, can be easily forged. Suppose one unit of ecash – 1 ecash dollar is stored as a piece of 16 bit code – anybody can copy and paste that code, just as they copy and paste text, and then use the same dollar again and again and again. To prevent this, any real or virtual currency – needs to have three things – an authorized producer of the currency, an authorized tracker of each note/coin/unit to see where it goes, and an identifying feature to differentiate between the real thing and the counterfeit. The last one is pretty easy – I’ll explain how Satoshi did it later – ut the first two are of great importance to us. Both require some trustworthy third party/institution to produce and monitor the currency – in the real world, as we all know, the govt. or the central bank does this job.
A virtual currency is international by definition – a govt. can’t take on this role – moreover, the objective of an e-currency is to free us from the restriction and mismanagement of govts. and banks – if the monitoring institution/third party is one of these, that’s just missing the whole point. So the need for such an institution was the downfall of previous digi-currencies, but Satoshi solved all these problems ingeniously with the bitcoin. He decentralized production of bitcoins, or “mining” as he calls it, by allowing anyone to download the open source software program that makes, or mints, or mines bitcoins. So I can make bitcoins – you can make bitcoins – anyone can make bitcoins. Now, that sounds scary – but just hold your horses for a moment. Even at the beginning of money – coins or paper money – any licensed bank, or person, could print notes of the currency and give them out – unfortunately, the banks started printing how much ever they wanted – too much money was created – leading to superfast inflation and other economic problems, and we realized in the end – a regulating central institution/third party was needed. Here Satoshi is simply too clever. He effectively removed the need for a third party regulator by making his program – his mining program – the regulatory mechanism itself. Okay – I’ll explain what that means with an example.
Suppose you are a miner, i.e., you want to make bitcoins. You will download the program that Satoshi wrote, and become like one of those banks in the early days of money. Unlike those banks however – you have absolutely no control over the amount of money being produced – it’s like you just allot a certain amount of space on your computer to the mining program, and then it just starts creating bitcoins at a certain rate – over which you have no control. When the coins are needed somewhere – your computer – and that program specifically – is contacted and the bitcoins are taken and used – put into the market, so to speak. And in the program, Satoshi has stored the fixed rate at which bitcoins are to be produced by the miners (who don’t have any control anyway), and thereby he, or in fact – the program, has a control over the total amount of bitcoins and their rate of production at any point in time – there can’t be unforeseen inflation – because no matter what the demand for the bitcoins is, the production will continue at a pre-determined rate, and there’s no need for a regulator (third party) to monitor production. And the production will continue at a controlled rate till 2140 – yes, he’s calculated that far (what a genius) – when the total number of bitcoins will become 21 million. It’s a limitation of the currency that 21mn bitcoins is the maximum number possible, and production will stop in 2140 – but that’s no big deal – if the currency grows big enough for these numbers to matter, anyone can modify the program to extend its capacity. Anyway, this everyone-can-mine-at-preconceived-rate also solved problem 2 – the miner, or actually his program, tracks all the bitcoins it has produced – furthermore, every transaction made with a bitcoin produced by my computer is validated by my computer. So, if anybody duplicates one of my bitcoins – as soon as he tries to use it – my computer knows – and only my computer can allow a transaction made with that bitcoin – therefore, he can’t use it. Making every miner also a tracker removes the need for a regulator at all.
It’s a user generated and user monitored currency. Satoshi’s final stroke of genius – he motivates people to become miners by giving a reward of a certain fixed number of bitcoins to every miner – a value that decreases as the total number of miners increases.
Enough theory – it’s a beautiful concept, but this isn’t a textbook. The theory was launched in 2008 and the first 50 bitcoins were mined on 3rd January 2009: what happened after? It had its ups and downs – the miner’s community grew till a high in 2011, when 1 bitcoin was worth $30. Bitcoins also have their faults – they are still bits of data in the end – easily erased or lost – especially when the miners (banks) are careless normal people. Also, dishonest miners started stealing the money – and so did hackers. Most importantly, they can be counterfeited – when you modify the mining program to your needs. A few scandals and accidents caused some bad publicity, and caused the price to fall to a low at the end of 2011. However, in the last 2 years – a realization of the possibilities of the bitcoin, and a greater acceptance – contributed to by a smaller number of miners – have caused the value to soar back up to $778 today. Is it the “next big thing” – that I cannot tell you. But does it matter – yes – because, if it does become the next big thing, you’ll be in trouble if you weren’t watching.
Photo Credits: Bitboy/forum.bitcoin.org (Cropped)
References: WIRED, bitcoin.org, Gautam Sharma