What is Bitcoin?
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These days you will find people using the term bitcoin which is a cryptocurrency. But what really is bitcoin?
It is not difficult to explain to tech savvy people what bitcoin is, but to the people with no technology background, it is quite a challenge. Let’s try and break it down.
So What Bitcoin Is Really?
Bitcoin, also known as BTC and XBT, is one of the cryptocurrencies, virtual currency or digital money used for peer-to-peer transactions online.
- It is an open source software that operates on the blockchain technology.
- It was created in 2009 by an unknown computer genius using the alias name Satoshi Nakamoto.
- He created it to enable people to carry out transactions without having to go through financial institutions that charge exorbitant fees and also avoid the bureaucratic processes synonymous with these institutions.
- Bitcoin is different from fiat money in that it is virtual and can never be printed. It is also not controlled by any institution making it decentralized and accessible to everyone.
Bitcoin operates on what is known as the blockchain technology. This is a ledger that cannot be corrupted. You can record financial transactions and anything of value. This technology allows distribution of digital information while restricting any possibility of copying that data.
How to Get Bitcoins?
If you want to own Bitcoins, here is the process that you should follow;
Find a reliable platform and create a digital Bitcoin wallet.
- This wallet will generate for you a Bitcoin address unique to your account. For more about wallets, visit our Bitcoin wallet guide.
- Find a reliable exchange and get a reliable merchant to sell you bitcoins. You can buy a fraction of this coin, the smallest being one hundred millionth of a full coin called a Satoshi after the coin’s founder. For more about buying, visit our Bitcoin buying guide.
- You’ll then after sending fiat currency sender the merchant your bitcoin address for them to load that value of bitcoin to your wallet. Note that these transactions are irreversible, so once you send or receive bitcoins, they cannot be reversed.
You can also trade XBT/USD, XBT/Euro and with other crypto coins.
Alternatively, you can provide services or sell goods and ask people to pay you using bitcoins. You simply provide them with your address and you receive the coins in your wallet. If you want to sell, you follow the same process only that now you are the one receiving normal currency first before sending the coins. You can also use the coins to pay for goods and services where they are accepted- for more about who accept Bitcoins– visit our guide.
So, How Do You Send and Receive Bitcoins?
- You require a bitcoin address which is a sequence of numbers, letters and a private key.
- The private key is secret, but the address is public.
- You give out your bitcoin address to the sender who then signs a transaction using his or her private key.
- The sender will then release the bitcoins of a given value to the bitcoin network for verification.
- After the verification, this transaction is recorded in the blockchain or ledger as your balance increases.
Where Do Bitcoins Come From?
Bitcoins creators ensured that only a limited number of coins, about 21 million would ever be available, this cap will be reached at 2148, today there are 16,808,737 bitcoins. Bitcoin uses a distribute protocol called PoW (proof of work), These coins can only be created by a process called mining.
- This process involves solving complex mathematical problems to get a block that is then distributed to the blockchain.
- The cryptographic problems are so complex that it takes “super” computers to solve them while the get progressively harder.
- Once a group of miners manage to solve a problem, they are rewarded with about 12 bitcoins which must still be confirmed by peers in this network.
- Currently, these machines consume a lot of energy with a single trade consuming electricity that could power a standard home for a whole month.
It is this scarcity and peer confirmation that gives these coins their value. Unlike fiat money that was once backed by gold, the peer community, the difficulty in mining and their scarcity give these coins their value. It is based on the complex mathematical problems. You’re going to hear a lot about this coin from bitcoin news platforms. For more about mining, visit our Bitcoin mining guide.
What Bitcoin supposed to offer
- Decentralized– Unlike fiat currency that is controlled by banks and governments, bitcoin has no central controlling authority.
- Easy to set up– You only require a digital wallet, get a digital address then receive your bitcoins from merchants in various exchanges.
- Its anonymous– Digital wallets use pseudonyms instead of real names like bank accounts.
- Its transparent– All transactions done on the blockchain technology must be verified by others in that chain. It is nearly impossible to fake a transaction.
- Reduced fees– Banks and other financial institutions charge a lot of money for transactions. With bitcoins, you only pay a small transaction fee to various platforms.
- Its fast– Unlike other financial institutions that usually have long procedures when carrying out transactions, bitcoin transactions are fast and simple. They are almost instant.
- Non-reputable– This means that transactions are not reversible. Once you send your bitcoins to another person they are gone forever, not unless the person you’ve sent refunds you.
- Not tangible– Bitcoin is a virtual currency. There is no tangible entity of these coins. There are only transactions that either increase or reduce one’s coins in their wallet. All transactions are recorded in a public ledger known as the blockchain.
What has Changed Since?
Several things have changed since the introduction of bitcoins. For instance
- the price of bitcoin has risen substantially, thus, transaction fees have also increased up to 28$ to catch a spot on a block!
- Bitcoin exposed to be Unusable for multi-user usage- transactions got slower, and people accidentally set double payments due the slowness of the transaction.
For more about problems of Bitcoin, visit our complete Bitcoin problems guide.
What Does Decentralization Mean?
In the case of bitcoins, it means that there is no central governing or regulating authority. Transactions are directly among peers only without having to go through a regulating body. Transactions are all recorded in a public ledger where independent peers must confirm to have them verified. There is no one among these peers that has absolute authority. This means that no one can ever control stakes in this community.
Are Bitcoins Taxed?
Internal Revenue Service (IRS) treats bitcoins as an asset or intangible property. Every citizen in the United States of America (U.S.) is required to report every bitcoin transaction irrespective of its value. The IRS considers any form of buying using bitcoins as bartering. If you use bitcoins in such a manner, you will incur the capital gains tax.
There are various other scenarios that the IRS will tax you if you carry bitcoin transactions.
- If you personally mine and sell bitcoins to a third party, then you will incur personal or business income.
- If you buy bitcoins from another person then sell them to another.
- If you use bitcoins you’ve bought from another person to pay for goods or services
- If you mine bitcoins and use the same to pay for goods or services.
- If you hold bitcoins for less than a year and then sell them, you’ll incur a short-term capital gain tax. If held for more than one year, you incur a long-term capital gains tax.
It is, however, not easy to determine what amount to tax since bitcoin prices are very volatile. IRS is asking investors to report these transactions consistently to keep up with the changes in price. It has issued a Bitcoin Tax Guide to direct people on bitcoin taxation and reporting.
Can Bitcoin be Regulated?
Bitcoin operates on a peer-to-peer system in which there is no central regulating body. The transactions are recorded on a public ledger where these peers can confirm to verify transactions. The main aim of this technology was to avoid a third-party control to minimize expenses and bureaucracies.
The U.S, China, Singapore and Japan want to institute measures to check cryptocurrency transactions. This move is in a bid to stop widespread money laundering associated with digital anonymous transactions. According to the Nikkei Business Daily, Japan wants to put an oversight on digital currency exchanges and initial coin offerings (ICO) used to raise funds for start-ups. China has already made the ICOs partially illegal.
How Governments and Banks View Bitcoins?
It is difficult to regulate or stop digital currencies due to the nature of their transactions. Zennon Kapron, the founder and director of Kapronasia said that the only definitive way of stopping bitcoins in china would be to shut up the internet entirely which is not possible. These currencies are decentralized, encrypted and transactions are pseudonymous making them difficult to trace. It is this nature that governments see them as potential avenues of funding illegal activities such as terrorism and participating in money laundering. For more, visit our Bitcoin and banks page.
Bitcoin Energy Consumption
One of the ways people acquire Bitcoins is through mining. The process involves using high-powered computers on a distributed network to solve an open source mathematical problem. It is through solving this problem that the miners are rewarded with a token that is then registered on the blockchain system.
- The hardware used to solve these problems consume a lot of electricity. It is not entirely clear how much electricity Bitcoin mining consumes, but it is estimated to about one percent that of the U.S. economy. This figure is arrived at by looking at the total revenue of Bitcoin at any time.
- It is estimated that Bitcoin consumes 60% of its revenue. Only 75 Bitcoins are mined every hour, so you multiply this by the value of bitcoin at any given time. This energy consumption will rise as bitcoin price rises.
- The system is designed in such a manner that the mining figure falls by half every four years (HALVING). This means that if it is at 12.5 coins this year, it will be about 6.25 by 2020. If the price of bitcoin were to stabilize, miners would shut off some equipment thus consuming less energy.
- Another way energy consumption will be reduced is if bitcoin price declines. Miners activate their machines in relation to the rise in bitcoin value. If for instance bitcoin price was to drop down by a half, then energy consumption will also fall by the same margin to regulate losses.
- Other digital currencies have come up with other methods that consume less energy and more are coming up.
Bitcoin Gold, for instance, uses the “memory-hard” which consumes less energy as compared to bitcoin’s method.
Currently, a lot of miners and mining companies are based in China due to low electricity costs. A few are in the Scandinavian countries. If governments were to try and stop the mining activities or control transactions using fiat currencies, it would take a global coordinated regulatory effort which is not about to happen anytime soon.
Bitcoin and Criminal Activity
Bitcoin transactions are pseudonymous. This means that it is difficult to trace back the transactions since the people carrying those transactions have their identities hidden. Since identities are hidden, people tend to use bitcoin to fund illegal activities such as terrorism. There has also been a rise in money laundering activities due to the nature of bitcoin transactions. Even though bitcoin transactions are recorded in a public ledger, it is only the transactions and not the identities of the people carrying them out are recorded. Authorities can try tracing back these transactions using IP addresses, but these too can be hidden. Despite this set back in the use of bitcoin, this currency will still gain ground as the blockchain technology continues to grow and develop.
Why We Still Need Bitcoin?
For years now, large financial institutions and governments have been running world economies. Central banks have been controlling the extent to which individuals can trade and have also been controlling the value of money by printing fiat currencies to suit their needs. The blockchain technology is set to offset that control by ensuring that people only earn what they deserve. Enabling peer-to-peer lending will change the world’s economy a great deal. People will save more money and avoid bureaucratic procedures that inhibited trade as well as unnecessary taxes. It will also be possible to give true value to goods and services.
What is a Fork?
Digital currencies are computer-generated codes. The developers of these codes can decide to update them for various reasons. A fork occurs when there are two ledgers of the same coin either by accident or by design. In the case of an accidental fork, the ledgers become incompatible. In this case, the developers must work hard to merge the two for the system to function normally.
- Developers can create forks intentionally. These are what are referred to as hard forks.
- This process involves creating a new version of the coin like bitcoin cash and bitcoin gold. In such a scenario, investors must agree on which blockchain to verify and record transactions. They also must agree on the rules to be followed. It is very easy for investors to lose their coins and their money in the event of a fork.
- A hard fork can cause a problem if all the peers fail to agree unanimously. If a section of peers decides to remain with the older version, then a problem arises. Miners and developers must agree if they are moving to a new block chain, otherwise such a coin may collapse.
- A soft fork occurs when there is a change that can be reversed. Ideally, these transactions should be irreversible. If in a situation where instead of 1MB blocks, there arise a new rule that accepts 500KB blocks, then such a scenario brings about two chains. Any node that is not upgraded will validate the new transactions.
Those nodes with more hash power will soon overpower those with less and begin to reject transactions from the non-upgraded nodes. That fork with less hash power becomes the shortest chain and eventually dies out.
Bitcoin cash is a hard fork of bitcoin that has maintained the original idea of digital transactions. It is an upgrade of the Bitcoin Core version released at the beginning of August 2017. This currency had an increase of 8mb of its block size allowing users and miners to process more transactions per second. It is now cheaper and faster than BTC, whose prices have increased significantly and transfer time increased now taking hours and sometimes days.
Bitcoin Gold is also a fork of the Bitcoin blockchain. This currency comes with an aim of maintaining peer-to-peer online transactions which was bitcoin’s original idea. Bitcoin Gold will be a new and distinct branch of bitcoin. Its aim is to decentralize the currency. currently, a few miners have a lot of control with specialized mining equipment. Satoshi’s original idea was to have every single PC equal power to the other. Specialized miners have breached this idea by having super computers overpower personal PCs in bitcoin mining. This version will be more democratic and decentralized.
Is Bitcoin the Solution?
Bitcoin started out as a promising digital currency for unregulated transactions. However, with increased transactions in its blockchain, the core idea has diminished. Here are some disadvantages of using bitcoins
- Transactions are now very expensive.
- Transactions take hours sometimes days to get verified.
- PoW- the mining protocol Bitcoin uses, will soon vanish and be replaced with non energy consuming protocols like PoS.
Due to these and other limitations, Bitcoin slowly loses his monopoly over the cryptocurrency market and Other coins are coming up with more efficient technologies. These coins include Ethereum, Litecoin and Dash among others.
Ethereum is an open software platform that is based on the blockchain technology. It allows developers and users to build and distribute decentralized applications. Unlike bitcoin that only offers a payment platform, it runs the code of decentralized applications. People work to earn ether rather than mine like in the case of bitcoin.
This currency runs on smart contracts, a kind of code or software that enables automatic exchange of money or property when certain conditions are met. These contracts are not prone to fraud, censorship or downtime. Unlike bitcoin that is limited to processing codes, Ethereum allows users to create operations of their choice. In the Ethereum blockchain, developers can also run as many applications as they wish thanks to the Ethereum Virtual Machine. These applications are possible on a single platform.
Litecoin is another cryptocurrency created from Bitcoin’s source code. It was created by Charlie Lee. It is faster than bitcoin in that it takes much less time and effort to transact. Litecoin also has lower transaction fees than bitcoin. it also has a higher supply cap of about 84 million coins. Bitcoin has only 21 million. The coin operates on a different script from bitcoin called Scrypt.
Dash digital currency focuses on speed and privacy. It relies on a set of 11 algorithms that ensure fair distribution among miners. This algorithm is unlike bitcoin and litecoin that only operates using a single algorithm. It is also referred to as the ‘Dark coin’.
Bitcoin’s History so Far
Bitcoin’s journey began in 2008 with an anonymous individual referred to as Satoshi Nakamoto. In 2009, the bitcoin creators introduced its software to the public for mining for the first time. These coins began being valued in 2010 rising to as high as $0.39. Like many commodities, it is supply and demand that pushes the price of these coins up and down. when there is too much demand, the price goes up and vice versa. Bitcoins maximum supply cap is 21 million coins.
- The difficulty in mining and the cost of hardware used to mine these coins has been pushing their price way up.
- Bitcoin mining is limited and depreciates by half every four years making the coins rarer.
- Price is also pushed up by speculators who try to cash in on this trade pushing the price way up and then collapsing after getting to a certain peak. Bitcoin has had two such bubbles in the past and is likely to experience more.
In 2013, after bitcoin price had hit $1000, it later crashed to $300. It took two years to 2015 for it to get to that price again. In 2014, the bitcoin world lost 850,000 bitcoins after the largest Bitcoin exchange was hacked. Those coins would be worth about $4.4 billion today. In 2016, Bitcoin faced stiff competition from a new crypto called Ethereum. There was also an introduction of ICOs that were used to raise funds for start-ups. The SEC in the U.S warned people against them while they received a complete ban in China. The negative connotation created around ICOs led to a decline in prices of digital currencies.
In 2017, however, things have changed gradually for Bitcoin and other currencies. Increase in places where they can be used and too much hype in the online market space has seen Bitcoin rise by 1000%. Bit coin’s price increased from $1000 to more than $15,000 hitting an all-time high of about $18,000.
Recently Bitcoin has lost a little sitting at about $14,000 at the beginning of 2018. Whether this price will rise again is a mystery.
Whether Bitcoin and his sequential’s replace fiat currency as a form of exchange and payment is still a long shot conclusion, It is still not easy to determine their future, but they are definitely here to stay and keep surprising us each day.
Thank you for checking out this article. Please make sure you have a look at our website and learn more about cryptocurrencies.