Bitcoin is a form of digital currency, created
and held electronically. No one controls it. Bitcoins aren’t printed, like
dollars or euros – they’re produced by people, and increasingly businesses,
running computers all around the world, using software that solves mathematical
problems.
What makes it different from normal currencies?
Bitcoin can be used to
buy things electronically. In that sense, it’s like conventional dollars,
euros, or yen, which are also traded digitally.
However, bitcoin’s most important characteristic, and the thing that makes
it different to conventional money, is that it is decentralized. No
single institution controls the bitcoin network. This puts some people at ease,
because it means that a large bank can’t control their money.
Who created it?
A software developer called Satoshi Nakamoto proposed
bitcoin, which was an electronic payment system based on mathematical proof.
The idea was to produce a currency independent of any central authority,
transferable electronically, more or less instantly, with very low transaction
fees.
Who prints it?
No one. This currency isn’t physically printed in the shadows by
a central bank, unaccountable to the population, and making its own rules.
Those banks can simply produce more money to cover the national debt, thus
devaluing their currency.
Instead, bitcoin is
created digitally, by a community of people that anyone can join. Bitcoins are ‘mined’, using
computing power in a distributed network.
This network also processes transactions made with the virtual currency,
effectively making bitcoin its own payment network.
So you can’t churn out unlimited bitcoins?
That’s right. The
bitcoin protocol – the rules that make bitcoin work – say that only 21 million
bitcoins can ever be created by miners. However, these coins can be divided
into smaller parts (the smallest divisible amount is one hundred millionth of a
bitcoin and is called a ‘Satoshi’, after the founder of bitcoin).
What is bitcoin based on?
Conventional
currency has been based on gold or silver. Theoretically, you knew that if you
handed over a dollar at the bank, you could get some gold back (although this
didn’t actually work in practice). But bitcoin isn’t based on gold; it’s based
onmathematics.
Around
the world, people are using software programs that follow a mathematical
formula to produce bitcoins. The mathematical formula is freely available, so
that anyone can check it.
The
software is also open source, meaning that anyone can look at it to make sure
that it does what it is supposed to.
What are its characteristics?
Bitcoin
has several important features that set it apart from government-backed
currencies.
1. It's decentralized
The bitcoin network
isn’t controlled by one central authority. Every machine that mines bitcoin and
processes transactions makes up a part of the network, and the machines work
together. That means that, in theory, one central authority can’t tinker with monetary
policy and cause a meltdown – or simply decide to take people’s bitcoins away
from them, as the Central European Bank decided to do in Cyprus in early 2013. And if some
part of the network goes offline for some reason, the money keeps on flowing.
2. It's easy to set up
Conventional
banks make you jump through hoops simply to open a bank account. Setting up
merchant accounts for payment is another Kafkaesque task, beset by bureaucracy.
However, you can set up a bitcoin address in seconds, no questions asked, and
with no fees payable.
3. It's anonymous
Well,
kind of. Users can hold multiple bitcoin addresses, and they aren’t linked to
names, addresses, or other personally identifying information. However…
4. It's completely transparent
…bitcoin stores
details of every single transaction that ever happened in the network in a huge
version of a general ledger, called the blockchain. The blockchain tells all.
If
you have a publicly used bitcoin address, anyone can tell how many bitcoins are
stored at that address. They just don’t know that it’s yours.
There
are measures that people can take to make their activities more opaque on the
bitcoin network, though, such as not using the same bitcoin addresses
consistently, and not transferring lots of bitcoin to a single address.
5. Transaction fees are
miniscule
Your
bank may charge you a £10 fee for international transfers. Bitcoin doesn’t.
6. It’s fast
You
can send money anywhere and it will arrive minutes later, as soon as the
bitcoin network processes the payment.
7. It’s non-repudiable
When
your bitcoins are sent, there’s no getting them back, unless the recipient
returns them to you. They’re gone forever.
So, bitcoin has a
lot going for it, in theory. But how does it work, in practice? Read more to
find out how bitcoins are mined,
what happens when a bitcoin transaction occurs, and how the network keeps
track of everything.
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