What is Bitcoin?
What is Bitcoin and how does Bitcoin work?
Bitcoin (BTC) is the most popular, valuable, and widely known digital currency. First launched in 2009, Bitcoin is the first wholly decentralized currency — unlike fiat currencies such as the US dollar or Euro, there are no banks or centralized authorities responsible for the issuance or management of Bitcoin.
Bitcoin exists on a worldwide network of computers operated by independent individuals and organizations. These individuals participate in the Bitcoin network by checking the validity of and processing transactions, ensuring the Bitcoin network is secure.
Like traditional financial institutions such as banks, Bitcoin balances and transactions are recorded on a ledger. Unlike the ledgers maintained by traditional financial institutions, however, the Bitcoin ledger is decentralized.
The launch of Bitcoin has had a profound impact on the traditional financial ecosystem, catalyzing the growth of a cryptocurrency market worth over $3 trillion. All cryptocurrencies in existence today rely on the fundamental design concepts of Bitcoin. What is Bitcoin, though, and how does Bitcoin work?
The History of Bitcoin
Bitcoin is a highly unique means of value transfer and storage in that the party or parties that originally created and launched the Bitcoin network are unknown. The Bitcoin white paper, which outlines the design, operation, and core principles of the Bitcoin network was originally published via a cryptography mailing list in 2008.
The Bitcoin network first launched in January 2009, with the original developer, Satoshi Nakamoto, sharing open-source client software that allowed users to participate in the Bitcoin network. Over time, the number of individuals participating in the Bitcoin network and operating “nodes” — a term that refers to a computer running Bitcoin software — has grown to over 200,000.
How Does Bitcoin Work & What is the Bitcoin Blockchain?
Bitcoin is an digital asset — Bitcoins exist as digital values on a decentralized ledger maintained by participants in the Bitcoin network. This ledger is not controlled by any single individual or institution but is instead maintained and secured by participants. Every party participating in the maintenance of the Bitcoin network downloads and maintains a copy of the BTC blockchain.
This massive network of separate copies of the Bitcoin ledger, or blockchain, is what allows Bitcoin to operate without the need for a centralized authority. When a Bitcoin user wants to send a transaction to another user, they will create a transaction which is then broadcast to the entire Bitcoin network.
This transaction is then verified by individuals participating in the Bitcoin network and, if verified, collected into a set of transactions called a “block.” Each block contains a set of transactions and a reference to the previous block, and is secured with complex cryptography.
Bitcoins exist within “wallets” on the blockchain. Each wallet is an address — Bitcoins are assigned to addresses and are transacted between these addresses.
What is Bitcoin Mining?
Bitcoin miners play a critical role in the maintenance and security of the Bitcoin network, and are a significant contributing factor in what makes Bitcoin valuable.
Any Bitcoin network participant can assist in processing Bitcoin transactions and adding them to the blockchain. To prevent malicious parties from adding fraudulent transactions to the blockchain, Bitcoin uses a system called “Proof of Work.”
A block of transactions on the Bitcoin network is collected into a group called a “block” and encrypted using an extremely complex algorithm. Bitcoin miners work to “solve” this block — the block, once encrypted, must be validated by solving extremely complex equations.
The first individual to solve the block and commit it to the Bitcoin blockchain receives a “block reward,” which is currently worth 6.25 Bitcoin. This is how new Bitcoins are created.
Why is Bitcoin valuable, though? Bitcoin mining isn’t free — the complex nature of the equation used to solve blocks means that it’s necessary to “guess” the solution necessary to commit it to the blockchain.
What is the Difference Between Bitcoin and Fiat Currencies?
The decentralized nature of Bitcoin is the most significant difference between Bitcoin and fiat currencies such as the US dollar. Bitcoin is not controlled by any centralized authority and is instead maintained through the collaborative efforts of Bitcoin network participants. Bitcoin wallets and transactions cannot be frozen, interfered with, or interrupted.
Another key difference between fiat currencies and Bitcoin is the limited supply of Bitcoin. The total number of Bitcoins that will ever exist is limited to 21 million. To date, almost 19 million Bitcoins have been distributed as block rewards to miners. Bitcoin is deflationary in nature, as opposed to the inflationary nature of fiat currency issued by state authorities.
Bitcoin as an Investment
The digital asset market is, when compared to traditional asset markets, highly volatile. Bitcoin benefits from network effects in that demand for Bitcoin increases as Bitcoin adoption accelerates.
Bitcoin and digital asset maximalist perspectives argue that the deflationary nature of Bitcoin makes it a potentially profitable long-term investment when compared to inflationary assets. Bitcoin represents a novel asset class uncorrelated with traditional securities and is therefore appealing to investors seeking to establish diversified investment portfolios.
Bitcoin as a Payment Method
Bitcoin, originally envisioned as a decentralized peer-to-peer payment method, can be used to purchase a wide range of goods and services. Over 15,000 businesses around the world now accept Bitcoin as a payment method, including travel booking and accommodation platforms or e-commerce platforms. Bitcoin is also frequently used to purchase real estate, with a number of international real estate agencies focused specifically on Bitcoin real estate sales, as well as exotic vehicle brokers.
What does the Future of Bitcoin Look Like?
As Bitcoin adoption accelerates, regulatory interest in digital assets is likely to increase. The relatively new digital asset ecosystem, however, is constantly evolving.
Broader institutional cryptocurrency adoption of Bitcoin as a speculative asset has generated significant capital flow into the Bitcoin network, establishing Bitcoin and other cryptocurrencies as a novel, uncorrelated, and volatile asset class worth taking into consideration in portfolio diversification.