In the spring of 2011, I read a story on Slashdot about Bitcoin, described as an “untraceable, un-hackable” digital currency predicted to be outlawed by the world’s governments. My interest piqued, I tried Bitcoin, investigated its mechanics, and was convinced that we were on the cusp of a major digital shift.
Like most ideas which emerge from the internet’s long tail of innovation, Bitcoin was originally fetishized by a number of digital/crypto/techno enthusiasts (like me). Inevitably as its various utilities became more clearly understood, speculators have driven the value of the currency through the roof (although its been a bumpy ride.) Bitcoin is no longer in the fringes of society, it — or the concepts underpinning it — are here to stay.
Related to my work at Undercurrent helping large organizations cope with digital change — adopting a Responsive O/S — I’ve written the following to build an understanding what Bitcoin is, why it matters, and where it — and related concepts — may be heading.
What is Bitcoin?
1. Bitcoin is a digital bearer instrument: a way to exchange value between untrusted parties over an insecure network.
2. Bitcoin has no central bank or clearing house, instead parties transact Bitcoins using a decentralized ledger. When you purchase Bitcoins using an exchange — say, trading dollars for Bitcoins — you are purchasing entries on the ledger.
3. Parties store Bitcoins in a Bitcoin wallet. Wallets generate their own identity, a string of numbers similar to an account number. Parties may create any number of wallets. Since wallets can be self-created and parties exchange value using only a wallet’s identification number, transactions are essentially anonymous. A wallet may be provided by an application or on-line service.
4. New Bitcoins are created by miners, a process where new entries on the Bitcoin ledger are “discovered” by solving difficult cryptographic problems. The reward for solving these problems decreases with time in accordance with Moore’s Law (a assertion that computing power roughly doubles every two years) and thus governs the rate of inflation in the network. Mining also maintains the integrity of the decentralized ledger. The Bitcoin ledger is designed not to exceed 21 million coins.
5. Nobody knows who created Bitcoin. The concept for Bitcoin was first described by Wei Dai on the cypherpunks mailing list. The first implementation was published in 2009 by Satoshi Nakamoto — a pseudonym — on a cryptography mailing list.
Why is it Significant?
- Bitcoin represents a tremendous societal shift: it enables a near anonymous exchange of value over the internet, a purely digital currency, without a central bank or governing authority. As a society, we are only just beginning to understand its ramifications.
It speaks to the power of digital ideas to re-write the rules beyond how consumers interact, but how they can change the fundamental shape of things like money.
2. Bitcoin renders certain kinds of payment fraud obsolete. Since the receiver of a Bitcoin payment does not get any information from the sender that can be used to steal Bitcoins from the sender in the future; stealing 70 million items of personal credit information from Target’s retail operations would be impossible. There wouldn’t be any information to steal.
3. No payment fees when compared to traditional transaction processing make Bitcoin attractive to online retailers. Chris Dixon, partner at Andreessen Horowitz, illustrates:
Let’s say you sell electronics online. Profit margins in those businesses are usually under 5 percent, which means conventional 2.5 percent payment fees consume half the margin. That’s money that could be reinvested in the business, passed back to consumers or taxed by the government. Of all of those choices, handing 2.5 percent to banks to move bits around the Internet is the worst possible choice.
Future Trends to Watch
1. Increasing adoption by both on-line and traditional vendors: Marc Andreessen makes a powerful case for Bitcoin in the physical world:
You fill your cart and go to the checkout station like you do now. But instead of handing over your credit card to pay, you pull out your smartphone and take a snapshot of a QR code displayed by the cash register. The QR code contains all the information required for you to send Bitcoin to Target, including the amount. You click “Confirm” on your phone and the transaction is done (including converting dollars from your account into Bitcoin, if you did not own any Bitcoin).
2. Increasing pace of innovation surrounding Bitcoin: new incubators housing inventive new start-ups such as CoinLab in Seattle, BitcoinEAST in Japan, and Seedcoin — a virtual incubator backed by Havelock investments.
3. Increasing public adoption: Congressman Steve Stockman (R-TX) carried a giant QR code with his Bitcoin wallet id accepting donations for his 2014 campaign at the opening of the BitcoinNYC community
4. Increasing speculation of alternative currencies: adoption, innovation, and understanding surrounding alternative digital currencies such as Namecoin, Litecoin, PPCoin, Mastercoin, and others.
5. New vocabulary: as BitCoin’s value skyrockets, BTC$0.001 is colloquially referred to as “1 millibit,” worth about USD$1 at the time of writing.
6. Risks: BitCoin’s value rests upon the volume and velocity of payments running through its ledger and speculation on its future value. Its value could be undermined by flaw discovered in its underlying algorithms, complexities in scaling its distributed ledger, disruptive leaps in computing power (such as Quantum computing), or the effects of scarcity when all 21 million BitCoins have been mined into existence.
Bitcoin points directly at the underlying need and demand for the anonymity of transactions, the desire for a digital equivalent of cash. It also illustrates how quickly a technology can become a speculative market.
Most importantly it speaks to the power of digital ideas to re-write the rules beyond how consumers interact, but how they can change the fundamental shape of things like money.
There is no substitute for the knowledge gained by doing: try Bitcoin. Open an account on an exchange such as Mt. Gox. Use a wallet service or like Coinbase or download a wallet application. Spend some coin; maybe it’s time for a new shirt from Overstock.com?