What is Bitcoin?

What are Bitcoins?

I’m sure by now most people have at heard the term at least once. You’re probably wondering why everyone’s talking about them, and why some people are investing great resources into this new digital currency.  Hopefully by the end of this post you will have a much deeper understanding of Bitcoin, or at the very least, understand why it’s such a big topic of discussion.

The concept of Bitcoin (BTC) was first introduced in a paper written by Satoshi Nakamoto in 2008. It should be noted right away that Satoshi Nakamoto is almost certainly not their real name. Bitcoin is known as a cryptocurrency which means that it operates on a decentralized peer-to-peer network. There is no central authority, everyone agrees to follow set rules, the rules are baked into the network. This is a very important part of Bitcoin, since there is no central authority over Bitcoin it can’t be tampered with, and more importantly it can’t be easily manipulated.

Bitcoins use what is called a blockchain, this is a public record of every transaction on the Bitcoin network. It is made up of many blocks, a block is a list of transactions waiting to be added to the blockchain.

Where do Bitcoins come from?

Bitcoins are stored in blocks, which also contain a list of every transaction. All Bitcoins started with the Genesis Block. This was the first block ever made. After that, a new block is formed by adding up all the transactions leading up to the current block, and by solving a very complex math problem. This math problem varies in difficulty so the Bitcoin network will always take roughly 10 minutes to generate a new block. The amount of Bitcoins that are in a block are halved every 4 years. This is why Bitcoin really shines as apposed to a standard fiat currency. As a result of the 4 year halving there is a hard limit of 21 million BTC in existence. There will never be more than that. The difficulty of the math problem that must be solved is adjusted roughly every 2016 blocks. This ensures that BTC are released at a steady pace, regardless of how much power exists on the network.

In the early days of Bitcoin, everyone used their computer’s CPU. A CPU is your computers processor. The CPU is good at doing general math problems, but not well suited for hashing encryption.  As more miners grew, people started using their video cards. Video cards were much better suited for calculating hashes as they are already doing similar match problems for calculating video display. At this point, CPUs were still effective, but their rate of return was less than that of the video card miners. After video cards came FPGA boards. These were very specialized boards used for calculating complex math problems very fast, this proved to be very well suited for calculating Bitcoin hashes. With FPGA, CPU mining was all but obsolete. The next step up is ASIC, which is similar to FPGA but is extremely specialized at only computing the types of math problems the Bitcoin network uses. The ASIC boards were created to only calculate Bitcoin hashes. These ASIC boards will be worthless for any application other than calculating the types of hashes used by Bitcoin.  ASIC mining has made all other forms of mining completely obsolete. Even some early ASIC boards are worthless – that is to say if you bought an early ASIC board today it would be highly unlikely that you would get a return on your investment and would most likely lose money due to power costs.

At the time of this writing, mining is next to worthless. Mining would only be profitable if you happen to have hundreds of thousands of dollars to spend on mining equipment and a facility with enough power to support all that hardware.. The only reason the average Joe should be mining would be to gain knowledge of how it works or to support the Bitcoin network by helping to confirm transactions faster.  Getting into Bitcoin is easy as you can simply purchase Bitcoin through a site like Coinbase or Circle.  The value of Bitcoin is always changing, and right now it is still considered to be in its infancy. But as more and more merchants start accepting Bitcoin, the value will only climb.

What do I do with my Bitcoin?

This seems simple at first. Since demand for Bitcoin is growing and the value is steadily climbing, the logical conclusion would be to hoard all your Bitcoins and cash in when they’re worth a lot of dollars, right? Not exactly. If Bitcoin is truly going to shine, early adopters have to give up their dreams of being super rich. They need to understand that Bitcoin is first and foremost a currency, not a stock. Buying items with Bitcoin is the best way to make your Bitcoin investment truly worth anything. I’m not saying don’t save some, but definitely make it a point to spend your Bitcoin as often as possible.  It’s good to show retailers that their investment in Bitcoin was worth it. The best way to get retailers to notice is to spend your Bitcoin at merchants that are willing to accept this new form of payment.  Help show the competition that investing in Bitcoin will pay off for them. The more you spend Bitcoin, the more it will spread organically.

Along with the dramatic change Bitcoin is bringing, new shopping sites are springing up with the spirit of  Bitcoin in mind. One such project is OpenBazaar. OpenBazaar is a decentralized market place with no true middle man. This allows for lower investment cost. This means local mom and pop shops can sell merchandise anywhere they want without having to pay heavy fees to get their product out there. Local honey farmers in Oregon can sell their honey to someone in Florida for the same price they would have sold it to someone at the farmer’s market (plus shipping of course).

At this point you might be interested in buying some Bitcoin on Coinbase or Circle, but don’t feel like committing a few hundred dollars to the cause.  This is where another aspect of Bitcoin truly shines, you don’t have to spend an entire coin. Since Bitcoin is a virtual currency it can be divided to many decimal places. You don’t need to buy one whole Bitcoin to get started. If you want you can start with $10 worth just to get your feet wet.

Wallets, Cold Storage, 2FA?

This is the part that is probably the biggest hurdle right now.  Bitcoin is a lot like gold, in that you don’t have a central authority regulating it. It just exists and people use it, except gold isn’t accepted at any retailers that I know of, short of maybe jewelry shops.  Bitcoin can be stored on sites like Coinbase, Circle, and blockchain.info Note: blockchain.info is not the actual blockchain, just a website with a catchy name. The problem with storing Bitcoin on a website is your currency is now at the website’s mercy. If they somehow have a backdoor mechanism to your Bitcoin they could choose to take advantage of it later on.  This is why many people advise against storing Bitcoin online. If you do choose to use a site like blockchain.info, is is strongly suggested that you enable 2 Factor Authentication (2FA). Most websites have adopted Google Authenticator, blockchain.info included.

Cold storage is the best long term solution for Bitcoin, however it is definitely the most difficult of the mix. It involves using a computer that has never and will never be connected to the internet.  All transactions are done over USB stick. First you would install a fresh copy of the OS of your choosing, then install the wallet of your choosing.  I use Armory as I feel it handles offline transactions the best.  Another option for cold storage is paper wallets. These are exactly what they sound like, they are just a piece of paper with a QR code for the wallet printed on them. All you have to do is send the coins to the paper wallet and store it some place safe, the important thing here is to make sure the QR code is not shown in any photographs or videos.  If you ever decide you want to spend your paper wallet, all you have to do is “sweep” the wallet, which is where you generate a new wallet, and pull all the Bitcoins from your paper wallet to your regular wallet.

Hardware wallets are a relatively new advancement in the Bitcoin. Hardware wallets have two factor authentication built into them. They are highly secure and unless you have the password and the PIN you would not be able to gain access to the Bitcoins stored inside. Personally I went with the Trezor wallet. The initial buy in for the Trezor might seem a little high, but for me It’s worth it for ease of use along with peace of mind. The reason I chose the Trezor is because it has a display which allows an extra layer of security against faking addresses. There are other options such as the hardware wallet HW.1

For daily spending I suggest a mobile wallet such as Bitcoin Wallet for Android, I would advise against storing more than you plan on spending on a mobile wallet as they would be the most susceptible to theft due to their strong convenience factor.

I heard Bitcoin was crashing?

All the news of merchants accepting Bitcoin seems to be causing the price of Bitcoin to drop rather than increase. This isn’t a coincidence, in fact it makes perfect sense. What is happening is merchants aren’t holding their Bitcoin. What they are doing is immediately converting it to fiat. They are doing this because they don’t fully trust Bitcoin yet but still want to cash in on the whole “Bitcoin craze”. This creates an abnormally high sell volume which isn’t actually the case. So instead of Bitcoin actually propagating to the market naturally, they are going right back to the exchanges where users aren’t buying more Bitcoin as quickly as they are spending it. The phrase has pretty much become a running joke at this point, but this is actually good news! In the short run it is artificially keeping the price of Bitcoin low, allowing for a much better initial buy in cost. As businesses start seeing the value in Bitcoin they will start holding, and possibly even paying salaries in Bitcoin. When this starts happening the value will only increase.  This is why right now is the best time to be buying Bitcoin. Please be wise and never spend more than you are willing to lose when making investment choices. Even “sure things” can fail.

 What’s next for Bitcoin?

Bitcoin is in its infancy, and it is still considered to be a “risky” investment. There are still many hurdles to cross. while Bitcoin doesn’t need government approval to exist, it does need government approval to be spent at major retailers. If governments decide they don’t like Bitcoin they can impose regulations which would make it very difficult to spend Bitcoin. Though as mentioned before, OpenBazaar might prove to be a solution to that problem as well. If you believe in Bitcoin it is a good idea to stay connected and make sure your representatives know you want them to vote in favor of not regulating Bitcoin.  There are pros and cons to everything, having a currency the government doesn’t control is good in the sense that they cannot just print more whenever they want to.

Currently Bitcoin is helping to stimulate the economy in ways banks can’t (or won’t). In Colorado recreational marijuana is legal on a state level, while it still remains illegal on a federal level. It creates a tricky situation for banks as they are governed on a federal level and cannot accept illegal drug money.  This is just one area where Bitcoin is helping overcome the shortcomings of standard government backed currency.

In the end nobody really knows where Bitcoin is going, there are believers like me, but there are still many people who want Bitcoin to fail.  As is usually the case, as long as something doesn’t encroach on someone’s interests they will be content to let it be. As soon as someone in power realizes Bitcoin might end their gravy train, we might see some strict and harsh regulations.  It is up to the individual people (you) to keep Bitcoin alive.