As the Bitcoin price moves above $50,000, mania is setting in, and a new wave of interest in cryptocurrencies has begun. Just like in 2017, when I first became interested in Bitcoin, lots of people find themselves asking, “WTF is Bitcoin” and why does the price keep crashing and then recovering even higher?
I’m going to attempt to answer these questions as simply as possible. I’ll assume you don’t know anything about Bitcoin, and I’ll write this for total beginners.
So…WTF is Bitcoin, and why is it such a big deal?
Bitcoin: Peer-to-Peer Electronic Cash
The title of the Bitcoin whitepaper says it all: Bitcoin: A Peer-to-Peer Electronic Cash System.
Ok, so what the heck does that mean?
Let me begin by asking you a question. Why is there always a company in the middle of every electronic money transaction? Have you ever noticed that? It’s either a bank, a money service business like PayPal, or the latest app out to disrupt the banks. Yet, no matter what flavour, they’re all the same thing: a trusted third-party that keeps the books.
This isn’t surprising. The nature of digital items is such that you can duplicate and replicate them easily. For example, if you have a digital photograph of a sunset, there’s nothing to stop you from making 1,000 copies of it and sending them to 1,000 people. That’s why there has to be a middleman with digital money; someone who is trusted to keep the books.
Cash is different. When I pay you cash, I hand you a coin or a note, and you give me what I paid for. There’s no middleman necessary because both parties can immediately verify the transaction is settled. There can be counterfeit notes and coins, but that’s a different matter. As it happens, Bitcoin also solves this problem.
Along Comes Bitcoin
In August 2008, a mysterious computer programmer named Satoshi Nakamoto released the Bitcoin Whitepaper on the cryptography mailing list. He claimed to have solved this “double spend” problem and created a working peer-to-peer electronic cash system.
Pretty soon, it became clear that Satoshi was right. He had cracked the nut, so to speak, and peer-to-peer electronic cash was born. It was now possible to send money over the internet from one person to another without a middleman or trusted third party.
Here’s the best description of Bitcoin that I have ever heard:
It’s digital cash…like a physical coin. If I send you a Bitcoin, it disappears from my wallet instantly and arrives in yours. I can’t send it to anyone else because as soon as I send it to you, I no longer have it. If I do try to send it to multiple people, the other transactions will simply disappear in a puff of smoke as if they never existed.
Do you see the implications of this? It means there’s no need for the PayPals, the Western Unions, and the HSBCs of the world. This is beginning to sink in as these companies come to realize that Bitcoin is here to stay. It’s not going anywhere, and they’re starting to accept it. I can now send you money from my wallet to yours, anywhere on earth, and we don’t need anyone to verify the transaction or keep the books.
Why Does the Price Keep Rising and Crashing?
That’s an excellent question, and it’s best to think of Bitcoin as an emerging currency. Today, there’s just over $1 trillion of value in Bitcoin, which is a tiny fraction of the total money in the world. That figure is somewhere in the hundreds of trillions if you consider all forms of money, from cash to derivatives. Of course, Bitcoin is going to be volatile!
Bitcoin has risen dramatically, sometimes thousands of percent against currencies like the dollar, and has crashed over 80% multiple times. These cycles are linked to Bitcoin’s total supply which is ever-diminishing. However, when you look at the log chart over the course of Bitcoin’s history, it’s an immediately obvious trend. Bitcoin is gaining value and is eating every other currency alive. Those crashes don’t look so severe when you zoom out, eh?
Why Is Bitcoin Gaining Value?
To keep it simple, Bitcoin is rare, and other currencies are not. Just this year, 20% of all US dollars in existence were printed by the Federal Reserve and injected into the economy. Other major central banks are doing the same, but the Bitcoin protocol is not.
No matter what central banks do, there will only ever be 21 million bitcoins. Most of those have already been minted by the network and are in the hands of people with no intentions of selling them. Bitcoin maximalists, who hold most of the coins, believe Bitcoin is superior to paper currencies and will hold them until they can spend them. If this seems far-fetched, consider that you can now buy a Tesla with Bitcoin, and other companies are working on ways to accept it.
Combine this “holder” mindset with the fact that every four years the number of new Bitcoins mined every 10 minutes is cut in half, and the number of new dollars, pounds, and euros printed is ever-growing, and it’s not difficult to see what is likely to happen.
So, why does Bitcoin crash every few years? It comes down to how rapidly it goes up in value. Consider that this year alone, if you had bought approximately $5,000 of Bitcoin in March 2020, you’d now have over $50,000, and it becomes tempting for those not so committed to the Bitcoin cause to sell. Eventually, the numbers become so big that selling is irresistible, and people start offloading them for more dollars, euros, and pounds than they bought for.
Every time this happens, Bitcoin sceptics call it dead. The Peter Schiff’s of the world will tell you Bitcoin is a pyramid scheme, and it’s all over. Yet, so far, as the above chart clearly illustrates, Bitcoin has hit a bottom between 70–80% of its all-time-high, goes through a phase of accumulation, and then begins its ascent to even greater highs. On all occasions, this has happened directly after the “halving.”
WTF is the Bitcoin Halving?
I’ll keep this simple because I’m not the sharpest technologist, and there are aspects of the Bitcoin network that still leave me befuddled after years of research.
Bear with me here, and read this paragraph twice if necessary. I had to study this aspect of Bitcoin multiple times before it clicked.
To understand the halving, you have to understand how new Bitcoins are distributed. This is done by a process known as mining. Essentially, this means hugely powerful computers attempt to guess the cryptographic password to the next Bitcoin “block.” This is where the word blockchain comes from. An endless chain of blocks (think of them as train boxcars) moves and settles Bitcoin transactions globally every 10 minutes on average. Inside each block is a reward of new Bitcoins. These are given as a reward to the miner who correctly guesses the “password” to the next block, and she can then sell them, store them, or do whatever she wants with them.
Every 210,000 blocks, or approximately four years, this “block reward” halves. It started at 50 bitcoins and is now 6.25 bitcoins. This means that the number of new bitcoins coming into existence is always diminishing and is an ever-lessening fraction of the bitcoins already in existence.
In a nutshell, bitcoin is the rarest asset in the world. This is why Wall Street tycoons, huge companies like Microstrategy and Tesla, and lots of other people want to buy it. They think of Bitcoin as a container in which to store their money that doesn’t leak the way fiat currencies do. If your dollar inflates at 4% a year, you’re losing 4% of your purchasing power by sitting in cash, whereas in Bitcoin, you’re losing only a fraction of that.
A Few Other Important Features of Bitcoin
There are a few other things that are important about Bitcoin. I’ll summarize them here.
- Bitcoin is permissionless. You don’t have to apply for a Bitcoin account like with a bank. You can just download a wallet and start sending and receiving Bitcoin today from your phone or computer. This could rapidly bank the unbanked and give people access to financial services.
- Bitcoin is pseudonymous. It’s not totally anonymous. However, you don’t have to link your ID to your Bitcoin wallet. If you don’t broadcast your Bitcoin address publicly, there’s no way for anyone to know it’s yours. Just like a real wallet in which you keep cash, Bitcoin allows for financial privacy.
- Bitcoin is a global ledger. It’s more than just a coin. Bitcoin is a global set of books. Every node on the network records every transaction every time a new block is mined. There are around 83,000 nodes today. None of them can change a single transaction record without consensus. I believe this global ledger is the real value of Bitcoin. It’s one set of books, and it gets audited every 10 minutes.
- Bitcoin is decentralized. There’s no Bitcoin Corporation. There’s no one to call if you lose your Bitcoins. It’s electronic cash. Nodes keep a record of everything, and miners create new blocks to complete transactions. Again, nobody can change anything unless the majority agrees. This means Bitcoin can’t be changed by one corrupt party. It’s democratic money.
- Bitcoin is censorship-resistant. A bank can stop you sending money to support a political cause. The American government can tell a grown adult he can’t place a sports bet online. With Bitcoin, you can spend your money on whatever you want and send it to whoever you want. However, despite propaganda, it’s terrible for committing crimes. Every transaction is logged in history forever and can’t be altered. Determined enough investigators can and will catch you if you use Bitcoin to sell drugs or fund terrorism.
Where Will Bitcoin Go From Here?
I have absolutely no idea. Everyone has an opinion on this. There are Bitcoin maximalists who believe it will become the new world reserve currency the way gold used to be. There are Bitcoin purists who claim it has lost its way and was meant to be used for small payments and is now a plaything of the wealthy. There’s even a guy who claims he invented it, and he’s going to wreck it and start again. Then there are ordinary people who just want to trade it the way you might trade any other currency to get more back.
Honestly, nobody knows. Bitcoin could be worth $5 million a coin someday, or it could be replaced by a newer, better cryptocurrency and go the way of the Model T Ford. Nobody knows what the future holds.
However, one thing I am certain of is this. Bitcoin is not a scam. It is a technological breakthrough and is extremely important.
What price will Bitcoin be in the future? I have no idea, and buying it to gain money is extremely risky as it fluctuates wildly. Will it be replaced? Maybe. Is it important? Absolutely. It’s one of the most important things invented in recent times. Bitcoin is peer-to-peer electronic cash, and that simple idea is almost mind-blowing when you stop to think about it.
Thanks for reading, and if you have any questions about Bitcoin, I’ll try to answer them.