Easy Guide to Understanding Bitcoin
Nothing in the article below is investment advice. It is purely designed to help the reader gain a basic understanding of Bitcoin, and to encourage further research and study of the fastest-growing asset in the world.
The source and thoughts for this article are the original Bitcoin White Paper and The Bitcoin Standard by Saifedean Ammous. These are not my original ideas, but only the summarization of brilliant people like Saifedean and Satoshi. Reference information at the end.
Bitcoin is one of the most transformative innovations of our time. Yet, despite its growing popularity, many people still have questions: What exactly is Bitcoin? How does it work? Why is it considered by some to be the perfect form of money? This article will break down these concepts, while also exploring Bitcoin's broader implications for savings, energy use, financial inclusion, and its comparison to traditional assets like gold.
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What is Bitcoin?
Bitcoin is a form of digital currency that operates independently of any government or financial institution. Introduced in 2008 by an anonymous entity known as Satoshi Nakamoto, Bitcoin allows people to send and receive payments directly to one another without the need for a middleman, like a bank. This decentralized nature is a fundamental aspect of Bitcoin, setting it apart from traditional money.
How Does Bitcoin Work?
At its core, Bitcoin relies on a technology called blockchain, a public ledger that records every transaction made with Bitcoin. This ledger is maintained by a global network of computers (called nodes), which work together to verify transactions and ensure the system's security.
When you send Bitcoin to someone, the transaction is bundled with others into a "block." This block is then added to the blockchain, creating a permanent record. Each block is cryptographically linked to the previous one, ensuring that no single entity can alter the chain. This process is decentralized, meaning that Bitcoin is resistant to censorship and fraud.
Bitcoin's Attributes: The Perfect Money?
Bitcoin possesses several key attributes that make it a strong candidate for the title of "perfect money":
Scarcity: Bitcoin's supply is capped at 21 million, making it a deflationary asset. Unlike fiat currencies, which governments can print in unlimited quantities, Bitcoin's limited supply ensures its value over time. This scarcity is further controlled through a process called "halving."
Halving Cycles: Bitcoin's network is designed to release new Bitcoin through a process called mining. When Bitcoin first started, the reward for mining a block was 50 Bitcoin. However, every four years, this reward is cut in half—a process known as halving. Today, the reward for mining a block is 3.12 Bitcoin, down from the initial 50. This halving mechanism ensures that Bitcoin's supply grows at a decreasing rate, making it even scarcer over time. Despite the effort miners put in, they cannot release more Bitcoin than is allotted by the block reward, ensuring a predictable and controlled supply.
Divisibility: Each Bitcoin can be divided into 100 million smaller units called satoshis. This divisibility allows Bitcoin to be used for transactions of all sizes, from small purchases to large investments.
Durability: Bitcoin is digital and cannot degrade over time like physical money or gold. As long as the internet exists, Bitcoin will continue to exist, making it a durable store of value.
Portability: Bitcoin can be transferred instantly anywhere in the world, making it far more portable than traditional money or gold. Whether you're sending $10 or $10 million, the transaction is completed in minutes without the need for intermediaries like banks.
Fungibility: Every Bitcoin is identical to every other Bitcoin, ensuring that all units are interchangeable, which is a critical feature for any form of money.
Security: Bitcoin's decentralized nature and cryptographic design make it incredibly secure. The network is protected by miners who use computational power to validate transactions and maintain the blockchain. The difficulty of mining is adjusted every 2,016 blocks (approximately every two weeks) to ensure that new blocks are added roughly every 10 minutes, regardless of the total computational power of the network.
Saving vs. Spending Bitcoin
Bitcoin serves a dual purpose: it can be used as both a store of value and a medium of exchange. Many people choose to save Bitcoin, holding onto it with the expectation that its value will increase over time due to its limited supply and growing demand. This strategy, often referred to as "HODLing," is based on the belief that Bitcoin's value will continue to rise as more people adopt it.
On the other hand, Bitcoin is also a currency that can be spent. Its divisibility and portability make it suitable for everyday transactions, from buying a cup of coffee to paying for services online. The decision to save or spend Bitcoin depends on individual financial goals and one's belief in its future value.
What is Bitcoin Mining?
Bitcoin mining is the process through which new Bitcoins are created and transactions are added to the blockchain. Miners use powerful computers to solve complex mathematical puzzles, a process known as proof-of-work. When a miner successfully solves a puzzle, they add a new block to the blockchain and receive a reward in Bitcoin.
This process serves two main purposes: it secures the network by verifying transactions, and it introduces new Bitcoins into circulation. However, mining is energy-intensive, requiring significant computational power. To manage this, the Bitcoin network adjusts the difficulty of mining approximately every two weeks to maintain a consistent rate of new block creation.
Wait! What is a miner?
A miner in the context of Bitcoin refers to both the person and the hardware involved in the mining process.
Person: The individual or group of people who operate and manage the mining process. They make decisions about where to mine, what hardware to use, and how to optimize the mining operation for profitability.
Hardware: The specialized computers or machines used to solve complex mathematical problems in the Bitcoin network. This hardware, often referred to as mining rigs or ASICs (Application-Specific Integrated Circuits), performs the computational work required to validate transactions and add new blocks to the blockchain.
So, a miner can refer to either the person managing the process or the hardware doing the computational work, but typically it’s the hardware that’s doing the "mining."
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Mining and Renewable Energy
A common concern about Bitcoin mining is its energy consumption. However, it's important to note that not all energy is the same. Many Bitcoin mining operations, such as Sazmining, have shifted towards using renewable energy sources like hydro, wind, and solar power. Some miners even use wasted energy, such as flared gas from oil fields, to power their operations. This not only reduces the environmental impact of mining but also provides a use for energy that would otherwise go to waste.
Bitcoin vs. Gold and Other Assets
Historically, gold has been the go-to asset for preserving wealth. It's scarce, durable, and has been used as money for thousands of years. However, gold has its limitations—it’s heavy, difficult to transport, and not easily divisible, making it impractical for everyday use.
Bitcoin shares many of gold's positive attributes but with added benefits. Like gold, Bitcoin is scarce and durable, but it's also easily divisible, portable, and digital. These characteristics make Bitcoin a more efficient and accessible store of value in the digital age.
Currently, Bitcoin's market capitalization (the total value of all Bitcoins in circulation) is around $600 billion to over $1 trillion. In contrast, the total market cap of gold is estimated to be around $12 -14 trillion. While Bitcoin is still relatively small compared to gold, many analysts believe that Bitcoin's market cap could rival or even surpass gold's in the coming decades. By 2045, some projections suggest that Bitcoin's market cap could reach several trillion dollars, potentially making it a leading global store of value.
Financial Inclusion: Helping the Unbanked
One of the most powerful aspects of Bitcoin is its ability to bring financial services to the unbanked and underdeveloped regions of the world. In many areas, people lack access to traditional banking services, leaving them vulnerable to economic instability and exploitation. Bitcoin offers an alternative.
Because Bitcoin is decentralized and operates on a global scale, anyone with an internet connection can participate. This allows individuals in underdeveloped regions to store their wealth securely, protect themselves from local currency devaluation, and engage in global commerce without needing a bank account.
Lowering Remittance Costs
Remittances—money sent by people working abroad to their families back home—are a lifeline for millions around the world. However, traditional remittance services can be expensive, with fees often reaching 10% or more of the total amount sent.
Bitcoin offers a solution to this problem. By using Bitcoin, individuals can send money across borders quickly and at a fraction of the cost of traditional services. This not only saves money but also ensures that more of the funds reach the intended recipients, improving the standard of living for families in developing countries.
Conclusion
Bitcoin is more than just a digital currency; it represents a new way of thinking about money, savings, and financial freedom. Its unique attributes—scarcity, halving cycles, divisibility, durability, portability, fungibility, security, and energy efficiency—make it an ideal form of money in the digital age. Beyond its technical merits, Bitcoin has the potential to empower individuals around the world, particularly in underdeveloped regions, by providing access to secure financial services and lowering the cost of remittances.
As you explore and understand Bitcoin, you'll see why it is increasingly viewed as the future of money. Whether you're interested in saving, spending, or simply learning more, Bitcoin offers a world of possibilities that are only just beginning to be realized.
I encourage you to study Bitcoin. I grew up when computers were first being introduced to the public, and remember the idea being dismissed as a passing fad. “Nobody will need a computer” or “there is not a chance every house hold will have one”. Do not look back 20 years from now and wish you would have studied it sooner. I truly believe the use cases of Bitcoin has barely scratched the surface.
At the Bitcoin 2024 conference, Robert F. Kennedy Jr. made a nuanced comparison between Bitcoin and gunpowder by referencing the historical evolution of gunpowder in China. He highlighted that gunpowder was originally developed in ancient China for medicinal purposes, specifically as a means of healing and prolonging life. However, over time, its use shifted towards weaponry and became a powerful tool in warfare, ultimately changing the balance of power in the world.
Kennedy used this analogy to illustrate how Bitcoin, like gunpowder, started as a technological innovation with one purpose but has the potential to evolve into something much more significant. He implied that Bitcoin, initially seen as a digital currency, could become a powerful tool for financial sovereignty, challenging traditional financial systems and empowering individuals in a way that reshapes the balance of power in society.
Bitcoin adoption is coming, whether you like it or not.
References:
Bitcoin White Paper:
Nakamoto, S. (2008). Bitcoin: A Peer-to-Peer Electronic Cash System. Retrieved from https://bitcoin.org/bitcoin.pdf
The Bitcoin Standard:
Ammous, S. (2018). The Bitcoin Standard: The Decentralized Alternative to Central Banking. Hoboken, NJ: Wiley.
