Bitcoin Basics – Part 1
What is Bitcoin?
By now, the majority of the world has heard about this new and exciting technology. Yet, most are still completely in the dark as to exactly what it is, and fewer understand the impact it could have on the future of our world. In the same way the internet was a difficult concept to grasp in the early 1990s, Bitcoin can be a confusing topic to fully understand.
Perhaps the reason for this is because Bitcoin is actually comprised of two separate components.
Firstly, Bitcoin is a payment network, similar in some ways to the Paypal or Mastercard payment networks.
Secondly, Bitcoin (BTC) is also the digital currency which runs on this payment network. Both the network and the currency are referred to as Bitcoin.
Trace Mayer, an early Bitcoin pioneer defined it succinctly and accurately as “A new internet protocol that enables the transfer of value through a communications channel.”
However, payment networks aren’t a new technology, and adding a digital currency on top of one is hardly a revolutionary feat. In fact, we’ve had digital tokens running on payment networks for years. Airline rewards points are a simple example, as they are a form of digital tokens which run on a company’s private network. So how is Bitcoin a world changing technology, when it’s seemingly no different to the credit card or Paypal payment networks, or to airline reward points for that matter?
No-one’s in control (and that’s a good thing)
Perhaps the biggest difference is that the Bitcoin network is decentralised. The legacy banking system, Paypal and credit cards are all centralised networks. Bitcoin is decentralised, meaning that no person, company or entity is in control. This may seem like a flaw at first, but decentralisation is Bitcoin’s most important feature which separates it from all other payment networks.
You may recall back in the early days of the internet there was a website called Napster. It was a file sharing service where users could illegally download music. Napster was a centralised organisation. It had a leader, an office, computer servers. In short, it had a central point of failure, and was eventually shut down by the authorities.
Compare this to BitTorrent, which is a decentralised communication protocol that allows for the sharing of video and audio files. The BitTorrent protocol isn’t centralised in one location, rather, the downloadable video and audio files are decentralised across thousands of computers across the world. Similarly, the decentralisation of Bitcoin makes it impossible to be shut down, manipulated or corrupted.
Bitcoin is trustless (again that’s a good thing)
Looking at the currency component of Bitcoin, the computer code behind it is open source. In layman’s terms this simply means that the code can be accessed, reviewed and verified by anyone who wishes to do so. Because of this, Bitcoin is a trustless network (meaning no trust is required), as all the rules of the network can be verified simply by reviewing its programming code. This decentralised, trustless characteristic is particularly important when comparing Bitcoin to other currencies.
Fiat national currencies such as Dollars, Euros or Yen are created and controlled by secretive organisations called Central Banks. Unelected bureaucrats meet behind closed doors to determine interest rates, the supply of new currency and the overall monetary policy of a country. The public trust that these central bankers are competent and are working for their best interests. Fiat national currencies are also unlimited in supply, as more currency can be created with a simple keyboard entry into the centralised database of the banking system.
Bitcoin is limited in supply
The supply of new Bitcoin, on the other hand, is strictly limited in amount. The rate at which new Bitcoins are created, commonly called the emission schedule, is embedded into the code, such that no more than 21 million Bitcoins will ever be created into existence. Furthermore, unlike Dollars, Euros or Yen, new Bitcoins cannot simply be created out of thin air, rather the creation of new Bitcoins involves a very energy intensive process called mining.
It’s true that Bitcoin is an internet protocol which enables the transfer of value through a communications channel. But its unique properties of decentralisation, digital scarcity and resistance to censorship is what sets it apart from all other currencies and payment networks.
So what is Bitcoin?
Perhaps it can be best defined as a scarce digital currency which runs on a decentralised, censorship resistant network.
In Part 2 of my Bitcoin Basics series on what is Bitcoin, I look at what gives cryptocurrency value.