What is Bitcoin and how does it work?
Bitcoin is a virtual currency that was introduced in 2009 by Satoshi Nakamoto, whose true identity remains unknown to this day. All Bitcoin users possess a digital wallet where they add obtained Bitcoins. The individual’s wallet and their transactions are highly secure as they are protected by cryptography (protected coding). Bitcoins are generally purchased from exchanges such as Mt Gox or Coinbase and they can be used to purchase goods and services. It is a peer-to-peer network that has no central institution capable of manipulating or tracking the circulation of the currency. A single Bitcoin is currently worth roughly $600.
Bitcoin runs on a system called block chain, which is a shared public ledger where all transactions are recorded and can be easily confirmed. Transactions are signed using private keys which prove that transferred Bitcoins originated from a specified sender. Bitcoin is, however, entirely anonymous as only the ID’s of buyers and sellers are revealed.
Bitcoins are created through a process called mining. Mining involves using computers to solve complex maths problems and miners are rewarded with Bitcoins.
The Pro’s and Con’s of Bitcoin
A key benefit of Bitcoin is that due to the cryptography, transactions are exceptionally difficult to counterfeit and are highly secure. Bitcoin users are generally less prone to fraud than users of traditional bank accounts.
One of the most significant benefits of Bitcoin is the inexpensiveness of transactions. Transaction charges for Bitcoin payments are negligible. From a business standpoint this is incredibly important as the system provides an opportunity to help small businesses reduce their running costs. It may also benefit consumers as small businesses often pass on day-to-day transaction charges to their customers.
Bitcoin gives greater control to its users due to the lack of a central institution. Currencies are usually controlled and manipulated by a central bank (e.g. Bank of England) but Bitcoin has no such body so users are in full control of their money.
Bitcoin is not monitored by financial regulators so users lack any significant protection. While regulation is largely considered a barrier to innovation, the regulations that apply to traditional banking structures are there to protect all parties involved in financial transactions. Bitcoin lacks such safeguards so when cyber attacks (see below) occur for example, users have very little protection and are usually not compensated.
Bitcoin is still in its relative infancy, which means that Bitcoin exchanges are highly susceptible to hacking. The most notable hacking was that of Mt. Gox in 2014 which saw the theft of $460 million worth of Bitcoins. Mt Gox is the largest Bitcoin exchange and it allows users to buy and sell Bitcoin in return for other currency.
Bitcoin is highly susceptible to being used for purchases of illegal goods or facilitating illegal activity such as money-laundering. All transactions are anonymous and only the ID’s of buyers and sellers are revealed, never real names. Websites have been created for the sole purpose of unlawful activities. For instance, “Silk Road”, a website founded for the purpose of allowing individuals to seamlessly buy illegal goods using Bitcoin, was recently shut down by the FBI.