What is Bitcoin? The decentralized network represents the first functional concept capable of transferring value over the internet without central authorities. An overview of the history and fundamentals of the oldest and largest cryptocurrency.
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We’re in the year 2008, the internet revolution has entered a sustainable growth phase. Users can transfer data across the globe within seconds. Communication and electronic commerce via websites have become everyday occurrences. However, transferring money over the internet remains difficult. There’s no way around the major financial institutions that act as intermediaries. Credit card companies, banks, and payment service providers divide the global payment traffic among themselves. Technological advancement hasn’t yet made a significant impact in this area. Transferring money across national borders remains expensive, time-consuming, and cumbersome. Additionally, poverty, censorship, and arbitrary factors deny around 1.7 billion adults access to the banking system.
Bitcoin’s origin story
At just this time, when the Federal Reserve and later other central banks announced their plan for endless creation of fiat currencies, a description of implementing a digital currency emerged in software developer circles in October. This currency was to be based on blockchain technology: the so-called Bitcoin Whitepaper, authored by Satoshi Nakamoto – a pseudonym of the inventor. To this day, the creator of this paper remains unknown. This manuscript describes a payment system where participants can transfer value in form of the cryptocurrency BTC on equal terms (peer-to-peer), without the need for an intermediary.
The technological foundation was a complex fusion of several previously developed components, necessary for creating a payment system. This fusion solved a fundamental computer science problem that had previously hindered software-based payment systems: the “Double Spending” problem. Through a cryptographic puzzle called Proof-of-Work, it became possible to verify and process payments without a central authority. All transactions are recorded on independent computers in a distributed public ledger (DLT).
Bitcoin Whitepaper – blueprint for a technological revolution
The Bitcoin whitepaper describes a peer-to-peer system for electronic payments, allowing transactions to occur directly between individuals without the need for a bank or another central entity. The concept is based on a decentralized database (Blockchain) where all transactions are stored. Each transaction is verified and validated by network participants to ensure its validity. To protect the network from fraud, a Proof-of-Work algorithm is used, enabling participants (Miners) to generate new Bitcoins while securing the network. Bitcoin exists solely as a digital currency based on an open and transparent system.
In addition to the technology that empowers Bitcoin users to have autonomous control over their assets, the monetary policy embedded in the code is forward-thinking. In contrast to current fiat currencies, Bitcoin was designed as a scarce digital asset, with its issuance rate (inflation rate) halving every 4 years. Overall, the Bitcoin whitepaper heralded a new era of cryptocurrencies and created a model for decentralized payment systems that operate without intermediaries.
Decentralized payment network with limited supply
The whitepaper laid the foundation for creating an independent electronic network for payments that does not rely on trust in a third party. The currency for this system is called Bitcoin (BTC). The network’s operation is based on a decentralized database, known as the Blockchain, where all transactions are stored. To verify and validate transactions in this database, a consensus algorithm named Proof-of-Work is used. This algorithm is designed in a way that network participants can verify transactions and simultaneously create new Bitcoins. This process is referred to as mining.
Miners utilize specialized hardware and significant computational power to solve complex mathematical problems. Upon successful completion, the transaction is recorded on the blockchain, and miners are rewarded with Bitcoin (BTC). The mining process is the sole means of obtaining newly created Bitcoins. This reward is clearly defined and diminishes over time. Access to Bitcoin is managed through digital wallets.
These wallets can be installed on various devices, including smartphones and computers. Each wallet has a unique address to which other users can send Bitcoin. When a user wants to conduct a Bitcoin transaction, they input the transaction details into their wallet. The transaction is then digitally signed and sent to the Bitcoin network. Miners verify the transaction and add it to the blockchain. Once the transaction is confirmed, the amount is transferred from one wallet to another. Users can also pay specific fees for transactions to ensure quick and reliable processing. Overall, Bitcoin’s functionality enables rapid, secure, and decentralized transactions among users.
Main properties of Bitcoin
Bitcoin is a decentralized, secure, anonymous, and limited cryptocurrency with fast and straightforward transactions that can occur without the involvement of banks or intermediaries. The Bitcoin network possesses the following key features:
- Decentralization: Bitcoin is a decentralized payment system that operates without a central authority or institution. Transactions are conducted directly between users, providing a high degree of autonomy and independence.
- Security: The security of Bitcoin is ensured through blockchain technology and the Proof-of-Work algorithm. The blockchain is a decentralized database that records all transactions and ensures they cannot be manipulated. Protected by cryptography, a Bitcoin user remains the owner of their coins as long as they possess their private key.
- Anonymity: Bitcoin transactions are largely anonymous, as they are linked not to the user's name but only to a public Bitcoin address.
- Limited Supply: The maximum number of Bitcoin is capped at 21 million, limiting inflation and the devaluation of the cryptocurrency.
- Permissionless: Bitcoin is permissionless, meaning that every user can receive, hold, and send Bitcoins without restrictions or permissions. There is no central authority or institution controlling or restricting access to Bitcoin; the rules are dictated by the protocol (code is law).
- Speed and Simplicity: Bitcoin transactions can be carried out quickly and easily without the need for intermediaries or banks. Users can send Bitcoins to any wallet address worldwide as long as they have an internet connection.
- Resistance to Censorship: Bitcoin is censorship-resistant, meaning that no one can block or prevent Bitcoin transactions. All transactions are recorded in a publicly accessible ledger distributed across thousands of computers worldwide. This eliminates the possibility of transaction and balance manipulation. The blockchain technology ensures that transactions cannot be reversed or manipulated, thus safeguarding against centralized control or censorship. Users have full control over their Bitcoin and can freely transfer them without anyone being able to prevent it.
Early milestone for Bitcoin
In the early years following the release of the Bitcoin whitepaper in 2008 and the launch of the first Bitcoin software in 2009, there were only a limited number of users and enthusiasts. Most people had never heard of Bitcoin and had little confidence in a digital currency that was not regulated or controlled by anyone. Despite many uncertainties and challenges during these early years, Bitcoin adoption started to grow slowly but steadily. Many users recognized the potential of Bitcoin as a decentralized and secure payment system, contributing to its early acceptance.
In the years 2010 and 2011, some tech-savvy users began using Bitcoin to purchase goods and services online. The first Bitcoin exchanges also emerged, allowing for the exchange of Bitcoin for other currencies. Another significant milestone in Bitcoin adoption was the establishment of the first Bitcoin exchanges, which facilitated trading in Bitcoin and enabled users to buy and sell agains fiat. For instance, in 2010, the first pizza was bought with Bitcoin, marking one of the first real-world transactions involving the cryptocurrency. In 2011, the first Bitcoin ATM was also installed in Canada, further driving the acceptance of the cryptocurrency.
Acceleration of cryptocurrency adoption
In the following years, Bitcoin gained popularity and acceptance at an increasing rate. In 2013, the price of Bitcoin reached $1,000 for the first time, capturing the interest of investors and businesses. In 2014, the online retailer Overstock.com started accepting Bitcoin as a form of payment. In the same year, the first government auction of seized Bitcoins took place. The US government sold 30,000 Bitcoins that had been confiscated during the closure of the illicit online marketplace Silk Road.
Four years later, in 2017, the price of Bitcoin reached a new all-time high of nearly $20,000. In December, Bitcoin futures were introduced on the CBOE and CME futures exchanges, making it easier for institutional investors to enter the Bitcoin market. In 2018, the Intercontinental Exchange (ICE), the parent company of the New York Stock Exchange (NYSE), announced the creation of a digital asset exchange called Bakkt.
In 2019, companies like AT&T, Expedia, Whole Foods, and Microsoft began accepting Bitcoin as a form of payment, boosting confidence in Bitcoin as a legitimate payment method. In May 2020, the third Bitcoin halving occurred, reducing the reward for Bitcoin miners. In the same year, the price of Bitcoin was significantly impacted by the COVID-19 pandemic, experiencing a period of volatility. In August, publicly traded company MicroStrategy announced that it will hold and purchase Bitcoin as part of its corporate strategy. A few months later, PayPal announced that it would enable its users to buy, sell, and hold Bitcoin.
INFO: The Bitcoin network consists of different participants, each of which has specific and essential roles to ensure its functionality, security and accessibility.
- Users are the end users who use Bitcoin for transactions.
- Miners solve complex mathematical problems to ensure the security of the network.
- Nodes store a complete copy of the blockchain and monitor the miners.
- Developers maintain and develop the Bitcoin source code.
- Wallet providers create the software to store their own bitcoins.
- Exchanges offer a platform for trading Bitcoin.
Bitcoin’s continued mainstream integration
In March 2021, the price of Bitcoin reached $60,000 for the first time, attributed to increased acceptance by companies and institutions. In September, El Salvador became the first country in the world to adopt Bitcoin as an official currency. In October, the first futures-based Bitcoin exchange-traded fund (ETF) was launched in the United States. In 2021, the total value of all Bitcoins exceeded $1 trillion, and significant institutions began accepting Bitcoin as a store of value and payment method.
Today, the world’s largest financial titans, such as BlackRock, Fidelity, and others, offer their own Spot-based Bitcoin-ETFs with billions in volume. Since the release of the whitepaper in 2008, the adoption of Bitcoin has undergone an incredible evolution. Bitcoin has transitioned from a niche concept to a mainstream phenomenon. The pioneer of all cryptocurrencies now boasts a broad following and is regarded by advocates as a crucial element of the future financial landscape.
Risks and side effects of the technology
Like any new technology, Bitcoin also comes with certain dangers and risks that should be considered. Due to its predictable inflation rate, Bitcoin serves, among other things, as a digital asset and meets the criteria of an investment. Bitcoin is often compared to precious metals due to its limited supply and is appropriately referred to as “digital gold.” However, precisely because Bitcoin exhibits exponential adoption and price increases, it is subject to high volatility. This can deter investors and lead to losses.
Furthermore, Bitcoin and other cryptocurrencies are susceptible to hacks and wallet theft due to the nature of self-custody, especially if users fail to implement necessary security measures. The crypto space is rife with scammers and scams that actively exploit this vulnerability. Crypto users are advised to understand how to handle the custody of their Bitcoin and maintain a healthy skepticism toward entities lacking a proven track record.
While crypto exchanges and other service providers in the field simplify Bitcoin usage, they also present counterparty risk as intermediaries. This risk involves the potential for failure or hacking attacks, which could result in total loss (as seen in the case of FTX, for example). Additionally, the regulation of cryptocurrencies in many countries is unclear or inconsistent. There is a risk that governments may implement restrictive measures that limit or ban the use of cryptocurrencies. Bitcoin mining also consumes substantial amounts of energy, raising concerns about its environmental impact in certain circles.
Summary
- Bitcoin was introduced in 2008 by an individual or group named Satoshi Nakamoto in a whitepaper. The idea was to create a digital currency that operates independently of governments and financial institutions and is based on a decentralized technology called the Blockchain. In 2009, the first Bitcoin software was released, and the first Bitcoins were mined. Since then, Bitcoin has gained increasing recognition and acceptance.
- The Bitcoin whitepaper outlines the concept of a digital currency (Bitcoin) based on a decentralized technology called the Blockchain. The currency is intended to function independently and decentralize transactions, allowing users to conduct direct transactions without intermediaries. The whitepaper also establishes the principles on which Bitcoin is based, including the decentralized nature of the network and users' ability to protect their identity.
- The Bitcoin network enables independent electronic transactions without relying on third parties. The Blockchain serves as a decentralized database where all transactions are stored. The Proof-of-Work consensus algorithm is used to validate transactions and generate new Bitcoins through mining.
- Bitcoins are stored in digital wallets, and transactions are digitally signed. Then, miners must verify them before a transaction is added to the Blockchain. The technology of Bitcoin allows for fast, secure, and decentralized transactions between users.
- In the early years, much of the Bitcoin activity was limited to tech enthusiasts and communities. However, interest in Bitcoin rapidly increased in the subsequent years, leading to the establishment of numerous companies offering Bitcoin-based services.
- The adoption curve of Bitcoin steeply rose as more and more people became interested in the cryptocurrency. Bitcoin's popularity further escalated as major companies began accepting it and integrating it into their business models. More recently, governments and central banks have also started taking Bitcoin and other cryptocurrencies seriously, investigating their potential impacts on financial markets.
- Bitcoin carries risks such as high volatility, liquidity risks, and security risks due to hacks and scammers. Crypto exchanges pose counterparty risks, and the regulation of cryptocurrencies remains unclear or inconsistent. Additionally, the energy consumption associated with Bitcoin mining has ecological implications.
