Understanding Bitcoin

Satoshi Nakamoto created bitcoin as a reaction to the financial crisis of 2007-2008, when the global banking industry required mass bailouts by the world’s governments in order to stay solvent. Having grown weary of traditional institutions, which Nakamoto believes are failing because they cannot adapt to an information-based society, bitcoin was designed to be controlled by its users.

Nakamoto’s stated intentions for bitcoin were bold enough: a peer-to-peer electronic cash system for anonymous internet transactions, one that required no involvement by a bank or government — or any centralized third-party institution — in order to function.

It’s important to note, Nakamoto is a pseudonym for one person or a possibly even a group of people. Whoever Nakamoto is, communication stopped in 2011. Bitcoin advocates say the secret identity is a benefit. The real Nakamoto could influence, bitcoin’s value, positively or negatively.

What Makes Bitcoin Possible?

The bitcoin application works within a technology called blockchain, a publicly accessible electronic ledger stored across a network of participating computers. Blockchain protocol timestamps, verifies and protects financial transactions by solving complex math problems on the spot.

This “cryptographic proof,” as Nakamoto calls it, replaces the need to trust third-party institutions in conventional internet transactions. Digital currencies operating within blockchain make it possible to settle transactions almost instantly, whereas old-school financial transactions — even simple ones, such as using a debit card online — usually take several business days to fully resolve. The biggest reason, banks say, is because the Automated Clearing House (ACH) network is guarding against fraud. Conventional bank ledgers are vulnerable to tampering. Also, the ACH computer system is more than 40 years old and slow.

So What Are Actual Bitcoins Again?

Bitcoins are mined by using computer processor power — electricity. When it debuted, bitcoin could be created on about any hard drive, but now they take too much energy to produce. Special computers do the work. If criminals know where to find these computers, which require a lot of energy to run and thus tend to give themselves away, the machines could be vulnerable to theft.

Bitcoins are not actual coins. Bitcoins are stored in a virtual wallet, which also could be part of the blockchain. Wallets can be accessed using private keys. Keys can be kept on special USB drives, which are practically unhackable from a remote location. Without a key, the odds are long at hacking a bitcoin wallet. It hasn’t happened yet.

Other ways to acquire bitcoins include buying them at online exchanges. Exchanges, however, have been vulnerable to theft — the problem being a third-party and not the bitcoin blockchain itself.

Who Accepts Bitcoin as Payment?

The list of companies is growing. However, the cost to mine it can make micropayments impractical, which keeps it from going wider into the mainstream. Each bitcoin is able to be broken down into fractions. So buying, say, a sandwich with bitcoin could incur a low service charge, the equivalent of a penny. The only way to do that right now is by using an exchange. Once you do, bitcoin is accepted at businesses such as

Overstock.com, certain vendors at Etsy and even, for a while anyway,  Kentucky Fried Chicken in Canada.

Why Does the Price of Bitcoins Fluctuate so Much?

International currencies backed by governments are bought and sold, treated like commodities, as confidence in each country’s economy grows and wanes. The same process happens with bitcoin.

When bitcoin emerged, many saw it as a tool for organized crime — a way to anonymously launder money or avoid paying taxes. Because transactions still can happen anonymously, digital currency still draws suspicion. But there’s also a perception of value because of it.

How Closely Does the Government Monitor Digital Currency?

Authorities in U.S. are said to be coordinating efforts to regulate bitcoin. The IRS has been using bitcoin tracking software since 2015. Recently, the IRS was emboldened by a win in federal court that turned over user information with Coinbase, a popular exchange.

It could be said online currency is considered property by the IRS, money by the Treasury, commodities by the CFTC and securities by the SEC. Somehow, the government will find a way to regulate.

It likely will take years for bitcoin to become a widely accepted and trusted form payment. As a security or commodity, its price will likely continue to fluctuate. Bitcoin could fail, as could other cryptocurrencies but many experts believe the blockchain technology, particularly because of its timestamping feature, will remain useful regardless as a safer and more transparent way to keep records. All sorts of legal documents — contracts, deeds, purchase orders, tax forms — could utilize blockchain in the coming years.

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