Bitcoin is the world’s first decentralized cryptocurrency – a type of digital asset that uses public-key cryptography to record, sign and send transactions over the Bitcoin blockchain.
Launched on Jan 3, 2009, by an anonymous computer programmer (or group of programmers) under the pseudonym “Satoshi Nakamoto,” the Bitcoin network is a peer-to-peer electronic payment system that uses a native cryptocurrency called bitcoin to transfer value over the internet or act as of value like gold and silver.
Each bitcoin is made up of 100,000,000 satoshis (the smallest unites of bitcoin), making individual bitcoin divisible up to 8 decimal places. This allows people to purchase fractions of a bitcoin with as little as one U.S. dollar.
Bitcoin and other cryptocurrencies are like the email of the financial world. The currency does not exist in physical form, value is transacted directly between the sender and the receiver, and there is no need for banking intermediaries to facilitate the transaction. Everything is done publicly through a transparent, immutable, distributed ledger technology called blockchain.
Here are the main features of blockchain technology.
Bitcoin transactions are recorded on a public, distributed ledger known as a “blockchain” that anyone can download and help maintain.
Transactions are sent directly from the sender to the receiver without any intermediaries.
Holders who store their own bitcoins have complete control over them – they cannot be accessed without the holder’s cryptographic key.
Bitcoin does not exist in physical form.
Bitcoin has a fixed supply of 21 million bitcoin. No more bitcoin can be created and units of bitcoin cannot be destroyed.
How Does Bitcoin Work?
Bitcoin users send and receive coins over the network by inputting the public-key information attached to each person’s digital wallet.
In order to incentivize the distributed network of people verifying bitcoin transactions (miners), a fee is attached to each transaction. The fee is awarded to whichever miner adds the transaction to a new block. Fees work on a first-price auction system, where the higher the fee attached to the transaction, the more likely a miner will process that transaction first.
Every single bitcoin transaction that takes place has to be permanently committed to the Bitcoin blockchain ledger through a process called “mining.” Bitcoin mining refers to the process where miners compete using specialized computer equipment known as Application-Specific Integrated Circuit (ASIC) chips to unlock the next block in the chain.
Locking blocks works as follows;
Crypto mining uses a system called cryptographic hashing. This function simply takes any input (messages, words or data of any kind) and turns it into a fixed length alphanumeric code known as a “hash.”
Each input creates a completely unique hash and it’s nigh on impossible to predict what inputs will create certain hashes. Even changing one character of the input will result in a totally different fixed-length code.
Each new block has a value called a “target hash.” In order to win the right to fill the next block, miners need to produce a hash that is lower than or equal to the numeric value of the “target” hash. Since hashes are completely random, it’s just a matter of trial and error until one miner is successful.
This method of requiring miners to use machines and spend time and energy trying to achieve something is known as a Proof-of-Work system and is designed to deter malicious agents from spamming or disrupting the network.
Whoever successfully unlocks the next block is rewarded with set amount of bitcoin known as “bloc rewards” and gets to add a number of transactions to the new block. They also earn any transaction fees attached to the transactions they add to the new block. A new block is discovered roughly once every ten minutes.
Bitcoin block rewards decrease over time. Every 210,000 blocks (or roughly four years), the number of bitcoins in each block reward is halved to gradually reduce the number of bitcoins entering the space over time. As of 2021, miners receive 6.25 bitcoins each time they mine a new block. The next bitcoin halving is expected to occur in 2024 and will see bitcoin block rewards drop tp 3.125 bitcoins per block. As the supply of new bitcoin entering the market gets smaller it will make buying bitcoin more competitive – assuming demand for bitcoin remains high.
1. More mainstream acceptance
Bitcoin’s use in everyday life has always had a chicken-egg problem: Very few use or accept it because…for one thing, very few use or accept it.
But 2020 saw a striking evolution in bitcoin adaptation. Prominent fintech companies, from Square’s investment of $50 million in bitcoin to PayPal allowing it’s users to buy and sell bitcoin, gave it a stamp of approval.
In 2021, we’ll likely see an extension of this mainstream embrace. Look for at least one major U.S. or European bank to announce some kind of system where they either enable bitcoin purchases or agree to hold digital assets for their clients.
2. Competition from Big Tech
Whatever bitcoin may or not have accomplished in it’s decade of existence, it has forced a lot of big, global entities to think about offering an international digital currency.
Every company involved in the payment space understands not only that there is a market for digital payments still up for grabs, but that payments involving different currency markets have the most potential. That’s because currently such transactions can take days to resolve, and often involve hefty fees.
Bitcoin has demonstrated, if embryonically, that a global digital currency can dramatically streamline that process. In 2020, both Facebook and Google – companies with a massive global reach that bitcoin can only dream of – moved forward with big digital currency plans.
Tech offerings like Facebook’s Diem aren’t exactly the same as bitcoin, but if they start to catch on in 2021, they may eat a little into bitcoin’s growth.
3. Competition from central banks
This year, the Bank for International Settlements issued a report and survey indicating that 80% of the world’s central banks are working on some form of digital currency.
China has taken the digital currency experimentation much further than any other nation. Recently, in the eastern Chinese city Suzhou, just west of Shanghai, a lottery was held in which 100,000 residents each received 200 renminbi (about $30) via a digital wallet. They were encouraged to link their digital cash to their bank accounts, and if they didn’t spend their digital cash within a few weeks, it disappeared – both great techniques to advance the experiment.
As China moves toward nationwide adaptation of the digital yuan, it is likely to undercut demand for bitcoin and other cryptocurrencies. Next year may see similar experiments in other countries.
4. A new regulatory playing field
President Joe Biden’s administration will have higher priorities in it’s first 90 days than regulating cryptocurrency, and of course Congress’ mood and expertise on the subject is hard to read.
The natural assumption is that a Democratic administration will regulate more stringently than a Republic administration, yet some have asserted that Biden will be “good for cryptocurrency.”
Maybe, but bitcoin enthusiasts tend to overlook issued like anonymity and it’s potential use for fraud; for regulators, those are very serious concerns.
Biden’s team might well come up with a more comprehensive and rational way of regulating cryptocurrency, but I would not bet on any favoritism toward bitcoin in particular.
5. Continued volatility
Because of the value of bitcoin is not directly tied to any obvious real-world phenomenon (such as fiscal or monetary policy), it can appreciate or depreciate in ways that are hard to predict or even explain.
As an investment, this makes it hard to recommend for anyone hoping to avoid big losses. Some say bitcoin could reach as high as $50,000 next year, and although that seems extreme, it is not out of the question if investors move money from other assets into bitcoin.
Of course, it is just as possible that the price will head in the opposite direction in 2021. The one thing that seems certain is that the wild ride of 2020 will be repeated.
Is Bitcoin Too Risky for the Average Investor?
Compared to most investments, bitcoin “is a highly volatile, highly risky investment,” James Ledbetter, editor of fintech newsletter FIN and CNBC contributor, tells CNBC Make It. “If you look historically at the price of bitcoin, there have been a number of occasions where it’s really spiked and then comes crashing down really quickly.”
While that can mean big returns, it can also mean big losses.
That’s why some, like investor Mark Cuban, liken bitcoin to gambling and advise investing only as much money as you can afford to lose.
“You have to at least be mentally prepared and financially prepared that (a crash) could happen again. It could happen tomorrow,” Ledbetter says.
“Proceed with Caution”
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