What is bitcoin? Beginner’s guide

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If there is one cryptocurrency you should know about, it is Bitcoin.

As the first cryptocurrency, Bitcoin has become the most valuable and most popular among the thousands of cryptocurrencies that have been created since then. Its rise in value and popularity has been consistent, if not without fluctuations.

The price of Bitcoin crossed $60,000 in April 2021, setting a new record and coinciding with the Coinbase IPO. The rally came on the heels of a sharp rise in value in the early months of 2021, after exceeding $20,000 for the first time in December 2020.

Here’s what you need to know about the world’s most popular cryptocurrency.

What is bitcoin?

Bitcoin was created in 2009 in the wake of the economic recession. Bitcoin was created as a peer-to-peer electronic cash system, but it has also attracted investors enthusiastic about cryptocurrency as a currency with a value in store, comparable to gold.

Bitcoin History

The concept of bitcoin was published in a white paper written by an anonymous person under the pseudonym Satoshi Nakamoto in 2008. No one knows the true identity of the author – or whether it is even a single person, not a group of people. The paper outlined how Bitcoin would work, and the coin was officially launched on January 3, 2009, according to Ollie Leech, Learning Editor at CoinDesk, a leading cryptocurrency news outlet.

How does bitcoin work?

Bitcoin has a maximum supply of 21 million – that’s all there will ever be.

When a cryptocurrency is released, the originator(s) can set its parameters (how much it is, buy and sell rules, how to add new bitcoins to the market, etc.), which cannot be changed after this happens. These rules have been locked in from the start, making Bitcoin a truly scarce resource, with a maximum total amount that will ever be available.

“No one, not a government, not even Satoshi themselves, can change that now that they are released,” says Leech. “You cannot duplicate bitcoins, and you cannot recreate them.”

This is where the comparison to gold drops a bit, because gold is constantly entering the market as new ores and pockets are discovered, making it a relatively scarce resource.

Bitcoin is also more convertible and more easily stored compared to a resource like gold. If you want to transport gold, it will cost you a lot of money (armored transport, security, cost of storage in a secure facility, etc.). Basically Bitcoin can be stored on a USB drive – in something known as a cold or hard wallet.

Investing for cash

Bitcoin is designed to be electronic cash, the white paper explains. But the coin flip pretty much instantly negated that original intent, according to Leach.

For example, no one “in their right mind” would want to buy coffee with bitcoin, says Leach. This is because you can buy $3 coffee today with Bitcoin, tomorrow the same Bitcoin is worth $30, and you actually spent $30 on a cup of coffee.

Or take it from the merchant’s point of view – you’re using Bitcoin to get your coffee worth $3, and tomorrow Bitcoin is worth 60 cents. Then the merchant lost. “The price volatility kind of makes it completely useless as an electronic cash system,” says Leech.

Similar to gold, people buy bitcoin “not because they expect to be able to go to the store and spend it, but because they expect it to hold its value,” says Galen Moore, director of data and indexes at CoinDesk. “For the same reason people had diamonds, or about $100, or some gold in a safe,” they would keep a digital wallet with their bitcoins in.

Why is Bitcoin so volatile?

Leach says the volatility of cryptocurrency is mostly due to the “immature market”. “Traders are very prone to emotions, fear and greed, so you get really extreme market reactions.”

There are also new regulations and policies that are constantly reshaping the market and causing drastic fluctuations. Then there is social media.

“It’s this weird new thing where viral social trends, like Wall Street Beats or Elon Musk, for example, have a huge impact on cryptocurrencies,” says Leach. “If Elon Musk puts the Bitcoin hashtag on his Twitter bio, he sends Bitcoin at 10%.”

While social media has a unique ability to spark intrigue and excitement, its impact on the Bitcoin market is also a reason for ordinary investors to be cautious. “Please do not invest in cryptocurrencies based on trends on Twitter,” says Kiana Daniel, author of Cryptocurrency Investing for Dummies and the person behind the Investdiva Instagram account.

With very little historical context compared to traditional investments, Bitcoin and other cryptocurrencies should still be considered riskier assets, says Daniel. The potential reward comes with a higher risk, so be sure to include any Bitcoin investment in the riskiest and most robust allocation to your broader portfolio.

Bitcoin mining

With Bitcoin, there are a limited number of 21 million coins – although not all of them were issued when Bitcoin was launched in 2009. About 18 million of the 21 million Bitcoins have been added to circulation since the “genesis block”, the first block of Bitcoin, mined by Satoshi Nakamoto, says Leach.

New gold is entering the market from mining as well – although with gold it is impossible to know how much is left to be discovered and mined.

New Bitcoin is discovered and made available for purchase and sale via a digital mining process, which involves discovering the unique hash of new blocks (a very long string of numbers and letters) using an algorithm. Blocks are just collections of transactions that occur within a certain time frame, and new blocks are constantly being supplied.

Each block discovered via the mining process unlocks a specific amount of bitcoin. This reaps rewards for those who discover new blocks, and makes new bitcoins available to buyers. There is no rhyme or reason to hash every block, so miners set up their computers to generate many guesses per second to try and guess these random symbols.

Miners use powerful computers referred to as “nodes” to search for and discover new blocks. Anyone can be a Bitcoin miner using free software available on Bitcoin.org, but running a computer like this takes a lot of storage and energy.

Whoever guesses the code first gets the right to create the next block – and get a transaction fee from it when their bitcoins are bought and sold. Each new block has a treasure chest. Inside is a collective reward which is free bitcoin entering the market,” says Leech.

This mining process is another factor that contributes to the daily wild fluctuations of Bitcoin.

Today, about 900 bitcoins are traded daily through mining, according to Leech. But there is a cyclical trend called “halving” written into the original Bitcoin code. Every four years, the amount of new bitcoin entering circulation every day is halved.

The last halving was in 2020, so in April or May of 2024, the amount of bitcoin entering circulation every day will be reduced again. The decline will continue to occur until the last Bitcoin is mined, which is expected to occur in the year 2140, Leech says.

This halving has happened three times since bitcoin was introduced, with adoption increasing all the time. It is therefore difficult to determine the effects of the Bitcoin halving. The first halving, in 2012, led to a rise in the value of Bitcoin, while the second halving in 2016 led to an initial decline before rising again. The third halving in May 2020 saw no drastic effects on the price of Bitcoin, which has maintained record high prices since late 2020.

With each halving, comes more market volatility for the bitcoin price. “It’s a deflationary process by design,” says Leech.

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