Bitcoin – that virtual currency of which many are aware, but few are fully conversant with. So, what does it actually mean to you?
Bitcoin is unique in its design and protocols in that its database is distributed across a number of nodes. Bitcoin’s blockchain is distributed among a number of peer-to-peer computer nodes, similar to peer-to-peer torrent sharing sites. The entire blockchain holds every single transaction executed in the currency. This information enables the value of the Bitcoin to be tracked at any point in history.
Thought to have been created by Satoshi Nakamoto, a Japanese genius as hard to pin down as Banksy, Bitcoin has taken the financial world by storm and confounded it in equal measure. Financial experts such as Jamie Dimon, JP Morgan’s chairman of the board and chief executive officer, once dismissed Bitcoin as "a terrible store of value", but are now backtracking and admitting they may have been a bit "previous". So just why has Bitcoin been such a phenomenon in financial services and why has it fallen in and out of favour with computer geeks?
To understand the impact of Bitcoin, we must first understand the key structures of how and why it works. Bitcoin is a virtual currency, effectively an electronic currency that’s based on a collaboratively managed ledger. Members of the Bitcoin community transfer money by sending messages to ledger "maintainers" describing where and how much virtual "money" should be moved.
It is the job of these maintainers to ensure that the messages are from the true account owners by checking digital signatures ensuring which in turn guarantees that there are no fraudulent transactions and no double spending of Bitcoins.
So, once you’ve got your head round the concept of Bitcoin, what’s all the fuss about? Why, for example, has the financial services sector been so shaken up by it all? Well, one of the fundamental cornerstones of Bitcoin is that there is no middle man - banking or governmental authority - who can claim control over the Bitcoin system. It is democratic in its ethos and practice. Moreover, Bitcoin, having been launched in 2009, has had mixed reaction, loved and hated in equal measure.
This is partly because of the fact that it is hard to trust something so intangible, despite the fact that we are all very accustomed to using credit cards and never actually touching or feeling our money on a daily weekly or monthly basis. At the end of the day, we still ultimately know that we can walk into a bank and withdraw cash and go and spend it where we want, unlike Bitcoin of course.
One other reason why Bitcoin fell out of favour with the financial community and other users is that in late 2013, the value of Bitcoin increased 10-fold inside a month, making a lot of people very rich. Since then, the value of Bitcoin has fallen by more than 80 per cent, which is why some people have said that the Bitcoin bubble has burst and the virtual currency is now irrelevant.
What is more interesting however, is that over exactly the same period, the number of transactions going through Bitcoin has increased by 150 per cent. Early stage transactions, for example, were around $2million, but by 2014 that increased by nearly $3million and in 2015 it is predicted that the value of transactions will reach $1billion. As a result of this phenomenal turnover, people are beginning to realise that Bitcoin represents a concept that could actually solve real work problems.
For example, let's use the example of a Philippine worker who moves to Hong Kong in order to provide for his family back home. If this person is paid in Hong Kong Dollars and uses Western Union to transfer money back home, the fees will be extortionate, at about 40 per cent. Hence, companies have come in and utilised the Bitcoin network to provide the same service for a tenth of the cost. This provides real value to people. Businesses, governments and welfare NGOs are starting to use the system to bypass traditional banking systems. It’s hardly any wonder that big financial players like JP Morgan are getting the jitters.
Jamie Dimon, who infamously denigrated Bitcoin, is now backtracking and admitting that maybe he was wrong. One of the biggest proponents of Bitcoin, Marc Andreessen, co-founder of venture capitalist firm Andreessen Horowitz, has argued that Bitcoin can entirely re-invent financial systems as we know them and create other opportunities in the future. Bitcoin and other currencies which have distributed security systems are starting to redesign entire financial systems which haven’t changed in centuries. Questions such as, is it possible to code into Bitcoin’s block chain and network, value other than currency? Companies across the world are just beginning to realise the value of the distributed network which Bitcoin utilises. Dominic Wörner and Thomas von Bomhard, authors of a paper titled When Your Sensor Earns Money: Exchanging Data for Cash with Bitcoin, predict: "We expect it is only a matter of time until machines not only exchange data but also money. This opens up a whole new dimension for ubiquitous computing."
Bitcoin uses Decentralised Autonomous Organisation (DAO), it's open source software which allows it to be studied, re-written and improved or reinvented by programmers the world over. This DAO concept is being used by what have become known as Altcoins, Bitcoin technology which is not Bitcoin. Alexander
Tabarrok, an economist at George Mason University and creator of the "dominant assurance contract" argues that the biggest gain of cryptocurrency technology will be the reduction of international and local transaction fees for end users rather than more advanced non-financial transactions. "Big advances in the technology of asset management and banking, the sexy stuff, will come after and on the back of the billions made by reducing transaction fees," he says.
This "sexy stuff" could be taxi fares paid in virtual currency, virtual tokens to represent levels of service for vehicles, salaries paid in virtual currency. The foundations of the economy could be transformed. We could be paying an hour of our time for an hour of someone else’s equivalent time and so on, which is effectively what the value of "money" represents, i.e. a promise to pay the bearer on demand, an equivalence.
What is clear is that while Bitcoin is on the edge of mainstream trust boundaries, it has certainly opened up possibilities and given software and financial experts food for thought and development. Watch this very dynamic space. Either way, Bitcoiners are very much still a niche community. Family trust funds may yet be held as virtual crytopographic smart contracts and our economic model may yet be turned on its head. With Bitcoins currently worth in the region of £156, and a finite supply predicted, it’s a fair bet that whatever our views, values will ultimately rise.