Bitcoin And The Rise Of The New Digital Economy

Written by Rita —  January 2, 2014

online_economy_bitcoin

An open and independent economy, now a reality thanks to crowd financing and digital currencies

The twists and turns of the global economy, caused by the decisions of business and administrative elites, have forced people into seeking financial alternatives based on more social paradigms. As a result, two ever increasingly powerful structures have arisen under the Internet’s umbrella: crowdfunding and Bitcoin.

market capitalization bitcoins

Total number of bitcoins in circulation X Bitcoin price in USD

If bitcoin was a public company and it will would be worth about $10,000 million (large-cap). In perspective: it’s about the same amount of money that the US government have spent to rescue General Motors from bankruptcy.

What Is Bitcoin?

Bitcoin is a digital currency, or put another way, it is the Internet money.

It is the first and most used digital currency used internationally. It was designed by Satoshi Nakamoto for online use back in 2008. Since then, other numerous digital currencies like Ripple, Litecoin and Peercoin have appeared.

It is a peer-to-peer and decentralized currency. As such, no central bank or private company (such as the Fed) is responsible for issuing the currency.

It depends on a cryptographic algorithm. New Bitcoins are created through a complex mathematical collaborative process for which cutting edge technology, able to solve extremely advanced algorithms, is necessary. Therefore, cryptocurrencies rely on mathematics (rather than institutions), as well as cryptography and network communication (rather than third parties with vested interests).

There are a finite number of Bitcoins. 21 million is the maximum number of coins that will ever exist, as set by the mathematical algorithm making them possible.

A public log displays all transactions. This avoids the double use of the coins. The log is anonymous in the sense that it shows the addresses and amount of Bitcoins being moved, but not the name nor any other information on who is moving them.

Fees are almost nonexistent. Your bank probably charges more than $10 for an international transaction, while Bitcoin costs nothing.

total bitcoins in circulation

Total number of bitcoins which have been mined

How it Works

To use Bitcoin it is necessary to have a virtual wallet, which you can create downloading a program on your computer. You can also have an online wallet, but in that case you do have to pay a transaction fee, although very little compared to the ones charged by banks or private companies (Coinbase, for example, charges 1%.)

coinbase users growth

Coinbase.com exponential userbase growth

There are 3 ways to get Bitcoins:

1. Selling products or services and accepting payment in Bitcoins. There are sites like ForBitcoin where you can offer all kinds of services in exchange for cryptocurrencies.

2. Buying them. In exchange sites such as Mt. Gox or BitStamp you can exchange euros for Bitcoins, or vice versa, just like any other currency trading.

3. Mining the Bitcoins. This is the hardest method because it involves a series of complex IT processes (basically, you need to convert CPU cycles into coins.)

Mining Bitcoins

Mining Bitcoins requires investing in specialized hardware. This is why it has become a very competitive business only worth undertaking if (1) you do it for fun/personal conviction (and do not care if you make a profit or not), or (2) if you do it in a highly efficient way that will allow you to reap benefits.

bitcoin mining revenue

(number of bitcoins mined per day + transaction fees) x market price.

That being said, let’s get on with it:

1. What does “mining Bitcoins” mean?

New Bitcoins are created approximately every 10 minutes in batches of 25 coins. How? Basically, each suitably equipped computer runs a script and competes against thousands of other computers to solve the problem that will create the next batch of coins and keep it.

It’s not that these computers are looking for precious metals in the depths of the Internet. It’s not called mining because it involves extracting or melting minerals into ingots. It’s called mining because Bitcoins are a finite resource that is slowly found in small amounts  (like gold or minerals) and because the people who do it get the new coins.

In fact, possibly the best definition of “mining Bitcoins” would be “a kind of competitive accounting “. As the people at Quartz explained (really well):

“Miners build and maintain a  gigantic public ledger  containing a  record  of every  bitcoin  transaction in history.”

Thus, for a Bitcoin transfer to be valid, it must be authorized by the miners community —if the numbers add up, the miners add it to the ledger.

The ledger is sealed from potential hacker attacks by division (there is no single master document stored on a server —instead, the ledger is divided into blocks which record the last 10 minutes worth of transactions and refer to the previous block, so that the entire chain can be followed to the first block) and through several layers of computational work.

Bitcoin Block ChainSo what does computational work mean? Basically, it means solving a cryptographic problem making billions of hypotheses and checking every possible solution until finding the correct one. Therefore, unless the fraudster has more computing power (i.e., more computers and more powerful ones at that) than the rest of the miners put together, she could never solve all the problems needed to create a fake chain which would allow her to double spend Bitcoins.

Bitcoin Block Chain Security

For the service provided (and the large amount of energy consumed in the process), the miners are rewarded with Bitcoins. Or to be more specific, the first miner to approve a batch and finish the computational work gets the prize.

2. Process to Mine Bitcoins

In case after all this you are still interested in mining your own Bitcoins, below you’ll find a step-by-step summary on the process you’ll need to follow.

Buying the right hardware

In order to mine Bitcoins you will need a GPU (graphics processing unit), a FPGA (Field Programmable Gate Array) or an application-specific integrated circuit (a.k.a. ASIC). If you are new to mining Bitcoins, it is best to buy an ASIC, as the other options will soon be obsolete and consume too much power. Leading manufacturers of mining hardware  include:

Butterfly Labs

Avalon

BitFurry

KNC

AsicMiner

Downloading specialized software

Once you have the right equipment, you will need to download a special program to mine the cryptocurrency. There are many free programs, including BFGMiner or CGMiner considered the most popular.

Having your Wallet ready

The next step is to have a Wallet ready to transfer and save any Bitcoins that you mine. For safety reasons, it is best to have an offline Wallet (it is as easy as downloading a program like Armory or Bitcoin-qt).

Search for Mining Pools

Although this step is not necessary, it is recommended. A “pool” is a consortium of Bitcoin miners coming together to solve a block and share the corresponding reward. This means that the 25 Bitcoins created are divided proportionally according to the power that each miner has contributed to solve the block.

Bitcoin as an Invesment

Although its use is not yet widespread, and its value fluctuates (it has been accused of being a volatile currency), the fact is that as of late 2013, there are already over 12 million Bitcoins in circulation and the Bitcoin economy is worth around $10 billion. Global companies like WordPress, Wikileaks, Reddit or The Pirate Bay accept the cryptocurrency as payment method, and every day there are more businesses (including real world ones) accepting it to pay for coffee, pet food, or pizza.

market bitcoin price

USD market price from the site Mt.gox

In fact, back in 2010, before anyone had heard of cryptocurrencies, Laszlo Hanyecz, a Florida programmer, persuaded a seller to accept the 10,000 bitcoins he had mined (which were worth pennies at the time) in exchange for a couple pizzas. Three years later, Hanyecz pizza purchase is worth $7 million.

Crowdfunding & Bitcoin

Crowdfunding and digital currency are both new ways of understanding the economy. They were born and exist thanks to the Internet, they are not controlled by external bodies and allow freedom of use, they are supported by the social spread and collective use of the idea and they break with older dependence models.

It stands to reason, then, that as crowdfunding grows, so does the role digital currencies like Bitcoin play in it. Indeed, some platforms such as Coinfunder, BitcoinStarter or BitcoinFunding are already using them.

crowdfunding bitcoin bitcoinstarter

Bitcoinstarter.com is a crowdfunding platform using Bitcoins

Joining crowdfunding and Bitcoin, the cycle closes: anyone can produce, fundraise, get paid and consume within the Net.

Now you too can get Bitcoins, finance your project, make profits, and get the product or service for which you have contributed —all inside the Internet and without depending on traditional economical ways.

The Debate Is Underway

Using these new financial tools has caused a stir in the online community, there is much debate on the future of virtual currencies, especially on the Bitcoin. Many critics and many fans. What do you think about the future of Bitcoin?

“I don’t have a view on what the ultimate value of a Bitcoin will be nor do I care. I am interested in Bitcoin plain and simply because I believe it can be and possibly will be the financial and transactional protocol for the global Internet”

Fred Wilson, Union Square Ventures

Fred is the principal of the prestigious investment fund Union Square Ventures, he has participated in popular investments such as Twitter, Foursquare, Meetup, Soundcloud or Coinbase.

“(About virtual currencies) You have Facebook balance, or Eagle balance… there is nothing special or interesting about that. The thing is different about Bitcoin is that you hold these bitcoins and you can trade bitcoins with people around the world and no one can stop you trading with them…that is a major breakthrough”

John Collison, Stripe Co-founder

John is the Co-founder of Stripe.com, a young company that allows you to accept credit cards online in the quickest and easiest way. Stripe is one of the fastest growing companies on the Internet and has obtained investment from recognized founders such as Elon Musk, Peter Thiel and Max Levchin.

“I have to say that I’m still deeply unconvinced. To be successful, money must be both a medium of exchange and a reasonably stable store of value. And it remains completely unclear why Bitcoin should be a stable store of value”

Paul Krugman, 2008 Nobel Economy Prize

Paul is an American economist, Professor of Economics and International Affairs at Princeton University and Centenary Professor at the London School of Economics.

“I started getting interested in Bitcoin about two years ago. Like a lot of people I initially dismissed Bitcoin as a speculative bubble (“Internet tulip bulbs”) or a place to stash money for people worried about inflation (“Internet gold”). At some point, I had an “aha!” moment and realized that Bitcoin was best understood as a new software protocol through which you could rebuild the payments industry in ways that are better and cheaper”

Chris Dixon, Andreessen Horowitz

Chris works as a Investor at Andreessen Horowitz and also as a personal investor in technology startups, including HipmunkStripePinterestCanvasFoursquareCodecademy and more.

Photo credits: Mitchell JoyceBlockchain.info, Quartz

Video credits: BitcoinMining.com

Rita

Rita

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Translator, content writer and geeky linguist in general. I believe information is a powerful tool.