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A Beginner’s Guide to Bitcoins

bitcoinCreated in 208 by Satoshi Nakamoto, Bitcoin is an open-source virtual payment system that is recorded on a public ledger under its own unit of account (Bitcoin). Payments do not require a central repository and payments are as easy to transferring from peer-to-peer. As a result, the United States Treasury has identified the Bitcoin as being a decentralized virtual currency. Since the Bitcoin concept is just gaining popularity, many are unaware of its history, need, economics, regulation or security

History

After its discovery in a 2008 research paper created by Satoshi Nakamoto, the first Bitcoin client was developed in 2009 that created a number of Bitcoins. The idea sat dormant for several years until March 2013 when a technical glitch disrupted its production. The result was two Bitcoin networks operating simultaneously for six hours. As soon as the issue was uncovered, the developers halted transaction. Standard operation soon restored with the network being downgraded.

That same year and in 2014, several mainstream websites began accepting the virtual currency as a form of payment or donation. In October 2013, Baidu, a Chinese Internet social media site, allowed customers of website security services to pay in Bitcoins. A month later, BTC China, a China-based Bitcoin exchange acquired Mt. Gox (Japan) and Bitstamp (Europe) to become the largest Bitcoin trader in the world.

Shortly after, the United States Senate deemed that virtual currencies were considered to be a legitimate financial service. This caused the price of Bitcoins to skyrocket. However, in China, the People’s Bank of China prohibited the use of Bitcoins amongst Chinese financial institutions resulting in the elimination of the currency in China. Also in 2013, the first Bitcoin ATM was installed in Vancouver, Canada.

Need

Bitcoins were created to reward payment processing work for utilizing a user’s computing power in order to confirm and record payments into the public ledger. Companies engage in “mining” to exchange transaction fees for Bitcoins. This virtual currency has since transitioned into a means for purchasing goods and services as well as receiving Bitcoins electronically through transaction fees with wallet software. The number of merchants using Bitcoin is growing because the fees tend to be 2-3% less than credit card processors.

Economics

Economists agree that the formal definition of money is a store of value, medium of exchange and unit of account; Bitcoins meet these three requirements. Unfortunately, at this time, the Bitcoin marketplace is extremely volatile with high risk and little reward. For those few locations where Bitcoins are accepted as a form of payment, prices are denominated in the local currency. When compared to gold and the S&P 500, Bitcoins are considered to be seven and eight times more volatile. This can be attributed to insufficient liquidity and uncertain long-term value.

bitcoin-spread

Regulation

At the moment, there are few governments that are regulating the digital currency. Some countries are extending rules to include Bitcoin and their companies but no official laws and regulations have been implemented. In 2013, the United States Treasury released a statement that identified virtual currencies as money transmitters that must comply with the same rules as traditional currency.

In 2014, the United States Treasury extended its definition to confirm that Bitcoin cloud mining and escrow services are not considered money transmitters. Most recently, on July 17th, 2014, the New York State Department of Financial Services published draft regulations for those companies that exchange, receive, store or transfer virtual money.

Security

One of the most important aspects of the virtual currency is preventing unauthorized transactions from a user’s wallet. All Bitcoin transactions transfer ownership to a new address consisting of strings of random letters in numbers generated by public keys which safeguard the owner. Therefore, for a payment to process, a valid message from a specific address must contain that public key and digital signature. The loss of this key can result in theft, which has occurred many times. Therefore, the practicality of the Bitcoin security is a regular concern.