Let’s get a better understanding of the hype behind bitcoin
An enlightening article by Rachel Miller
So what is bitcoin? Many believe that bitcoin is just a giant scam, while others think that bitcoin is the wave of the future. As you can already tell, there are people who are pro-bitcoin, and there are others who are anti-bitcoin.
To get a better understanding about bitcoin, you have to understand what money itself is. So what is money supposed to do? From the earliest times, people have found a way to convey value to one another in pieces of exchange that are not actually the items of exchange.
Let’s think about this simple example. Person A grows tomatoes for a living, and person B grows potatoes for a living — and the two want to trade. Sure, they could trade the potatoes for the tomatoes directly.
But what if the problem is that one of them doesn’t need what the other has to offer?
Well, in that case, they find a different method of exchange — basically an IOU note. That’s an abbreviation for “I owe you” and it is commonly known to be a signed informal notice of unpaid debt. IOU notes can be found in many different forms, such as seashells which were used thousands of years ago.
The gold standard
An even better example of an IOU note is the value of gold. The gold standard was used for this for a long time in America. Every dollar that you spent was backed by a certain amount of gold.
People used to be able to trade in $1 at the Federal Reserve and get back some gold.
President Franklin D. Roosevelt disliked the fact that the American dollar couldn’t just be inflated, which is why he severs the value of the dollar in gold. However, the problem is that extra money can’t just be created.
When you create extra money, you’re not actually creating extra underlying value.
So let’s say that the government has a million dollars in debt. Most people would think that they’d need to come up with a million dollars in taxes, right? Or in other words, they’d need to come up with the value of a million dollars in order for them to pay back that debt.
Government’s way of dealing with debt
However, there’s another way to pay off that million dollars debt. Governments have known this for a very long time. That is simply going and printing the money, then handing all that monopoly money to all of us.
Knowing this, you may feel screwed, and you’re going to want to avoid transactions with your government in the future. But this is one way that governments get out of their own debt.
It’s one way that governments can spend without actually having to tax additionally.
President Roosevelt decided that he wanted to change the value of gold arbitrarily, which meant inflating the amount of currency versus the amount of gold out there.
However, the United States wasn’t completely off the gold standard until 1971, when Richard Nixon decided in the Bretton Woods agreement that the United States would no longer rely on the gold standard at all. This is what truly made the dollar a fiat currency.
A fiat currency is a currency that doesn’t have any underlying value. In the case of the dollar, it is based on the full faith and credit of the United States.
In the old times, seashells were only worth something because people thought that the IOU note was going to be worth something — for example, as long as the farmer was able to farm something, it made the IOU note valuable as well.
In similar fashion, the federal government relies on your full faith and credit in them to eventually come up with the money to pay you back for the amount of money that you have in your bank account. That’s the way that the dollar value is established.
It’s very important to know how fiat currencies work, before understanding bitcoin. Inherent in there is an explanation of why people should probably not trust fiat currencies.
People have been looking for other sources acting as repositories of value not dependent on a centralized government for a long time.
Nowadays, most people use their credit cards for just about everything right now, all thanks to the rise of the digital world. But, again, that credit card is still based on the value of fiat currencies — such as the dollar.
What if the dollar, or any other fiat currencies, didn’t play a role in any of the transactions you did with others? What if you didn’t need to refer back to them whenever you did a transaction?
Then, you wouldn’t have to worry about central banks, you wouldn’t have to work about governments blowing up the value of the currency.
So what is bitcoin?
Simply put, it’s a belief that other people are going to use bitcoin.
Supposedly, the man who created bitcoin is Satoshi Nakamoto. Nobody actually knows who created bitcoin, which is why I said supposedly.
In fact, that’s a pretty good thing, because you don’t want to have a centralized guy who controls all of bitcoin, or some mastermind criminal who can actually inflate bitcoin at any point and then sell all of his bitcoin for a lot of money.
The purpose is to be decentralized.
The basic idea of bitcoin is that people are concerned that the full faith and credit of the United States (or any government) doesn’t mean anything. You’d be right to worry about that, and you could also worry that the government can simply devalue dollars.
In that case, you’ll simply need to find another repository of value. So with Bitcoin, you believe that the currency is stable enough to be used and enough people are going to accept the currency that it has inherent value.
People’s trust is the key for bitcoin to thrive. Instead of you relying on the government’s ability to tax, to stimulate, and to print — instead of relying on all those powers, you’re instead relying on the idea that there is something that is trusted by enough people that they will use that in the absence of a government.
So instead of putting your faith in the power of your government, you’re putting your faith in other people believing in the same IOU note that you believe in — which is bitcoin.
The risks involved
This is also the reason why some people believe that it’s a pyramid scheme because just like any other temporary repository of value, people could simply stop using bitcoin at any point.
That’s very true and a real possibility or a new version of bitcoin could come along. One that’s better and more appealing to people. You probably already see all sorts of currencies making their appearance on the market all the time.
There’s a lot that can go wrong, too. Theoretically, people could decide that they just don’t want to use bitcoin anymore, or businesses could stop using bitcoin as a payment option. Bitcoin’s value could theoretically still go to 0.
It’s very important to know that bitcoin cannot be controlled from the outside because governments can make currencies worth 0, but they don’t have the power to make bitcoin worth 0.
That is because bitcoin is not a centralized currency, it is instead a decentralized cryptocurrency.
That comes with some costs and with some benefits. On the cost side, you cannot rely on the ability of bitcoin to give you some sort of hard asset in exchange for your bitcoin — that’s just not what bitcoin is.
On the good side, you don’t have to worry that the creators of bitcoin are going to simply inflate the value of it, or deflate its value by simply “printing” new bitcoin.
The difference between fiat currency and bitcoin
Here’s the difference between fiat currency and bitcoin. Fiat currency is controlled by the government, let’s say the United States government.
They decide the value of the currency and then that value is pushed to all of the citizens. This means that the value of the US dollar is decided by the United States government.
On the other hand, when it comes to bitcoin, it is precisely the opposite. Instead, you have a bunch of people who have to decide what they think bitcoin is worth.
Because bitcoin isn’t controlled by an actual government, instead you have a lot of people investing their own assets into bitcoin and controlling its value.
This is what makes the definition of value incredibly different. For bitcoin, it is coming from the outside in, as opposed to from the inside out.
The reason why people call it a cryptocurrency is because of the technology of bitcoin, the thing that prevents it from being inflated. There’s a set number of bitcoins in circulation, a certain number are being mined every year — but it’s a very low number.
Is bitcoin safe to invest in?
Counterfeiting the current bitcoins that are in circulation is virtually impossible because of the crypto technology that is used in order to encrypt transactions. Actual cryptography is being used in order to protect the transactions that take place.
You’ve probably heard about blockchain already. Blockchain technology is essentially every time somebody uses a portion of bitcoin for a transaction, there’s an entire group of people called bitcoin miners.
They are tasked with verifying the transaction, unlocking all of the cryptography in order to ensure that the transaction is legitimate — and to make sure that you can’t use the same bitcoin twice.
People actually worry about somebody who has a bitcoin simultaneously giving that bitcoin to two different people. Blockchain technology makes that impossible to happen.
Once a certain number of transactions are verified, that’s called a block. Every time the bitcoin miners create a block, it is added to the blockchain. With every block that’s added to the blockchain, you’re creating a more and more unbreakable chain of events and more faith and credit in bitcoin itself.
Even if you can’t even understand how these transactions are verified, you know that they are being verified in real-time, over the course of time, and you earn bitcoin for doing this, simply for participating in this process.
Thanks to the fact that you have a really transparent look into all of the transactions being done with bitcoin, you know that people aren’t messing around with the currency.
This is the main promise of bitcoin because again nobody is in control of it.
This makes bitcoin entirely reliant on how many people decide to use bitcoin. This is why bitcoin has gone from essentially a 0 value proposition, to upwards of $50,000 in recent months.
The answer is the more people buy into it, and the more large corporations accept bitcoin payments, the more the bitcoin is worth.
Taking all of this into account, you could say that it really isn’t any different from gold. The only difference is that gold is a hard asset and bitcoin is a digital asset.
Bitcoin becoming mainstream
Lately, one of the notable things that happened regarding bitcoin is that you’ve probably seen important companies and famous people like Elon Musk, buying a lot of bitcoin.
As an example, Tesla bought $1.5 billion of bitcoin, before eventually selling 10% of that in June 2021. What’s that really saying? It’s quite obvious that Elon Musk believes more in this value as a repository of value than something like a US bond, or a US dollar.
He may also believe that this is going to grow in value as people turn away from centralized governments and fiat currencies. It is also very possible that both Tesla and Elon Musk may want to diversify, and they can do so by investing in bitcoin as well.
As the economy grows more and more reliant on government spending, and as people see that governments are never going to pay back these debts and that governments are going to continue to actually run up those debts, wealthy people like Elon Musk are probably going to do more and more of this.
It’s very possible to see more and more people taking their money, and instead of investing it in gold, they’ll put it in bitcoin because they can still use that money at their local grocery store.
Gold can’t be used for actual transactions, which makes bitcoin more feasible.
Government & Bitcoin
The government has a couple of worries about bitcoin. Number one is that if people start investing in bitcoin, instead of worrying about the U.S. dollar, it means that there are fewer people who are buying bonds.
Theoretically, you could buy this as a holder of value over the long term and you’re going to do that instead of buying government debt, so the government can’t issue more debt.
This means they can’t raise more money to pay for all of the various projects that they are interested in.
The other problem for the government is that when you’re talking about a completely digital currency that is not controlled by them and not verifiable by them, they are worried about the possibility of this sort of currency for criminal use.
Given that it isn’t verifiable, it may be appealing to people such as libertarians. If you happen to be a libertarian, you probably don’t think it’s the government’s business how you do business or with whom you do business.
There’s always a flip side of the coin. Every time someone acts entrepreneurially, outside the control of the government, it feels like a wrong thing — people have just been conditioned to think that way.
But these people are not criminals. They are acting outside the scope and authority of the government, in the sense that they are creating a rival to the government’s main asset, which is your full faith and credit in their system.
Remember that bitcoin goes up when faith in the system goes down. If you believe in the full faith and credit of the United States, you’re buying bonds. If you don’t have faith that the United States is not going to inflate the currency, you’re more likely to buy bitcoin.
Crypto to the moon
Lately, you’ve probably seen that the value of cryptocurrencies has been exploding. You have Ethereum, litecoin, and a bunch of different types of cryptocurrency.
Any time there’s a market for any sort of digital currency there will be rival digital currencies. The question is which one will earn the trust of the marketplace.
This is why at the very beginning it takes wealthy and important people buying into this sort of stuff to make a difference in the market for it.
In the beginning, it does appear to be incredibly volatile. Whether a cryptocurrency succeeds or fails is entirely based on the public view of whether that coin is going to succeed or fail.
In my opinion, cryptocurrencies that find a place in the market, such as bitcoin, are probably going to continue to rise over time.
I think that as we have less and less faith in centralized governments, and it looks like we are right now, we’re going to see more and more people looking to diversify away from fiat currencies, and instead moving to bitcoin for actual safety and security.
Despite all the talk about volatility, it may be that in the future the most valuable forms of currency are coming from centralized governments, as opposed to a decentralized group of people who wish to engage in transactions that hold their value.
Article by Rachel Miller, originally published at: https://medium.com/@armolis/is-bitcoin-the-future-of-money-or-fools-gold-4b1a9dfb9ae7