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What’s In Your Wallet: Bitcoin Explained

(By Daniel Kloimweider, Issue 24)

Bitcoin, a digital currency unregulated by any national bank, effectively anonymous in use, and secured through a distributed peer based cryptographic system, may sound too good to be true. Imagine not relying on a central government or financial institution to control the value of your money, instead placing your trust in a network of like minded people. Virtual currencies are by their nature unconventional, so a brief history and summary of Bitcoin’s innerworkings are a good foundation to any real discussion on its function as a system of currency.

Created in 2008, the first fifty Bitcoins were “mined” by their creator, Satoshi Nakamoto in 2009. In just five years the amount of Bitcoins in circulation has increased to twelve million, each valued presently at around 650 USD, or a total of about eight billion dollars. The validity and high valuation of this currency comes from its underlying process of production and validation. Bitcoin “miners” use computers with increasingly sophisticated microprocessors to validate transactions between Bitcoin “wallets.” Each transaction with a Bitcoin wallet generates a unique public transaction record that must be signed by that particular wallet’s private key, or password. The miners then compete to validate blocks of these transactions, computing whether the transaction was in fact properly signed, and are paid Bitcoins for their efforts. The difficulty of this verification process increases over time, as the payout decreases; a design feature intended to mitigate the risk of inflation. Clearly, because the transaction records must be public in order to be validated by the peer network of miners, the Bitcoin system is not entirely anonymous. And while this is true, the real anonymity comes from the fact that each wallet is not necessarily tied to an individual. In this sense, Bitcoins can be used very much like physical banknotes, albeit for the internet. In fact, due to rampant theft stemming from very cleverly designed online attacks, physical Bitcoin wallets have been gaining in popularity, taking the form of a printed QR code. For an average person or investor that would like Bitcoins but lacks the capital to invest in expensive mining equipment, there are online exchanges where Bitcoins may be purchased using other, more common currencies. While there are thousands of online vendors who accept Bitcoins as a legitimate form of payment, the actual number of brick and mortar stores who have adopted Bitcoin is relatively low, leading many to remain skeptical about its legitimacy as an actual currency.

The anonymous and decentralized nature of Bitcoin is lauded for its use in developing countries with questionable governments or unstable national currencies. Bitcoin lacks the high fees associated with payment methods such as credit cards while still allowing the transfer of funds over the internet, allowing the purchase of goods and services without the intervention of an outside agency or reliance on a national bank. Unfortunately, because of these qualities Bitcoin is often most associated with its role in criminal activities. Online marketplaces where illicit drugs can be bought and sold with near total anonymity exist and rely on Bitcoin as a secure yet (mostly) untraceable form of currency. The most popularized and successful of these was The Silk Road. Relying on Tor, an internet address anonymizer, and Bitcoin as a method of payment, The Silk Road facilitated the purchase of millions of dollars in illegal drugs from 2011 until it was shut down by United States authorities in 2013. The Silk Road allowed users to browse through pages of vendors selling not only drugs but ordinary services such as contract writing or programming and more nefarious services such as money laundering or contract assassination. Because of the anonymous nature of transactions, the reliability of goods or services was only guaranteed through the crowd-sourced review of purchases. This system was highly effective and drugs flowed unfettered worldwide until, inevitably, it became too massively popular for the federal government to overlook. Unfortunately, when it comes to the internet, or the U.S. Postal Service, true anonymity is somewhat of a pipe dream. American law enforcement eventually tracked a series of Bitcoin transactions and arrested the proprietor of The Silk Road in San Francisco, seizing millions in Bitcoins and shuttering the site. And while this was unfortunate for those whose drug addled minds relied upon this particular internet black market for their thrills, it was actually a boon for the fledgling Bitcoin currency; the government seizure of assets in the form of Bitcoins helped legitimize them as things holding tangible value. Subsequent attempts have been made to recreate The Silk Road and all have failed fairly quickly, mostly thanks to the increasing attention paid to Bitcoin by the public and by various law enforcement agencies.

Bitcoin is still a fledgling currency and is criticized by many for its wild market fluctuations and its popular association with criminal elements. Recently millions of dollars were stolen from one of the world’s largest Bitcoin exchanges, Mt. Gox, resulting in its shutdown. The exploit used, known as transaction malleability, has yet to be fully addressed, but Bitcoin has a dynamic system to add or remove features as necessary, all based around its peer to peer network. Dry and technical discussion aside, Bitcoin is a currency of hope. Hope for those both in developing, destabilized countries and hope for those in developed, corporatized nations who would just like a little more freedom, at least when it comes to money.

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