The past weeks have seen a surprising meeting of minds between US Federal Reserve Chairman Ben Bernanke, the Bank of England, the Olympic-rowing and Zuckerberg-bothering Winklevoss twins, and the US Department of Homeland Security. The connection? All have decided it is time to take bitcoin seriously.
Until now, what pundits called in a rolling-eye fashion “the new peer-to-peer cryptocurrency” had been seen just as a digital form of gold, with all the associated speculation, stake-claiming and even “mining”; perfect for the digital wild west of the Internet, but no use for real transactions.
Bitcoins are mined by computers solving fiendishly hard mathematical problems. The “coin” does not exist physically: It is a virtual currency that exists only as a computer file. No one computer controls the currency. A network keeps track of all transactions made using bitcoins, but it does not know what they were used for — just the ID of the computer “wallet” they move from and to.
Right now the currency is tricky to use, both in terms of the technological nous required to actually acquire bitcoins, and finding somewhere to spend them. To get them, you have to first set up a wallet, probably online at a site such as Blockchain.info, and then pay someone hard currency to get them to transfer the coins into that wallet.
A bitcoin payment address is a short string of random characters and, if used carefully, it is possible to make transactions anonymously. That is what made it the currency of choice for sites such as the Silk Road and Black Market Reloaded, which let users buy drugs anonymously over the Internet. It also makes it very hard to tax transactions, despite the best efforts of countries such as Germany, which in August declared that bitcoin was “private money” in which transactions should be taxed as normal.
It does not have all the advantages of cash, though the fact you can not forge it is a definite plus. bitcoin is “peer-to-peer” and every coin “spent” is authenticated with the network. Thus you can not spend the same coin in two different places and nor can you spend it without an Internet connection. You do not have to spend whole bitcoins. Each one can be split into 100 pieces — with a piece known as a satoshi — and spent separately.
Although most people have now vaguely heard of bitcoin, you are unlikely to find someone outside the tech community who really understands it in detail, let alone accepts it as payment. Nobody knows who invented it; its pseudonymous creator, Satoshi Nakamoto, has not come forward. He or she may not even be Japanese, but whoever it is certainly knows a lot about cryptography, economics and computing.
It was first presented in November, 2008 in an academic paper shared with a cryptography mailing list. It caught the attention of that community, but took years to take off as a niche transaction tool. The first bitcoin boom and bust came in 2011, and signaled that it had caught the attention of enough people for real money to get involved — but also posed the question of whether it could ever be more than a novelty.
The algorithm for mining bitcoins means the number in circulation will never exceed 21 million and this limit will be reached in about the year 2140. Already 57 percent of all bitcoins have been created; by 2017, 75 percent will have been. If you tried to create a bitcoin in 2141, every other computer on the network would reject it as fake because it would not have been made according to the rules of currency.