Claude Kramer - Decoding Bitcoin: All You Need to Know About the New World Currency

Bitcoin is a system of peer-to-peer relationships that form a network and, using the Bitcoin software, create a new digital currency, the only currency not issued by any Central Bank. Unlike other systems, Bitcoin is a decentralized monetary system which is not governed by the laws of any public or government body.

As an introduction, it is worth mentioning that this currency is created by a network of computers which must solve extremely complex algorithms to finally find bitcoins. Of course, not all computers can do it. Only those who have the most powerful processors manage to extract these assets from the virtual mine and enter them into the system. The discovery of a new bitcoin is automatically acknowledged by the system and registered by adding the data at the end of an extensive block chain. Below, we will explain how this sequence of events is limited to a certain amount established by the original design of the software. Therefore, there will be a time when the chances to get a new bitcoin will be close to zero.

The rest of the people or organizations can get bitcoins by buying them or exchanging them for goods or services.

Its interesting to note that the creation of the Bitcoin protocol was attributed to Satoshi Nakamoto in 2009. (The first block was mined on January 3 rd of the same year). Although there are pictures of the mythical Nakamoto on the Internet, his identity is unknown. In fact, it is uncertain whether he is real or not and some people believe that it is a group of people instead of one single person.

It is logical to assume that every invention is created to solve a problem or to fill a gap. So, looking for failures in the current global monetary and financial system can help us to understand this phenomenon and anticipate its function in the future. This is essential now, because its the time when anyone can decide to add this type of currency to their wallets.

Money is a concept, but until recently it was necessarily associated with objects. These objects are what we all know as coins and bills. The funny thing is that it wasnt always the case. When ancient societies managed to develop tools and settled in sedentary civilizations, an unprecedented phenomenon known as surplus production took place. Specializing in an activity with added value -- unlike harvesting or hunting, for example -- prepared people for certain tasks, giving rise to the social distribution of tasks. Young strong men were not only in charge of hunting to feed their families, but groups of people began to intensively dedicate to a certain task. Families or societies began to fulfill a function in the exchange of goods, depending on weather, geographic and cultural conditions.

The allocation of the surplus production by a certain group of people who intended to get other goods gave rise to barter, a system of exchange by which goods were exchanged personally. However, this system was inefficient because it was difficult to establish the value of the goods, which changed according to the needs, situations, seasons and weather.

Besides from the value issue, the goods, mostly perishable, were useless as a storage medium for the surplus.

This system evolved and a network was developed in which people could exchange their surplus for goods they didnt want or need, but guessed they could exchange in the future for a third good they did need. When the system was in a more advanced stage of evolution, the transport of goods posed a problem which led to the creation of a light instrument which could represent the goods. This is how, 2500 years ago, this small, light type of physical currency developed. The value and legitimacy of this durable instrument was acknowledged by everyone and it functioned as a unit of account.

The first coins were developed in the regions where there was intense exchange of goods between Europe and Eastern countries, which also had an important gold and silver mining industry. In fact, the earliest coins, found in the Turkey of today and around the Black and Mediterranean seas, were made of an alloy of silver and gold called electrum.

Later, gold was established as the standard material for issuing coins and it was coined by the states by certifying the content amount of such metal in each piece. In other words, the development of money had a role in the practical barriers of trade. However, there came a time in which the issue of gold and silver pieces, which carried a certain value, became inefficient, giving rise to paper money. Paper was easier to carry than coins, but it still represented a certain amount of gold which could be claimed by the bearer of the bill or letter before the issuing entity, the State.

In the 20 th century all the countries already had their own sovereign coins, with a fixed external value in terms of gold. This was known as the Gold standard and lasted until the end of World War II. The new global economic and financial system ended the gold standard and it was established that all currencies must be linked to the U.S. dollar, it being the only currency which could be converted into gold.

A subsequent crisis, related to the oil crisis in 1973, undermined the validity of the dollar, which had suffered expansive monetary policies, and the U.S. Government ended the Gold standard. Nowadays, the currencies are supported by the reserves in U.S. dollars treasured by each country depending on their economic health.

The power of the U.S. dollar as the international currency has been affected by several financial crises. Recall that in 2008, the strongest western economies were shaken by the abrupt end of what was known as the financial bubble. It was a situation in which there was massive mortgage lending with very low requirements in the context of the growing economy of the second half of the 1990s. These debts incurred by the banks were transferred to investing funds which in turn placed them in the portfolios of small investors who ignored the high risks of these attractive placements. A rise in interest rates produced a high level of default in the payment of the installments of the original loans by people who had bought their houses. The bonds quickly lost their value and the rest is history.

This crisis, which originated in the United States, affected the world economy, and of course, changed the monetary system.

The root problem with conventional currency is all the trust thats required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust. This quote, attributed to Satoshi Nakamoto himself, summarizes the issue of trust addressed by Bitcoin.

Although the Bitcoin system is innovative, it is based on the concept of a rigorously issued currency, which is limited by design. When computers are able to find all the bitcoins blocks in the system, there will be approximately 21 million of them in the market. This is expected to happen around 2030.