BY PASHA FARMANARA | With all the complex talk about bitcoin buzzing around the media, many people have found themselves out of the loop and are afraid to ask the simple question: What is bitcoin?
For starters, bitcoin is a currency just like the dollar, euro or pound. Its biggest difference is that there is no tangible note, like a bill or coin, signifying its value. Bitcoins are represented by files, which can be kept safe on a computer.
The currency has grown by leaps and bounds; the price of a bitcoin has risen more than 4,100 percent in the past 12 months.
Buying a bitcoin is a complicated process, mainly because the process is designed to maintain the buyer’s anonymity.
One cannot simply use his or her credit card information to pay for a bitcoin. Those interested must find a local exchange, or a Web site that offers bitcoins for purchase. Then, they must send their payment in the form of MoneyGram, cash, direct wire transfer, or any method that keeps the buyer’s identity unknown.
The only way to create a bitcoin is by “mining” for them. Mining is a convoluted system in which powerful computers fight to solve math problems, and those who finish are rewarded with a “block” of bitcoins. As of now, a block is equal to 25 bitcoins.
The mining process itself is interesting, but above most people’s heads. What is significant is that with this mining system in place, only so many bitcoins can be mined per time period. In fact, the mining process has been set up to produce just as much value per year as gold mining does in the real world.
This helps prevent inflation, and keeps the currency stable in the long run. In the short run, however, any new commodity’s value will fluctuate heavily when first entering the market, and bitcoin is no exception.
For example, bitcoin’s price dropped on Dec. 18 due to reforms by the People’s Bank of China: The bank outlawed the country’s other banks from using digital currencies.
Due to China’s action, bitcoin’s price plunged from $745 to $455 in just 10 hours. That’s a 40 percent swing. This drastic tumble may be unsettling, but, again, all new commodities fluctuate. Remember when Facebook first went public?
Another worry about bitcoin is that there is nothing backing up the virtual currency. This is true; bitcoin has no backing. What many forget is that this is also true of almost all modern currencies.
In 1971 the U.S. stopped backing the dollar with gold, and since then, almost every currency has followed suit.
“The pieces of green paper have value because everybody thinks they have value,” said Nobel Prize-winning economist Milton Friedman.
As of now, the number of goods purchasable through bitcoin is limited, but continues to grow daily.
Bitcoin’s future is unpredictable. The currency has the potential to become a reliable way to buy everyday items, but it also has the potential to become completely worthless. What bitcoin has undoubtedly done is bring attention to digital currencies.
