Blockchain Basics PYMNTS: What is Bitcoin?

So what is bitcoin?

At this point, most people know at least a little bit about bitcoin, the first cryptocurrency, and that there is also the Bitcoin blockchain.

And while we’re going to cover the basics of both, there’s more to Bitcoin’s story than just how it works.

If you listen to Bitcoin’s many boosters, it is the precursor to the largest new industry since the World Wide Web, poised to transform finance, replace fiat currency, restore personal and financial privacy, the way people reinvent socializing (see “metaverse”) and even provide the infrastructure for a new internet free from censorship and control by Big Tech (see “Web3”).

See also: What is a metaverse and why are we organizing a fashion show?

Some of these claims have something – Wall Street is very interested in decentralized finance, governments are terrified of stablecoins, and the metaverse attracts hundreds of major brands, as well as social media networks like Meta, who bought hard enough to maintain the “Facebook” name.

But the fact is, Bitcoin has so far failed to fulfill its primary purpose, which pseudonymous creator Satoshi Nakamoto has described as a “purely peer-to-peer version of e-money that allows queuing payments directly from one party.” to the other”. without the intervention of a financial institution.

It is important to remember this description as it not only summarizes Bitcoin’s goals but also gives a good overview of its shortcomings.

without trust

At the heart of Bitcoin’s uniqueness is the solution it provides to what Nakamoto has called “the double-spending problem,” where transactions must be conducted through a trusted third party, such as a bank, credit card network, or broker.

Bitcoin is what cryptographers call “trustless” because it does not require trust. It achieves this by building a network of distributed ledgers in which all ledgers (referred to as “nodes” in the blockchain) must agree on the correctness of a transaction at once before committing, timestamping, and registering it is written in an order that cannot be changed. without creating a highly visible break in the ledger.

More here: PYMNTS Crypto Basics Series: What Is a Blockchain and How Does It Work?

Blockchain takes its name from the comparison with a chain to which new links are added. Any disagreement creates a “fork”, which is essentially a new ledger at this point – consider adding two links to the end of a chain and adding new links to each.

So to make a change to an existing transaction anywhere in the past, it would be necessary to change all subsequent links as well. Each “link” in the chain is a block of validated transactions. This process is kept fair by a process called proof-of-work, in which a node’s operator competes to solve a math puzzle, with the winner receiving a reward in newly minted bitcoins when the rest of the node operators agree that the block has been successfully validated and add it to the blockchain.

Also Read: PYMNTS Crypto Basics Series: What Is A Consensus Mechanism And Why Is It Destroying The Planet?

In this way, the trusted intermediary is not needed, as there is no way for a party to spend their bitcoins twice – transaction records cannot be changed and the process of issuing a bitcoin requires the use of a one-time passcode that is stored in the process is roasted ; a new one is generated for the next owner of this bitcoin.

And, according to the theory, with enough nodes scattered around the world, there is no way for individual governments or bad actors to gain control over the network.

Yes but …

There are a few issues here, starting with the fact that there are many reasons for wanting to cancel a transaction, from buying a faulty product to sending it to the wrong person to learning you bought something stolen.

In addition, the reliance on complex single-use codes makes bitcoin transactions “pseudonymous” — meaning that while bitcoin itself can be traced along the publicly visible blockchain, its owner is hidden behind a code.

That’s great from Nakamoto’s libertarian philosophical standpoint, but it causes problems when this cryptocurrency is used by drug dealers, ransomware hackers and the like to get paid in a currency that is almost as hard to trace as physical money, but can be sent, received, and instantly and anonymously released around the world.

But there is a hole in this hole: While bitcoin has value everywhere, very few traders accept it directly. As such, issuing them usually requires “downgrading” through a payment processor, bank, or other financial institution. The main way to spend bitcoin — and any other cryptocurrency — in retail is through a debit card issued by Visa or Mastercard that allows the owner to pay in bitcoin, but give dollars to the merchant.

And while some traders are starting to accept it, the change has been slow and slowed down by the extremely volatile price of bitcoin and other cryptocurrencies, which are rising or falling by 5% or even 10% daily, on a fairly steady basis. In the past year alone, bitcoin has seen its price double and halve.

Bitcoin enthusiasts, who call themselves “hodlers” because they “hold on to life,” are happy with the long-term view. However, traders don’t really want to use a currency that fluctuates wildly. Companies that have cash flow to manage cannot afford this prospect.

Value stock?

As a currency, bitcoin is still in its infancy 13 years after the Bitcoin Genesis block was created on January 3, 2009. Until now it has been used as an investment, which has baffled more than one investor because there is literally nothing behind it. bitcoin other than people’s belief that it has value – no yellow metal usable as jewelry, no stock in a company that produces something, no commodity to be used to build or nurture, and no “full trust and credit of a sovereign government as fiat currency.

Berkshire Hathaway CEO Warren Buffet recently said he would not buy half a trillion dollars worth of bitcoins “for $25”.

Related Reading: Buffett: Crypto Has ‘Magic’, But He Wouldn’t Buy Everything For $25

There are, he said at his annual shareholder event, “all kinds of friction fees that are real, that someone paid to a group of people who facilitate this game. Money in the room. It just changed hands.

Buffett was referring to financial intermediaries such as cryptocurrency exchanges.

Bitcoin’s adoption by bankers and investment firms on Wall Street, which began in earnest in late 2020, was based on the idea that it is a store of value, i.e. an investment that, like gold, will maintain its value in the face of inflation.

This was based on the fact that no more than 21 million Bitcoin can ever be minted, making it, the argument goes, non-inflationary.

It was a great idea until things started going up and down with the broader markets as the current financial situation got tougher.

And bitcoin has some technical drawbacks: it takes 10 minutes to complete transactions; the costs are unpredictable; and at about five transactions per second, it’s not scalable enough to act as a real currency.

See More: Bitcoin’s 10-Minute Block Time and Fluctuating Transaction Fees Give RTP an Edge

There are ways around this – Layer2 blockchains like the Lightning Network are a good example, as the transaction takes place outside the Bitcoin blockchain and is simply written to it in batches after it’s completed.

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But Bitcoin still has a long way to go if it is to become a “pure peer-to-peer version of e-cash” that people prefer over dollars and cents.

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