Investing » Cryptocurrency

Bitcoin basics

You’ve probably heard the buzz about bitcoin in the last few months. The price is up or down, websites hacked, millions made and vanished. It’s all very intriguing, but what exactly is bitcoin?

The answer is complicated because bitcoin is a lot of things. According to the website, “Bitcoin is an innovative payment network and a new kind of money.” Let’s break this down and look at what exactly bitcoin is.

A new kind of money

Take a step back and think outside the box for a moment about what exactly money as we know it is. Dollars are a medium of exchange or a unit of account. If you buy a loaf of bread from me for $1, I have $1 more and you have a loaf of bread. In this example, the transfer of money took place in the form of a physical bill or coin that we both agreed was equivalent to one loaf of bread.

With the advent of banks and cheques, and more recently debit cards and online banking, most of our money exchanges don’t involve any physical cash. In fact, if the dollar was being invented today, would it really make sense to print physical bills?

Bitcoin is that new start. There are no physical bills but rather a public ledger of who has which bitcoins. And here’s the kick: there will only ever be 21 million bitcoins.

Money has always been a matter of faith. Faith in the fact that someone else will take it. Faith that the bill isn’t counterfeit. And most importantly, faith that the issuing agency (ie the government) won’t print too many of them. Zimbabwe and Venezuela are the two current hyperinflation examples but they are walking in well-worn footsteps.

Bitcoin is not a matter of faith in the government of the day. Bitcoin is an open-source currency controlled by millions of computers and backed up by cryptography. Twenty-one million is the limit and they will be created at a known rate until the year 2040 (more on how they are created later).

An innovative payment system

The second important aspect of bitcoin actually stems from the first. Given that bitcoins are really stored in a digital public ledger, transferring bitcoins from one person to another is as easy as sending an email. Using a bitcoin wallet program installed on your computer, you can send bitcoins across the street or across the world with the click of a mouse. Variations of the bitcoin wallet software exist for Windows, Macs, smartphones and online and provide an easy way to store your bitcoins and move them around. Even my dad can do it.

Getting bitcoins

If you want to get your hands on your first bitcoin, you have three options. First, you can exchange them for goods or services just like the loaf of bread. Second, you can buy them with cash from someone who wants to sell them either through an online exchange or in person. And finally, you can create them yourself through a process called “bitcoin mining”.

Mining boils down to a digital lottery that is weighted based on the amount of computing power you have available. The more computers you throw at it the better your chances are to win the lottery. The prize is 25 bitcoins, currently valued at about $16,000 and is won by one lucky winner every ten minutes or so. With these vast sums up for grabs, a digital arms races are on in mining hardware with vendors sprouting up around the globe.

Ready for prime time?

The news is full of stories of wild price fluctuations, tulip bulb comparisons, and hacking. For bitcoins’ true believers (and I am one of them) these are all just bumps along the road. The price will stabilize in the long run. Websites are hacked periodically but the core bitcoin technology remains robust. Only time will tell if the believers or the skeptics are right. In the meantime, it’s an exciting time to be involved in bitcoin!

For those that want more information, head over to my website or attend one of my workshops on January 16 or February 12 at the Mayfair Golf Club in Edmonton. I will walk you through all the ins and outs and you leave with $5 worth of bitcoin in your digital wallet.

About the author

With a master’s degree in electrical and computer engineering and over a decade of teaching electronics under his belt, Dave McMillan is the perfect guy to be teaching you all about Bitcoin. He works with all parts of the Bitcoin ecosystem and has an amazing knack for making complicated things easily digestible.

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