Bitcoin Basics: A Beginner’s Guide

illustration with bitcoin in the center and polka dotted background

A lot of guides have been written to describe the basics of Bitcoin. They usually start with an analogy around gold and mining, and something called the Blockchain. These guides are great but they often get into the technical weeds and they don’t explain why people are investing in Bitcoin or why it can change the future of money. In this guide you’ll learn what Bitcoin is, the pros and cons of Bitcoin, and what Bitcoin means for the future of cryptocurrencies.

What is Bitcoin?

Bitcoin is a type of cryptocurrency. It can be sent digitally and can be stored securely, either digitally or on paper. Unlike traditional money, it can’t be easily forged. Unlike traditional currency, Bitcoin transactions are both public and transparent, meaning that anyone can see every Bitcoin transaction that has ever taken place.

Why is Bitcoin valuable?

Bitcoin does a number of things that traditional money, gold, credit cards, and checks do but it does it without a central bank acting as the middleman. Bitcoin also does it digitally and in a way that is very difficult and arguably impossible to forge. These characteristics are so desirable that many people are trading traditional currencies, like dollars, for Bitcoin. In fact, so much of this is happening that it’s causing the price of Bitcoin relative to traditional currencies to skyrocket, creating an investment opportunity for many people coming into the currency.

Like other currencies, Bitcoin’s value is driven by supply and demand. Today there are only 16.7 million Bitcoins and the currency will only ever have 21 million coins. This is a limited global supply but an increasing global demand. Bitcoin is becoming more widely accepted and easily transferable. It’s now possible to send money from person to person or country to country and business to business without it going through a bank.

While this may seem basic, it’s transformative because it was previously impractical for people to be their own bank. You could store money in a vault or under your mattress but it was difficult and impractical to do so. One of the reasons why centralized digital payment companies like credit cards, PayPal, and Venmo took off – they made payment easy and portable. The problem with these methods,  is that they are centralized and that middleman can create more hassle and cost than is necessary. Anyone who has had their credit card stolen or had their PayPal account locked up knows how crippling that can be. Bitcoin, however, is decentralized making it possible to move large amounts without any central control. Technological disruption often eliminates middlemen. Bitcoin is eliminating the arbitrage of a bank and allows people to control their own funds directly.

Why does society think Bitcoin is valuable?

  • It can store your money.
  • It can protect it against forgery.
  • It can be used to pay people securely.
  • It can be exchanged globally for goods and services.
  • It can appreciate in value (investment).
  • It is decentralized so that no government or individual bank is in control.

What’s wrong with Bitcoin?

For all the things that are positive about Bitcoin, there are a number of problems worth discussing. These problems are being worked on by developers around the world and given the decentralized nature of Bitcoin, will require consensus to solve.

  • Bitcoin is slow. Transactions (both sending and receiving) are currently too slow for real-time purchases. Bitcoin can be faster and more secure than sending a check, but it’s often measured in minutes and hours, not milliseconds. This makes it difficult to use for real-time transactions, especially in a society used to immediate transaction confirmation with other currencies.
  • Bitcoin uses a lot of electricity. Part of the algorithm of Bitcoin is designed to make it difficult to create new Bitcoins. This process is intentionally inefficient.  Because of the rapid scale of the currency, it’s estimated to be using enough energy to power millions of homes.
  • Bitcoin is currently an unstable currency. It’s volatile in that it’s so new that it changes price daily, in 10% swings in both directions (which can equate to even larger weekly fluctuations). We expect it will settle, however it’s unknown how long this will take. In the meantime, there will be investment winners, losers, and inevitable bubbles.

The future of cryptocurrencies

Global wealth is measured in the $100 trillion range. Cryptocurrencies, including Bitcoin, are in the $200 billion range. We believe that the future will have more cryptocurrencies rather than fewer.  Here are some of our predictions:

  • We expect cryptocurrencies such as Bitcoin will grow north of 1% (or $1 trillion in global value) in the next year. Over the next few years, this could grow to 5–10%.
  • The decentralized encryption technology behind Bitcoin, called Blockchains, will be used for many new things including accounting, medical records, insurance, and more.
  • New cryptocurrencies may begin to grow even faster than Bitcoin as the performance and energy issues with Bitcoin become more pronounced.
  • When the growth rate stabilizes, we’ll see more personal payment solutions (similar to PayPal) as well as traditional banking solutions built on top of cryptocurrencies.
  • Governments and tax agencies will become even more vigilant. Bitcoin is considered an “intangible property” by the IRS. Expect further regulation and taxes around cryptocurrency to measure and track capital gains.
  • Exciting new technologies will become more popular. New currencies and blockchain tools like Ethereum will allow a new breed of apps to be built and run in the cloud. This is still in the experimental phase but people are already using Ethereum for identity, crowdfunding, voting, and even breeding digital cats. More complex and sophisticated apps will evolve to use the technology that will further digital currency and decentralized transactions.

Warning: Never invest in something you don’t understand and don’t risk money you’re not willing to lose.

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