What Is Bitcoin?

Investors and journalists have compared the enthusiasm for investing in cryptocurrencies such as Bitcoin to the American gold rush in the mid-1800s. Others compare the mania for the digital currency with the Dutch craze for tulips in the 1700s. It remains to be seen whether Bitcoin and its digital cousins will endure and become a new gold standard or lead the market to collapse like the Dutch tulip mania.

Digital Currency

Digital currencies or cryptocurrencies are electronic tokens generated by computer networks to replace traditional currencies. Paying with digital currency is not the same as paying with a credit card, debit card, PayPal or ApplePay, all of which electronically access conventional currencies such as the US dollar, British pound and Chinese renminbi.

The electronic tokens in digital currency have a value based on the exchange of conventional currencies and goods for the tokens through special Internet exchanges such as BitPay. These exchanges work similarly to PayPal, but are not affiliated with this company. Conventional currencies and commodities, like gold, are valued on the basis of national and international banking standards.

Create Digital Currency

To produce cryptocurrency, a distributed network of computers works in a closed, Internet-based community using a set of complex cryptographic algorithms, and the output of the specialized programs is cryptocurrency represented by digital tokens. The tokens are only valid for trading within digital communities, and individuals and organizations can open accounts — also called wallets — in the specialized communities.

The founders of the communities limit the number of tokens that the computers underlying the transactions in the community can generate. The crowdsourcing efforts to fund the community are called Initial Coin Offering (ICO).

One of the first — and clearly the most popular — cryptocurrencies with a set production limit is Bitcoin. A person known only by the pseudonym Satoshi Nakamoto founded Bitcoin and the technology for generating and managing the cryptocurrency in 2008. Nakamoto limited the number of bitcoins generated by the distributed computer network in his exchange to 21 million. This limitation of the supply ensures the demand for the tokens, which subsequently increase in value.

The value of Bitcoin

At the end of August 2017, Bitcoin had an assigned trading value of almost $5,000 for a single Bitcoin. This far exceeded the value of gold, which at that time was about $ 1,300. However, within two weeks of the digital currency’s high watermark, Bitcoin’s value dropped to about $3,000. Those who invested real currency in Bitcoin in mid-August and did not withdraw from the market before the price drop, lost almost 40 percent of the investment.

Due to its status as the most popular digital currency in the world, the Bitcoin community has become an independent standard, similar to the announced exchanges of Wall Street, London and Japan. As a result, the value of Bitcoin also drops when other digital currency markets falter. In the case of the dramatic drop in the value of Bitcoin at the end of August 2017, this happened because other cryptocurrencies lost the support of the Chinese government after multiplying in China at an alarming rate during 2017.

The Chinese government feared the growth of huge and convoluted pyramid schemes revolving around cryptocurrency exchanges that had their own Bitcoin-like digital tokens. As a result, the government ordered that exchanges such as BTCC, OKCoin and Huobi should be closed by the end of September 2017. This edict made the global cryptocurrency exchanges around the world tremble, and fear led to a rapid devaluation of Bitcoin.

Now that Bitcoin has been shown to exhibit volatility that the gold standard and conventional currencies do not, it is unlikely that Bitcoin will become a global currency standard any time soon.

Bitcoin Security

Since 2010, almost a dozen hacks of cryptocurrency exchanges have occurred. The losses run into the hundreds of millions (dollars). Relatively speaking, however, conventional banks and financial institutions have lost billions of dollars to cybercriminals over the same period. Programmers and cryptocurrency communities are working hard to identify and fix the vulnerabilities in their blockchain networks. If Bitcoin becomes an acceptable currency for real providers, state central banks could actually outshine their role by sophisticated computer algorithms.

On a personal level, everyone who invests in Bitcoin should have proper internet security before accessing financial information and making transactions.

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