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Pros and cons of Bitcoin
The Bitcoin is a type of cryptocurency. Although many different varieties of cryptocurrencies are doing the rounds right now, the Bitcoin is by far the most famous of the lot. It has relative values to other currencies, much like any traditional, state-minted currency. It is by far the most stable of all the cryptocurrencies in the world because its complex algorithms make it virtually impossible for anyone to hack the source code and manipulate its availability or value. Besides, Bitcoin users can use their accounts and the currency that they hold in it using one or more private keys, which acts as passwords. This makes the Bitcoin even more secure. However, those are not the only reasons why the Bitcoin is gaining such wide popularity. In this article, we will look at the pros and pitfalls of the Bitcoin.
Pros of bitcoins
Let us begin with the advantages.
When you buy real property, you usually have to deal with a large number of hassles that include delays, and fee payments and delays in fee payments, not to mention third parties. The Bitcoin block chain can help you get rid of all these hassles preemptively. A Bitcoin contract can be manipulated and redesigned to add or remove approvals from third parties, as per your requirements. You can also revamp the contract to include external facts, and keep the contract on hold for completion on a due date and time. The whole procedure will take you a lot less time and headache, not to mention expenses than would be incurred on a traditional asset transfer procedure.
When you receive money in your PayPal account, you always have to pay a certain amount as fees to PayPal. Add to this currency conversion charges if you are dealing in multiple currencies, and the bank charges incurred while transferring money from your online account to the bank. The Bitcoin does away with all those issues. The miner usually receives new Bitcoins from the network as compensation for the hosting, and there is no transaction fee. However, if you are not managing your own account but conducting transactions through a third party system such as Coinbase, it is likely that you will be charged a transaction fee by the hosting platform.
The Bitcoin has opened up new markets for the financial community to explore. A large number of individuals in the world have access to a smartphone or a laptop, but do not have access to established exchange systems. The Bitcoin has made it possible for these communities to conduct transactions with the rest of the world. Take, for instance, the M-PESA from Kenya, which is one of the country’s leading micro financing and money transfer service that is completely based on mobile phones. Recently, M-PESA introduced the option of making transactions in Bitcoins, which made it easier for the company to conduct international business.
The chance of any kind of fraud becomes highly limited because of the secure algorithm that governs the Bitcoin. Since they are digital, fake money cannot be minted, and neither can the sender retrieve the money or stop payment once payment has been processed, as can be done in the case of cheques and e-cheques. Besides, it is the sender who controls the information that the recipient of the money would receive, as opposed to payments by debit of credit cards where the recipient decides which information it would take. This allows the recipient considerable window to commit monetary fraud and at least identity theft. Since Bitcoin transactions need no more than a digital wallet ID, all information stays secure.
Cons of Bitcoin
Downsides to the Bitcoin are few and far between.
- The Bitcoin is highly volatile, which might lead to a high risk of loss if you have a large number at your disposal and the price suddenly falls.
- It is not yet widely accepted in exchange of traditional state currencies, which is why it cannot be used for regular transactions. This also makes earning in Bitcoins a rather cryptic area.
- Bitcoins are not regulated by any international or federal financial authority, which is why it is preferred by illegal trades.
- It is completely digital, which means that if there is any technical glitch or human error, all your money will be lost forever or stuck in limbo.
The Bitcoin, despite its popularity, is attracting quite a bit of controversy. Many are of the opinion that it is a passing internet fad that cannot possibly replace traditional currencies or compete with them in usefulness. It is yet too early to say that for sure, but we cannot ignore the fact that this cryptocurency is currently the highest valued functional currency in the world.
Cryptocurrency Pros and Cons
What the pros and cons of cryptocurrency? We look at cryptocurrency pros and cons to find out the benefits and drawbacks of digital currencies like bitcoin.
The bottom line: Lots of advocates of Cryptocurrency will tell you that it is the best financial system ever invented and that it has no faults. On the other hand, some people will point to examples such as the illegal deep-web market Silk Road to try and convince you that it is just a tool for crime. Techies love it – the DEA hates it – lawmakers are confused by it… but you’ll need to form your own opinion. Below you’ll find an evolving list of Cryptocurrency pros and cons to help you understand what all the fuss is about.
CryptoCurrency Pros and Cons List
Below is a side-by-side comparison of cryptocurrency pros and cons, below the table you will find a detailed discussion on each perk and pitfall.
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|Cryptocurrency Pros||Cryptocurrency Cons|
|Most cryptocurrencies are built from the bottom up with security and privacy in mind. This means users can expect transactions to be private and secure despite non-identifying transaction data being public.||Secure and private transactions can lead to making it easier for people to skirt the law. Third parties involved in cryptocurrency, like those who produce wallets and exchanges, don’t always have the same level of security as a coin’s network itself.|
|Cryptocurrency is legal and, if it is claimed correctly for tax purposes, opens up another avenue for transactions.||The value of cryptocurrency changes and laws on how to claim them as taxable income are fuzzy. It can be unclear as to how much value the coins have and thus can confuse what taxes should be paid on them. Should you pay based on what they were worth when you got them, or what they are worth when you file? There are answers to these tax questions, but it is complicated! Also the private nature of transactions can make avoiding paying the proper taxes easy.|
|Cryptocurrency has low transaction costs compared to other digital payment methods like PayPal.||Cryptocurrency is only accepted by certain vendors. Between that and fluctuating prices the money saved in transaction costs could be negligible.|
|Through the process of mining (securing cryptocurrency transactions) anyone with access to a computer and the internet can make money mining coins.||Cryptocurrency mining (at least in proof-of-work systems) is a CPU intensive process that requires an extraordinary amount of resources for no purpose beyond regulating coin creation and encryption.|
|Since the cryptocurrency market is volatile it can be a high reward (albeit high risk) investment.||The cryptocurrency market is volatile, the value of coins can change wildly in a short amount of time. In 2020 the value of bitcoin ranged between about $30 and $1000!|
|Cryptocurrency makes trading anywhere in the world easy. It’s a decentralized currency. This opens up financial options for people in countries that don’t have access to financial services.||The coin you trade for a legal thing today can be used to fund awfully illegal things tomorrow. The notorious Silk Road allowed for illegal blackmarket transactions. While all currency runs this risk, cryptocurrency makes this sort of thing easier to pull off.|
|Cryptocurrency is decentralized, meaning it can’t be deflated or inflated due to the choices of a central government.||Not having a central bank control cryptocurrency adds to its volatility as no central force can step in to correct the markets (although this can differ by coin).|
|Transactions are quick, permanent, and hard to fake, this eliminates a lot of the fraud issues banks deal with.||If something goes wrong with a transaction or if a coin is lost there is no way to recover it. If someone does steal coins there is no way to rectify the issue.|
|There is no other entity else that controls your money or its value.||There is no way to recover coins if they are lost and there is no system in place to protect the value of your coin.|
|Cryptocurrency isn’t inflationary. With coins like bitcoin there is a set amount that will ever be created.||Any given cryptocurrency lacks the flexibility of centralized currency due to its non-inflationary nature.|
|Cryptocurrency is transparent despite its privacy features. This is called being pseudo-anonymous. This transparency helps build security and trust and creates a level playing field.||Some privacy coins aside, cryptocurrency is not totally anonymous in most cases. The public ledger system might provide others insight into previously unknown economic activity.|
|Cryptocurrency was designed from the bottom up to be a secure system. In the history of Bitcoin there has never been a successful hack of the Bitcoin network. This can in part be attributed to Satoshi’s focus on this problem from the get go. For example, a major feature of the Bitcoin network is how the system prevents double spend attacks .||Cryptocurrency is software based. Software in general can be hacked and have bugs, and blockchain-based networks have some theoretical vulnerabilities (51% attacks are theoretical threat for example). Although Bitcoin’s network has never been hacked, in large part due to its design, exchanges, wallet software, other cryptos, etc can be subject to hacks and bugs in practice and in theory.|
There are lots of truly great things about CryptoCurrency. Believe it or not, the developers and designers of systems such as the Bitcoin Network intentionally built properties into their systems that have made cryptocurrency a competitive alternative financial systems (i.e. banks, Electronic Payment Systems like PayPall, credit cards, and nation-issued currencies).
Low Transaction Costs
One of the most important pros of cryptocurrencies is that they generally have low transaction costs. Unlike other Electronic Payment Systems (like PayPal and money transfers with banks), which tend to have expensive fees, cryptocurrencies generally have very low transaction costs.
This means that it costs less to transfer money from one person to another. This means that merchants don’t have to account for added expenses, and can thus translate into lower prices for the customer. Also, this can be really important for immigrants who left their home country to find work and want to send remittances back to their families.
You can learn more about how people have take advantage of this pro (specifically with regards to Bitcoin) on our page about the Uses of Bitcoin.
Cryptocurrency Works to Combat Poverty and Oppression
Simply put, free and open access to basic financial services could really help those who are impoverished or oppressed.
Currently, many banks and financial institutions don’t serve poor, rural areas (especially in smaller countries). In 2020, the World Bank estimated that 64% of people living in developing countries lack accesses to basic financial services. Further, there are many people who are financially crippled by their governments’ devaluated currencies or frozen capital markets.
Bitcoin offers an alternative to the status quo that provides anyone with internet access with robust financial services. This is especially important for the impoverished and oppressed, as they often don’t have a viable alternative.
Cryptocurrency is a Stimulus for Financial Innovation
Cryptocurrency is new, and in the financial sector, new is exciting. The features of cryptocurrency that are not present in traditional financial systems – for example, its speed, its facilitation of “micro-payments”, its strictly digital nature, and its low transaction costs – will inevitably lead to exciting new business models, financial opportunities, and online business strategies.
On top of this, cryptocurrency’s open-source nature means that developers can extend functionalities by writing API’s and writing application-specific code to interact with cryptocurrency networks.
This trend will become more apparent over time as cryptocurrency becomes more widely used, but we’ve already begun to see exciting new cryptocurrency-driven developments in the free market. For specific examples and a look at recent cryptocurrency developments and applications, be sure to visit our page on CryptoCurrency Today .
Fast, Permanent Transactions
Cryptocurrency transactions generally process quicker than checks and bank-facilitated money transfers. Also, all transactions are final as soon as they are recorded in the permanent Transaction Block Chain (cryptocurrency’s “public ledger”). This means that vendors don’t need to worry about charge-back fees by dishonest customers (a serious issue with PayPal’s electronic payments system that can often financially hurt small vendors and favor larger merchants).
There are plenty of legitimate reasons why someone could want to keep their spending private. For example, consider spouses who are fleeing from abusive partners, people desiring controversial health services, and citizens of nations with volatile or oppressive governments. In these and other such situations, individuals’ safety, health, or even lives may depend on keeping their spending private.
You may not agree, but we CryptoCurrencyFacts believe that you don’t need to have a reason to want to keep your financial transactions private. Some people are ok with having third parties (specifically, advertisers, government agencies, financial institutions, and private corporations) keep detailed records of their spending and receiving, and others may not be. If you fall in the latter category, we don’t believe that you don’t owe an explanation or justification for not wanting others to keep records of your financial activity. Whatever your reasons for desiring privacy, cryptocurrency can provide it.
Keep in mind that we are careful to say “privacy” and not “anonymity”. cryptocurrencies are, by nature, public and open-source systems. Although your transactions are tied only to your “cryptocurrency Address”, detailed information on all of the transactions is available to onlookers via the cryptocurrency’s “public ledger”.
For a detailed discussion on the anonymity (or lack thereof) of CryptoCurrency, be sure to visit our page on Bitcoin Anonymity. Although the discussion is specifically directed at Bitcoin, the principles hold for CryptoCurrency in general.
You’re the Only Person with Control Over your Money
The only way your money can be accessed is by your private key – essentially a cryptographic password that only you know. This means that no bank, corporation, or central government can freeze your assets. Keeping amount of savings in cryptocurrency can be a way to insure yourself financially. Even if your government defaulting on its loans or your bank fails, you will still have an unaffected backup pool of money to draw from.
Your Information Can’t Be Stolen from Vendors
When you use credit and debit cards to make purchases (especially online), you’re trusting the vendor with information that other people could use to steal from you. This means that, if your financial information is stolen from the vendor, your money will be at risk.
It’s interesting to note that this type of information theft occurs more than most people realize. A good example of this is the April 2020 “Heartbleed” bug in the openSSL cryptographic software. Hundreds of popular online services were hacked before the bug was disclosed, including big names like Facebook, Google, Instagram, Pinterest, Tumblr, Twitter, Yahoo, Yahoo Mail, Gmail, Dropbox, TurboTax, and GoDaddy.
CryptoCurrency is Not Inflationary
Since cryptocurrency is still an emerging technology, the value of the various digital currencies can be volatile (as discussed below), but the system was designed to not be inflationary in the long run.
There are many aspects of cryptocurrency which contribute to it’s non-inflationary nature:
- Each cryptocurrency has a finite, set limit on the total number of coins that will come into existence. For example, the total number of bitcoins that can ever come into existence is 21,000,000.
- There are controls and techniques in each cryptocurrency’s protocol that ensure that the process by which new coins come into existence is controlled and predictable over time. This means that we can accurately predict how much of a certain cryptocurrency will exist at any given time in the future.
- There is no money-issuing agency which can decide to mint more currency or enact fiscal policy that decreases the value of the currency.
Many people mistakenly think that cryptocurrency is too difficult a subject to learn and work with. The truth is, anyone can learn to use cryptocurrency. Even with no tech skills or knowhow, you can easily set up a wallet, get a bitcoin address, and start buying, spending, sending, and receiving cryptocurrencies like Bitcoin and Litecoin.
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As with any new technology, there are some negatives that need to be worked out. While the pros listed above are great, let’s take a bit of time to acknowledge the cons.
Right now, the values of most cryptocurrencies are volatile – they change frequently and sometimes by wide margins. This means that some people have made quite a bit of money when the price of a cryptocurrency (Bitcoin, for example) skyrocketed, and others have lost just as much when the price has crashed.
That being said, it’s likely that as cryptocurrency increases in popularity and more people use it, this volatility will level out. Many have theorized that this initial volatility is just “stress testing”, and thus that the fluctuations in value will gradually level out into stable-valued currencies.
Potential for Security Breaches
Because cryptocurrency is digital money with purchasing power, services working with it will need top-notch security to avoid digital breaches. Notice that the issue here isn’t as much with the cryptocurrency itself, but rather with the 3rd party companies working with cryptocurrency (such as online Wallet and Exchange services).
For more information on the security of cryptocurrency, see our page on Bitcoin Security. While the conversation there is Bitcoin-specific, the principles are relevant to all cryptocurrencies.
As with cash, the privacy afforded by cryptocurrency can be used both legitimately and for illicit purposes. For example, there have been serious concerns raised that Bitcoin opens opportunities for criminals to partake in illegal activities like money laundering, terrorist funding, and the exchange of illegal goods and services.
The most infamous example of this is Silk Road, the Deep Web marketplace which used the anonymizing TOR network and the Bitcoin payment system to allow for the peer-to-peer sale of illegal drugs and forged identity documents.
However, it’s worth noting that this in and of itself is not an issue that warrants writing off cryptocurrency altogether. To recommend that would be like recommending that we stop using cash because some criminals buy drugs with it. Further, since cryptocurrency is not, strictly-speaking, anonymous, the public ledger system might provide law enforcement agencies to gain insights into previously unknown criminal activity.
There’s a saying that you shouldn’t throw the baby out with the bathwater. Having discussed the Pros and Cons of Cryptocurrency, we think that it’s important to keep both sides of the story in mind when making judgements and forming opinions on cryptocurrency.
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What Is Bitcoin – History, How It Works, Pros & Cons
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Bitcoin is a virtual currency, or cryptocurrency, that’s controlled by a decentralized network of users and isn’t directly subject to the whims of central banking authorities or national governments. Although there are hundreds of cryptocurrencies in active use today, Bitcoin is by far the most popular and widely used – the closest cryptocurrency equivalent to traditional, state-minted currencies.
Like traditional currencies, such as the U.S. dollar, Bitcoin has value relative to other currencies and physical goods. Whole Bitcoin units can be subdivided into decimals representing smaller units of value. Currently, the smallest Bitcoin unit is the satoshi, or 0.00000001 Bitcoin. The satoshi can’t be broken into smaller units. However, Bitcoin’s source code is structured to allow for future subdivisions beyond this level, should the currency’s value appreciate to the point that it’s deemed necessary.
Bitcoin is the most versatile cryptocurrency around. It can be used to purchase goods from an ever-growing roster of merchants (including recognizable companies like Expedia and Overstock.com) that accept Bitcoin payments. It can be exchanged with other private users as consideration for services performed or to settle outstanding debts. It can be swapped for other currencies, both traditional and virtual, on electronic exchanges that function similar to forex exchanges. And, unfortunately, it can be used to facilitate illicit activity, such as the purchase of illegal drugs on dark web marketplaces like the infamous (and now-shuttered) Silk Road.
For all its promise, Bitcoin remains a niche currency that’s subject to wild value fluctuations. Despite the wild-eyed pronouncements of hardcore proponents, it’s certainly not a legitimate investment or trading vehicle, as is the case with stable national currencies, such as the U.S. dollar and Japanese yen.
How Bitcoin Works
Bitcoin is a cryptocurrency, meaning it’s supported by a source code that uses highly complex algorithms to prevent unauthorized duplication or creation of Bitcoin units. The code’s underlying principles, known as cryptography, are based on advanced mathematical and computer engineering principles. It’s virtually impossible to break Bitcoin’s source code and manipulate the currency’s supply.
Although it was preceded by other virtual currencies, Bitcoin is known as the first modern cryptocurrency. That’s because Bitcoin is the first to blend certain key features shared by most subsequently created cryptocurrencies.
Intense privacy protections are baked into Bitcoin’s source code. The system is designed to publicly record Bitcoin transactions and other relevant data without revealing the identity of the individuals or groups involved. Instead, Bitcoin users are identified by public keys, or numerical codes that identify them to other users, and sometimes pseudonymous handles or usernames.
Additional protections allow users to further conceal the source and flow of Bitcoin. For instance, special computer programs available to all Bitcoin users, called mixing services, privately swap a specific Bitcoin unit for another Bitcoin unit of identical value, and thereby obscure the source of the owner’s holdings.
Bitcoin exchanges allow users to exchange Bitcoin units for fiat currencies, such as the U.S. dollar and euro, at variable exchange rates. Many Bitcoin exchanges also exchange Bitcoin units for other cryptocurrencies, including less popular alternatives that can’t directly be exchanged for fiat currencies. Most Bitcoin exchanges take a cut, typically less than 1%, of each transaction’s value.
Bitcoin exchanges ensure that the Bitcoin market remains liquid, setting their value relative to traditional currencies – and allowing holders to profit from speculation on fluctuations in that value. That said, Bitcoin users must understand that Bitcoin’s value is subject to wild swings – weekly moves of 50% in either direction have occurred before. Such swings are unheard of among stable fiat currencies.
Bitcoin’s block chain is vital to its function. The block chain is a public, distributed ledger of all prior Bitcoin transactions, which are stored in groups known as blocks. Every node of Bitcoin’s software network – the server farms and terminals, run by individuals or groups known as miners, whose efforts to produce new Bitcoin units result in the recording and authentication of Bitcoin transactions, and the periodic creation of new blocks – contains an identical record of Bitcoin’s block chain.
Because new Bitcoin transactions constantly occur, the Bitcoin block chain, though finite, grows over time. As long as miners continue their work and record recent transactions, the Bitcoin block chain will always be a work in progress. In other words, there’s no predetermined length at which the block chain will stop growing.
On average, miners create a new block chain, which includes all prior transactions and a new transaction block, every 10 minutes. Every two weeks, Bitcoin’s source code is designed to adjust to the amount of mining power devoted to creating new block chains, preserving the 10-minute average creation interval. If mining power increased during the most recent two-week span, new block chains become more difficult to create during the subsequent two-week span. If mining power decreases, new chains become easier to create. For most of Bitcoin’s history, the trend has been toward greater mining power.
Bitcoin’s block chain is the sole arbiter of Bitcoin ownership. No complete record exists anywhere else. The block chain also serves as a payment processing system, like Visa or PayPal, with the miners functioning as the system’s employees.
A Bitcoin transaction hasn’t technically occurred until it’s added to the block chain, at which point it becomes irreversible – unlike traditional payment processors, Bitcoin doesn’t have any standardized facility for chargebacks or refunds. During the window between the transaction itself and the moment it’s added to the block chain, the relevant Bitcoin units are essentially held in escrow – they can’t be used by either party to the transaction. This prevents duplicate transactions, known as double-spending, and protects the system’s integrity.
Every Bitcoin user has at least one private key (basically, a password), which is a whole number between 1 and 78 digits in length. Individual users can have multiple anonymous handles, each with its own private key. Private keys confirm their owners’ identities and allow them to spend or receive Bitcoin. Without them, users can’t complete transactions – meaning they can’t access their holdings until they recover the corresponding key. When a key is lost for good, the corresponding holdings move into a sort of permanent limbo and can’t be recovered.
Users either manually create their own private keys or use a random number generator to do the same. Keys can be stored online (either in private cloud storage or on public Bitcoin exchanges), on physical storage media (such as thumb drives), or on paper, and only entered online during transactions.
Since private keys essentially give Bitcoin holdings value, security experts advise against storing private keys in easily accessible online locations or keeping only one private key copy. Savvy users store identical key copies on paper printouts and physical media not connected to the Internet.
Actual Bitcoin units are stored in “wallets” – secure cloud storage locations with special information confirming their owners (Bitcoin users) as the guardians of the Bitcoin units contained within. Though wallets like Coinbase theoretically protect against the theft of Bitcoin units that aren’t currently being used, they’re vulnerable to hacking – particularly public wallets used by Bitcoin exchanges, online marketplaces, and specialized websites that exist solely to store Bitcoin wallets known as “wallet services.”
The largest and most notorious Bitcoin hack involved wallets held by Mt. Gox, a Japanese Bitcoin exchange that shut down after hackers stole hundreds of millions of dollars in Bitcoin (in contemporary valuations) from its supposedly secure servers. Hackers often target public wallets that store users’ private keys, enabling them to spend the stolen Bitcoin. Ars Technica has a nice rundown of Bitcoin hacks large and small, current to late 2020.
Like keys, copies of wallets can be stored on the cloud, an internal hard drive, or an external storage device. Unlike keys, they can’t be stored on paper. As with keys, it’s strongly advised that users have at least one wallet backup. Backing up a wallet doesn’t duplicate the stored Bitcoin units, only their ownership record and transaction history.
Miners play a vital role in the Bitcoin ecosystem. As keepers of the block chain, they keep the entire Bitcoin community honest and indirectly support the currency’s value.
Miners are individuals or cooperative organizations with access to powerful computers, often stored at remote, privately owned “farms.” They perform incredibly complex mathematical tasks in an effort to mint new Bitcoin, which they then keep or exchange for fiat currency.
In an elegant twist, Bitcoin’s source code harnesses this computing power to collect, record, and organize previously unverified transactions, adding a new block to the block chain about every 10 minutes. This work also verifies the accuracy and completeness of all previously existing blocks, preventing double-spending and ensuring that the Bitcoin system remains accurate and complete.
Each time a new block chain is created, a predetermined number of fresh Bitcoin are minted. Miners are “rewarded” these Bitcoin for their effort and often also receive transaction fees paid by buyers. Sellers have an incentive to charge transaction fees, which usually amount to less than 1% of the transaction amount, because miners are permitted to prioritize the recording of fee-loaded transactions irrespective of transaction order. In other words, sellers who charge transaction fees usually get paid faster. Unsurprisingly, Bitcoin transaction fees are quite common.
Did You Know: As Bitcoin grows more valuable (albeit amid gut-wrenching market volatility) and more commonly accepted, so too does the business of mining Bitcoin. But it comes at a notable cost: the consumption of vast amounts of electricity, often powered by non-renewable sources. According to the Bitcoin Energy Consumption Index, Bitcoin mining consumed approximately 51 trillion terawatts of electricity per year as of February 2020. That figure has risen steadily and inexorably over time, irrespective of day-to-day market movements, prompting policymakers to take a closer look at Bitcoin’s carbon footprint.
Bitcoin’s own source code places a strict limit on the number of Bitcoin units that can ever exist: 21 million. This is achieved by slowing, over time, the rate at which the creation of new block chain copies produces new Bitcoin. Every four years or so, this rate halves. The last Bitcoin is projected to spring into being sometime around 2140 – that is, if the currency still exists and people still care enough to mine it. After that, miners’ sole compensation will be Bitcoin transaction fees.
This enforced scarcity is a key point of distinction between Bitcoin and traditional fiat currencies, which central banks produce by decree, and supply of which is theoretically unlimited. In this regard, Bitcoin has more in common with gold than the U.S. dollar.
Security Issues & Risk of Theft
Taken together, the security risks around Bitcoin are the currency’s single greatest drawback, and are worthy of special consideration for anyone considering converting U.S. dollars into Bitcoin.
The fact that Bitcoin units are virtually impossible to duplicate does not mean that Bitcoin users are immune to theft or fraud. The Bitcoin system has some imperfections and weak points that can be exploited by sophisticated hackers looking to steal Bitcoin for their own use. The Mt. Gox incident, as well as a host of smaller, less publicized incidents, underscore that Bitcoin exchanges are particularly vulnerable to theft by hacking.
Two of Bitcoin’s perceived strengths – its political independence and strong anonymity protections – actually make it more attractive to thieves and fraudsters.
In many jurisdictions, Bitcoin occupies a legal gray area, meaning local law enforcement authorities view theft prevention as a relatively low priority. Moreover, it’s often difficult for the authorities to prosecute those responsible for Bitcoin heists, many of which originate in politically unstable or unfriendly nations and affect a global population of Bitcoin holders.
Those who use Bitcoin for illicit purposes face additional risks. Dark web marketplaces – online, international black markets whose users buy and sell illicit substances, stolen goods, and prohibited services – are frequent heist targets. Bitcoin users who participate in the dark web are likely already breaking the law, and thus have limited recourse in the event of a hack or theft. After all, they can’t very well contact local authorities and say that the funds they received for selling illegal drugs were stolen.
Common Modes of Bitcoin Theft
It usually takes more technical skill to steal Bitcoin than physical cash. Most Bitcoin heists involve sophisticated hack attacks by highly accomplished outsiders or rogue exchange employees.
Common modes of Bitcoin theft include the following:
- Stealing Private Keys. Private keys stored in publicly accessible digital repositories, such as Bitcoin exchanges or personal cloud storage drives, are vulnerable to theft by hacking. The thieves use these private keys to access and transfer the corresponding Bitcoin holdings, relieving their rightful owners of their funds.
- Exploiting Wallet Vulnerabilities. Some Bitcoin wallets have security flaws that render them vulnerable to attack. As a convenience, some service providers store private keys in the same virtual wallets as Bitcoin funds themselves, allowing hackers to steal the funds and keys in one fell swoop.
- Operating Fraudulent Exchanges and Investment Funds. Some seemingly legitimate companies dealing in Bitcoin are actually fronts for financial crimes. For instance, a boutique “Bitcoin investment fund” called Bitcoin Savings & Trust made a name for itself in the early 2020s by providing outsize returns to early investors. However, Bitcoin Savings & Trust was actually a run-of-the-mill Ponzi scheme. When it went belly-up, it wiped out about $4.5 million (at then-current exchange rates) in investor value.
- Attacking Legitimate Exchanges Directly. Since they attract thousands of users and store millions of dollars in Bitcoin, exchanges are attractive targets. Bitcoin can be stolen from exchanges’ own Bitcoin wallets (which they use to store Bitcoin units taken as exchange fees), from users’ wallets (as many users store Bitcoin balances with exchanges for convenience, similar to a brokerage account’s cash balance), or during exchanges and transactions themselves.
- Attacking Dark Web Marketplaces. The vulnerabilities of dark web marketplaces are similar to those of Bitcoin exchanges. Another huge Bitcoin heist, not as well publicized as the Mt. Gox hack, affected a dark web marketplace called Sheep Marketplace. Losses approached $100 million at then-current exchange rates.
Strategies for Reducing Security Risks
The cybersecurity industry is locked in a constant arms race with hackers and other cyber-criminals, whose sophistication and operational scope increase by the week. In this environment, there’s no such thing as a complete guarantee of security – particularly when money is involved.
However, prudent Bitcoin users employ these common-sense strategies to reduce their exposure to theft and general security breaches:
- Securing Private Keys. Savvy Bitcoin users store copies of their private keys offline, either in physical storage media or even on paper printouts, rather than in online locations that can easily be accessed by hackers. Since you have to provide your private key during a Bitcoin transaction, storing your key offline isn’t completely foolproof – but it’s preferable to leaving it in a static online location all the time.
- Using Highly Secure Bitcoin Wallets. Even if you’re not an advanced computer programmer capable of evaluating wallet code or technical security protocols directly, do your best to research a particular wallet service’s track record. Speak with current users or read online reviews, if possible. Think twice about using services that have been hacked in the past and have yet to publicly state that they’ve made security enhancements.
- Researching Bitcoin Exchanges and Other Services. To avoid getting caught up in a Ponzi scheme or simply being robbed blind by a seemingly legitimate Bitcoin exchange, do your own due diligence before transferring or storing Bitcoin units with a new platform. Treat any promises that sound too good to be true (such as rapid or outsize returns on your funds) as red flags – and avoid working with platforms that make them.
- Avoiding the Dark Web. Like real-world black markets, the dark web is an unsavory and sometimes dangerous place. Avoiding marketplaces like the now-defunct Silk Road and its successors is an easy way to avoid needless exposure to security risks. Additionally, avoid using Bitcoin for “gray market” activity that, while possibly legal in your jurisdiction, might be illegal or frowned upon in others – such as sports betting. It may be impossible to recover your funds after a heist that targets a gray market platform found to be operating illegally, even if you’re not criminally liable.
Origins & History of Bitcoin
Bitcoin’s origins date back to the early 1980s, when the algorithms that support modern cryptocurrency were first developed. Its closest predecessor was Bit Gold, a proto-cryptocurrency developed in the late 1990s by Nick Szabo. Though Bit Gold never gained widespread traction, it shared many features in common with Bitcoin, including ironclad protections against duplication, the block chain as the ultimate transaction ledger, public keys identifying individual users, and built-in scarcity.
Note that Bit Gold isn’t to be confused with BitGold, an existing Canadian company that “helps people securely acquire, store, and spend gold with unprecedented simplicity.”
Bitcoin’s Birth and Early Development
The first public record of Bitcoin dates to October 2008, when a pseudonymous person or organization known as Satoshi Nakamoto published a white paper with the technical outlines for a new, decentralized cryptocurrency. Nakamoto’s identity remains unknown, though speculation centers on a handful of U.S.-based individuals (or various groupings thereof) who were active in the cryptocurrency movement of the 1990s and 2000s. Nakamoto released Bitcoin’s open-source code in January 2009, marking the beginning of public mining and trading, and ceased public communication shortly thereafter.
Bitcoin was built on the theoretical and technical foundations of Bit Gold and b-money, a contemporaneous cryptocurrency model that was never developed. Aside from being the first cryptocurrency to gain widespread traction outside the cloistered ultra-libertarian movement, its biggest claim to fame is as the first cryptocurrency marked by totally decentralized control – in other words, no user is more influential than any other.
Bitcoin experienced some growing pains in its first few years of life. In 2020, a coding flaw resulted in the creation of huge numbers of un-mined Bitcoin, temporarily crashing the currency’s value. A subsequent fix repaired the block chain and erased the unauthorized Bitcoin. Something similar occurred in 2020, though the effects were less drastic. Bitcoin’s open source code has been modified to make such systemic flaws less likely in the future.
Acceptance as a Mainstream Currency
For the first three years of its life, Bitcoin was mainly used as a means of private exchange. Toward the end of 2020, WordPress, an online publishing platform, became the first major company to accept Bitcoin payments. Others, including OkCupid, Baidu, Expedia, and Overstock.com, followed in 2020 and 2020. Baidu later stopped accepting Bitcoin under pressure from the Chinese government, which viewed Bitcoin as a threat to its own fiat currency.
In 2020, Bitcoin’s market value exceeded $10 billion for the first time. That year, the first Bitcoin-dispensing “ATM” (more accurately, an automated currency exchange machine) appeared in Vancouver, British Columbia, and their number exploded in the subsequent years. Genesis, the leading Bitcoin ATM manufacturer, makes two types of machines: a one-way device that allows users to insert paper fiat money for conversion to Bitcoin units, which are then deposited into their digital wallets; and a two-way device that permits Bitcoin-fiat conversions as well.
2020 saw the first major Bitcoin crime scandals. In January, prominent U.S. Bitcoin proponent Charlie Shrem was arrested after a money laundering investigation found he’d illegally procured Bitcoin for use in black market transactions. In February, Mt. Gox filed for bankruptcy after the extent of its breach became clear. In 2020, Barclays became the first major bank to process Bitcoin transactions, though its embrace was initially limited to charitable contributions.
The “mainstreaming” of Bitcoin continued through 2020. Day traders, hedge funds, and even professional money managers piled into the space, spurring a wave of speculation. Bitcoin’s value increased tenfold in 2020, skyrocketing from about $1,000 at the start of the year to around $10,000 at the close.
Advantages of Using Bitcoin
1. Greater Liquidity Relative to Other Cryptocurrencies
As the most popular cryptocurrency by a significant margin, Bitcoin has far greater liquidity than its peers. This allows users to retain most of its inherent value when converting to fiat currencies, such as the U.S. dollar and euro. By contrast, most other cryptocurrencies either can’t be exchanged directly for fiat currencies or lose substantial value during such exchanges.
In this regard, Bitcoin is more like fiat currencies than most other cryptocurrencies – though it’s not yet possible to buy and sell Bitcoin in virtually any quantity at any time, as is the case with the U.S. dollar and other major world currencies.
2. Increasingly Wide Acceptance as a Payment Method
Hundreds of merchants accept Bitcoin payments. Thanks to heavyweights like Overstock.com jumping on board, it’s possible to buy virtually any physical item using Bitcoin units. If you’re serious about reducing your exposure to fiat currencies, Bitcoin’s growing mainstream acceptance is likely to be a big help.
3. International Transactions Easier Than Regular Currencies
Bitcoin transactions that cross international borders are no different from Bitcoin transactions that stay in-country. There aren’t any international transaction fees or red tape to navigate, as is often the case with credit card payments, ATM cash withdrawals, and international money transfers. International credit card and ATM fees can range up to 3% of transaction value, and sometimes higher, while money transfer fees can be as high as 15%.
While most other cryptocurrencies lack international red tape, cross-border Bitcoin transactions are easier simply because Bitcoin is more popular around the world.
4. Generally Lower Transaction Fees
Compared to other digital payment methods, such as credit cards and PayPal, Bitcoin comes with lower transaction fees. Though such fees are variable, it’s rare for a Bitcoin transaction to cost more than 1% of its value. Compare that to 2% to 3% for most other digital payments.
5. Anonymity and Privacy Relative to Traditional Currencies
Holding U.S. dollars or other fiat currencies in an online bank account, or executing online credit card and PayPal transactions, doesn’t protect your privacy any more than physically handing cash or a credit card across the shop counter. Though your online accounts are hopefully protected from all but the most sophisticated hack attacks, they’re clearly associated with you – meaning private merchants and public authorities can track how you spend and receive your electronic funds.
By contrast, Bitcoin’s built-in privacy protections allow users to completely separate their Bitcoin accounts from their public personas, if they so choose. While it’s possible to track Bitcoin flows between users, it’s very difficult to figure out who those users really are.
6. Independence From Political Agents and Creators
Since Bitcoin isn’t created or controlled by any state entity, such as a central bank, it’s not beholden to political influence. Since it exists outside any political system, it’s also much harder for governments to freeze or seize Bitcoin units, whether in the course of legitimate criminal investigations or as retribution for political acts, as is often the case in repressive states like Russia and China.
Due to its completely decentralized nature, popularity, and liquidity, Bitcoin is also unbeholden to its creators. Many less popular cryptocurrencies are characterized by concentrated holdings – the majority of existing units are held in a handful of accounts. This allows the currencies’ creators to manipulate supply and, to an extent, value relative to other cryptocurrencies, negatively impacting other holders.
7. Built-In Scarcity
Bitcoin’s built-in scarcity feature – only 21 million will ever exist – is likely to support its long-term value against traditional currencies, as well as non-scarce cryptocurrencies (such as Dogecoin, a popular Bitcoin alternative). In a way, Bitcoin’s scarcity imbues the currency with intrinsic value – similar to gold and other precious metals.
Most traditional (fiat) currencies controlled by national governments are non-scarce. Central banks can create new units of currency at will, and often do – for example, the U.S. Federal Reserve began a program of quantitative easing that created trillions of dollars in the aftermath of the late-2000s global financial crisis. Though the long-term effects of such policies are unclear, they make many economists uneasy.
Disadvantages of Using Bitcoin
1. Exposure to Bitcoin-Specific Scams and Fraud
As the world’s most popular cryptocurrency, Bitcoin has seen more than its fair share of medium-specific scams, fraud, and attacks. These range from small-time Ponzi schemes, such as Bitcoin Savings & Trust, to massive hack attacks, such as the breaches that felled Sheep Marketplace and Mt. Gox.
Other cryptocurrencies don’t have the critical mass of users necessary to make such malfeasance profitable to criminals, and such activity is more likely to be prosecuted by law enforcement agencies when traditional currencies and payment platforms are involved.
2. Black Market Activity May Damage Reputation and Usefulness
Despite high-visibility prosecutions of the most egregious offenders, Bitcoin remains attractive to criminals and gray market participants. Obviously, dark web marketplaces like Silk Road and Sheep expose rank-and-file users to fraud and the threat of criminal prosecution.
More disturbingly, the pursuit of nefarious activity by seemingly upstanding Bitcoin users – such as Charlie Shrem – threaten to corrode Bitcoin’s reputation. And it’s unclear that the international legal system is properly equipped to tackle the problem. If shady uses for Bitcoin outweigh legitimate ones over time, and the authorities can’t effectively put a stop to the shenanigans, the entire system faces marginalization.
3. Susceptible to High Price Volatility
Although Bitcoin is the most liquid and easily exchanged cryptocurrency, it remains susceptible to wild price swings over short periods of time. In the wake of the Mt. Gox collapse, Bitcoin’s value fell by more than 50%. Following the FBI’s announcement that it would treat Bitcoin and other virtual currencies as “legitimate financial services,” Bitcoin’s value spiked by a similar amount. In late 2020, Bitcoin’s value doubled several times, only to halve in the first weeks of 2020 – wiping out billions in market value almost overnight.
While Bitcoin’s volatility sometimes offers short-term benefits for speculative traders, it renders the currency unsuitable for more conservative investors with longer time horizons. And since Bitcoin’s purchasing power varies so widely from week to week, it’s difficult for consumers to use as a legitimate means of exchange.
4. No Chargebacks or Refunds
One of Bitcoin’s biggest drawbacks is a lack of standardized policy for chargebacks or refunds, as all credit card companies and traditional online payment processors have. Users affected by transaction fraud – for instance, they purchase goods that the seller never delivers – can’t request a refund through Bitcoin. In fact, Bitcoin’s decentralized structure makes it impossible for any single party to arbitrate disputes between users. While miners take responsibility for recording transactions, they’re not qualified to assess their legitimacy.
Some newer cryptocurrencies, such as Ripple, have rudimentary chargeback and refund functions, but this feature has yet to be built into Bitcoin.
5. Potential to Be Replaced by Superior Cryptocurrency
Bitcoin spawned a host of successor cryptocurrencies. Though many are structurally quite similar to Bitcoin, others make notable improvements.
Some newer cryptocurrencies make it even harder to track money flows or identify users. Others use “smart contract” systems that hold service providers accountable for their promises. Some even have in-house exchanges that let users exchange cryptocurrency units directly for fiat currency units, eliminating third-party exchanges and reducing associated fraud risks.
Over time, one or more of these alternatives could usurp Bitcoin as the world’s dominant cryptocurrency. That could negatively impact Bitcoin’s value, leaving committed, long-term users holding the bag.
6. Environmental Ills of Bitcoin Mining
Bitcoin mining consumes vast amounts of electricity. According to Business Insider, some of the biggest Bitcoin mining companies are based in China, where most power comes from dirty coal plants and horrific smog routinely makes even low-key outdoor activity unsafe for healthy adults.
In the long run, widespread adoption of low- or no-emissions energy production will hopefully mitigate the environmental ills of Bitcoin mining. In the meantime, however, it’s a growing threat to an already fragile planet.
The list of merchants that accept Bitcoin is steadily lengthening. You can now buy plane tickets (Expedia), furniture (Overstock.com), and web publishing services (WordPress) with Bitcoin.
However, before you rush out and cash in your dollars for Bitcoin, remember that Bitcoin has a long way to go before it’s a legitimate currency on par with the U.S. dollar, euro, or pound. And despite the seductiveness of cryptocurrency as a means of exchange, there’s no guarantee that Bitcoin – or any other decentralized, virtual currency not controlled by a national bank – will ever be a viable alternative to fiat currencies.
Some experts believe that, in the coming decades, national governments will rework their currencies with state-sanctioned means of exchange that have some cryptocurrency features, like built-in scarcity and virtually impenetrable counterfeiting protections. Others believe that fiat currency and cryptocurrency will continue to exist in parallel, but that cryptocurrencies will fail to expand beyond the niche currently occupied by gold and other precious metals – that of an alternative investment whose primary purpose is to hedge against inflation.
For the time being, treat Bitcoin as you would any speculative asset: Move cautiously, or not at all, and never invest money that you can’t afford to lose.
Do you use Bitcoin as an alternative currency? Have you ever mined Bitcoin?
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