Bitcoin is a decentralized digital currency. Bitcoin being decentralized means you do not need a 3rd party like a bank to store or hold your money. The Bitcoin network is a peer to peer technology that is open source and designed by the public, this means that no one owns or controls Bitcoin and everyone can take part in the network. Why is this important? With a classic currency like the US Dollar, trust is required for the currency to work. An individual must trust the bank to store their funds. Individuals must trust that during a transaction the dollars they are receiving are real. We also must trust that the central bank will not print so much money that currency loses its value. When trust is broken systems break. Bitcoin minimizes the trust required and has some incredible benefits:
- Anyone can use it worldwide 24/7
- No ID required, which can help the 1.7 billion unbanked in the world.
- No one can block or stop transactions (Like Visa or MasterCard can)
- Transactions are irreversible
How does it work? Bitcoin operates through a proof of work system which is done with public key cryptography. Here is an example: If I was to send you $5 in bitcoin, I would first send to your bitcoin address, the payment would then be broadcasted onto the network which is called the blockchain. This $5 transaction would then be verified by many decentralized sources to ensure that I am not spending that $5 twice. The decentralized nature of the network is valuable because there is no need for trust, just verification.
How could bitcoin have any value? Have you ever thought about what makes a dollar or gold have value? Here are a few things dollars and gold have historically been used for: a medium of exchange for goods and services, they also act as a unit of account and are a store of value. To put it simply money must be portable, durable, divisible, recognizable, fungible, and scarce. All of which bitcoin achieves. Bitcoin also derives it's value from the security of the Bitcoin blockchain. You would never want to store your wealth in something that could be broken into or hacked.
Bitcoin is secured by "nodes" all across the world. Nodes computers that do what the job of the Federal Reserve or your credit card company do. Nodes store information about transaction and the history of the blockchain which can be viewed by anyone. While the nodes maintain the history and records of transactions, "miners" verify latest transactions and make sure that bitcoin is not duplicated. (Just like dollars have serial numbers on them, the bitcoin network users miners in a way to ensure that no bitcoins are duplicated). Miners are rewarded for verifying transactions, for every block of transactions they are rewarded bitcoin. In another writing we can go deeper into this subject.
Let's talk history for a bit. Starting with the Bretton Woods Monetary System
After World War 2 there was concern that countries would devalue their currency by printing more to boost exports. In 1944, 44 countries met in Bretton Woods New Hampshire to create a new monetary system. The USA had 2/3 of the gold reserves so it made sense for the US to be the world reserve currency backed by gold. Other nations linked their currencies to the dollar because our dollar was linked to gold. There were still concerns globally though about during economic downturns countries would print more money to solve economic problems. This is when the IMF (international monetary fund), the World Bank and the World Trade Organization (WTO) was created. The IMF lends money to countries who need help during a crisis, the World Bank helps developing countries grow and the WTO ensures global trade happens freely and smoothly.
Overtime the US kept printing money to fund their needs. The dollars in circulation kept increasing, and the gold reserves were reducing. In 1971 America completely ended the link between the dollar and gold. Now the dollar is backed by nothing. Below is are quotes from Jerome Powell's 2020 60 minutes interview.