A Beginner’s Guide to Understanding Bitcoin (BTC) – Interdax Blog

A Beginner’s Guide to Understanding Bitcoin (BTC) – Interdax Blog

Often associated with the Cypherpunk movement and Libertarianism, Bitcoin has enabled individual sovereignty by providing an apolitical and uncensorable currency that governments cannot stop or disrupt. As a result of the affinity with the Libertarian political philosophy, the cryptocurrency got off the ground with early adopters that sympathised with the Libertarian view.

In fact, many of the foundations of Bitcoin were discussed in the Cryptography Mailing List and amongst cypherpunks for over two decades prior to its introduction.

Bitcoin also resonates with Austrian economists since this school of thought postulates that the main cause of business cycles is because of central banks manipulating the money supply and interest rates. A monetary expansion leads to malinvestment, an artificially low interest rate and a manufactured expansion. But eventually a deep decline in growth and investment is realised as mis-allocated resources lead to misleading relative price signals which necessitates a correction.

Instead of central banks and politicians taking decisions about monetary policy, instead Bitcoin gives control to an algorithm to enforce a strict, rules-based monetary policy. As a result, the supply schedule cannot be changed (at least without a wide consensus).

Perhaps the most well-known Austrian economist — Friedrich Hayek — advocated for privately issued currencies in his 1976 book, Denationalisation of Money: The Argument Refined. Other ‘Austrians’ such as Murray Rothbard and Ludwig von Mises advocated for a return to the gold standard. If many of these Austrian economists were alive today, they’d most likely be proponents of Bitcoin.

Bitcoin’s Predecessors

The major building blocks and predecessors of Bitcoin — in chronological order — are: e-gold, DigiCash, HashCash, b-money, the Liberty Dollar, and bit gold.

These ideas are detailed below:

• E-gold was an electronic currency created in 1996 and was one of many digital currencies based on gold. The company allowed individuals to sign-up anonymously but the FBI and Secret Service shut it down in December 2005 as e-gold was being used by criminals. Law enforcement raided the offices of e-gold’s parent company and highlighted the importance of decentralisation — as Satoshi remarked years later, “Governments are good at cutting off the heads of a centrally controlled networks like Napster, but pure P2P networks like Gnutella and Tor seem to be holding their own.”
• DigiCash was an electronic money company created by David Chaum in 1989. Its currency, eCash, used Chaum’s Blind Signature Technology to ensure fungibility and privacy and was an early use case of public-private key cryptography. Chaum’s electronic cash system was perhaps too early to benefit from the boom in e-commerce. DigiCash Ltd. filed for bankruptcy in 1998.
• HashCash, created by Adam Back in 1997, was utilised to become Bitcoin (BTC)’s mining function and was originally intended to serve as an anti-spam function for email. HashCash enabled Bitcoin (BTC) to solve the “double spending” problem in a decentralized way, as well as putting new coins into circulating without a central issuer.
• b-money was suggested by Wei Dai in 1998, intended to be an ‘anonymous, distributed electronic cash system’ but could not solve the “double spending” problem. His second proposal resembled Proof of Stake systems. However, Dai imagined b-money as a stable currency, in contrast to the highly volatile cryptocurrencies we know today.
• The Liberty Dollar was also introduced in 1998, but was centralised meaning the FBI could ‘cut off the head’ of Liberty Dollar, which they did by raiding their warehouse that stored the gold that backed the Liberty Dollar. In 2011, the operators behind the Liberty Dollar were charged with federal crimes of ‘producing, possessing, and distributing their own coins’.
• bit gold was first proposed in 2005 by Nick Szabo and included elements found in Bitcoin (BTC), such as time-stamped blocks, coins generated by Proof of Work strings and transaction details stored in a titling registry. Bit gold relied somewhat on trusted third parties, such as servers and timestamp services. Bitcoin (BTC) solved this problem by having Proof of Work serve as both an award mechanism and consensus mechanism.

Key Dates and Milestones

Some important events over Bitcoin’s history are shown below:

• October 31, 2008: Satoshi Nakamoto publishes the Bitcoin whitepaper.
• January 3, 2009: Satoshi Nakamoto mines the genesis block and marks the beginning of the Bitcoin (BTC) blockchain network.
• January 12, 2009: The first Bitcoin (BTC) transaction proves the network works as intended, where Satoshi Nakamoto sends Hal Finney 50 BTC.
• May 22, 2010: The first purchase of a real good/service. Laszlo Hanyecz bought two Papa John’s pizzas in exchange for 10,000 BTC.
• April 26, 2011: Satoshi’s last email to Gavin Andresen (who later took the helm of Bitcoin (BTC) development). Bitcoin (BTC)’s creator fades away into obscurity.
• February 9, 2011: BTC reaches parity with the US Dollar on the Mt.Gox exchange.
• June 8, 2011: Top of first bitcoin “bubble” at $31, followed by a price drop of more than 90 percent over the following five months.
• June 14, 2011: Wikileaks starts to accept bitcoin donations.
• November 28, 2012: The first Bitcoin (BTC) block reward halving, cutting the block reward subsidy from 50 BTC to 25 BTC.
• January 30, 2013: Bitcoin (BTC) developer Jeff Garzik receives the first bitcoin ASIC miner.
• November 28, 2013: BTC-USD tops $1,000 for the first time.
• July 9, 2016: The second Bitcoin (BTC) block reward halving, cutting the block reward down to 12.5 BTC from 25 BTC.
• August 1, 2017: Bitcoin (BTC) community fractures as Bitcoin Cash is launched with a user-activated hard fork.
• December 17, 2017: BTC-USD reaches all-time high near $20,000.
• December 18, 2017: CME launches Bitcoin (BTC) futures contracts.
• October 25, 2018: Chinese court ruled that bitcoin was a form of private property.
• September 23, 2019: InternContinental Exchange-owned Bakkt launches Bitcoin (BTC) futures contracts.
• November 12, 2019: CME announces launch of bitcoin options in January 2020.

Check out this timeline for a more detailed history.

Demand and supply factors affecting bitcoin.

Supply of Bitcoin (BTC)

The supply of bitcoin is known precisely at any moment in time and will never exceed 21 million.

The rate at which new bitcoins are mined is highly predictable. Mining refers to the process of using computers to solve complicated, cryptographic math problems and is the only way to create new bitcoins.

As an incentive to secure the network, miners are paid a subsidy for each block they find, which is currently 12.5 BTC (plus any transaction fees they earn). The block rewards are halved every 210,000 blocks (or roughly four years) until the subsidy reaches zero and all bitcoins have been mined. From then on, Bitcoin will rely on transaction fees alone to incentivise miners to support the network.

For the first four years, the bitcoin reward was 50 BTC. We are in the third block reward era where miners are rewarded 12.5 BTC. The next bitcoin halving will take place May 16, 2020 — where the block reward will be cut in half to 6.25 BTC. The rewards are cut in half periodically until the supply reaches 21 million, which is expected to occur in 2140.

Bitcoin’s code effectively replaces a central bank with a pre-programmed monetary policy, which can be described as asymptotic money supply targeting (which basically means the money supply will asymptotically approach a fixed level — 21 million). Since bitcoin is divisible into 100 million units (known as satoshis), the supply is high enough to become high-powered money and as a replacement to fiat.

Bitcoin’s supply cap was introduced as an adjustment to Nakamoto’s original supply through Bitcoin Improvement Protocol 42 (BIP 42), based on the fact that four gold mines are found every 1,024 years. Since the supply is fixed and the supply of freshly mined coins falls over time, this means that the inflation in the Bitcoin economy also declines over time. As a result, the purchasing power of one bitcoin should increase over long horizons.

Since miners release a fixed amount of bitcoin for each block they mine, they cannot increase the supply of bitcoin if the price rises, so Bitcoin has the property of being almost perfectly inelastic in supply. The inelastic supply explains bitcoin’s wild price volatility. No matter whether the price of bitcoin appreciates, the number of coins emitted over a given time period remains fixed. Since supply is fixed over the long run, a rise in demand should cause an upward movement in the equilibrium price.

In the very short-term, the supply of bitcoin may not be perfectly inelastic as some of the earliest miners and adopters collectively control millions of BTC. According to glassnode, the number of coins that have not moved in over five years is close to four million.

Published at Wed, 08 Jan 2020 13:47:33 +0000

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