A Bitcoin Coming Near You Soon - or Not!

January 29, 2014

Out of nowhere a mysterious new technology emerged.  Some see the enormous potential while others scorn on it.  

In 1975, it was the Personal Computer.  In 1993, it was the Internet.  In 2014, Bitcoin?

Bitcoin is very real and is talked about everywhere.  Silicon Valley is lapping it up and major brands are starting to adopt.  So how did it all begin?

Bitcoin is a breakthrough in technology and builds on 20+ years of research in cryptographic currency.  It tries to establish trust between unrelated parties over the internet (a untrusted network).    The basic idea is to safely transfer a unique piece of digital property to another internet user so that everyone knows the transfer has taken place.

How does Bitcoin work?

Bitcoin is in essence a Internet-wide distributed ledger.  You buy into the ledger by purchasing slots with cash or selling something.  Anyone can buy in or sell out of the ledger at any time. No approval is needed and the fees are microscopic.  

The "coins" are simply a slot in a ledger.  It is a new kind of payment system that is used by transferring ownership of these slots. 

Low fees are what is important to Bitcoin.  Existing payment systems charge 2 to 4 percent and can involved chargebacks.   Bitcoin is digital and there are never any chargebacks or wire stops.  It is like cash; but in digital form.

The value of Bitcoin  is based on two things.  Volume and velocity of payments running through the ledger today and the speculation of the future use.  It has value because of low fees and no fraud.

Critics of Bitcoin point to limited usage by ordinary consumers and merchants, but that same criticism was leveled against PCs and the Internet at the same stage. Every day, more and more consumers and merchants are buying, using and selling Bitcoin.

The criticism that merchants will not accept Bitcoin because of its volatility is also incorrect. Bitcoin can be used entirely as a payment system; merchants do not need to hold any Bitcoin currency or be exposed to Bitcoin volatility at any time. Any consumer or merchant can trade in and out of Bitcoin and other currencies any time they want and as quick as they want.

To illustrate:

Lets say you sell electronics online.  Profit margins are generally under 5 percent, which means conventional 2.5 percent payment is a huge chunk of that.  The bottom line is that Bitcoin will make your  electronics business a lot more profitable , eliminates the risk of credit card fraud and is therefore appealing.  Hacks like Target, where 70 million credit cards were stolen would not have been possible with Bitcoin. 

Is Bitcoin a haven for bad behavior?

This is a myth, fostered mostly by sensationalistic press coverage and an incomplete understanding of the technology. Much like email, which is quite traceable, Bitcoin is pseudonymous, not anonymous. Further, every transaction in the Bitcoin network is tracked and logged forever in the Bitcoin blockchain.  As a result, Bitcoin is considerably easier for law enforcement to trace than cash, gold or diamonds.

What’s the future of Bitcoin?

Bitcoin is a classic network effect, a positive feedback loop. The more people who use Bitcoin, the more valuable Bitcoin is for everyone who uses it.  Think eBay or Facebook. 

Imagine a world where instead of paying in the checkout line with a credit card; you just scan a QR code with your phone and that contains the information to transfer payment via Bitcoin. 

Bitcoin could be great for micropayments, $1 or less payments.  Currently that is not possible or feasible due to transaction fees and velocity of transactions.

Dark clouds?

Could prove an issue for Bitcoin.  Bitcoin has been linked to scandals such as the collapse of  the Mt. Gox exchange and other smaller, less significant exchanges.  This has lowered consumer/business confidence in Bitcoin; a far cry from the heady bubble that was occurring in 2013. 

The coming years will be a period of great drama and excitement revolving around this new technology.  Will it become mainstream?.  The IRS clearly thinks so and has adopted new tax codes around virtual currencies.

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