This is the first part of an article dedicated to Bitcoin, cryptocurrencies, and blockchain technology. In this post we will look at some of the fascinating history of Bitcoin and how the blockchain technology works.
Last week Bitcoin was in the news, as Tesla confirmed the purchase of 1.5 billion dollars’ worth of the digital currency. It seems more institutions are adopting it, and it is on its way to becoming a mainstream currency or commodity, whichever of the two it really is (experts don’t seem to agree on this).
I’ve been planning to write about Bitcoin and blockchain for a while now, but this seems to be as good a time as any other.
Let’s start with its history. It is a fascinating story, and it has the potential to change the world.
A bit of history
It all started with an email from someone who called himself Satoshi Nakamoto. It was the Halloween of 2008, and Nakamoto, who to this day nobody knows who is, sent an email to an email list of cryptographers and cypherpunks. In this email, he (he selected his gender as male in a website profile, so we’ll treat him as such, although he could be a woman or even a group of individuals for all we know) attached the now-famous Bitcoin whitepaper, entitled Bitcoin: a peer-to-peer electronic cash system. He thought he had cracked the problem of how to have a purely peer-to-peer decentralised cash system.
Here was a problem that had had cryptographers, cypherpunks, mathematicians, techno-anarchists, and libertarians scratching their heads for decades. There had been some previous attempts and precursors, but nothing had worked well until then. All money and financial transactions needed a third party or authority to work: a government, a bank, a credit card company, Paypal, etc. There was no anonymous system that was fully decentralised and guaranteed the anonymity of the people involved in the transaction.
The main issue was the necessity of trust. You needed to trust someone, usually a third party, for the transaction to work. The only anonymous and decentralised financial transaction you can have is through actual cash, with money or coins. There was no digital equivalent to it.
Bitcoin solved this problem elegantly, and it became the first trustless digital payment system. It is called trustless not because there is no trust in the system, but because it doesn’t require any trust between the emitter and received to work.
Some people in that email list saw its potential immediately, while others dismissed it as another failed attempt. One of them, Hal Finney, encouraged Nakamoto to work on the code and made some suggestions. Satoshi worked on it over the next few months and launched the program by posting it on Bitcoin.org in January 2009, thus giving birth to one of the most revolutionary inventions of the century.
The most expensive pizza in history
Nakamoto started mining coins and sent some to Finney to test that the system worked fine, which it did. For a while, Nakamoto himself was the only one mining coins, but slowly other cryptography aficionados and programmers with anarchist and libertarian orientations started getting involved, mining and sending coins to each other. In the beginning, it was more like a game than anything else.
In the Bitcoin forums, they started discussing that it would be cool to use Bitcoin to purchase some goods or services in the regular market, so in 2010 the programmer Laszlo Hanyecz offered some Bitcoin to whoever sent him some pizzas. He got two pizzas from Papa John’s, for which he duly paid 10,000 Bitcoins. At the time of writing, one Bitcoin costs around $ 50,000, so those pizzas would have cost $ 500 million at today’s prices!
In the Bitcoin forum, Satoshi speculated that the breakthrough on Bitcoin adoption would come from porn, as it allowed people to purchase videos or other material anonymously, and then it would go to other mainstream uses. However, it wasn’t porn where the breakthrough came from, but drugs via the infamous Silk Road site, where people could buy illegal drugs, weapons, or falsified documents.
As more and more people piled onto Silk Road to buy drugs with Bitcoin, they needed to purchase the digital coins with their fiat currency (dollar, euro, pounds, yuan), so some exchange sites started popping up here and there. Mt Gox was one of the first ones, and it became the most popular one, as it had the 90% of the Bitcoin exchange go through it during most of its existence.
As demand for it grew, the price of Bitcoin went up considerably over the next couple of years, reaching an All Time High (ATH) of $213 in April 2013 and then $1,243 in November of the same year. Then the person behind Silk Road, Ross Ulbricht, aka Pirate Dread Roberts, was caught by the FBI and the site was dismantled. A bit later, Mt. Gox went into bankruptcy as hundreds of millions of USD in Bitcoin had been stolen from the exchange site. All this made the price of Bitcoin tumble and crash down vertiginously quickly, giving a start to the first “crypto winter”.
The blockchain technology
Before we continue with the dazzling history of Bitcoin and the eccentric misfits surrounding it, let’s stop for a moment to explain blockchain and the technological features that make Bitcoin so unique.
When I first heard about Bitcoin a few years back, I thought to myself, “doh, what’s all the fuss about? Paypal or your bank can move money around digitally… how is Bitcoin different?”
I didn’t understand it at all. It’s different because it has certain characteristics that make it unique.
Satoshi, like Newton, stood on the shoulders of giants. Most of what he created had already been invented by others, but he had the genius to put it all together in a manner that worked. He designed what he called the blockchain, which happened to be a masterstroke.
Bitcoin is a public ledger where all the transactions are recorded in blocks. There are thousands or millions of copies of the Bitcoin blockchain in what is known as nodes (you can run one from your home computer if you want). When you transfer one Bitcoin to someone else, that transaction gets recorded in that ledger or the blockchain. Each transaction has a public key, that everybody can see in the blockchain, and a private one, that only the owner can see.
Every ten minutes, all transactions are recorded into the blockchain by a miner and broadcasted to the rest of the network (also known as hashing). The network nodes can approve the transaction or reject it, ensuring the miner conducted the operations correctly. For this operation, the miner gets rewarded some Bitcoin. This is what is called mining, and this is where all the Bitcoins are coming from. There was no initial quantity of Bitcoin that Satoshi gave to himself or was there in the blockchain already. All the 18.6 million Bitcoin that are in existence today were mined by this process.
How does the system decide who mines the block and gets the reward every ten minutes? The Bitcoin code creates a mathematical problem that is difficult to solve but easy to verify, which is called proof-of-work. The first computer that solves this problem gets the privilege to hash the block and earn the rewards. This is where most of the energy consumption of mining is coming from, as mining computers are in a perpetual arms race to be the first ones to solve the problem and consume more and more computing power.
One of the peculiarities of Bitcoin is what it has come to be known as halving. When Bitcoin was launched in 2009, the reward a miner would get when mining coins would be 50 Bitcoin per block, or 50 coins in 10 minutes. The Bitcoin code is written in a way that these rewards are halved approximately every four years. In 2012 they were halved to 25, in 2016 to 12.5, and since May 2020 to 6.25. As the reward for miners has declined and the supply of coins in the market is reduced each time, all these halvings have been followed by huge price increases the following 12 months.
Another peculiarity of Bitcoin is that there will ever be 21 million coins mined, not a single coin more, and this number will be reached sometime in 2140. We still have plenty of time to get there. However, after the 2024 halving we’ll have mined more than 96% of all Bitcoin that will ever exist.
Bitcoin is a commodity with programmed scarcity, which will make it increasingly valuable.
Scarcity, security, and incentives
Satoshi’s genius is that he coded scarcity and security into the Bitcoin protocol and that the whole system is strengthened because of the incentives it generates. Let’s look at each of these concepts, in turn, starting with security.
Bitcoin has been around for 12 years, and it hasn’t been hacked a single time. It is virtually unhackable. As explained above, transactions are recorded in blocks every ten minutes and then broadcast to the entire network. In order to change a block, you would have to change all the blocks that come after it, and the only way to change blocks is by having a majority of nodes in the network, which currently goes by the millions. The Bitcoin network is the most powerful computing network that has ever existed, and therefore it is the safest one.
The system is kept safe by incentives. All miners and node owners have skin in the game, as they own Bitcoin or are mining them, so for them, it is key that the network’s value is maintained and that it doesn’t suffer any attack. If an actor got a majority of nodes and changed the blocks arbitrarily, the system would become worthless, and they’d lose all their valuable investment. The same happens if the system is hacked. All the greatest minds in computer programming are working hard to maintain the system safe, because they have an incentive to do so, not for any other reason.
Another important characteristic of Bitcoin is scarcity. As I said above, there will ever be 21 million coins mined. The program won’t allow mining more. Considering many of these have been lost already, there will be even less. Bitcoin is the first commodity or currency in history whose supply doesn’t go up or down to respond to demand. It has a fixed monetary policy with a programmed deflation, so it can only appreciate with time.
As more people realise its value and want to own it, there will be fewer Bitcoin available, and the prices will go up. It started with less than a dollar per coin, it is now sitting at around $ 50,000. Some experts predict it will reach $ 100,000 this year, 1 million in a few years, etc. Of course, other experts believe it is all a speculative mania that one day will burst and go to zero…
It’s been very volatile, that’s true, with wild swings up and down, but that is because it is an asset still discovering its price. Nobody knows what its real value is. Value is subjective after all, and it will have value as long as people want to give it to it. Until now, it was mainly retail investors owning it, but corporate treasuries, hedge funds, and banks have also started buying it in increasingly larger quantities.
There is a powerful narrative about Bitcoin being digital gold. Some experts believe it is better at being gold than gold itself. It is currently too volatile to be a medium of exchange and to buy things with it, but its primary mission seems to be to act as a store of value, like gold.
Where is Satoshi?
What happened with Satoshi Nakamoto? Where is he? He was active in some internet forums from 2008 to 2011. One day he said he thought Bitcoin was in good hands and it was time for him to disappear, so he did.
In 2014 there was a big commotion when a journalist announced she had discovered Nakamoto. She said he was a Japanese citizen who lived in the US, named Dorian Satoshi Nakamoto. He was a retired physicist, but as it happens and after a big brouhaha, it seems he wasn’t Satoshi Nakamoto, the creator of Bitcoin after all.
This incident forced Satoshi to come out of his forced internet silence, which he duly did, to write in a forum that Dorian Nakamoto wasn’t Satoshi. Since then, Satoshi hasn’t appeared anywhere else.
Satoshi Nakamoto was the only person mining Bitcoin at the beginning and kept mining it for the first few years of the project. His address is recorded in the blockchain, and there is over one million Bitcoin registered to that address. If he were to sell those coins today, they would fetch him around 50 billion USD, making him one of the richest men on Earth, but he has never touched those coins. Astonishingly, Satoshi Nakamoto never spent any of the Bitcoin he mined.
He could still show up and sell those coins, but it doesn’t seem like it. In my opinion, Satoshi Nakamoto knew that for the Bitcoin project to be successful, it had to be a truly decentralised project, with no fallible human leader hanging around, so it was better to remain anonymous all the while and then disappear. I want to think that for him, the success of the Bitcoin project was more important than becoming rich and famous.
Or maybe he is dead. Or he lost the private keys to access the million coins, and he is kicking himself for it. I guess we’ll never know.
DISCLAIMER: This is an opinion piece on Bitcoin, cryptocurrencies, and blockchain technology. It does not constitute financial advice. I own Bitcoin and other cryptocurrencies as a personal investment. All investments carry their risks, so you should do your own research before embarking in any.
This was the first part of an article dedicated to Bitcoin, cryptocurrencies, and blockchain technology. In the second part, we will continue with the history of Bitcoin and other cryptocurrencies, its future as a currency or commodity, and its implications for the Future of Work.