Understanding bitcoin: The pros and cons of digital currency

DETROIT – Bitcoin and other forms of cryptocurrency have frequently dominated consumer headlines in the last few months, most recently for breaching the $11,000 mark in value just last week.

But, what exactly does that mean?

What is bitcoin?

Bitcoin is a digital currency that is not tied to a bank or government and allows users to spend money anonymously. The coins are created by users who “mine” them by lending computing power to verifying other users’ transactions. They receive bitcoins in exchange.

The coins also can be bought and sold on exchanges with U.S. dollars and other currencies. Their value has fluctuated over time. 

Bitcoins are stored in a digital wallet that can be accessed on a computer or smartphone.

How bitcoin works

Imagine bitcoin like your debit card. It's a way to pay for goods and services electronically, online and off.

Now imagine if your debit card only stored its own kind of digital currency, using a sophisticated encryption system. That's what bitcoin does.

To get bitcoin, you can buy it or receive it in exchange for goods and services, just like traditional money. But unlike cash, you cannot touch it, and you can't hand it to a cashier at the store.

You can keep bitcoin in a digital wallet that you can access on your computer or smartphone, and you can spend it just like you spend any money, as long as the party you're paying accepts it.

Where to use bitcoin

Since 2008, nearly 11,000 bitcoin-friendly businesses and ATMs have popped up across the U.S. and Canada.

But that's still only 11,000 points of sale, compared to the billions of debit and credit card transactions that occur each year.

So, that raises the question: Why are so many people using a currency that can only be spent in certain places?

For many bitcoin traders, the answer is simple: privacy.

Bitcoin's benefits

Bitcoins offer privacy. While debit and credit card purchases go through a bank, bitcoins transfer directly from one person to another without personal information. That makes the transactions virtually anonymous.

Instead of a bank monitoring the activity, a network keeps track of transactions on a communal balance sheet, ensuring fair play and accountability on all parties, with no possibility of "cooking the books."

Investors can also make money off of the fluctuating exchange rate of bitcoins. More and more people are trading bitcoin, treating it as an investment. And you can understand why, when you look at its price increase: more than 1,000 percent in just the last four years.

The stigma of bitcoin

Because the currency isn’t formally regulated, its legality is a bit fuzzy.

The currency has also drawn the ire of many in law enforcement and cybersecurity because it’s difficult to trace, making it a currency of choice for hackers behind ransomware attacks. However, in September, New York state regulators approved their first license for a company dealing in bitcoin.

Several years ago, bitcoin was at the center of a federal investigation after connections with the black market were found. Bitcoin was being used to fuel Silk Road, a notorious online drug market.

"Back then, criminals are operating under the impression that bitcoin was an untraceable currency and law enforcement wouldn't ever, maybe never, be able to figure this out," IRS Special Agent Tigran Gambaryan said.

But, bitcoin eventually led investigators to the Silk Road's kingpin, and helped rid itself of the negative stigma associated with the black market drug network.

Practical understanding of Bitcoin

Joe Tavares, Chief Technical Officer of a local Artificial Intelligence startup, and cofounder of a 3D printing company in New York City, also works as a cryptocurrency asset manager. Tavares explained "bitcoin is now worth $11,000" means.

"It's not necessarily worth $11,000," Tavares explained. "Bitcoin operates on the 'greater fool theory,' which says that a 'greater fool' will come along and buy the bitcoin for more than you paid for it."

Tavares also explained that while a singlebBitcoin might cost $11,000, but you can still buy a percentage of a bitcoin, for as low as $2 a purchase, trading bitcoin in a method similar to gambling.

"It''s kind of like musical chairs," Tavares said. "We hear the music play for a couple days. 'Bitcoin is $11,000!' But then it drops down to $9,000, and the music stops."

Tavares also elaborated on how cryptocurrency's public ledger system helps keep traders accountable and honest.

"If I give you a dollar, it has a serial number, it's unique, nobody has the same dollar. Bitcoin works the same way. It takes the transaction and logs it into a universal public ledger. That way, everyone knows I gave you that dollar, nobody can pretend to have that dollar, and neither you or I can pretend I gave or didn't give you a different dollar."

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