What exactly is Bitcoin?

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Once valued at less than a penny

There’s no doubt that interest in Bitcoin is riding high right now. But there is also plenty of confusion and uncertainty about the digital currency, from its mysterious origins to its role as an alternative to mainstream currencies. At an event in London, everyone from investors to the founders launching startups off the back of the currency admitted to being “clueless”. So what is Bitcoin and why all the fuss?

The Origins Of Bitcoin

The origins of Bitcoin are clouded in myth. It was first mentioned in 2008 by a developer calling himself Satoshi Nakamoto (almost certainly a pseudonym for a group of coders), who described it as a P2P electronic cash system. It remains unclear where the concept was first developed or who set it up. What is known is that the first transaction occurred on January 3 2009.

The basic principle is simple. Users install a wallet on a PC or smartphone that they can then use to buy Bitcoins without needing a financial institution, like a bank. Servers called Bitcoin miners process transactions to ensure that the same Bitcoin cannot be spent twice, with this deal recorded on a public ledger. As well as a means to keep track of Bitcoin deals, the ledger also provides the way that new Bitcoins are created, in a process known as mining.

The Rise Of Bitcoin

Back in 2009, Bitcoin was valued at just less than a penny, but by the summer of 2011 that had risen USD30, before crashing down to USD3. It then slowly rose up to USD20 in mid-2012. Then in 2013 the currency began to surge, hitting a high of more than USD200 on April 9. Why the rise? To be honest it remains unclear. There are numerous theories doing the round, including that it was used as a means to smuggle money out of Cyprus.

The Bitcoin Ecosystem

As with any burgeoning industry, an ecosystem is building up around Bitcoins. There are now numerous startups, from BitInstant, which allows users to trade Bitcoin, to payment processing firm BitPay. With so many entrepreneurs jumping in, it isn’t surprising that investors aren’t far behind. VC powerhouses including Andreessen Horowitz, Google Venture and Union Square have invested in the Bitcoin market, while Liberty City Ventures and BitAngels have launched Bitcoin-specific funds. The Winklevoss brothers, of Facebook fame, are even planning to float a business based on the virtual currency.

But CBInsights cautions that there are actually more VC firms and angel investors interested in the sector than there are investor-backed startups. There are also very few business plans out there, a scenario that could easily lead to a bubble – and a crash.

The Advantages And Challenges

The big advantage of Bitcoin and the promise on which it is sold is that it will revolutionise the way we buy goods and transfer money by enabling people to amass and spend wealth anonymously. But before that can happen a number of challenges must be overcome.

First is regulatory scrutiny, with governments wary after digital currency system Liberty Reserve proved to be used by criminals and money launderers. There are also no central controls or independent stores of Bitcoins amassed, so it is the users’ responsibility to make sure their hoard remains secure with no mechanism to get it back if the worst should happen and someone hacks into their account.

Yet the biggest problem at the moment is that there isn’t anywhere to spend the currency once you get hold of it. Until more merchants, both online and off, accept Bitcoin its use will remain limited.