Day 5 of 100 | Crypto Basics | 5 min read
What is Bitcoin? The Original Cryptocurrency
Deep dive into Bitcoin, the first and largest cryptocurrency. Understand what makes it unique and why it remains the gold standard of digital assets.
### Understanding the First and Most Important Cryptocurrency
Bitcoin is more than just a cryptocurrency; it is the technology that started a revolution in how we think about money, finance, and digital ownership. Created in 2009, Bitcoin introduced the world to blockchain technology and demonstrated for the first time that digital money could work without banks, governments, or any central authority. Understanding Bitcoin is essential because almost everything in the cryptocurrency space builds upon the concepts it introduced.
Whether you are interested in investing in cryptocurrency, using it for transactions, or simply understanding the technology that many believe will shape the future of finance, Bitcoin is where your journey should begin. It remains the largest cryptocurrency by market capitalization, the most widely recognized, and often the first cryptocurrency that investors purchase.
### The Birth of Bitcoin
On October 31, 2008, a person or group using the pseudonym Satoshi Nakamoto published a nine-page document titled Bitcoin: A Peer-to-Peer Electronic Cash System. This whitepaper described a revolutionary system for electronic transactions that would not rely on trust in any third party. At the time, the world was in the midst of a severe financial crisis, and trust in traditional financial institutions was at a historic low.
[TIP] The Bitcoin whitepaper is surprisingly readable for a technical document. If you want to truly understand the foundations of cryptocurrency, consider reading the original document. It is freely available online and explains the core concepts in Nakamoto's own words.
On January 3, 2009, Nakamoto mined the first Bitcoin block, known as the genesis block. Embedded in this block was a message: The Times 03/Jan/2009 Chancellor on brink of second bailout for banks. This timestamp served two purposes: it proved the block was not pre-mined, and it served as a commentary on the financial system that Bitcoin sought to provide an alternative to.
For the first year, Bitcoin had essentially no monetary value. The first known commercial transaction using Bitcoin occurred on May 22, 2010, when a programmer named Laszlo Hanyecz paid 10,000 Bitcoin for two pizzas. At the time, this seemed like a fair trade. Today, those bitcoins would be worth hundreds of millions of dollars. May 22 is now celebrated in the cryptocurrency community as Bitcoin Pizza Day.
### How Bitcoin Actually Works
Bitcoin is built on the blockchain technology we discussed in previous lessons, but it has specific characteristics that define how it functions as a cryptocurrency.
When you own Bitcoin, what you actually own is the right to spend outputs from previous transactions. The blockchain records every transaction that has ever occurred, and your Bitcoin wallet calculates your balance by looking at all the transaction outputs addressed to you that have not yet been spent. These are called unspent transaction outputs, or UTXOs.
[EXAMPLE] Imagine the blockchain as a giant accounting ledger that anyone can read. Every time Bitcoin moves from one address to another, that movement is recorded. Your Bitcoin balance is not stored as a number anywhere; instead, it is calculated by adding up all the Bitcoin that has been sent to your addresses minus all the Bitcoin you have sent to others.
To send Bitcoin, you create a transaction that spends one or more of your UTXOs and creates new outputs for the recipient and any change returning to yourself. You sign this transaction with your private key, proving you have the authority to spend those coins. The transaction is broadcast to the network, where miners work to include it in the next block.
Mining is the process by which new blocks are added to the Bitcoin blockchain. Miners use specialized hardware to perform trillions of calculations per second, trying to find a number that makes the block's hash meet certain criteria. The first miner to find a valid solution gets to add their block to the chain and receives the block reward, currently 6.25 Bitcoin, plus any transaction fees.
### Bitcoin's Unique Properties
Several properties make Bitcoin fundamentally different from traditional currencies and even from many other cryptocurrencies.
Fixed supply is perhaps Bitcoin's most important property. There will only ever be 21 million Bitcoin in existence. This limit is enforced by the protocol and cannot be changed without the agreement of the entire network. In a world where central banks can print unlimited amounts of money, this scarcity makes Bitcoin attractive to those concerned about inflation.
[WARNING] While Bitcoin's fixed supply is often compared to gold's scarcity, they are not perfectly analogous. Gold mining continues to add to the global supply, while Bitcoin's new issuance will eventually stop entirely. By around 2140, all 21 million Bitcoin will have been mined.
Decentralization means no single entity controls Bitcoin. The network consists of thousands of nodes spread across the world, each running the Bitcoin software and maintaining a copy of the blockchain. Any changes to the protocol require broad consensus among participants. This makes Bitcoin extremely resistant to censorship or control by any government or corporation.
Pseudonymity offers a middle ground between complete anonymity and the full identity disclosure required by traditional banking. Bitcoin transactions are recorded on a public ledger, but addresses are not directly tied to real-world identities. However, sophisticated analysis can sometimes link addresses to individuals, so Bitcoin is not truly anonymous.
Immutability means that once a transaction is confirmed, it cannot be reversed. This is both a feature and a responsibility. Unlike credit card transactions, there is no chargeback mechanism. If you send Bitcoin to the wrong address or fall victim to a scam, the transaction cannot be undone.
### The Halving and Bitcoin's Monetary Policy
Bitcoin has a unique and predetermined monetary policy encoded directly into its protocol. New Bitcoin enters circulation through the block reward given to miners, but this reward is cut in half approximately every four years in an event called the halving.
When Bitcoin launched, the block reward was 50 Bitcoin. In 2012, it was halved to 25 Bitcoin. In 2016, it was halved again to 12.5 Bitcoin. The most recent halving in 2020 reduced the reward to 6.25 Bitcoin. The next halving is expected in 2024.
[KEY] The halving creates an ever-decreasing rate of new Bitcoin issuance. As supply growth slows while demand potentially increases, many believe this creates upward pressure on price. Historical data shows significant price increases following each halving, though past performance does not guarantee future results.
This predictable monetary policy stands in stark contrast to central bank policies, where money supply can be changed at any time based on the decisions of a small group of officials. With Bitcoin, everyone knows exactly how many new coins will be created and when.
### Bitcoin's Role in the Cryptocurrency Ecosystem
Bitcoin occupies a unique position in the cryptocurrency world. While thousands of other cryptocurrencies exist, Bitcoin remains the most widely held, most recognized, and often the benchmark against which others are measured.
Many investors view Bitcoin as digital gold, a store of value that can protect wealth against inflation and economic uncertainty. Unlike newer cryptocurrencies that offer smart contracts or high transaction throughput, Bitcoin focuses primarily on being sound money: scarce, divisible, portable, durable, and recognizable.
[TIP] When you see news about cryptocurrency prices, they often quote Bitcoin. Many altcoins are traded against Bitcoin, and their prices often move in correlation with Bitcoin. Understanding Bitcoin is therefore essential even if you plan to invest in other cryptocurrencies.
The Bitcoin network is also the most secure blockchain in existence, backed by more computational power than all other cryptocurrencies combined. This security comes from its long history, broad distribution, and the enormous investment miners have made in hardware. For these reasons, many view Bitcoin as the safest cryptocurrency to hold long-term.
### Common Criticisms and Challenges
No honest discussion of Bitcoin would be complete without acknowledging its challenges and the criticisms it faces.
Energy consumption is perhaps the most prominent criticism. Bitcoin mining requires enormous amounts of electricity, with estimates suggesting the network uses as much power as some small countries. Supporters argue that this energy expenditure is what secures the network and that increasing amounts of renewable energy are being used. Critics contend that it is an unconscionable waste in an era of climate change.
Transaction speed and capacity are legitimate concerns. Bitcoin can process only about seven transactions per second, compared to thousands per second for payment networks like Visa. Solutions like the Lightning Network aim to address this by processing smaller transactions off the main blockchain, but adoption remains limited.
[EXAMPLE] If you want to buy a cup of coffee with Bitcoin, the on-chain transaction fee alone might exceed the cost of the coffee, and you would need to wait ten minutes or more for the transaction to be confirmed. This makes Bitcoin impractical for small, everyday purchases, though solutions like the Lightning Network are being developed to address this.
Volatility makes Bitcoin challenging to use as a medium of exchange. When the value can swing ten percent or more in a single day, both merchants and customers face uncertainty about what prices should be. This volatility has decreased over time as the market has matured, but Bitcoin remains far more volatile than traditional currencies.
Regulatory uncertainty creates risk for investors. Different countries have taken very different approaches to Bitcoin, from embracing it as legal tender to banning it outright. Regulatory changes can significantly impact both the price and the practical ability to use Bitcoin.
Despite these challenges, Bitcoin has survived for over fifteen years, weathering numerous boom and bust cycles, regulatory crackdowns, and technical challenges. Its resilience has only strengthened the conviction of its supporters that it represents a fundamental innovation in money and will continue to grow in importance.
Knowledge Check
What is the maximum number of bitcoins that will ever exist?
- Unlimited
- 21 million (Correct)
- 100 million
- 1 billion
Explanation: Bitcoin has a hard cap of 21 million coins that can ever be created. This fixed supply is built into the protocol and is one of the key properties that makes Bitcoin similar to gold as a store of value.