SciTech

Pugwash: Bitcoin creates new kind of currency

Credit: Eunice Oh/ Credit: Eunice Oh/

You may have heard of Bitcoin in the last few months, as it has shown up in stories of illicit drug marketplaces, overnight millionaires, and massive heists. What are Bitcoins, and why have they gotten people so excited?

Bitcoin first appeared in 2008 with an academic paper published under the pseudonym Satoshi Nakamoto. The paper described a way in which multiple users could agree on the contents of a list of messages, called the blockchain. New messages could only be added to the blockchain if the majority of users agreed to put them in, and no one could take down the blockchain unless they could take down a majority of the users. The paper also described a way of using the blockchain to track the ownership of virtual coins. New coins would be assigned to the users who maintained the blockchain, based on how much work they contributed to the effort. Users could then transfer ownership of their coins to others by adding a new message to the blockchain stating their desire to do so. They signed the message with a special “digital signature,” showing that the message was really from them. Once the message was added to the blockchain, it would be visible to everyone, so that all of the users could agree on the ownership of the coins. Nakamoto published an open source program to implement these ideas, and Bitcoin was born.

Since then, speculation on Bitcoins has been rampant. It is not uncommon for the price of Bitcoins to double or halve over a single day. As of Mar. 1, 2014, Bitcoins were selling at $568, down from a high of $1,124 a few months before. Bitcoin evokes a question: Why are people willing to trade real dollars for virtual coins? At its core, currency derives its value from the expectations that others will accept it in exchange for goods. Even though paper dollars are not a particularly useful good themselves, a social agreement on their value arises from the fact that it is much easier to trade using paper dollars than to trade by bartering with actual goods, like iPods and bagels.

U.S. dollars have a big advantage in that the U.S. has promised to accept dollars as payment for fines and taxes. However, trading in U.S. dollars also has drawbacks, especially in an electronic and global market. There is no guarantee that the United States will not print more money, making dollars less valuable, but with Bitcoin there are guarantees on the number of new Bitcoins created. Transferring dollars between people within the U.S. requires meeting in person, waiting three to five business days on bank transfers, or giving up three percent of transactions to credit card companies. Transferring money between countries becomes even more complicated, costly, and slow. Bitcoin allows users to transfer coins to anywhere in the world with almost no fees, and to do it within 10 minutes. It is not surprising that many companies — such as WordPress, Reddit, and OKCupid, according to Nasdaq — like the idea of using Bitcoins over dollars, when it means getting their money faster and more reliably without shelling out three percent to credit card companies. For these reasons, many consumers and merchants are willing to trade in some dollars for Bitcoins, in exchange for having these conveniences. Bitcoins could increase prosperity for everyone by improving trade through the smoother transfer of money, but is the smoother transfer of money worth the costs? Bitcoin can be used as the online equivalent of cash, allowing users to buy illegal goods, avoid taxes, and circumvent sanctions with anonymity. Bitcoin raises the question: What are the repercussions of a society where all money is anonymous?