bitcoin

Even ASIC miners of Bitcoins face security threats

Last month I wrote about paradoxes involving bitcoin and other cryptocurrency mining. In particular, I pointed out that while many people are designing alternative coins so that they are hard to mine with ASICs — and thus can be more democratically mined by people’s ordinary computers or GPUs — this generates a problem. If mining is done on ordinary computers, it becomes worthwhile to break into ordinary computers and steal their resources for mining. This has been happening, even with low powered NAS box computers which nobody would ever bother to mine on if they had to pay for the computer and its electricity. The attacker pays nothing, so any mining capacity is good.

Almost any. In Bitcoin, ASIC mining is so productive that it’s largely a waste of time to mine with ordinary CPUs even if you get them for free, since there is always some minor risk in stealing computer time. While ordinary computers are very hard to secure, dedicated ASIC mining rigs are very simple special purpose computers, and you can probably secure them.

But in a recently revealed attack thieves stole bitcoins from miners by attacking not the ASIC mining rigs, but their internet connections. The rigs may be simple, but the computers they flow their data through, and the big network routers, are less so. Using BGP redirection, it is suspected, the thieves just connected the mining rigs to a different mining pool than the one they thought they joined. And so they worked away, mining hard, and sometimes winning the bitcoin lottery, not for their chosen pool, but the thieves’ pool.

It’s not hard to imagine fixes for this particular attack. Pools and rigs can authenticate more strongly, and pools can also work to keep themselves more secure.

But we are shown one of the flaws of almost all digital money systems. If your computer can make serious money just by computing, or it can spend money on your behalf without need for a 2nd factor authentication, then it becomes very worthwhile for people to compromise your system and steal your computer time or your digital money. Bitcoin makes this even worse by making transactions irrevocable and anonymous. For many uses, those are features, but they are also bugs.

For the spending half, there is much effort in the community to build more secure wallets that can’t just spend your money if somebody takes over your computer. They rely on using multiple keys, and keeping at least one key in a more secure, even offline computer. Doing this is very hard, or rather doing it with a pleasant and happy user interface is super hard. If you’re going to compete with PayPal it’s a challenge. If somebody breaks into my PayPal account and transfers away the money there, I can go to PayPal and they can reverse those transactions, possibly even help track down the thieves. It’s bad news if a merchant was scammed but very good news for me.

One could design alternate currencies with chargebacks or refundability, but Bitcoin is quite deliberate in its choice not to have those. It was designed to be like cash. The issue is that while you could probably get away keeping your cash in your mattress and keeping a secure house, this is a world where somebody can build robots that can go into all the houses it can find and pull the cash out of the mattresses without anybody seeing.

The paradox of Bitcoin proof-of-work mining

Everybody knows about bitcoin, but fewer know what goes on under the hood. Bitcoin provides the world a trustable ledger for transactions without trusting any given party such as a bank or government. Everybody can agree with what’s in the ledger and what order it was put there, and that makes it possible to write transfers of title to property — in particular the virtual property called bitcoins — into the ledger and thus have a money system.

Satoshi’s great invention was a way to build this trust in a decentralized way. Because there are rewards, many people would like to be the next person to write a block of transactions to the ledger. The Bitcoin system assures that the next person to do it is chosen at random. Because the winner is chosen at random from a large pool, it becomes very difficult to corrupt the ledger. You would need 6 people, chosen at random from a large group, to all be part of your conspiracy. That’s next to impossible unless your conspiracy is so large that half the participants are in it.

How do you win this lottery to be the next randomly chosen ledger author? You need to burn computer time working on a math problem. The more computer time you burn, the more likely it is you will hit the answer. The first person to hit the answer is the next winner. This is known as “proof of work.” Technically, it isn’t proof of work, because you can, in theory, hit the answer on your first attempt, and be the winner with no work at all, but in practice, and in aggregate, this won’t happen. In effect, it’s “proof of luck,” but the more computing you throw at the problem, the more chances of winning you have. Luck is, after all, an imaginary construct.

Because those who win are rewarded with freshly minted “mined” bitcoins and transaction fees, people are ready to burn expensive computer time to make it happen. And in turn, they assure the randomness and thus keep the system going and make it trustable.

Very smart, but also very wasteful. All this computer time is burned to no other purpose. It does no useful work — and there is debate about whether it inherently can’t do useful work — and so a lot of money is spent on these lottery tickets. At first, existing computers were used, and the main cost was electricity. Over time, special purpose computers (dedicated processors or ASICs) became the only effective tools for the mining problem, and now the cost of these special processors is the main cost, and electricity the secondary one.

Money doesn’t grow on trees or in ASIC farms. The cost of mining is carried by the system. Miners get coins and will eventually sell them, wanting fiat dollars or goods and affecting the price. Markets, being what they are, over time bring closer and closer the cost of being a bitcoin miner and the reward. If the reward gets too much above the cost, people will invest in mining equipment until it normalizes. The miners get real, but not extravagant profits. (Early miners got extravagant profits not because of mining but because of the appreciation of their coins.)

What this means is that the cost of operating Bitcoin is mostly going to the companies selling ASICs, and to a lesser extent the power companies. Bitcoin has made a funnel of money — about $2M a day — that mostly goes to people making chips that do absolutely nothing and fuel is burned to calculate nothing. Yes, the miners are providing the backbone of Bitcoin, which I am not calling nothing, but they could do this with any fair, non-centralized lottery whether it burned CPU or not. If we can think of one.

(I will note that some point out that the existing fiat money system also comes with a high cost, in printing and minting and management. However, this is not a makework cost, and even if Bitcoin is already more efficient doesn’t mean there should not be effort to make it even better.)

CPU/GPU mining

Naturally, many people have been bothered by this for various reasons. A large fraction of the “alt” coins differ from Bitcoin primarily in the mining system. The first round of coins, such as Litecoin and Dogecoin, use a proof-of-work system which was much more difficult to solve with an ASIC. The theory was that this would make mining more democratic — people could do it with their own computers, buying off-the-shelf equipment. This has run into several major problems:

  • Even if you did it with your own computer, you tended to need to dedicate that computer to mining in the end if you wanted to compete
  • Because people already owned hardware, electricity became a much bigger cost component, and that waste of energy is even more troublesome than ASIC buying
  • Over time, mining for these coins moved to high-end GPU cards. This, in turn caused mining to be the main driver of demand for these GPUs, drying up the supply and jacking up the prices. In effect, the high end GPU cards became like the ASICs — specialized hardware being bought just for mining.
  • In 2014, vendors began advertising ASICs for these “ASIC proof” algorithms.
  • When mining can be done on ordinary computers, it creates a strong incentive for thieves to steal computer time from insecure computers (ie. all computers) in order to mine. Several instances of this have already become famous.

The last point is challenging. It’s almost impossible to fix. If mining can be done on ordinary computers, then they will get botted. In this case a thief will even mine at a rate that can’t pay for the electricity, because the thief is stealing your electricity too.  read more »

The endgame for Bitcoin

Bitcoin is hot-hot-hot, but today I want to talk about how it ends. Earlier, I predicted a variety of possible fates for Bitcoin ranging from taking over the entire M1 money supply to complete collapse, but the most probable one, in my view, is that Bitcoin is eventually supplanted by one or more successor digital currencies which win in the marketplace. I think that successor will also itself be supplanted, and that this might continue for some time. I want to talk about not just why that might happen, but also how it may take place.

Nobody thinks Bitcoin is perfect, and no digital currency (DigiC) is likely to satisfy everybody. Some of the flaws are seen as flaws by most people, but many of its facets are seen as features by some, and flaws by others. The anonymity of addresses, the public nature of the transactions, the irrevocable transactions, the fixed supply, the mining system, the resistance to control by governments — there are parties that love these and hate these.

Bitcoin’s most remarkable achievement, so far, is the demonstration that a digital currency with no intrinsic value or backer/market maker can work and get a serious valuation. Bitcoin argues — and for now demonstrates — that you can have a money that people will accept only because they know they can get others to accept it with no reliance on a government’s credit or the useful physical properties of a metal. The price of a bitcoin today is pretty clearly the result of speculative bubble investment, but that it sustains a price at all is a revelation.

Bitcoins have their value because they are scarce. That scarcity is written into the code — in the regulated speed of mining, and in the fixed limit on coins. There will only be so many bitcoins, and this gives you confidence in their value, unlike say, Zimbabwe 100 trillion dollar notes. This fixed limit is often criticised because it will be strongly deflationary over time, and some more traditional economic theory feels there are serious problems with a deflationary currency. People resist spending it because holding it is better than spending it, among other things.

Altcoins

While bitcoins have this scarcity, digital currencies as a group do not. You can always create another digital currency. And many people have. While Bitcoin is the largest, there are many “altcoins,” a few of which (such as Ripple, Litecoin and even the satirical currency Dogecoin) have serious total market capitalizations of tens or hundreds of millions of dollars(1). Some of these altcoins are simply Bitcoin or minor modifications of the Bitcoin protocol with a different blockchain or group of participants, others have more serious differences, such as alternate forms of mining. Ripple is considerably different. New Altcoins will emerge from time to time, presumably forever.

What makes one digital coin better than another? Obviously a crucial element is who will accept the coin in exchange for goods, services or other types of currency. The leading coin (Bitcoin) is accepted at more stores which gives it a competitive advantage.

If one is using digital currency simply as a medium — changing dollars to bitcoins to immediately buy something with bitcoins at a store, then it doesn’t matter a great deal which DigiC you use, or what its price is, as long as it is not extremely volatile. (You may be interested in other attributes, like speed of transaction and revocation, along with security, ease of use and other factors.) If you wish to hold the DigC you care about appreciation, inflation and deflation, as well as the risk of collapse. These factors are affected as well by the “cost” of the DigiC.

The cost of a digital currency

I will advance that every currency has a cost which affects its value. For fiat currency like dollars, all new dollars go to the government, and every newly printed dollar devalues all the other dollars, and overprinting creates clear inflation.  read more »

The real Bitcoin Satoshi Nakamoto

The latest Bitcoin bombshell — distracting us even from the Mt.Gox failure — was the Newsweek cover story — their first printed issue since 2012 — declaring they had found the mythical creator of Bitcoin, known under the pseudonym of Satoshi Nakamoto, and he was a guy from near L.A. in his 60s whose real birth name was actually Satoshi Nakamoto.

Now known as Dorian S. Nakamoto, I’ll refer to him as DSN to distinguish him from BCSN — the Bitcoin creator Satoshi Nakamoto, though of course the question is whether DSN == BCSN. DSN denies he is BCSN and says his quotes suggesting that were answers to other questions, at least in his mind.

The second surprise was a web posting from BCSN, the first in years, simply saying he is not DSN. This posting is confusing, because a little thought shows it reveals no information on that subject. If DSN is BCSN, then of course both are denying it. More to the point, BCSN is clearly somebody well versed in game theory and trust calculus, and knows very well that the denial does not add reliable information on this.

BCSN’s post does tell us one big thing though — that BCSN is still alive, around, and even willing to comment if the issue is as big as this one. Many speculated that his silence meant he was gone, and also that he had lost his estimated million bitcoins.

The Bitcoin community was quite skeptical of the Newsweek claim. One very justified reason for this skepticism is that aside from the two key disputed quotes, the article’s arguments that it has found BCSN read like nonsense to the average nerd.

DSN might be BCSN, the article reasons, because he is a nerdy engineer with good technical skills, a background working at various tech companies and government projects, is aloof from his family and neighbours, and enjoys a technical hobby such as collecting model trains, even machining his own parts. “Smart, intelligent, mathematics, engineering, computers. You name it, he can do it,” says DSN’s brother. He’s a little bit libertarian, looks scruffy and is reportedly a bit of an asshole.

Aha, links Leah McGrath Goodman of Newsweek — this “suggested I was on the right track.”

What she doesn’t realize perhaps is that I literally know hundreds people who fit that description. It’s a profile that is actually more likely to be true than not among wide swaths of the nerd community.

Goodman’s logic reads to us like somebody saying, “I was on the track of the Zodiac killer, whom we know to be from San Francisco. I identified a suspect named John Zodiac who is a quiet loner, and is known to like the San Francisco Giants and burritos in the Mission district. I’m on the right track!”

There is only one thing in the Newsweek article that was worthy of attention. With police he summoned ready to usher Goodman away from his house, he tells her

“I am no longer involved in that and I cannot discuss it. It’s been turned over to other people. They are in charge of it now. I no longer have any connection.”

In the context of Bitcoin, that’s indeed proof enough. The police officers present have confirmed he did say something like this. DSN insists he felt he was being asked about his past classified work on government projects. He says he had not even heard about Bitcoin until this matter came up.

Various online forces have come up with other arguments against the match. DSN’s known writings seem fairly different from the writings of BCSN, though Goodman finds a few commonalities, including hints that BCSN is perhaps older (like DSN.)

But most of all, BCSN is known as a scrupulous protector of his or her or their own identity. BCSN made meticulous use of online identity hiding techniques to avoid being tracked, and has never spent any of the huge cache of bitcoins mined in the early days, possibly to avoid the risk of detection. This is so completely at odds with the idea of doing it all under his real name that after a perfunctory search in the early days, most people who fancied themselves Satoshi-finding detectives rarely bothered to look at people whose real name was Satoshi Nakamoto. Common wisdom, in fact, was that he/she probably wasn’t even Japanese. Certainly not somebody with no history in the cryptography or digital money communities.

But what if it is him?

While currently the tide seems to be to discredit the Newsweek story, a second question has been raised — is it good or bad if BCSN is unmasked, and if it is this guy?  read more »

More about stolen bitcoins

Yesterday, I wrote about stolen bitcoins and the issues around a database of stolen coins. The issue is very complex, so today I will add some follow-up issues.

When stolen property changes hands (innocently) the law says that nobody in the chain had authority to transfer title to that property. Let’s assume that the law accepts bitcoins as property, and bitcoin transactions as denoting transfer of title, (as well as possession/control) to it. So with a stolen bitcoin, the final recipient is required on the law to return possession of the coin to its rightful owner, the victim of the theft. However, that recipient is also now entitled to demand back whatever they paid for the bitcoin, and so on down the line, all the way to the thief. With anonymous transactions, that’s a tall order, though most real world transactions are not that anonymous.

This is complicated by the fact that almost all Bitcoin transactions mix coins together. A Bitcoin “wallet” doesn’t hold bitcoins, rather it holds addresses which were the outputs of earlier transactions, and those outputs were amounts of bitcoin. When you want to do a new transaction, you do two things:

  1. You gather together enough addresses in your wallet which hold outputs of prior transactions, which together add up to as much as you plan to spend, and almost always a bit more.
  2. You write a transaction that lists all those old outputs as “inputs” and then has a series of outputs, which are the addresses of the recipients of the transaction.

There are typically 3 (or more) outputs on a transaction:

  1. The person you’re paying. The output is set to be the amount you’re paying
  2. Yourself. The output is the “change” from the transaction since the inputs probably didn’t add up exactly to the amount you’re paying.
  3. Any amount left over — normally small and sometimes zero — which does not have a specific output, but is given as a transaction fee to the miner who put your transaction into the Bitcoin ledger (blockchain.)

They can be more complex, but the vast majority work like this. While normally you pay the “change” back to yourself, the address for the change can be any new random address, and nothing in the ledger connects it to you.

So as you can see, a transaction might combine a ton of inputs, some of which are clean, untainted coins, some of which are tainted, and some of which are mixed. After coins have been through a lot of transactions, the mix can be very complex. Not so complex as the computers can’t deal with it and calculate a precise fraction of the total coin that was tainted, but much too complex for humans to wish to worry about.

A thief will want to mix up their coins as quickly as possible, and there are a variety of ways to do that.

Right now, the people who bought coins at Mt.Gox (or those who sent them there to buy other currency) are the main victims of this heist. They thought they had a balance there, and its gone. Many of them bought these coins at lower prices, and so their loss is not nearly as high as the total suggests, but they are deservedly upset.

Unfortunately, if the law does right by them and recovers their stolen property, it is likely that might come from the whole Bitcoin owning and using community, because of the fact that everybody in the chain is liable. Of particular concern are the merchants who are taking bitcoin on their web sites. Let’s speculate on the typical path of a stolen coin that’s been around for a while:

  • It left Mt.Gox for cash, sold by the thief, and a speculator simply held onto the coins. That’s the “easy” one, the person who now has stolen coins has to find the thief and get their money back. Not too likely, but legally clear.
  • It left Mt.Gox and was used in a series of transactions, ending up with one where somebody bought an item from a web store using bitcoin.
  • With almost all stores, the merchant system takes all bitcoin received and sells it for dollars that day. Somebody else — usually a bitcoin speculator — paid dollars for that bitcoin that day, and the chain continues.

There is the potential here for a lot of hassle. The store learns they sold partially tainted bitcoins. The speculator wants and is entitled to getting a portion of her money back, and the store is an easy target to go after. The store now has to go after their customer for the missing money. The store also probably knows who their customer is. The customer may have less knowledge of where her bitcoins came from.

This is a huge hassle for the store, and might very well lead to stores reversing their decisions to accept bitcoin. If 6% of all bitcoins are stolen, as the Mt.Gox heist alleges, most transactions are tainted. 6% is an amount worth recovering for many, and it’s probably all the profit at a typical web store. Worse, the number of stolen coins may be closer to 15% of all the circulating bitcoins, certainly something worth recovering on many transactions.

The “sinking taint” approach

Previously, I suggested a rule. The rule was that if a transaction merges various inputs which are variously reported as stolen (tainted) and not, then the total percentage be calculated, and the first outputs receive all the tainting, and the latter outputs (including the transaction fee, last of all) be marked clear. One of the outputs would remain partial unless the transaction was designed to avoid this. There is no inherent rule that the “change” comes last, it is just a custom, and it would probably be reversed, so that as much of the tainted fraction remains in the change as possible, and the paid amount is as clean as possible. Recipients would want to insist on that.

This allows the creation of a special transaction that people could do with themselves on discovering they have coin that is reported stolen. The transaction would split the coin precisely into one or more purely tainted outputs, and one or more fully clean outputs. Recipients would likely refuse bitcoin with any taint on it at all, and so holders of bitcoin would be forced to do these dividing transactions. (They might have to do them again if new theft reports come on coin that they own.) People would end up doing various combinations of these transactions to protect their privacy and not publicly correlate all their coin.

Tainted transaction fees?

The above system makes the transaction fee clean if any of the coin in the transaction is clean. If this is not done, miners might not accept such transactions. On the other hand, there is an argument that it would be good if miners refused even partially tainted transactions, other than the ones above used to divide the stolen coins from the clean. There would need to be a rule that allows a transaction to be declared a splitting transaction which pays its fees from the clean part. In this case, as soon as coins had any taint at all, they would become unspendable in the legit markets and it would be necessary to split them. They would still be spendable with people who did not accept this system, or in some underground markets, but they would probably convert to other currencies at a discount.

This works better if there is agreement on the database of tainted coins, but that’s unlikely. As such, miners would decide what databases to use. Anything in the database used by a significant portion of the miners would make those coins difficult to spend and thus prime for splitting. However, if they are clean in the view of a significant fraction of the miners, they will enter the blockchain eventually.

This is a lot of complexity, much more than anybody in the Bitcoin community wants. The issue is that if the law gets involved, there is a world of pain in store for the system, and merchants, if a large fraction of all circulating coins are reported as stolen in a police report, even a Japanese police report.

What if somebody steals a bitcoin?

Bitcoin has seen a lot of chaos in the last few months, including being banned in several countries, the fall of the Silk Road, and biggest of all, the collapse of Mt. Gox, which was for much of Bitcoin’s early history, the largest (and only major) exchange between regular currencies and bitcoins. Most early “investors” in bitcoin bought there, and if they didn’t move their coins out, they now greatly regret it.

I’ve been quite impressed by the ability of the bitcoin system to withstand these problems. Each has caused major “sell” days but it has bounced back each time. This is impressive because nothing underlies bitcoins other than the expectation that you will be able to use them into the future and that others will take them.

It is claimed (though doubted by some) that most of Mt.Gox’s bitcoins — 750,000 of them or over $400M — were stolen in some way, either through thieves exploiting a bug or some other means. If true, this is one of the largest heists in history. There are several other stories of theft out there as well. Because bitcoin transactions can’t be reversed, and there is no central organization to complain to, theft is a real issue for bitcoin. If you leave your bitcoin keys on your networked devices, and people get in, they can transfer all your coins away, and there is no recourse.

Or is there?

If you sell something and are paid in stolen money, there is bad news for you, the recipient of the money. If this is discovered, the original owner gets the money back. You are out of luck for having received stolen property. You might even be suspected of being involved, but even if you are entirely innocent, you still lose.

All bitcoin transactions are public, but the identities of the parties are obscured. If your bitcoins are stolen, you can stand up and declare they were stolen. More than that, unless the thief wiped all your backups, you can 99.9% prove that you were, at least in the past, the owner of the allegedly stolen coins. Should society accept bitcoins as money or property, you would be able to file a police report on the theft, and identify the exact coin fragments stolen, and prove they were yours, once. We would even know “where” they are today, or see every time they are spent and know who they went to, or rather, know the random number address that owns them now in the bitcoin system. You still own them, under the law, but in the system they are at some other address.

That random address is not inherently linked to this un-owner, but as the coins are spent and re-spent, they will probably find their way to a non-anonymous party, like a retailer, from whom you could claim them back. Retailers, exchanges and other legitimate parties would not want this, they don’t want to take stolen coins and lose their money. (Clever recipients generate a new address for every transaction, but others use publicly known addresses.)

Tainted coin database?

It’s possible, not even that difficult, to create a database of “tainted” coins. If such a database existed, people accepting coins could check if the source transaction coins are in that database. If there, they might reject the coins or even report the sender. I say “reject” because you normally don’t know what coins you are getting until the transaction is published, and if the other party publishes it, the coins are now yours. You can refuse to do your end of the transaction (ie. not hand over the purchased goods) or even publish a transaction “refunding” the coins back to the sender. It’s also possible to imagine that the miners could refuse to enter a transaction involving tainted coins into the blockchain. (For one thing, if the coins are stolen, they won’t get their transaction fees.) However, as long as some miner comes along willing to enter it, it will be recorded, though other miners could refuse to accept that block as legit.  read more »

Satoshi, is now the time to consider donating lots of bitcoin to charity?

I don’t know who the person or people are who, under the name Satoshi Nakamoto, created the Bitcoin system. The creator(s) want to keep their privacy, and given the ideology behind Bitcoin, that’s not too surprising.

There can only be 21 million bitcoins. It is commonly speculated that Satoshi did much of the early mining, and owns between 1 million and 1.5 million unspent bitcoins. Today, thanks in part to a speculative bubble, bitcoins are selling for $800, and have been north of $1,000. In other words, Satoshi has near a billion dollars worth of bitcoin. Many feel that this is not an unreasonable thing, that a great reward should go to Satoshi for creating such a useful system.

For Satoshi, the problem is that it’s very difficult to spend more than a small portion of this block, possibly ever. Bitcoin addresses are generally anonymous, but all transactions are public. Things are a bit different for the first million bitcoins, which went only to the earliest adopters. People know those addresses, and the ones that remain unspent are commonly believed to be Satoshi’s. If Satoshi starts spending them in any serious volume, it will be noticed and will be news.

The fate of Bitcoin

Whether Bitcoin becomes a stable currency in the future or not, today few would deny it is not stable, and undergoing speculative bubbles. Some think that because nothing backs the value of bitcoins, it will never become stable, but others are optimistic. Regardless of that, today the value of a bitcoin is fragile. The news that “Satoshi is selling his bitcoins!” would trigger panic selling, and that’s bad news in any bubble.

If Satoshi could sell, it is hard to work out exactly when the time to sell would be. Bitcoin has several possible long term fates:

  1. It could become the world’s dominant form of money. If it replaced all of the “M1” money supply in the world (cash and very liquid deposits) a bitcoin could be worth $1 million each!
  2. It could compete with other currencies (digital and fiat) for that role. If it captured 1% of world money supply, it might be $10,000 a coin. While there is a limit on the number of bitcoins, the limit on the number of cryptocurrencies is unknown, and as bitcoin prices and fees increase, competition is to be expected.
  3. It could be replaced by one or more successors of superior design, with some ability to exchange during a modest window, and then drifting down to minimal value
  4. It could collapse entirely and quickly in the face of government opposition, competition and other factors during its bubble phase.

My personal prediction is #3 — that several successor currencies will arise which fix issues with Bitcoin, with exchange possible for a while. However, just as bitcoins had their sudden rushes and bubbles, so will this exchange rate, and as momentum moves into this currency it could move very fast. Unlike exchanges that trade bitcoins for dollars, inter-cryptocurrency exchanges will be fast (though the settlement times of the currencies will slow things down.) It could be even worse if the word got out that “Satoshi is trading his coins for [Foo]Coin” as that could cause complete collapse of Bitcoin.

Perhaps he could move some coins through randomizing services that scramble the identity association, but moving the early coins to such a system would be seen as selling them.  read more »

A Bitcoin Analogy

Bitcoin is having its first “15 minutes” with the recent bubble and crash, but Bitcoin is pretty hard to understand, so I’ve produced this analogy to give people a deeper understanding of what’s going on.

It begins with a group of folks who take a different view on several attributes of conventional “fiat” money. It’s not backed by any physical commodity, just faith in the government and central bank which issues it. In fact, it’s really backed by the fact that other people believe it’s valuable, and you can trade reliably with them using it. You can’t go to the US treasury with your dollars and get very much directly, though you must pay your US tax bill with them. If a “fiat” currency faces trouble, you are depending on the strength of the backing government to do “stuff” to prevent that collapse. Central banks in turn get a lot of control over the currency, and in particular they can print more of it any time they think the market will stomach such printing — and sometimes even when it can’t — and they can regulate commerce and invade privacy on large transactions. Their ability to set interest rates and print more money is both a bug (that has sometimes caused horrible inflation) and a feature, as that inflation can be brought under control and deflation can be prevented.

The creators of Bitcoin wanted to build a system without many of these flaws of fiat money, without central control, without anybody who could control the currency or print it as they wish. They wanted an anonymous, privacy protecting currency. In addition, they knew an open digital currency would be very efficient, with transactions costing effectively nothing — which is a pretty big deal when you see Visa and Mastercard able to sustain taking 2% of transactions, and banks taking a smaller but still real cut.

With those goals in mind, they considered the fact that even the fiat currencies largely have value because everybody agrees they have value, and the value of the government backing is at the very least, debatable. They suggested that one might make a currency whose only value came from that group consensus and its useful technical features. That’s still a very debatable topic, but for now there are enough people willing to support it that the experiment is underway. Most are aware there is considerable risk.

Update: I’ve grown less fond of this analogy and am working up a superior one, closer to the reality but still easy to understand.

Wordcoin

Bitcoins — the digital money that has value only because enough people agree it does — are themselves just very large special numbers. To explain this I am going to lay out an imperfect analogy using words and describe “wordcoin” as it might exist in the pre-computer era. The goal is to help the less technical understand some of the mechanisms of a digital crypto-based currency, and thus be better able to join the debate about them.  read more »

Syndicate content