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Learn The Bitcoin Rabbit Hole  

This is chapter 3 of a 10!


What if we reimagined money for the digital world we live in today? A better money would contain all the properties of money we learned about earlier and it would solve the problems of gold and fiat money by adding a few new properties:

  • Digital – Digitally native money is inherently global and can be programmed to do things physical money could only dream of
  • Trustless – You shouldn’t have to trust anyone or go through middle men to use digital money
  • Permissionless – Money should be universally accessible by anyone who wants to use it
  • Immutable – It shouldn’t be possible for anyone or anything to reverse your transaction or manipulate the money supply

Until Bitcoin, trustless and permissionless digital money wasn’t possible because of two main problems:

  1. The Double Spend Problem – Without a trusted central party tracking the money, how do we make sure people can’t spend the same money multiple times?
  2. The Byzantine General’s Problem – If we replace a central party with an open and permissionless network, surely dishonest participants will join. How can we ensure the information being shared between everyone is accurate and reliable?

Digital Money

Computers are really good at making copies of things. When you send someone a file you both end up with an exact replica of that file. With one click, you can make a perfect copy of every file on your hard drive. If dollars were digital, you could easily send the same digital dollar to multiple people!

Until Bitcoin, the only way to make sure you didn’t spend the same digital dollar multiple times was to have all transactions flow through a trusted central party – typically a bank. 90% of U.S. dollars are already a digital currency managed by banks. Of the $16.8 TRILLION dollars in the M2 Money Supply (as of April 13, 2020) only $1.84 TRILLION of it exists as Federal Reserve notes in circulation.

The first step towards ditching the bank and solving the double spend problem is to create programmable money that’s digitally native from the start.

Trustless Money

“The root problem with conventional currency is all the trust that’s required to make it work.

The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust.

Banks must be trusted to hold our money and transfer it electronically, but they lend it out in waves of credit bubbles with barely a fraction in reserve.

We have to trust them with our privacy, trust them not to let identity thieves drain our accounts. Their massive overhead costs make micropayments impossible.”

Satoshi Nakamoto, Inventor of Bitcoin

This quote comes from Feb 11th 2009, the day Satoshi announced Bitcoin. The ability to transact digitally without 3rd parties or middlemen is the reason for Bitcoin’s existence.

In Bitcoin, instead of trusting banks to move our money for us, trust is delegated cryptography (now we know why everyone calls Bitcoin crypto!). Without getting too technical, public-key cryptography is a form of advanced mathematics which allows you to digitally sign information. No one can forge your digital signature without your private key, however anyone who receives that information along with your signature and public key can verify that you signed that information.

Cryptography is complicated, but luckily a good Bitcoin wallet handles this for you. You don’t need to understand exactly how cryptography works, however your private key is like a password for your money. Later, we’ll teach you how to safely protect your private key yourself, because if you want someone else to do it for you, you might as well use a bank.

In Bitcoin, all transactional information including the amount, the sending and receiving account, and the cryptographic signature are publicly visible by anyone who wishes to verify them. No one needs to trust each other in order for the system to function. In Bitcoin we say “don’t trust, verify”.

Every Bitcoin transaction can easily be viewed in real time on the internet using a Bitcoin block explorer like blockchain.com

Bitcoin transactions publicly viewable on the blockchain

Permissionless Money

To open and use a bank account you need the bank’s permission. Unfortunately, banks discriminate against people every day, typically in the name of “national security”. This leads to millions of people being “unbanked” without access to basic financial services like credit cards, checking accounts, etc.

Even worse, banks are custodians of your money. In fact, once you hand a bank your money, its no longer your money – it’s the banks! The bank now owes you back that money and allows you to spend/withdraw as long as you follow their rules. But what if the bank changes their mind? Or maybe they freeze your account or start declining your transactions. This happens to millions of people everyday – has it happened to you?

You shouldn’t need anyone’s permission to use your hard earned money. With Bitcoin anyone can be their own bank and have the power to use their money as they see fit.

Immutable Money

im·mu·ta·ble – unchanging over time or unable to be changed

One of the most important ways money maintains its value is through scarcity, but does this chart of the U.S. Money Supply look like a scarce resource to you?

M2 Money Supply

Have you ever wondered why your grandparents paid a nickel for a bottle of Coke but today a Coke costs $1? A big reason for this is because every time the government inflates the money supply it destroys your purchasing power. Purchasing power is measured by the Consumer Price Index which has been on a downward spiral for over 100 years.

With Bitcoin, the total money supply and the process for fairly and predictably distributing the currency is coded into an immutable algorithm. Once the last bitcoin is issued, there will never be another one. In fact, since the supply is capped and (irresponsible) people may lose their private keys, the supply is actually shrinking. This causes “deflation” which increases the value of the remaining crypto in circulation – including yours.

But the money supply isn’t the only immutable, unchangeable, irreversible and un-manipulatable aspect of Bitcoin. Once confirmed by the network, transactions themselves can also not be reversed (except for in the very unlikely event of a 51% attack, but that’s for a future lesson).

Credit cards certainly made shopping easier than using cash, but that 16 digit number you happily share with every website you shop at and every barista who makes your chai latte is an insanely insecure way to protect your money! Most US consumers have been victims of credit card fraud, and because of this all credit card transactions must be reversible. If you notice a charge you didn’t make (or you want to screw someone) you simply call your bank and they reverse the transaction.

But what happens if you’re the merchant? You sell something for $100 and ship the product only to find out 6 months later that it was purchased with a stolen credit card and the money is yanked from your bank account (plus a $25 chargeback fee).

When used properly, no one can ever spend or steal your Bitcoin so there’s no reason for transactions to be reversible. Since transactions are irreversible, you can rest assured that if someone sends you crypto it can’t be frozen or taken from you.

Although we knew better money should be digital, trustless, permissionless and immutable, no one had figured out a way to make it work. That is, until a mysterious person calling themselves Satoshi Nakamoto unveiled his latest creation – Bitcoin.

Next up: Meet Satoshi

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