What is Bitcoin? All you need to know about Bitcoin, explained

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If you're new to cryptocurrency, your first question is probably "what is Bitcoin?". The short answer is that Bitcoin is a cryptocurrency or digital resource made secure by cryptography. Bitcoin and most (but not all) other cryptocurrencies use blockchain technology.

This article will answer the common questions that newcomers have when they learn about Bitcoin for the first time. How do blockchains work? What makes Bitcoin valuable? What is decentralization? What is mining? How do I buy Bitcoin? How do you memorize it safely? How do you send or receive Bitcoin from someone else?

But we will not stop here. Once you have identified the basics, we will also explain how the forks work, like the one that created Bitcoin Cash. Finally, we will conclude with a look at the future of Bitcoin and how the network can potentially scale to handle a volume of transactions of orders of magnitude greater than today.

There may be terms related to the blockchain in this article that you do not know. If you find someone, do not worry about understanding immediately. Continue reading and see if the context helps to clarify things. If you want to make sure you understand everything more thoroughly, you can also refer to our guides as essential blockchain is cryptocurrency terms.

A brief explanation of the cryptocurrency

There are many different cryptocurrencies out there that serve different purposes. Bitcoin is the first and best known cryptocurrency, but not all cryptocurrencies necessarily resemble Bitcoin.

At its most fundamental level, a cryptocurrency is simply a peer-to-peer digital payment system. Another way to say "peer-to-peer" is that there are no intermediaries – particularly banks or financial institutions – that facilitate transactions. For a more detailed explanation, read our article What is the cryptocurrency?.

Now, on Bitcoin! Let's start from the beginning: Satoshi Nakamoto and the genesis block.

The story of Bitcoin

Bitcoin White paper was published in 2008 by a pseudo-anonymous author named Satoshi Nakamoto. It was the first time someone put together the ideas of a digital currency and blockchain technology.

Since then, people have speculated on the true identity of Nakamoto. Like the original Bitcoin miner, it is known to have accumulated around 980,000 bitcoins. Those coins have remained intact for years, and it seems likely that they will remain out of circulation forever.

Satoshi Nakamoto was heard for the first time in the distant beginning of 2011. Many have tried to find it since then, but until now in vain. Although Nakamoto's true identity remains a mystery, his creation survives.

Why was Bitcoin created?

In particular, the first block extracted by Nakamoto – called a genesis block – contained a message. He said: "The Times, January 3, 2009, chancellor on the edge of the second bailout for the bank."

This refers to a news article on bank government bailouts during the 2008 economic downturn. It is widely accepted to be a political statement by Nakamoto about the reason why Bitcoin was created – to upset the financial institutions that have long controlled our economies and livelihoods.

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How did Bitcoin grow?

Bitcoin has started to gain some significant adoption in 2011. Wikileaks and other organizations have started accepting Bitcoin donations, and has occasionally been mentioned in pop culture. By 2012, there were over 1,000 merchants who accepted Bitcoin.

The year 2013 saw Bitcoin begin to get its first real traditional attention and its price exceeded the $ 1,000 threshold for the first time. So, in February 2014, Mt Gox, the largest exchange of cryptocurrencies at the time, filed for bankruptcy after stealing 744,000 bitcoins. However, more and more companies have started accepting Bitcoin, including Microsoft and Dell technology giants.

At the end of 2016, there were hundreds of thousands of traders who accepted Bitcoin and the price of the currency was again catching on. As you probably know, this momentum has reached unprecedented levels, reaching almost $ 20,000 in December 2017.

What makes Bitcoin different from the Fiat currencies?

Fiat currencies have been used as a primary means of exchange for humanity for hundreds of years. For most of that time, currencies were supported by gold. However, this changed slowly during the 20th century, with many countries having been forced to abandon the gold standard following the Great Depression.

This leaves the question: what are the fiat currencies incurred by now, if not gold?

The answer, in essence, is that currencies are supported by trust in the institutions that govern them. Nowhere is this more clearly stated than with the US dollar, which is said to be backed by the "full faith and credit" of the US government.

Well, let's go back to Bitcoin. Because Bitcoin is not supported by any other commodity, its value, like that of legal currencies, is based on trust.

What makes Bitcoin different from fiat currencies is simply a matter of where is it that trust is placed. For fiat, trust is placed in institutions managed by people. For Bitcoin, the confidence it is placed in technology – the blockchain.

What is a Blockchain?

The innovation that makes Bitcoin possible is blockchain technology.

A blockchain is a digital ledger of information that can easily be distributed on a network. That's what makes Bitcoin accessible to anyone with access to the Internet, anywhere in the world.

Each block in a blockchain contains data. In the case of Bitcoin's blockchain, that data has to do with transactions. Once a blockchain is added, it can never be removed or otherwise altered in any way. Bitcoin transactions, once validated, are permanent.

The new transactions are processed and validated by the miners. More information on how it works later.

For now, let's focus on the benefits of blockchain which helps to separate cryptocurrencies from legal currencies.

Decentralization and trust

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Most systems that govern human society are centralized. Governments, banks and companies are generally structured in such a way that most of the decision-making power is concentrated at the top. Large databases are typically stored and managed in data centers in only one or two locations.

Blockchains allow us to run systems without concentrating power on those systems in the hands of a small portion of the populations that use them. They allow us to archive databases simultaneously in hundreds or even thousands of different locations. This is called decentralization.

Why is decentralization a big problem?

In terms of databases, decentralized systems have improved security because they do not have a single point of failure. In other words, if a handful of places that store a blockchain suddenly are not online for some reason, there are still hundreds of others doing the job. The system continues without a sob.

Of course, many centralized systems still have a good security. C & # 39; is more space for decentralization than simply distributing databases?

Yes, it is. With centralized systems, we are all forced to trust other human beings to "do the right thing". And if the right thing for them was not the right thing for you? Of course, we can hope that people in power have integrity, but it will not always be that way. The most rational expectation of having others is that they will act in their best personal interest, as is what human beings do.

The decentralized systems are designed so that each participant can act in his own best personal interest within the system without harming the other participants. The corruption, greed and incompetence that pervade our ancient centralized systems simply do not have such a strong place in decentralized ones.

You do not need to trust someone else to 'do the right thing'. – this is called without trust. No individual has power or control over the system. This is what makes blockchain technology truly revolutionary.

Who or what manages the Bitcoin network?

Bitcoin could be just a bunch of computer code, but it still takes humans to run that code. More precisely, it takes humans to build and maintain the machines that run the code. These machines and the people who run them are called miners.

Perhaps the most critical obstacle Satoshi Nakamoto needed to navigate while designing Bitcoin was to understand how to get miners to run the network without giving them extra power to control it. With game theory in mind, Nakamoto has come up with a brilliant solution.

Align incentives

True decentralization is not possible unless the system is designed with the right incentive mechanisms for participation. A blockchain minus the incentives is just a distributed digital ledger, less security without trust.

Let's say that a company wants to use a blockchain to improve supply chain management. A distributed digital ledger would be useful for efficiently connecting various manufacturers, warehouses and stores. But every computer that stores the company's blockchain would be owned by the company. They do not have to worry about the malicious actors in their network. Therefore, they do not need to encourage all participants to behave in the best interest of the system.

For true decentralization, it is not so. Miners who process transactions need incentives to do it honestly. Otherwise, they could add invalid transactions to the blockchain, giving them more money.

Let's go deeper into the powerful Bitcoin incentive mechanisms for miners.

How Bitcoin Mining works

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Blockchain miners are tasked with processing new transactions and minting new digital coins. They do this by periodically adding new blocks containing transactional data to the blockchain.

Individual miners compete to find the solution to a difficult cryptographic puzzle. Once the solution is found, the miner is able to propose a new block to add to the end of the blockchain.

When a block is proposed, other miners check if it is valid or invalid. If invalid transactions are found, the other miners will not accept the block as part of the blockchain. If the block is valid, the other miners will add it to the blockchain and start competing to propose the next block.

During this process blockchains may end up in multiple sections. Two valid blocks could be proposed almost simultaneously, or perhaps a certain percentage of miners will willingly accept an invalid block to benefit from it. However, there is only one valid blockchain, the longest chain with the most blocks.

For example, let's say that a group of 250 miners worked together, representing 25% of the total mining power of the network. Now imagine that those miners decide to try to benefit from it yourself dishonestly by publishing invalid transactions. One of the 250 that solves the cryptographic puzzle will first propose a block with invalid transactions, and the other will accept it and begin to add more blocks to it.

Meanwhile, the remaining 75% of miners would not accept the blockade. Instead, they would add to a chain of valid blocks. Having three times the power of extraction of the dishonest group, the 750 would add new blocks to their blockchain branch three times faster. This would give them the longest chain, accepted by all users. The other chain would become useless and no user would accept it.

To be able to successfully propose an invalid block and add it to the longest blockchain, it is necessary to control 51% of the mining power. All this aside, and the harmful activity will not succeed.

Let's recap everything very quickly.

For a blockchain to be without trust, two things must be true about its miners:

  • Miners may not be able to change previous blocks.
  • Miners can not add new blocks to the blockchain if they contain invalid transactions.

Because the previous blocks are rendered immutable through intelligent encryption, miners do not have the ability to alter past transactions in order to give themselves more money.

Miners, however, have the opportunity to propose a new block to the blockchain even if it contains invalid transactions. What they do not have is an incentive to do it. This is thanks to two incentive mechanisms: Proof of Work (PoW) mining and block reward.

Proof of work and blocking awards

The idea behind Proof of Work is to make mine extremely expensive by discouraging malicious mining activities such as publishing blocks with invalid transactions. And on the contrary, the idea behind the block awards is to make it profitable for me if you do it honestly.

Let's start by explaining how Proof-of-WorkWell, it works.

The Bitcoin protocol has a built-in computational waste. This means that an extremely high percentage of all the calculations made by a Bitcoin miner is not actually necessary to process the transactions. But all this calculation requires electricity just like the useful calculation. The consumption of electricity costs money, making it expensive to mine.

The purpose of this waste is to discourage miners from being dishonest. If mining is cheap, there is not much to prevent someone from trying to send an invalid transaction to the blockchain and giving himself a lot of money.

If he fails, he does not lose much. If he succeeds, he earns a lot. The trade-off is certainly useful. However, since it is expensive for mine, every malicious attempt has a significant cost. That cost also acts as a deterrent to trying to publish malicious transactions.

As we learned in the previous section, a malicious miner will only succeed with their attack if he controls 51% of the mining power. Therefore, there must be an incentive for every honest miner to always use all of its mining power in such a way that achieving control of 51% of total mining power is as expensive as possible.

This incentive is the reward for the block: the newly-minted digital coins that a miner receives when they propose a blockchain block that is accepted and becomes part of the longest chain.

It is important to know that a miner earns only when he proposes a block that is accepted by other miners. On all other occasions, the miner is losing money. The probability that a miner proposes a new block is about the same as the proportion of the total mining power. For example, a miner with 1% of the total mining power in the network will propose about 1% of the blocks.

If a miner does not use their full mining power, the chances that they are proposing the next block will drop and their inputs projected together with it. Similarly, if a miner proposes a new block but does not become part of the longest chain, he gains nothing from the proposed one.

It's a lot to take, so let's sum up everything very quickly.

First of all, we know that it is very expensive to extract Bitcoin. We also know that the only way miners can turn a profit is to quickly solve cryptographic puzzles so that they can propose new blocks to add to the blockchain.

These blocks will be added to the longest chain only if they do not contain invalid transactions (assuming that the miners do not control 51% or more of the extraction power). It follows, therefore, that miners who want to maximize profit will use all their available computing power and propose only valid blocks. In this way, the selfish miners concerned are incentivized to behave honestly, and Bitcoin is without trust.

I hope that at this point you begin to understand why Bitcoin e blockchains they are so often called "revolutionaries". Now let's try to clarify another common question that people have about Bitcoin.

What determines the value of a single Bitcoin?

How is the value of a bitcoin determined? The answer is the same as any other resource, digital or physical: supply and demand.

It is important to note that the Bitcoin supply is very carefully controlled. The speed at which the new bitcoins are extracted decreases by half after every 210,000 blocks that are extracted. When Satoshi Nakamoto started mining, the reward for the block was 50 BTC. In November 2012 it was cut to 25 BTC. It halved again, at 12.5 BTC, in July 2016. It is expected that the next event will be halved in June 2020.

There is a maximum limit to the amount of bitcoins that will ever be mined, which is exactly 21 million. Almost 17 million already exist, but the last bitcoin should not be extracted until the year 2140. It is also worth noting that about 2 million bitcoins have been lost and that they will probably never be recirculated, which means that the true supply is less than what was extracted.

Meanwhile, Bitcoin's demand is a product of its usability and people's awareness of it. 2017 saw the last of these two factors take off, which is why the value of the bitcoin dollar has skyrocketed. However, much of this increase in value was based more on speculation than on increasing utility, which contributes to the extreme volatility of Bitcoin.

How Bitcoin actually works

Ok, this is enough theory for now. Let's talk about how Bitcoin actually works in practice.

Suppose Alice wants to send a bitcoin to Bob. What would it take for that transaction to be successful?

First of all, Alice must have at least one bitcoin. This bitcoin would be stored in its portfolio, which is simply a collection of public and private keys.

The public key is the address of the wallet. You can share this address without compromising the security of the contents of the portfolio. In fact, Bob would have to share his public key with Alice to receive bitcoins from her.

The private key also has a role in the transaction. This is what gives Alice, and Alice only, access to the contents of her wallet so that she can send bitcoins to Bob. If someone else accesses Alice's private key, they can also access his bitcoins.

To send the bitcoin to Bob, Alice would have inserted Bob's address into the recipient's address box. Then specify the amount you wish to send and attach an additional amount to pay the transaction fee. Then it sends the transaction to the blockchain and waits for it to be validated by the miners.

The miners confirm the transaction by checking if Alice's wallet has the full amount of bitcoin it is trying to send. If it does, the transaction is valid and the transaction record will be added to the blockchain, demonstrating that Bob's portfolio now has the bitcoin Alice sent him.

If Alice were to try sending bitcoins to Carol, the miners would check again to see that her wallet contains enough to cover the specified amount. Assuming that she does not have enough bitcoins after her transaction with Bob, the transaction with Carol would not be valid and would not be added to the blockchain.

Bitcoin blockchain does not actually keep track of the information on each bitcoin. Rather, it tracks information on each Bitcoin portfolio. When Alice sends Bob a bitcoin, the blockchain simply updates the amount of bitcoins in each of their addresses. The bitcoin itself does not exist specifically; it's just a record of how bitcoin is in every Bitcoin wallet at any given time.

At the beginning it might seem strange, but it's no different from our other financial databases. When you transfer money from your bank account to a friend's account, there is no physical movement of money. Your bank is simply updating the new remaining amount in your account. Your friend's bank is simply updating the new highest amount in his account.

A dollar in your bank account is worth the same as a dollar of money. The only difference is that you physically own one, while you digitally own the other.

Bitcoin eliminates your ability to physically own it, as it does not exist physically. However, improve your ability to digitally own it, because your private key gives you direct access to the contents of your wallet instead of that access controlled by a centralized bank or otherand institution.

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5 ways to use Bitcoin

Being new to Bitcoin, you may not yet be familiar with the way it is used around the world. We will list only 5 ways to use Bitcoin, but there are many others.

  1. As an investment – Because of its limited supply, more people who learn and use Bitcoin would lead to an increase in demand, increasing the price over time. That's why many people decide to buy some bitcoins and keep them in the long run.
  2. To pay for goods and services – There are hundreds of online stores that accept bitcoins, including Dell, Overstock.com, Expedia, Pizza Hut and Virgin Galactic to name a few.
  3. To support charity associations – With so many people making personal fortune as the first cryptocurrency investors, the global crypto community has become a lot philanthropic. An anonymous holder of Bitcoin even has committed to donating $ 86 million to BTC to charity.
  4. Educate others – Ideas such as decentralization have a real chance of making the world a better place. There is no better tool than Bitcoin to start spreading awareness of how amazing this technology is.
  5. Playing games – If investing in Bitcoin is not enough to gamble, there are also many online gambling sites that operate on bitcoins. If you are interested, a quick google search for "bitcoin gambling" should produce many results.

How to buy Bitcoin

The purchase of bitcoins is not so different from exchanging a regular fiat currency with another when traveling abroad. You have to find a place that accepts both currencies, pay a commission for the exchange, and this is it. Of course, you're not likely to find a currency exchange station that offers bitcoin exchanges at the airport. Instead, the best solution is to create an account with a reliable online exchange.

Which exchange to use will depend on your position. In the United States, the biggest exchange is Coinbase. They added euro pairs not too long ago, so even Europeans can try Coinbase. Another option is Bitstamp.

Regarding the considerable cryptocurrency market in Asia, the main exchanges concern the Japanese bitFlyer and based on South Korea Korbit.

Different exchanges have different requirements for registration. Some, like Coinbase, may require you to verify your identity before making any transactions. Others may not have these requirements. We have done the hard work of evaluating the the best exchanges of cryptocurrency in the market today.

If none of the above exchanges work for you, you still have many other options. Just go on Buy Bitcoin all over the worldand enter your country and preferred payment method. Check our article for a step-by-step guide on how to buy Bitcoin.

Before moving forward, we would like to dispel a common misunderstanding that people have about buying bitcoins, meaning that only whole coins can be purchased. In reality, bitcoins are divisible into 100 million pieces.

At its current value, it is still possible to buy an amount equivalent to 1/50 worth USD 0.01 of bitcoins. So, if not being able to afford a full bitcoin is the most important thing that holds you back, go ahead and buy some mBTC!

How to send and receive Bitcoins

You may have never made one cryptocurrency transaction first, but you probably did a bank transfer or two, right? If so, cryptocurrency transactions will be a walk in the park. And if not, they will still be a walk in the park!

When transferring money from a bank account, do some things:

  • Enter the bank account number of the recipient and possibly the last name on your account.
  • Enter the amount you wish to send.
  • Include a reminder for your accounting purposes.

The structure of a cryptocurrency transaction is essentially the same.

Instead of a bank account number, you will enter the address of the recipient's wallet (public key). In addition to the amount you are sending, you will include a separate amount for the transaction fee. This amount is usually set for you by the bank when you make a bank transfer, but with cryptocurrencies you can set your rate. There will often be a recommended or default amount that you can leave as well as it is if it suits you.

If you want to make sure that the transaction is processed as quickly as possible, you can slightly increase the transaction fee to encourage miners to include the transaction in the next block. If the transaction is not time sensitive, the commission can be reduced slightly to save money and wait for a miner to include it in a future block when the transaction volume is low.

Quite simple, right?

Now, another important thing to remember is that cryptocurrency transactions, once on the blockchain, are permanent. That being the case, you should always double check that you did not make mistakes:

  • Did you successfully copy and paste the address of the recipient's wallet?
  • The address of the recipient collector for the same cryptocurrency of the portfolio from which the cryptocurrency is sent? (for example, by not accidentally sending Bitcoin to an Ethereum portfolio)
  • Is the amount correct?
  • Is the transaction fee correct?

If you send a large quantity for the first time, it is often a good idea to send a small test amount to the same address first. Of course, you have to pay an extra transaction fee, but it may be worth making sure you're doing everything right.

Unfortunately, this has become much less affordable to do with Bitcoin since transaction fees have increased significantly. But for most other cryptocurrencies, it will only cost you a couple of cents.

Dealing with Bitcoin and other cryptocurrencies means dealing cryptocurrency transaction fees, so make sure you know the commissions in question before confirming any transaction.

How to store your Bitcoin safely

Once you have bought the bitcoin successfully, you have the choice of how to store it. There are basically two categories of cryptocurrency portfolios: hot or cold storage.

The main difference between the two is that the hot storage portfolios are somehow connected to the Internet, while the cold storage portfolios are completely offline.

You can think of this in terms of a bank's total funds compared to the amount that they accumulate in cash. A bank with a capital of $ 10 billion has no intention of storing those $ 10 billion in a deposit at the physical bank. This would make them a huge target for thieves. Instead, the bank would keep a small fraction of their total capital – say $ 1 million – at the real bank, and the rest would simply be digitally traced back to their databases.

That $ 1 million in cash is similar to hot storage. It is protected by bank security and the vault, but it is still possible to be stolen in the event of theft. Memory portfolios or software portfolios are protected by at least one password, if not by 2-factor authentication (2FA) using an & # 39; app as Google Authenticator. However, as long as they are online, they are susceptible to hacking.

Cold storage is similar to the remaining $ 9999 billion dollars that the bank does not physically store. A thief who steals money from the cold room is practically impossible. Cold storage portfolios or hardware wallets are protected by a password, but are completely offline. In order for someone to steal your cryptographic assets from a hardware portfolio, they should acquire the physical wallet and password.

For long-term owners, cold storage portfolios are the obvious answer for increased security. For investors and short-term traders, hot wallets offer more convenience to constantly move activities around. What is best for you will depend on your circumstances and personal needs.

There are a lot of options for software portfolios. Some of the most common options for Bitcoin are this from Blockchain.info and that offered by Coinbase.

There are also some software portfolios that can be taken offline, commonly called desktop wallets. Popular options include Exodus for computers and mycelium for mobile devices.

Per quanto riguarda i portafogli hardware, le prime due scelte sono Ledger Nano is Trezor.

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The best way to answer that question is to compare and contrast Bitcoin with other currencies based on 5 fundamental properties:

  1. Bitcoin is durevole. A currency must be able to stand the tests of weather and time. If you’ve ever pulled some paper bills from your pocket after putting your clothes through the wash, then you understand why durability is important. In the case of Bitcoin, every coin survives for as long as the network survives.
  2. Bitcoin is low. The creation of new Bitcoin is controlled by code and there will only ever be 21 million bitcoins in existence. Bitcoin was designed to be a deflationary currency. Look at government-backed currencies like the Venezuelan bolivar or the Zimbabwean dollar which have become hyper-inflated, and it’s clear why having a capped supply of Bitcoin is important.
  3. Bitcoin is transferable. Alice can send some of the bitcoin she owns to Bob if she chooses to. This transaction happens on a distributed blockchain network, whereas a traditional bank transfer occurs on a centralized network. Otherwise, these two types of transfers aren’t all that different.
  4. Bitcoin is divisible. You can buy, sell, or transact with fractions of a Bitcoin. Bitcoin subunits are called Satoshis, where 1 Satoshi = 0.00000001 ฿. That means that a single bitcoin can be divided into 100,000,000 pieces. You can think of satoshis like cents for US dollars and Euros or pence for British Pounds.
  5. Bitcoin is fungibile. 1 bitcoin is worth the same as every other bitcoin at any given moment. Well, to be accurate, there are often price variations from one cryptocurrency exchange to the next. However, the main point is that the Bitcoin network treats every bitcoin equally, and doesn’t care about its fiat value.

If you analyze how fiat currencies stack up to Bitcoin based on these 5 properties, you’ll notice that Bitcoin is at least as good, if not better, in almost every case.

The one property that is lagging behind now is transferability. That’s because there are more people who want to carry out Bitcoin transactions than there is network throughput to process them all. It’s a big problem, and one that many developers are trying to solve. More on that later.

Before moving away from this topic, there’s still another question we should ask: why would people want Bitcoin? Since Bitcoin meets the basic criteria for being a currency, its value as one is a function of supply and demand. So what is driving the demand?

This question actually has several good answers.

First is that Bitcoin stacks up well against fiat currencies in the 5 properties discussed above. Bitcoin is more durable and scarce than fiat currencies. It’s at least as fungible, though you could argue it’s also more fungible as it’s impossible to counterfeit. It’s currently more divisible than fiat currencies, and it’s possible to update the protocol and increase the divisibility in the case that bitcoin increases significantly in value.

As for transferability, transaction throughput may be a problem for now, but it’s still possible to send bitcoin to anybody in the world in less time than it takes to make a bank transfer. So even that comparison is favorable to Bitcoin.

Of course, what truly sets Bitcoin apart from fiat currencies is the main consequence of blockchain technology that we discussed earlier – decentralization.

Disadvantages of Bitcoin – The Scalability Problem

You know how we talked about all the wasteful computation that Bitcoin miners have to do in order for the network to be decentralized and trustless? There is another downside to that Proof-of-Work that we haven’t really talked about yet, and that’s slow transaction throughput.

The problem Bitcoin is facing now is that miners can only process between 3 and 4 transactions per second on average. That was enough transaction throughput to keep the network running smoothly for most of Bitcoin’s short existence. However, the volume of transactions has been steadily growing for years, and it finally began exceeding that 3 to 4 transactions per second threshold during 2016.

As a result, Bitcoin transaction fees have been going up significantly. We’re talking about an increase from $0.08 per transaction on average in January 2016 to about $25 per transaction in January 2018. In its current state, using Bitcoin to transfer money is not guaranteed to be cheaper than banks. And that’s a real issue.

Fortunately, there are multiple solutions. We’ll explain a couple of them in these last few sections of the article.

Cryptocurrency Forks Explained

Blockchain protocols are not permanently fixed to stay the way they were when originally written. With consensus, they can be changed and upgraded to function more effectively. This versatility is how cryptocurrencies earn the description ‘programmable’ money.

Not surprisingly, there are times when communities can’t come to a consensus about changes to the protocol. When two factions of a cryptocurrency community disagree about such changes, one of them can execute a hard fork.

A hard fork occurs when developers make changes to the blockchain protocol such that nodes must upgrade their mining software to continue mining that blockchain. In other words, the mining software that’s used to mine the original blockchain will no longer work to mine the new fork of that blockchain.

Bitcoin Cash is the most well-known hard fork of Bitcoin. However, there have been many others including Bitcoin Silver, Bitcoin Gold, Bitcoin Diamond, and so on.

It is possible to have a hard fork without creating a new currency. This occurs when the community comes to a consensus about protocol changes and all of the miners agree to upgrade their mining software.

It is also possible to have a ‘soft’ fork. This occurs when changes are made to the protocol that don’t require miners to update their software in order to keep mining on the blockchain.

When you are holding a cryptocurrency at the time of a hard fork, you’ll receive an amount of the new coin equal to the amount of the original that you were holding at the time of the fork. For example, if I was holding 1 Bitcoin at the time of the Bitcoin Cash fork, I would have 1 Bitcoin and 1 Bitcoin Cash after the fork. This is because Bitcoin and Bitcoin Cash have identical blockchains up until the fork occurred, at which point they diverged.

Once the hard fork occurs, the currencies are completely separate. Anything you do with one of them will not impact the other.

Bitcoin Forks – What is Bitcoin Cash?

The simplest way to increase Bitcoin’s transaction throughput is to increase the amount of data stored in each block on the blockchain. Bitcoin Cash is basically a replica of the Bitcoin protocol with an 8 MB block size instead of 1 MB. This increases transaction throughput by about 8x, resulting in lower fees and shorter wait times for Bitcoin Cash transactions.

The reason that Bitcoin Cash was created is that Bitcoin developers and users couldn’t reach a consensus on whether or not increasing the block size was a good decision. Those in favor of it wanted to reduce fees back to pre-2016 levels as quickly as possible, while those against it worried that it would lead to more centralization in the future.

The reason that more centralization is a possibility for Bitcoin Cash is that its blockchain size is now growing about 8x faster than Bitcoin’s. Every node (miner) in the network must store the entire blockchain. When the blockchain grows to several terabytes in size, it will require every miner to have higher storage capacity.

That increases the cost to mine, which could possibly make mining less feasible for some of the current miners. Whether or not this will actually result in more centralization of mining is debatable.

Bitcoin as An Investment

Is Bitcoin a good investment?

Well, it depends on who you ask. Most experts in traditional finance are understandably reluctant to buy into Bitcoin. Many believe it is a massive bubble, waiting to be popped at any minute. That being said, it’s pretty clear that many of those same traditional finance experts haven’t put in the time and effort to understand what cryptocurrencies are and how they work.

Those who do understand Bitcoin tend to, on average, view it a bit more favorably. However, you’ll be hard-pressed to find an investor who doesn’t see Bitcoin as an extremely high risk investment. Differing opinions are more centered around whether or not that risk is worth it.

This paper by long-time institutional investor John Pfeffer makes a compelling case in favor of investing a small percentage of your net worth into Bitcoin and planning to hold for 5 to 10 years.

Here’s a very condensed summary of what Pfeffer wrote:

  • The cryptocurrency that’s most valuable in the future will be the one that serves as a store of value, taking market cap from gold, USD, EUR, etc.
  • Bitcoin has a large head start as the “store of value” coin, making it far more likely to win that market than any other cryptocurrency.
  • If Bitcoin becomes the world’s predominant store of value, its market cap could potentially go as high as the US$5 – $15 trillion range.
  • If the probability of Bitcoin reaching that potential is greater than 5% – which Pfeffer believes that it is – it is rational to invest some small percentage of your portfolio into Bitcoin.

Putting all of your money into an investment as risky as Bitcoin is certainly inadvisable. However, if there is some small fraction of your portfolio that you can afford to have a high risk tolerance on, Bitcoin may be a good option for you.

Is Bitcoin Better Than Other Cryptocurrencies?

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If only picking the best investment was as simple as picking the best technology, this question would have a straightforward answer.

There are lots of newer cryptocurrencies that – from a technological standpoint – are superior to Bitcoin. There are coins with much faster transaction throughput, much less environmental impact, and far better governance. There are also coins, like Ethereum, that have an order of magnitude more applications than Bitcoin.

Whether any of these coins will someday overtake Bitcoin, though, is still anybody’s guess. Bitcoin’s first-to-market advantage and name recognition shouldn’t be discounted, as they have been significant factors for its growth thus far. And it may not have all the applications and utility of others, but Bitcoin’s single biggest application – store of value – is arguably the most important one.

Ultimately, even the most educated of investors are still uncertain. You’ve done the work to read this far, now it’s just a matter of whether you believe Bitcoin can succeed and what you’re willing to risk in the hope that it does.

For those of you who are interested in learning more about other top cryptocurrencies, our Top 50 Cryptocurrencies post is a great place to start!

The Future of Bitcoin

Hopefully, Bitcoin transaction fees and wait times aren’t going to be this high for much longer. Many developers are working to implement a solution for scaling Bitcoin called the Lightning Network. This is a layer-2 scaling solution, meaning that the scaling isn’t occurring on the blockchain itself, but on a second layer that is connected to the blockchain.

The Lightning Network enables low fees and near instantaneous microtransactions in Bitcoin. Critically, those transactions are as trustless as the ones that occur on the actual Bitcoin blockchain. People have high hopes that the Lightning Network will make Bitcoin more usable as a currency again. Whether it will actually work out that way or not remains to be seen.

Ultimately, the best way to describe Bitcoin’s future at the present moment is ‘uncertain’.

On the one hand, Lightning Network could be robust and successful, and Bitcoin could pass some critical threshold of adoption that sends it soaring to the moon. It’s not at all impossible that we could see bitcoins worth upwards of $100,000 each in the future.

At the same time, it’s possible that people could lose their faith and patience in Bitcoin, and it could come plummeting down.

Last Thoughts

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<p><noscript><img class=You can throw money at any random cryptocurrency and come out looking like a genius in this crazy bull market. But if one thing is certain, it’s that another bear market will eventually come.

When it does, you can bet that most of the hastily-developed and over-hyped projects today will fail and disappear. Perhaps trusty old Bitcoin will continue to persevere against all odds, as it has been doing for the last 9 years.

Do you have any other questions about Bitcoin? Let us know in the comments!

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