06/12/2017
*Wednesday Talking Points: Bitcoin basics*
Bitcoin has become a trending topic of discussion. Let's try to understand the basics behind it.
In generic sense, asset classes can have 3 categories, (i)capital assets - which have source value (e.g. equities, bonds), (ii) consumables or transformable assets, which can be consumed or transformed into a source of value (e.g. commodities such as oil, foodgrains) and (iii) Store of Value (e.g. stones, paintings) assets which provide value when exchanged or sold. Gold can be categorized in the third category. Although there would be arguments to put in 2nd category as jewellery can be made from it, but apart from that, it doesn't provide real utility like oil or foodgrains.
Gold has value because of its universal acceptance as store of value, it doesn't provide utility benefits or cashflow. As every one in the world has decided to assign value to it because of various reasons, it is valuable.
The same applies to a 64 digit hexadecimal number (hashcode) known as bitcoin, where people at large have decided to assign it some value. The hash code is secured because of some sort encryption technology is used and its duplication is avoided.
Mr. Satoshi Nakamoto (an unknown person) has designed bitcoin and created white paper (rules of the game) on bitcoin mining. Bitcoin mining is an activity where user has to solve a numeric problem and will get bitcoins as a reward to solve the problems without paying for it. The same can be transferred to others or on bitcoin exchanges for money. The miners are not solving mathematical problem but are trying to be first to come up with a code loosely based on guess work. The chance of guessing the right code is less than 1 trillion. That's why the complex computing machines are needed, to improve chances. The mining involves investment in computing.
Bitcoins might have become acceptable because of its characteristics such as transferability, security (encryption), durability, divisibility, difficult to duplicate, its mining involves cost, no third party (P2P framework), limited supply (there can be only 21 bn) etc. Although some say that its use mainly started for the payment of smuggled things and drugs.
Th objective of Mr. Satoshi was to create a decentralized system where there won't be any intermediary to transfer of funds. He has used block chain technology for the same. It's objective was to have a universally accepted electronic currency.
Regulators in most of the countries are yet to give any legal status to it because it doesn't have any underlying. Bitcoins are trading at ~$11,000 from ~$5 in 2012. But its future still looks uncertain and would be dependent on many factors.
Note: The idea of this article is to explain the basic rationale behind bitcoin. Source: Various Publications.
