Bitcoin; Its Past and Future
By Brendan Wilson
May was unkind to Bitcoin. Last week, China banned its banks from providing services related to cryptocurrency transactions. A few days prior, Dogefather Elon Musk tweeted that Tesla would no longer accept Bitcoin as payment for its vehicles.
The ensuing 40% nosedive from its $63,000 April high is just one more loop-de-loop in Bitcoin’s decade-long roller coaster ride. It only goes up, except when it goes way down. It is universally loved, except by those that detest it. BlackRock CEO Larry Fink claims that Bitcoin could soon become a “great asset class.” Warren Buffet has called it “rat poison.”
Despite the volatility and mixed opinions, you can’t swing a dead cat these days without hitting someone who hasn’t considered blowing their stimulus check on Bitcoin. How did this virtual currency go from obscure curiosity to a topic du jour on CNBC, and will it ever achieve its aim of upending the way we pay for things?
In 2008, while the subprime inferno engulfed our banking system, someone calling themselves Satoshi Nakamoto published a white paper introducing a digital currency enabling users to transfer money without the need for costly, inefficient intermediaries like credit card companies or banks. The following year, he released the software, and the Bitcoin era was born.
The technology was brilliantly conceived. Each bitcoin is a token of virtual currency. Users with a digital wallet can transfer Bitcoins to one another as payment for goods and services. Transactions are recorded on the blockchain, a digital ledger that links each transaction to all previous ones. A vast global network of computers voluntarily reviews and verifies each transaction, adding it to the blockchain. Each volunteer in the network is paid in Bitcoin for verifying transactions in a process called “mining.” But before a miner can be rewarded, she must solve a mathematical problem called a proof-of-work (PoW). As more miners join the network, the PoW problems become more difficult, requiring more computing power. This is why managing the ever-growing blockchain requires more energy than is used in all of Argentina.
In summary, if I send Bitcoin to Mikhail in South Africa in exchange for a contraband liger, the transaction will be verified and added to the blockchain by Yaroslav in the Ukraine, who will receive Bitcoin for his trouble.
Back to Satoshi. In 2009, he mined the first Bitcoins, then mysteriously vanished a year later, never to resurface. Adoption of the cryptocurrency he created grew through message boards and tech forums, slowly drawing the attention of anarchists and libertarians intrigued by the idea of a payment system not lorded over by a government.
In the early months, the lack of merchants willing to accept Bitcoin rendered each token basically worthless. On May 22, 2010, Laszlo Hanyecz forked over 10,000 bitcoins for two Papa John’s pizzas. Hindsight being what it is, he would later be ridiculed by the crypto-verse, forced to relive his humiliation each year on “Bitcoin Pizza Day.”
But Laszlo does not suffer alone. In 2009, James Howells joined the expanding mining network, eventually stuffing his digital wallet with 7,500 Bitcoins, but tossed his computer in the rubbish heap after his girlfriend protested the noise it made while mining. Somewhere in a British landfill there lies a $300 million hard drive. Bollocks!
Early Bitcoin disciples would have to wait until 2011 for the currency’s value to rise to $1. Its price climbed further the following year when Coinbase joined the growing number of online cryptocurrency exchanges, improving access and adoption. Momentum continued to build when criminals realized that they could sell cocaine and ligers in exchange for this unregulated, anonymous currency in online marketplaces like the Silk Road. In 2013, a viral Bitcoin buying binge raised its price to $1,213, before it sold off and settled in a range of $650 to $800.
Despite a few hiccups in 2014 (namely an outage at crypto exchange Mt. Gox during which 850,000 Bitcoin were forever lost), the popularity of cryptocurrency had grown enough to stimulate the creation of imposter coins. Ripple, Litecoin, and Dogecoin, that darling of meme investors, were among thousands of crypto coins claiming to be the new, better Bitcoin.
In 2015, Ethereum was introduced, becoming Bitcoin’s first legitimate contender. Unlike Bitcoin’s blockchain, the Ethereum blockchain allowed users to enter into “smart contracts,” in effect recording more robust information in each transaction block. This technology enabled Initial Coin Offerings (like stock initial public offerings without parental supervision) and would later pave the way for the NFT craze.
In 2017, the derivatives market exchange CME Group took a huge step toward mainstreaming cryptocurrency by providing investors a platform on which they could trade Bitcoin futures. Its price soared above $19,000 before losing steam and eventually settling well below $10,000.
Bitcoin took a beating during the market selloff brought on by the pandemic, eventually reaching a price low enough to attract a tidal wave of investment. Microstrategy bought $250 million, Square Inc $50 million, and Paypal allowed users to buy, hold, and sell Bitcoin using its platform.
Which brings us back to Elon. In January, Musk added #bitcoin to his Twitter profile. He then incited a buying bonanza when he announced that not only would Tesla accept Bitcoin for its cars, but that the company had purchased $1.5 billion of it.
This short history shows that Bitcoin has minted more than a few crypto millionaires, but what about its dual aim of replacing government issued money and challenging gold’s supremacy as a store of value?
First, Bitcoin is much too inefficient to challenge currencies like the Dollar or the Euro. It can only process 10 transactions per second (a throughput much too low) and its transaction fees are far too expensive (and rising). Additionally, central banks are introducing cryptocurrencies of their own that don’t require cooking the planet to maintain. China is already beta testing a crypto Yuan and EU Central Bank President Christine Lagarde recently declared that the EU will have a cryptocurrency by 2025. Even if these were to fail, governments would quickly clamp down on any encroaching threat to their monetary sovereignty. Last month, China (who doesn’t give a dogecoin about the environment) cracked down hard on Bitcoin, citing "illegal coal extraction."
The second aim is even more dubious. Like Bitcoin, gold is scarce, unbacked by assets, and can be held outside financial markets. Investors are drawn to gold as a haven during difficult times and as a hedge against a volatile stock market. But Bitcoin is incredibly volatile when compared to gold (see chart) and its price fluctuations tend to move with the stock market, removing its appeal as a hedge. Furthermore, institutional investors like pension funds and insurance companies will avoid at all costs an asset whose fortunes “rise and fall with Elon Musk’s mood,” as Bloomberg’s Mark Gongloff puts it.
Many suckers have been made prematurely dancing on Bitcoin's grave. Trust me, I’m no dancer (ask my wife). The “greater fool theory” could drive its price over $100,000 before Tesla’s next earnings call. What do I know? It is, however, highly unlikely that Bitcoin will upend central bank currencies or challenge the supremacy of gold. Bitcoin's role is and will remain a wild ride on which steel spined investors can white knuckle their way toward stratospheric returns… or horrible losses.
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