Bitcoin is a cryptocurrency that a pseudonymous group or person called Satoshi Nakamoto invented in 2008. It is the oldest cryptocurrency and the largest by market capitalization.
Bitcoin is different from government-issued fiat currency. Instead of relying on a centralized institution that controls and issues the currency, Bitcoin is a form of decentralized, peer-to-peer money that uses a distributed ledger to verify transactions.
The history of bitcoin goes back to the cypherpunk movement. The cypherpunks were a group of privacy advocates and programmers that believed the internet would lead to increased government control and surveillance.
They made it their mission to protect people from privacy-invading governments without violence or politics. They believed computer code and software, available to everyone, could protect internet privacy and freedom. Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 18ff.
This computer code should be open-source, widely available and distributed to make it hard or impossible for governments to stop it from spreading. To cypherpunks coding is as an expression of free speech.
One of the early achievements of the cypherpunks was the development of public key cryptography. Despite pushback from the government, they believed anyone should be able to send a private message on the internet.
Using cryptography, the cypherpunks developed protocols like Pretty Good Privacy (PGP) that made it possible for anyone to use military-grade encryption to privately store and send messages on the internet. Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 20.
It became the basis of tools like the popular messaging app Signal.
While the cypherpunks are behind many privacy-enhancing technologies and applications, they also tried to create digital money that governments couldn’t censor or control.
All of their early attempts to create digital money ultimately failed because they required a centralized accounting ledger on somebody’s computer or server farm.
Whether this computer or server farm belonged to an individual, organization or company didn’t matter. Due to their centralized nature, governments could easily target and shut down these early forms of digital money.
Even if governments didn’t shut down these digital monies, they required trust. Anyone who wanted to use the money had to trust the operator of the computer or server farm. This centralized instance needed to keep a copy of all transactions and account balances.
If the individual or company that issued the digital money wanted to, it could steal funds or censor transactions. It could also change the rules of the protocol, such as inflate the money supply against users’ will. Or it could accidentally go bankrupt.
Due to these reasons, all early forms of digital money that originated from the cypherpunks failed or never surpassed the experimental stage. Despite this, they all contributed to the creation of Bitcoin.
Notable precursors of digital money were DigiCash, developed by David Chaum in 1989. Other important stepping stones toward the creation of Bitcoin were b-money by Wei Dei and bit gold by Nick Szabo, which appeared around the same time in 1998. Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 24ff.
One year earlier, in 1997, cypherpunk Adam Back developed a form of anti-spam technology called Hashcash. Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 25ff.
This invention by Adam Back was a huge step forward in the development of digital money. Although Hashcash originated as anti-spam technology, it laid the foundation for Bitcoin’s proof-of-work consensus mechanism.
In 2004, another cryptography and privacy enthusiast called Hal Finney announced reusable proof-of-work (RPOW), which was another important step forward in the development of Bitcoin. Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 27. Finney would later on become the first person to receive a bitcoin transaction from Satoshi.
Reusable proof-of-work made it possible to attach bit gold to an email and verify the transaction with a network of open-source servers. This way recipients of the bit gold could receive a bearer asset with verifiable costliness.
The problem was that reusable proof-of-work still relied on centralized servers. Ultimately, it failed for the same reason other early experiments in digital money failed. Reusable proof-of-work was centralized and required trust in the person or company running the servers.
Despite of its centralization problem, Finney’s reusable proof-of-work technology became an integral part of Bitcoin’s design.
However, it was only when Satoshi Nakamoto combined lessons from earlier experiments with digital money and implemented proof-of-work technology in a decentralized way that digital money became truly feasible.
In October 2008, Satoshi Nakamoto posted a whitepaper to a cryptographic mailing list. The title of the whitepaper was “Bitcoin: A Peer-to-Peer Electronic Cash System”. Nakamoto, Satoshi: Bitcoin: A Peer-to-Peer Electronic Cash System (2008)
While many initially rejected the idea as another experiment in digital money which would inevitably fail, it caught the attention of cypherpunks that had worked on earlier forms of digital money.
They saw that Bitcoin was something new. Satoshi had combined earlier research and experiments conducted by the cypherpunks in a way that nobody had done before.
Instead of using a centralized accounting ledger, Satoshi found a way to distribute the ledger across many different computers. The key difference here was that Bitcoin was the first attempt at peer-to-peer money. This meant, an entire network of computers would keep track of the transactions instead of a single computer or server farm.
Each computer, known as a full node, keeps a copy of the entire transaction ledger. This ledger includes every single transaction that ever happened on Bitcoin, including the very fist one.
This means, governments can’t easily shut down or ban Bitcoin. If they shut down one full node that kept a copy of the accounting ledger, all the other nodes would still be operational. Similar to a game of whack-a-mole, a new node would pop up somewhere else.
The more full nodes run a copy of Bitcoin, the more decentralized the digital money becomes. Every time a new transaction happens on Bitcoin, all full nodes verify and confirm the transaction. If one individual node were to attempt to steal money or censor a transaction, all other nodes would reject the dishonest node. Nakamoto, Satoshi: Bitcoin: A Peer-to-Peer Electronic Cash System (2008)
This eliminates a single point of failure. In fact, Satoshi had created a trustless system. Since no individual node could steal funds, censor transactions or change the rules of the protocol, Bitcoin doesn’t require trust.
The Bitcoin code is open-source and auditable by anyone. The more full nodes run a copy of Bitcoin, with a backup of all transactions, the more decentralized and censorship-resistant the system becomes.
By combining zero trust peer-to-peer technology with Back’s proof-of-work technology, Satoshi Nakamoto was able to overcome a problem known as the Byzantine Generals Problem.
This problem was widely regarded as difficult to solve in computer science. Lamport, Leslie et al.: The Byzantine Generals Problem, In: ACM Transactions on Programming Languages and Systems, Vol.4, No. 3, pp. 382-401 (1982)
Imagine an army consisting of a dozen Byzantine Generals posted in different locations around an enemy base, looking to perform a surprise attack. The generals need to coordinate the attack. But they can’t be sure some of the other generals aren’t traitors.
How could they reach consensus about a strategy while assuming that some generals are traitors? Could they trust communication between each other? How could the honest generals come to an agreement and succeed despite some generals being dishonest and potentially trying to sabotage?
Assuming that not all generals are honest, the generals can’t effectively reach consensus in a decentralized way. This, in a nutshell, is the Byzantine Generals Problem.
In decentralized computer systems, this problem created a huge barrier. Especially when it came to digital money, the network needed to make sure a few dishonest nodes couldn’t censor transactions, steal funds or spend the same coins twice.
On computers, its easy to create a copy of a file. If someone were to create a digital file that acted as a coin, how could you prevent someone from just making a copy of that coin and spending it two times or a million times?
This is the double spending problem. Solving this problem in a decentralized network requires overcoming the Byzantine Generals Problem. If billions of people used the same decentralized digital money, how could you trust that one or a few hostile nodes didn’t disrupt the system ? How could you make sure a dishonest node didn’t spend the same coins over and over again?
Satoshi solved the Byzantine Generals Problem using zero trust peer-to-peer networks and a unique implementation of Adam Back’s Hashcash proof-of-work system. Nakamoto, Satoshi: Bitcoin: A Peer-to-Peer Electronic Cash System (2008) When he presented his approach in the Bitcoin whitepaper, those with a deep understanding of computer science and digital money realized that Bitcoin was different from prior attempts at creating digital money.
Bitcoin could actually work from a technological perspective. It overcame the Byzantine Generals Problem, prevented double spending and other disruptions by dishonest nodes. Bitcoin had a real shot at being decentralized digital money.
It implemented and built on earlier ideas by the cypherpunks. With Bitcoin, everything came together. The idea caught on quickly and drew in many smart and talented developers that continued working on, contributing to and improving Bitcoin in the next decade.
Satoshi Nakamoto eventually stopped participating in discussions on the cryptographic mailing list and stepped back as a leading Bitcoin developer. Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 327ff. Other developers took over, all contributing to Bitcoin’s open-source code.
To this date, there is much controversy, speculation and mysticism surrounding Satoshi Nakamoto’s personality and true identity. This lack of consensus surrounding Satoshi’s true identity led to Bitcoin largely becoming a community without a central leader.
Since the software is open-source, anyone can participate. However, in order for an update to become effective and for Bitcoin’s protocol rules to change, this requires a majority of full nodes upgrading to the new Bitcoin client. Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 214ff.
If someone were to just copy the Bitcoin open-source code and change the rules, a majority of Bitcoin nodes wouldn’t upgrade to this new client and continue running the old version.
While miners, investors and companies in the Bitcoin industry do have some influence, the blocksize war showed that they do not control Bitcoin and cannot easily change its protocol rules even when tapping into large sums of money and deploying lobbying campaigns.
Changing bitcoin, such as increasing the total supply of coins, requires consensus among a majority of the community, including regular users running full nodes.
Any protocol changes that appear to be unfavorable to the majority of the community, such as diluting the total number of coins and devaluing each bitcoin, is likely to be rejected. This would lead to a hard fork, and most likely, a new alternative coin.
This new coin would have its own transaction history, ticker symbol and price. It wouldn’t be Bitcoin anymore. Due to this phenomenon, the most crucial rules of Bitcoin have been set in stone from day one when Satoshi released the code.
Any changes to the protocol usually happen slow, take several years and require consensus among a majority of the community including full node operators.
Updates that are compatible with older versions of Bitcoin are referred to as soft forks. Bitcoin has undergone several soft forks such as SegWit and Taproot, which were backed by an overwhelming majority of developers, miners, exchanges and full node operators.
This makes Bitcoin different from government-issued currencies. Governments and central banks can change the rules, inflate the money supply and conduct monetary policy without requiring public consensus.
The blocksize war was a conflict over Bitcoin’s protocol rules.
Many people in the community believed that Bitcoin needed a larger blocksize limit. The blocksize determines how many transactions can be included in each Bitcoin block. Bitcoin works as a distributed ledger. This ledger consists of blocks and grows by a new block approximately every 10 minutes.
Each block usually contains several thousand transactions. Because of this, the technology behind Bitcoin and other cryptocurrencies is often referred to as blockchain technology. Each full node holds a copy of the entire blockchain.
The blockchain is simply a chain of all transactions that ever occurred since its inception, organized in blocks. Depending on the blocksize limit, more or less transactions can be included in every single block.
Bitcoin’s blocksize limit was 1MB when Satoshi released the first client. Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 1ff. However, as Bitcoin adoption grew, blocks often became full and transactions had to wait on the sideline before they could be included in a block. In this sense, many people believed the network was getting congested.
As a result, they called for an increase in the blocksize limit. To this group of people, colloquially referred to as large blockers, Bitcoin’s small blocksize limit made it unusable as a currency and would eventually lead to the payment network’s failure.
For the other side, known as the small blockers, Bitcoin’s small block size limit wasn’t a problem. They argued that Bitcoin wasn’t just a payment network but a new form of money. Bitcoin functioned more like a settlement layer and each bitcoin was a form of base money.
To them it made more sense that high-volume, daily transactions took place on a secondary layer. This second layer, called the lightning network, could be built on top of Bitcoin and would allow for almost instantaneous and free transactions with higher volumes than Visa and MasterCard process on a daily basis. Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 66ff.
These transactions, which happen on the lightning network, would then be bundled together into one transaction and settled on Bitcoin’s blockchain.
For the small blockers, this overcame the scalability problem and maintained the security and robustness of the Bitcoin network. But at the time, the lightning network was still years from being deployed.
The large blockers wanted a solution fast or else they believed Bitcoin would be rejected by merchants. They thought users would abandon Bitcoin in favor of alternative cryptocurrencies that were faster, cheaper and less congested.
The small blockers and large blockers weren’t able to agree on this matter. The large blockers proposed several alternative versions of Bitcoin that included an increase in the blocksize limit. However, these clients were not compatible with older versions of Bitcoin, which small blockers viewed as a major threat.
The proposed updates were hard forks. These hard forks risked the creation of alternative coins unless a majority of Bitcoin network participants agreed to run the new version.
Despite this concern by small blockers, large blockers proposed several hard forks. This led to the creation of Bitcoin XT, Bitcoin Classic, Bitcoin Unlimited and Bitcoin Cash. Most of these alternative clients either never activated or failed shortly after. Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 71ff.
The most notable Bitcoin hard fork is Bitcoin Cash. Bitcoin Cash doesn’t come with the same blocksize limit as Bitcoin and still exists today. However, it resulted in two alternative coins with separate blockchains, ticker symbols and prices.
The blocksize war showed that changing Bitcoin’s protocol rules is difficult. Without patience, long preparations and consensus among the majority of participants, including node operators, Bitcoin won’t change. At most, a hard fork would result in alternative coins.
The way Bitcoin handles the issuance of new coins is through a process called mining. Bitcoin mining is based on Adam Back’s Hashcash, which first introduced proof-of-work technology as an anti-spam measure.
When Bitcoin started out, running a full node and mining bitcoin were the same thing. Full node operators could use their computers to mine new bitcoins.
Proof-of-work mining means that a miner’s computer solves extremely complex mathematical problems using electricity. Around every 10 minutes, one of the computers participating in these mathematical problems soves the problem and receives a reward in the form of bitcoin. Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 20ff.
This block reward comes in the form of new bitcoins that didn’t exist before. Satoshi used Back’s Hashcash to solve the issuance of new coins. To explain it in a simplified way, Bitcoin mining works like a lottery.
Every time a luckily computer wins the lottery, a new block is mined. This new block, which contains all recent transactions, is then added to the blockchain. The lucky computer that mined the new block gets the block reward.
Bitcoin was programmed in a way that every 210,000 blocks the block reward is cut in half. This happens to be around every four years. At the very beginning, the block reward was 50 bitcoins. On November 28, 2012, the block reward dropped to 25 bitcoins. Coin Market Cap. “Bitcoin Halving Countdown” Accessed May 6, 2022.
After another 210,000 blocks, on July 9th, 2016, the block reward dropped to 12.5 blocks.
The Bitcoin community calls these events “halving”. The block reward will continue dropping by 50% every 210,000 blocks until approximately the year 2140. By then, all bitcoins are in circulation. This means, the incentives will likely have to shift to transaction fees alone.
As adoption grew and more miners competed for the same block reward, the difficulty of mining blocks increased.
During the early days of Bitcoin, anyone could mine new bitcoins using a regular computer or laptop. Today, bitcoin mining requires specialized hardware called Application-Specific Integrated Circuit (ASIC).
These computers were specifically designed to mine bitcoin. They have extremely powerful computer chips. Much of bitcoin mining is now industrialized and happens in large mining farms.
While home mining is becoming a thing again, those with access to cheap electricity and cooler weather conditions can mine bitcoin more profitably.
The increasing competition for Bitcoin’s block reward led to a separation of miners and full node operators that don’t mine bitcoin. Miners need to use ASICs to mine new blocks that contain recent transactions.
Full nodes, which run on a regular laptop, computer or Raspberry Pi, validate new transactions once miners mined them. Bitcoin was set up in a way that mining new blocks takes a lot of computing power.
Validating that the mined blocks are valid takes little to no computing power and can be done by regular full node operators.
Satoshi designed Bitcoin to produce a new block around every 10 minutes. In order to ensure this, Satoshi built a mechanism called difficulty adjustment into Bitcoin. Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 22ff.
Whenever the number and collective computing power of miners increases, the difficulty adjustment makes it harder to mine new bitcoins. If this were not the case, more miners competing for the same blocks would result in new blocks being found faster.
On the other hand, if there is a sudden drop in miners, Bitcoin’s difficulty adjustment makes it easier to mine new bitcoins. The difficulty adjustment is a way to keep Bitcoin’s block interval stable at around 10 minutes.
The combined computing power of all bitcoin miners is called hash rate. When Bitcoin’s hash rate drops, mining gets easier. When the hash rate increases, mining gets harder.
The difficulty adjustment prevents fluctuations in bitcoin’s hash rate bringing Bitcoin out of balance.
Satoshi capped the total supply of Bitcoin at 21 million coins. By approximately the year 2140, all bitcoins will be mined. Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 2. This means, Bitcoin has a disinflationary, programmatic monetary policy.
Some people falsely believe that Bitcoin is deflationary. Until 2140, the supply will grow. This means, Bitcoin is inflationary. But with each halving, the inflation rate drops by 50%. When the pace of inflation slows down, this is disinflation.
Eventually, the issuance of new coins stops and the mining industry will have to readjust. At this point, Bitcoin will have a fixed supply of 21 million coins. Some of these coins might get lost but there will never be more.
By the year 2140, Bitcoin will neither be inflationary, deflationary nor disinflationary. However, in case demand continues increasing, the fixed supply could lead to a steady increase in purchasing power. This would lead to deflation, meaning goods and services priced in bitcoin might get cheaper over time.
Critics of Bitcoin view it as a purely speculative asset without intrinsic value. Some people compare it to a Ponzi scheme. Quinn, William & John, Turner D.: Boom And Bust. A Global History of Financial Bubbles (2020), pp. 253ff. According to them, the bitcoin price only increases if there is a greater fool that will buy at a higher price.
To them, people that got in early are making money by selling coins to people that joined later. This would mean, Bitcoin operates in a similar way as a Ponzi scheme. If one day there is nobody willing to buy at the higher price, a broad sell off could result in the price going to zero. This is why critics often compare Bitcoin to the tulip bubble that occurred in 1637.
Those that see value in Bitcoin don’t subscribe to this theory and believe that it has many use cases and properties that give it value. To them, it serves as an inflation hedge, a superior payment network and a decentralized, censorship-resistant from of money.
Those that share the original vision of the cypherpunks believe that it can help liberate people from surveillance, totalitarian regimes, financial repression and government control.
Some critics view Bitcoin as outdated technology. They argue that the blocksize limit is too small and that Bitcoin lacks features, such as smart contracts, that other cryptocurrencies like Ethereum and Solana have.
After Bitcoin’s inception, tens of thousands of alternative cryptocurrencies, known as altcoins, popped up. Some of them promised technological improvements. Others attempted to serve different niches and tackle entirely different problems.
These alternative cryptocurrencies don’t all market themselves as digital money or as competitor of Bitcoin. Nevertheless, critics view it as outdated technology. According to them, an alternative cryptocurrency will eventually take over Bitcoin and reduce its importance. Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 1ff.
This would mean that Bitcoin could lose a significant amount of market share. The price could drop significantly or even to go zero.
Another criticism of Bitcoin is its energy consumption. Critics point out that it uses as much energy as small country. The EU has even proposed an outright ban of proof-of-work mining to stay in line with environmental goals. European Union. “Proposal for a REGULATION OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL on Markets in Crypto-assets, and amending Directive (EU) 2019/1937” Accessed May 9, 2022.
Environmentalists argue that Bitcoin’s carbon footprint is too big, making it unsustainable and dangerous for the environment. They advocate the use of less energy-intensive cryptocurrencies or request a switch to an alternative consensus mechanism such as proof-of-stake. Greenpeace. “Change The Code: Not The Climate – Greenpeace USA, EWG, Others Launch Campaign to Push Bitcoin to Reduce Climate Pollution” Accessed May 9, 2022.
On the other hand, some people have argued that Bitcoin could accelerate the transition to renewable energy sources. Square: Bitcoin is Key to an Abundant, Clean Energy Future, in: Bitcoin Clean Energy Initiative Memorandum (2021). There are also cases where Bitcoin can make better use of stranded energy. Many in the community reject the idea that Bitcoin’s energy-usage is wasteful.
Their point of view is that proof-of-work mining secures the entire network and makes it a safe and robust store of value that can act as base money and one day potentially as neutral reserve asset.
To them, all the data points to Bitcoin incentivizing renewable energy and being a net positive for the environment. They argue that most claims about Bitcoin’s carbon footprint are unscientific and stem from a misunderstanding of how proof-of-work mining works.
Bitcoin’s environmental impact remains highly debated and controversial.
|↑1||Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 18ff.|
|↑2||Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 20.|
|↑3||Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 24ff.|
|↑4||Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 25ff.|
|↑5||Gladstein, Alex: Check Your Financial Privilege. Inside the Global Bitcoin Revolution (2022), pp. 27.|
|↑6, ↑7, ↑9||Nakamoto, Satoshi: Bitcoin: A Peer-to-Peer Electronic Cash System (2008)|
|↑8||Lamport, Leslie et al.: The Byzantine Generals Problem, In: ACM Transactions on Programming Languages and Systems, Vol.4, No. 3, pp. 382-401 (1982)|
|↑10||Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 327ff.|
|↑11||Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 214ff.|
|↑12, ↑20||Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 1ff.|
|↑13||Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 66ff.|
|↑14||Bier, Jonathan: The Blocksize War. The Battle For Control Over Bitcoin’s Protocol Rules (2021), pp. 71ff.|
|↑15||Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 20ff.|
|↑16||Coin Market Cap. “Bitcoin Halving Countdown” Accessed May 6, 2022.|
|↑17||Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 22ff.|
|↑18||Champagne, Phil: The Book Of Satoshi. The Collected Writings of Bitcoin Creator Satoshi Nakamoto (2014), pp. 2.|
|↑19||Quinn, William & John, Turner D.: Boom And Bust. A Global History of Financial Bubbles (2020), pp. 253ff.|
|↑21||European Union. “Proposal for a REGULATION OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL on Markets in Crypto-assets, and amending Directive (EU) 2019/1937” Accessed May 9, 2022.|
|↑22||Greenpeace. “Change The Code: Not The Climate – Greenpeace USA, EWG, Others Launch Campaign to Push Bitcoin to Reduce Climate Pollution” Accessed May 9, 2022.|
|↑23||Square: Bitcoin is Key to an Abundant, Clean Energy Future, in: Bitcoin Clean Energy Initiative Memorandum (2021).|