Whether you learned about bitcoins through tech professionals or you learned about them when the police confiscated bitcoins belonging to the founder of Silk Route, an illegal online narcotic drug market place, chances are you have read about them already. Yet, a lot of people we come across do not know what bitcoins are, how they are used and what their legal value really is. In this article, we explain what bitcoins are, how they are used and what their legal status is.
What is a bitcoin?
Bitcoin is a peer to peer payment system used in a digital realm. The digital currency was introduced in 2009 as an open source software. It has quickly gained acceptance among netizens as a viable form of payment and is often referred to as digital currency, virtual currency, crypto-currency or electronic money. When it is capitalized (Bitcoin), it refers to the technology and network in which it operates. When it used with lowercase (bitcoin), it refers to the virtual currency.
Who controls bitcoin and how is it used?
Bitcoin is not controlled by a single entity and is, thus, known as a decentralized currency. Bitcoins are created by a process called mining. The process involves users authenticating their computing power and verifying their payments into a public ledger. When they do this, they receive newly minted bitcoins in exchange. One can also receive bitcoins in exchange for currencies, services or even products. One needs to use either a web application or a cellphone or a tablet or a personal computer to send and receive bitcoins.
Is it a recognized form of payment?
Though the U.S. bitcoin-friendly authorities have often worried about tax-related issues and money laundering which could be used for illegal and potentially threatening causes. Other countries are not so friendly towards bitcoins. In fact, China does not allow people to exchange bitcoins for its local currency. The European Union discourages people from using bitcoins because it does not come with consumer protections.
At the moment, more speculators have begun to purchase it rather than actual commercial users. Speculators have hoped that bitcoins will increase in value and they have too. It is often believed that bitcoins might soon become mainstream as merchants will feel inclined to use them, thanks to lower transaction fees when compared with credit card transaction fees, which range between 2-3%. Now that we know what bitcoins are, let us take a look at some of the advantages that they have:
• Not so anonymous
Those who use bitcoins are not identified by name, which gives them a sense of anonymity. However, particular transactions can be linked to companies and individuals. In some jurisdictions, it is required that personal information is collected when people buy or sell bitcoins against cash. Even when individuals and companies use different bitcoin address for each transaction, their transaction history always links back to the original user. Thus, we can say that bitcoins are no more anonymous than credit card payments. If this were true, fears about bitcoins being used for illegal and criminal purposes are unwarranted. Each bitcoin transaction can be traced back to the original user; and that is a good thing.
• Wallets and cryptography
We all worry about identity thefts and fake credit card transactions. These fraudulent transactions are becoming increasingly commonplace. Bitcoins, on the other hand, use public-key cryptography. What this means is that a pair of private and public cryptographic keys are generated. A collection of such keys is known as a wallet, in bitcoin parlance. Keys can be generated offline on a computer that is not compromised. Thus, bitcoins could be more secure than credit cards, in a way. However, there have been cases of thefts related to bitcoins as with any other electronic form of payment.
• Alternative to national currencies
There are a number of countries which have terrible economies. Absurd levels of inflation, devaluation of local currencies and other problems have encouraged people to look at bitcoins as an option. Bitcoin users can, thus, circumvent capital controls, currency devaluation, inflation and other economic problems. Many Argentineans have already begun to use bitcoins in place of their own currency as their country is plagued by inflation. Bitcoin could also be used as a form of international remittance. This is particularly useful to people who work in the Middle East and send money back home in other Asian countries.
• Investment option
Many people have begun to buy bitcoins as a long term investment plan. However, bitcoins are very high-risk investment options and it cannot be said what their status will be in the future. For investors who are not very experienced, bitcoins might prove to be very dangerous. Yet, experienced investors have begun to buy bitcoins and its value has certainly increased in recent months. Some investors have also advocated investing in bitcoin mining.
• Acceptance by merchants
There are a number of reasons why merchants would want to accept bitcoins instead of credit cards or other forms of payment. Bitcoins are secure and they are electronic in nature. Though there is a sense of anonymity, the original person can always be tracked back. Moreover, bitcoins have a lower transaction fee than the 2-3% that credit cards usually charge. Companies like Zynga, Clearly Canadian, TigerDirect, Virgin Galactic and others have begun to accept bitcoins as a form of payment.
Though there are several advantages to bitcoins, there are an equal number of disadvantages as well. Let us take a look at why people are still skeptical about using bitcoins.
• Skepticism by banks
Banks have not shown the kind of enthusiasm that investors have toward bitcoins. Many companies that deal with bitcoins have found it difficult to open traditional bank accounts. Lenders are not only wary of bitcoins but also about those who engage in bitcoins. Part of the wariness comes from an assumption that bitcoin users are not reliable.
• Black markets
Mainstream media has often asserted that bitcoins can be used to purchase illegal goods. As evidence, we have already seen that Silk Route used bitcoins as a form of payment. Many gun dealers, gambling websites and drug sellers have used bitcoins to sell their goods without verifying the identity of the buyers. This has often given rise to a flourishing black market for certain kinds of restricted and forbidden goods.
• Money laundering
Many people argue that bitcoins are not suitable for money laundering. The fact that all bitcoin transactions are public makes it quite reliable. However, authorities have their own worries. FBI and the European Banking Authority have both warned that bitcoins might be used for money laundering.
• Ponzi schemes and thefts
Some people believe that bitcoins are nothing but a ponzi scheme run by the mainstream media, heads of central banks and certain economists. The European Central Bank concluded that it is not easy to decide if bitcoins are part of a ponzi scheme. Bitcoin supporters disagree with this type of thinking. It is also feared that bitcoin transactions can lead to increasing thefts online.
There are genuine fears that when computers are infected, bitcoins can be stolen. Malware can be designed by criminals who look for opportunities to steal bitcoins. There are certain malware programs already which do not let people use computers until some form of payment in bitcoins is made.
Should you invest in bitcoins or wait and just watch?
Whether you choose to buy bitcoins for the sake of its novelty or you are really serious about investing in it, consider all the advantages and disadvantages. It is probably better not to invest a lot of money in bitcoins right now until they become more mainstream, if you are a careful investor. As far as the technology goes, it is very impressive and seems to be a promising way to pay online.
If all the problems associated with bitcoins today are cleared, we could very well be witnessing something that could change the way we transact online. Until it becomes clear to us what kind of future bitcoins are heading to, it is difficult to take a side. The technology and the idea behind open source are exciting. Will it find mainstream and legal acceptance across the world? That is something, which we cannot confirm. Probably, it is better to take a wait-and-watch approach for the time being.