The Internet has spawned a new form of currency that’s purely digital called Bitcoin.
Picture this — a high speed car chase with a slew of journalists trying to keep up with a celebrity as they hound him around Los Angeles, California.
The only problem is that inside the lead car isn’t Brad Pitt or even Christian Bale, but a rather unassuming 64-year-old man of Japanese descent named Dorian Nakamoto.
Whether he is indeed the fabled founder is still unclear but the media storm revolving around Bitcoin’s creator is a sign of how much interest it’s generating in technology circles.
In this article we take a look at the concept of Bitcoin and how this so-called cryptocurrency works.
Real world, virtual currency
Today, currency or money is produced by the national banks of each country and is accepted as legal tender to be exchanged for goods or services. While we take it for granted, currency is a pretty abstract concept made real by a few pieces of paper and metal which we can exchange for products that have value to us.
It used to be that countries like the United States backed up its currency with gold reserves but since 1971 this is no longer the case and now its value is determined by governmental regulation or law. This form of money is also known as fiat currency.
Then we have credit cards and online payment gateways like Paypal which make it possible to conduct a transaction without actually exchanging hard cash.
However, when you drill down to it, the system is always based on currency produced by the national banks.
Over the past few years, though, a strange revolution on the Net has started a form of currency known as Bitcoin, created by private individuals without national bank or government involvement.
In fact, the actual creator of Bitcoin itself has been shrouded in mystery — although credited to Satoshi Nakamoto, the name is believed to be a pseudonym and while a few individuals have been identified, none have been definitively proven to be the elusive creator.
V for volatility
Being digital, Bitcoin itself has no built-in intrinsic value, except what its users assign to it. As such, the price of Bitcoin can vary quite a bit.
As a sign perhaps that the currency is gaining more acceptance, the value of Bitcoin has gone up in the last few years — today, the price of a single Bitcoin hovers at around RM1,300, although it has gone up as high as RM5,000.
When it first started, a single Bitcoin was worth very little, and slowly rose to US$1 (about RM3.10) and finally to its current value.
However, if you’re thinking of buying Bitcoin as a form of investment, do be aware that the sheer volatility of Bitcoin does mean that your virtual currency could be worth nothing in the future, or it could be worth a lot.
Is it legal?
This is perhaps the crux of the matter — is Bitcoin legal or illegal?
So far, Bitcoin itself is not illegal and in most countries, there are no restrictions to its use amongst parties who accept it as currency.
However, some countries have moved to limit the use of Bitcoin. China, for example, does not allow financial institutions to deal with Bitcoin.
The situation is similar here and Bank Negara has released a short official statement on Bitcoin in January, stating that “… Bitcoin is not recognised as legal tender in Malaysia. The Central Bank does not regulate the operations of Bitcoin. The public is therefore advised to be cautious of the risks associated with the usage of such digital currency.”
Last month, The Star ran a story on the dangers of Bitcoin (Be wary of virtual money, M’sians told) but the currency is still widely used in technology circles. According to Nook Malaysia chief executive Daniel Yap, the fact that it is not “legal tender” does not make its use a crime. It simply means that Bitcoin is not regulated by Bank Negara and thus will not be recognised by any bank or financial institution in this country as legal tender.
However, it is not illegal for private businesses and users to deal in Bitcoin and Nook Malaysia is one of the local companies that accepts Bitcoin.
According to Yap, even if the government moved to ban Bitcoin use, it would be difficult to stop private individuals from dealing in it.
What is Bitcoin?
Bitcoin as a concept is simple — it’s essentially digital currency. Dig deeper into the concept, however, and it gets fairly complicated.
Bitcoin (or BTC which is also the symbol used for the currency) is defined as a form of cryptocurrency that utilises peer-to-peer transactions, a decentralised system where users across the Internet handle the payment network without a central authority or any kind of middlemen.
Users can make transactions and get paid in Bitcoin almost immediately, much like how it works with more conventional systems like PayPal.
However, where it differs is that because Bitcoin transactions are managed by a peer-to-peer system without various companies (such as your credit card company or PayPal) taking a “cut” of the money, the transaction charge for dealing in Bitcoin is either nil or a lot lower.
As the transactions are processed by machines on the peer-to-peer network, the “peers” within the network actually receive the transaction fee if there is one. This means that transaction fees are received by the community itself instead of a third party.
As for security, users on peer-to-peer network who run the full Bitcoin client have a copy of a virtual ledger called the “block chain” — this contains a list of every Bitcoin transaction ever processed.
The authenticity of each transaction in this ledger is authenticated by digital signatures and as every person running the full Bitcoin client has a copy of it, the transactions are also checked against others in the network.
As you may well imagine, the block chain is quite large and getting larger every day — last we checked, it was about 14GB in size.
Using Bitcoin to pay for goods and services is actually easier than trying to explain it. To get started, all a user needs is to install the wallet application, which is available for Windows, Mac OS X, Linux and even Android.
At its most basic, the wallet app allows users to send and receive Bitcoin currency. While you can run a dedicated application on your PC to send and receive Bitcoins, some sites like Blockchain.info also allow you to perform transactions using a simple web browser.
To be clear, sites like Blockchain.info are not “online banks” and do not actually keep your Bitcoin currency — they simply make transactions more convenient.
Android smartphone users can download the Blockchain app for sending and receiving Bitcoin currency, but due to Apple’s restrictions, there is no such app on iOS.
To receive money, every person gets a public address, which is a long string of letters and numbers. For convenience, this string of letters and numbers can also be represented by a QR code, which can be scanned by smartphones with a Bitcoin app.
This public address allows other users to deposit money into your account but not take money out from it.
The current value of a single Bitcoin is hovering at about RM1,300, which is probably too large to pay for most goods or services. However, it is possible to send a fraction of a Bitcoin — currently, a single Bitcoin can be split up into a fraction of up to a million, so you can send it in much smaller denominations.
Once you install the wallet application, you can actually get bitcoins either by receiving it from other users, or buying it from an “exchange” or simply mining for it.
An exchange is an online company that will sell you Bitcoins for real money. A relatively new development in this country is the so-called Bictoin AVM (automatic vending machines), where you trade real cash for Bitcoin.
When we first started writing this story, there were two Bitcoin AVMs — one in Bangsar Shopping Complex in Kuala Lumpur and another in Gurney Plaza, Penang. There is also a local website at cryptomarket.my which sells Bitcoin Scratch Cards of various denominations similar to mobile phone credit top ups.
Every Bitcoin wallet app has what is called a private address which is similar to your public address in that it’s also represented by a long string of letters and numbers. This private address is essentially the key to unlocking your wallet and allows you to send out Bitcoin currency to others.
Most Bitcoin wallet apps hide your private address from you since it’s not necessary to know it to send or receive Bitcoin.
However, most wallet apps allow you to “backup” this private address by printing it out or writing it down to be stored in a safe place.
It’s important to never reveal your private address, as this represents your actual wallet. Anybody who knows your private address can effectively take control of your wallet and transfer all your Bitcoin out of it into their own wallet.
Mining for more
Mining is the term used to refer to machines that run special software to “mine” for bitcoins. Although the term mining is used, what a machine that runs the mining software actually does is process transactions and secure the network, as well as keep everyone in the Bitcoin network synchronised.
Processing of transactions and securing the network involves a highly secure and complicated encryption system and as such requires pretty hefty computing power.
In the early days of Bitcoin, individual users could easily use a PC to mine for Bitcoins. But as more Bitcoins have surfaced, the system, by design, has become more complicated and requires specialised machines running powerful ASIC (Application Specific Integrated Circuit) chips.
As such, a number of companies have sprung up around the world that run specialised machines dedicated to mining for Bitcoins.
As an incentive for contributing to the system, Bitcoin miners get a twofold reward — first, in the form of transaction fees, and second, the system itself can reward miners by producing new Bitcoins.
Don’t expect to be able to easily mine for Bitcoins using a regular PC — each specialised ASIC-based mining machine is equivalent to 180 PCs with powerful graphic chips installed and as such, using a regular PC for mining could take years to yield any Bitcoins.
Regular users who still want to try mining for Bitcoins can band together to share computing power over a network by joining what’s called a “mining pool”. If you’re interested in mining for Bitcoins check out www.bitcoinmining.com.
Future of Bitcoin
In many ways, Bitcoin is still in its infancy with many countries taking a wait-and-see approach as to whether to accept as legal tender.
This lack of regulation also means that there is effectively no enforcement when there is theft — while there are ways to trace the perpetrators, there is no way to force Bitcoin thieves to return what they’ve stolen.
There are hundreds of vendors across the world that accept Bitcoin as a valid form of currency in exchange for goods and services.
While Bitcoin acceptance has grown in many neighbouring countries, including Singapore and Thailand, according to coinmap.org, which keeps a list of worldwide businesses that accept Bitcoin, only three businesses in Malaysia currently accept Bitcoin as a form of payment. The three are The Nook Bangsar (nook.my), Ked.ai (ked.ai) and Footsteps (www.footsteps.com.my).
The chief executive officer of Nook Malaysia, Daniel Yap, says he started accepting Bitcoins as a “social experiment” since November. Yap, who operates a co-working space in Bangsar, started to accept Bitcoin to help encourage its use in this country.
“If you don’t encourage people to use it, then it will never be adopted,” he said
“Bitcoin may not be the ultimate form of cryptocurrency or decentralised currency, but it’s certainly the most well known. But the whole movement is beyond Bitcoin, as it’s about going towards unregulated currency,” he said.
Right now, though, the percentage of customers who pay via Bitcoin for Nook’s co-working space is very small, according to Yap, and it’s mostly foreigners.
Muaaz Mohamad Nor, owner of Footsteps who operates kayak tours and sells outdoor gear, says that the number of customers who pay via Bitcoin are similarly small, although in his case, they’re mostly Malaysians.
“My opinion is that there are three factors that affect Bitcoin adoption — education, Internet access and desperation,” said Muaaz.
Muaaz explains that in countries where the first two criteria are met, weak currency will usually push people to start adopting Bitcoin as a form of currency.
“The practical reason for me to start accepting Bitcoin is that it’s relatively low-cost for mom and pop shops like mine, and in the wider view, I like the idea of an alternative to fiat currency,” he said.
Unlike fiat currency, which derives its value from goverment regulation or law, Bitcoin’s value is determined by its users and the value they place on the currency.
“If you look at the value of Bitcoin, it suffered three major crashes over the years but its value has quickly risen again. You can’t say that about most other currency crashes,” he said.
According to Muaaz, he used to own some 5,000 Bitcoins which he bought for just five euros in 2007 when he was studying and living in Germany.
“Back then it was hip to pay for stuff using Bitcoin,” he said. When asked about how much of those 5,000 Bitcoins he still holds, Muaaz laughs and said, “None of it!” At current exchange rates, if he had held on it would be worth some RM6.35mil.
However, both Muaaz and Yap have opted to hold on to the Bitcoins they’ve obtained from their businesses rather than convert it to cash.
Arsyan Ismail, chief excutive officer of 1337 Tech Sdn Bhd and creator of. Ked.ai, an online marketplace that also accepts Bitcoin, says that he likes it because of the decentralised, open and instantaneous nature of the cryptocurrency.
Currently, Arsyan enables merchants who sell products on Ked.ai to accept Bitcoin and will convert it to cash for them automatically. However, like the other local online retailers, payments made with Bitcoin on Ked.ai still amounts to a very small percentage.
Arsyan says the biggest hurdle to Bitcoin acceptance is that most people find it very hard to understand the concept, and there are no local exchanges for buying and selling Bitcoin.
“What I’ve seen in Malaysia is that there are two sides — a community of miners who have Bitcoins but don’t know where to sell it, and on the other side, a group who wants to buy Bitcoin but don’t know where to get it,” he said.
The function of Bitcoin exchanges is to bring these two groups together but without an official one the flow of Bitcoins from miners to buyers is a little more complicated, he said.
Contributed by Tan Kit Hoong The Star/Asia News Network
Speculators, known as miners, use powerful computers to solve complex software problems and verify transactions to unlock new bitcoins. They’re finding that the enterprise isn’t as profitable as it once was.
Drawn by the virtual currency’s jump in value last year, digital prospectors have turned the mining industry into an arms race as they buy expensive computing equipment and gobble up electricity. While that worked well as long as bitcoin’s value kept rising, smaller players are now being crowded out by bigger competition, high utility bills and declining prices.
“If you mine at the moment, you have to be very lucky to get anything,” said Mehmet Vatansever, who bought $16,000 worth of mining computers in February to chase after new bitcoins. “It’s a very difficult business.”
Mining, a nod to the excavation of minerals and metal ore, is entirely digital and part of bitcoin’s design, so that the money self-regulates supply and prevents out-of-control inflation. The mining process gets increasingly complicated as more bitcoins are created, driving demand for computing power.
Bitcoins, which jumped to more than $1,200 last year from $12, were trading at about $420 apiece yesterday, according to the CoinDesk Bitcoin Price Index, an average of prices across major global exchanges. China’s tighter controls on alternative currencies, the implosion of the Mt.Gox exchange and a U.S. Internal Revenue Service ruling that bitcoins should be taxed as a property have all weighed on the virtual currency.
While he has been able to create new bitcoins, Vatansever soon discovered that his equipment was on track to earn less than his monthly utility bill of $480. After selling his computers on EBay Inc. in April, Vatansever estimates that he lost a total of about $6,000 on his mining adventure.
In the past week, miners made $14.9 million in revenue, compared with a weekly average of $25.2 million in December, according to Blockchain.info, a bitcoin-data aggregator. The figures represent the number of bitcoins mined plus transaction fees, multiplied by the dollar-based market price.
EBay now features more than 1,600 listings for mining computers, many of them used.
“The mining market has evolved from being mostly isolated ventures to more organized entrepreneurial ventures that are still racing to get an edge with increasingly fast equipment and lower electricity costs,” Gil Luria, an analyst at Wedbush Securities Inc., said in an interview. “At this point, the opportunity for individual miners is very small.”
While individuals give up prospecting, at least two other larger mining companies, KnCMiner and Cloud Hashing, are still generating profits. By scaling up operations, they’ve been able to save costs on cooling and power, making their computers more efficient and cost-effective. KnCMiner also sells mining computers to other miners.
Cloud Hashing, which lets people buy computing capacity in its data center and share in profits, mines about $230,000 to $260,000 worth of bitcoins a day, according to Chief Executive Officer Emmanuel Abiodun.
“We are profitable whether we sell contracts or not — through mining,” Abiodun said in an interview. “Our business model can handle volatility in pricing.”
Mining-equipment suppliers are feeling the cool-down firsthand. CoinTerra Inc., a manufacturer of the powerful computers used to crunch numbers for new bitcoins, has seen new sales shrink by 30 percent in the past three weeks from the preceding period, according to CEO Ravi Iyengar.
Mining-equipment suppliers are also detecting early signs of a shift to new virtual currencies. Approximately 250 KnCMiner customers switched their orders from $10,000 computers to similarly priced alternative-currency mining machines in the past three weeks, according to Cole.
Because they are newer, designed differently and currently mined by fewer people, currencies such as Litecoin can be more profitable, according to CoinWarz, which tracks mining activity.
“The new rush right now is Litecoin,” Colin Lusk, a network engineer in Portland, Oregon, said in an interview.
While he once mined only bitcoins, Lusk now uses five of his eight machines to produce Litecoins and other virtual currencies. Created in 2011, Litecoin is similar in design to bitcoin yet requires less computing power.
A $3,500 computer can produce $25 worth of Litecoins a day for $3 in electricity, while producing $20 worth of bitcoins would cost $17, Lusk said.
Andrew Korb, another miner, said buying bitcoins outright is easier than participating in the mining arms race. While Korb and fellow investors have spent 900 bitcoins on mining equipment since last year, they have only generated 77 units of the virtual currency, he said.
“People do the math,” said CoinTerra’s Iyengar. “If the price goes down significantly, people realize they may be better off buying bitcoins directly from an exchange rather than buying machines.”
Contributed by Olga Kharif Bloomberg
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