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What is Bitcoin?

Via LinkedIn : A long time ago on the island of Yap in Micronesia people used stones as money. Back then some African communities used sea shells as money, people in Asia used salt as money, and people in North America used beads as money, but on the island of Yap, you used stones as a way of saving, making payments and keeping track of prices. A lot of small stones would get you a really big stone; some were the size of an elephant and weighed more than 8,000 pounds. Obviously, you didn’t take the big stones home – you left them where they lay – but everyone knew the big stone was yours.

The people of Yap knew that stones did not need to be valuable to be useful. The stones became valuable precisely because they served as an effective way to save, pay, and price things.

Money Attirbutes2

The people of Yap help us understand how anything with certain attributes can function as money. Economists and anthropologists generally agree that those attributes are:

Money Attirbutes2

Even though we are taught that people first used barter for trade and then invented money because barter was too hard, anthropologists agree that’s inaccurate; barter never happened. Before people invented money we did not barter, but instead traded for promises to pay in the future, a form of credit. Because it was hard to keep track of those credits and because it was hard to assign an exact value to each credit we invented a way to keep track each credit.

That is what happened in the island of Yap. Before having any form of money, you would catch some fish and other people would ask you for some. When you gave fish to someone else, you had to remember that they owed you (and they also had to remember they owed you) and that they should eventually pay you back with something that “felt” of similar value. You were giving them credit. This system worked for thousands of years, but it was inefficient. It was hard for everybody to remember these credits and it was hard for everyone to agree exactly on how and when they should be repaid.

Until someone in Yap came up with a new technology: Instead of having to remember these subjective credits lets keep track of each credit, objectively, by registering them in a ledger. That ledger were the stones. So now every time someone made a promise to pay, they gave stones instead. That technology took off and was adopted by everybody in the island because it was better for everyone. And other things, like salt, beads and seashells, which were also scarce, durable, fungible, divisible, verifiable and portable, were adopted in other places because everybody benefitted from the new system. Soon it was impossible to find any tribe of civilization that had not adopted ways to keep track of credits, and we called that new technology “money”.

The main benefits of money are that it allows us to objectively keep track of credits and it allows us to save, to make payments and to price things more objectively. And, maybe even more importantly, money transformed what was a credit between two people into transferable credit; now you can use that credit not only with the person that gave it to you but with absolutely anyone else in the community. Money is transferable credit.

As the people of Yap grew more open and trade expanded, existing forms of money started failing. For example, stones like the ones used on Yap were hard to transport, and while salt was scarce in one place, it was plentiful in another. It became important to find another, more universal form of money.

Around this time, people also started to figure out that gold was a startlingly effective universal form of money – it was universally scarce, durable, fungible, divisible, verifiable and portable. It turns out that gold was nearly perfect as a form of money. This is why, for 5,000 years, gold has been the world’s most reliable store of value. During that period of time, nothing has kept its value better than gold (not even land and other essential resources).

Gold has little intrinsic value; you cannot eat gold, use it for shelter or for something useful, just like the stones of Yap. We use it for jewelry not because it looks nice, but to display power and wealth.

A few hundred years ago, the banking system emerged offering services to make gold easier to transport, divide and verify. For a tiny fee, banks safely stored gold in vaults and circulated paper bills exchangeable for that gold. This system served everyone well for over 200 years. Then about 40 years ago, we decided to get rid of gold entirely and started using paper bills themselves, backing them with government promises. This also made it easier for governments to issue money when they needed it.

Around this time, we also began to figure out how to do away with the paper entirely. We started creating digital money – bank accounts, credit cards, and the like – in place of those bills. But this digital money is not really digital money. It is an electronic representation of the same old paper bills.

Money is information, but while information has become freer and faster, money is still much harder to move than information. With the costless stroke of a key, someone in Chicago can send an email to someone in Jakarta in real time. Yet, if that same person in Chicago wants to send ¢1 to the same person in Jakarta, it could take days or weeks to get there, not to mention cost anywhere from ¢50 to $50. So while money is and always has been information, the information revolution has really not changed money much at all – electronic money continues to have many of the disadvantages of physical money. In some cases, electronic systems are even worse; after all, if the guy in Chicago and the guy in Jakarta meet in person, they can exchange a ¢1 piece effortlessly with no one’s help.

The electronic money we have today is like a pig trying to fly with paper wings; we can work on improving the wings all we want, but fundamentally, pigs are not made to fly.

Bitcoin is the first form of truly digital money, built from the ground up and designed for an era of information rather than patched together with duct tape. Consider the following attributes:

Money Attirbutes2

 

If we were to rank gold, cash and Bitcoin according to the six key attributes of money, the results might come out like this:

Money Attirbutes Order

 

Most importantly, though, bitcoin already has traction. There are over 7 million people using bitcoin around the world and more than 100,000 people buy their first bitcoins every week, every day more than 50,000 people use it to make transactions equaling more than $50 million and the total value of bitcoin has reached approximately $5 billion.

So, might someone one day come up with a technology superior to bitcoin? Perhaps, but someone could come up with a better email protocol today, too, and it would almost certainly prove irrelevant. Because a form of money, like a protocol, needs traction; a citizen of Yap could hardly have stood up one day and said “shells are better than stones”. Bitcoin already has traction, and that traction is spreading rapidly.

Money today serves the same fundamental purposes for us that it did for the people of Yap – serving as a way to save, pay and price goods and services. What has changed is the form. Bitcoin is the next logical step. Even at the cutting edge of internet banking, most money today is still fundamentally analog. Bitcoin finally gives us truly digital money.

The revolution that bitcoin is spurring is just starting. Bitcoin will be for money what TCP/IP was for many other forms of information. History teaches us not to underestimate leapfrogging technologies. Consider communication: While the landline telephone was invented in the late 1800s, the world never surpassed 1.5 billion landlines – while today over six billion people use cell phones. But over 5 billion people own a cell phone and do not have a bank account. If bank accounts – having failed to reach a majority of the world’s population over the past couple hundred years – are like landlines, we will soon find out bitcoin is mobile.

And bitcoin’s potential for wealth creation is staggering. If bitcoin replaces gold as a popular way to store value, each bitcoin will be worth more than $500,000. If bitcoin achieves the same kind of wide use as we have seen with mobile phones, each bitcoin may be worth more than $1 million.

Some people from Yap were once bringing one of these big stones from the island of Palau, 275 miles away, in a complicated endeavor that involved many people in many canoes. Before arriving to Yap, the stone sunk. Since they had all seen the stone on the ground and then had watched it as it was hoisted into the canoes, and then all saw it sink, they agreed that the stone was there, in the bottom of the ocean. It did not matter that nobody ever saw that stone again. And so it could be that, if you got rich, you were given the stone in the bottom of the ocean; it worked just as well as any of the other stones. Or just as well as a bitcoin.

 

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