Bitcoin is a decentralized digital asset. It is a new type of asset that sits alongside traditional assets like cash, gold, and real estate.
What makes Bitcoin different?
Bitcoin is a decentralized digital asset. Let's break it down.
Bitcoin covers many traditional assets, like cash and gold. For example, you can use Bitcoin like money, or use it as a store of value.
Another way Bitcoin is different is that it is decentralized and "trustless". This means that there is no trusted third party (like a bank) required to use Bitcoin. These third parties usually act as intermediaries, called intermediaries.
In traditional finance, there is always one (usually more than one) business between any transaction.
It may seem like there is only one intermediary, but there may actually be many. Take a stock trading app, for example, there may be up to a dozen intermediaries between you and the seller, each of which takes a fee!
Also, unlike almost all modern financial transactions, which are conducted electronically, physical cash and Bitcoin are similar in that they can be traded directly, without an intermediary or permission to apply for an account.
Direct exchange of cash does not require an intermediary, but the creation of cash is completely dependent on a trusted third party, such as a central bank. In contrast, the creation of new Bitcoins is programmatic and limited to 21 million. More on this later.
What is Bitcoin's value?
Bitcoin's value comes from two mutually supporting and reinforcing aspects:
- Its properties
- Its network effects
As a network grows, its utility grows with it. The classic example is the telephone network. When there were only a few people on the network, its value was limited. But when you could call anyone, the network became more valuable. The same is true for currency networks.
Throughout history, people have used everything from seashells to bottle caps as money, but arguably the most enduring form of money is gold. Why?
People chose gold because of its three key properties: scarcity, durability, and divisibility. These properties make gold useful as a method of storing and exchanging value. Because of its utility in this regard, the "network" of gold grew over time until it was almost universally accepted as having value. For hundreds of years, gold was the primary unit of account and reserve currency in much of the world. More recently, the U.S. dollar has largely replaced gold, although gold still has value.
Bitcoin is often compared to gold because it has similar characteristics. Namely:
Limited Supply
There will only ever be 21 million Bitcoins, which means that Bitcoin is more scarce than other things that have served as money, such as seashells, salt, and cash.
When items are not scarce, they lose value over time. If such items are used as money, this results in a decrease in purchasing power, i.e., a decrease in the number of goods and services that can be purchased with a given amount of money.
Easily divisible
One bitcoin can be divided into 100 million units (100 million sats), while $1 can be divided into 100 units (100 cents). This means that the world will never "run out" of bitcoins. It can always be divided into smaller and smaller units.
High durability
The Internet is durable because it is made up of a global network of computer systems. Similarly, a large, globally distributed network of independently operated computers tracks the ownership of bitcoins. This ensures that no bitcoin can be lost.
Besides this, Bitcoin has several other important properties that improve on the monetary properties of gold. They are:
More portable
Bitcoin can be sent to anyone in the world in minutes, regardless of the amount.
Easier to verify
It is easy to verify the authenticity of Bitcoin. In fact, unlike many gold scams, it is almost impossible to transact with fake Bitcoin. Many gold verification methods can prove this.
Stronger network effects
Despite Bitcoin having a much shorter history than gold, having started in 2009, Bitcoin’s network effects benefit from the scale and speed of the Internet. This is because Bitcoin is a digital asset whose backers are digital natives. As a result, the number of people who own Bitcoin has grown from zero in 2009 to over 100 million today, while the number of people who own gold has been relatively stagnant over the same period. It remains to be seen how widespread the Bitcoin network will become, but if its market cap reaches the same level as gold, each Bitcoin would be worth about $500,000.
