The Big Bitcoin Adventure

I've occasionally blogged about Bitcoin in the past. Two years ago I was into Bitcoin mining, and when the value of 1 Bitcoin reached 8USD I declared it a success. Who would've known that shortly afterwards it would boom to 30$, the highest anyone thought it could possibly go. Then it crashed all the way down to around 5$. The increased interest in Bitcoin meant that mining was no longer or just barely profitable, so that was a dead end.

Today, 1 Bitcoin was worth 147 US dollars.

Major websites are starting to accept Bitcoins. The underground drug trade has firmly established itself on the Tor network with Silkroad. Its major currency is, of course, Bitcoin. In one month the BTC went from about 40$ to 140$. Everyone online knows it's a boom. But nobody, not even experts, dare predict when the boom will pop. The thought occurred to me that perhaps this is not a boom, that Bitcoin will continue to rise in value. I'd like to believe that, but then I saw someone else make that comment online and I had trouble taking him seriously. It seems like the kind of thing only someone heavily invested in Bitcoin would say.

For a long time I decided to stop writing about Bitcoin on this blog for two reasons. The first one is that I am obviously biased as I own some BTC myself and therefore want to contribute to its success, which will inevitably raise its value. (It's at this point in the conversation that my friends point out that Bitcoin is a ponzi scheme and they refuse to talk about it more). The second reason is that I don't know a lot about finance, so everything I write here will probably sound very naive to those in finance sector. Yet, it is my own blog, and I am entitled to sound naive when I so please.

Moving away from ponzi schemes and classic currencies, I'd like to think that I do know a little bit about the internet, and the technical principles behind Bitcoin. I've been monitoring it for several years now since my friend introduced it to me, and am thrilled to see more people starting to adopt such an elegant principle for sharing money, truly fit for the digital age. Pretty much all the early adopters are (were?) in the tech industry, but that doesn't necessarily mean mainstream adoption, or appreciation.

The recent rise in price has gotten the media interested (or vice versa), and still most people don't know what to make of Bitcoin. People in finance seem to get it wrong the most. They want to treat Bitcoin like a normal currency and are then surprised when it doesn't react the way they expect it to. So they blame Bitcoin for betraying their expectations and dismiss it as 'not a valid currency'. This may well be true. But that doesn't rob Bitcoin of its right to success. So far the non-tech people I've heard talking about Bitcoin enthusiastically are treating it either entirely as a very short-term means of trade (USD->BTC->commodity), or as an investment. Both ways can coexist if the currency is not too volatile, but the Bitcoin value has been rising like crazy lately, so how do the shops cope with that? To not out-price themselves they'll have to lower their prices every hour or so, at this rate.

But eventually prices will (should) stabilize. The higher the price gets, the less total volume will get traded, or at the very least the total volume will remain dampened until adoption becomes more widespread. Bitcoin is regulating its own growth. Perhaps this is not going according to established financial principles, but it's unstoppable nonetheless.

Personally, given the continued interest in Bitcoin and use of it as medium of exchange in less than legal circles, I suspect that the price can still go up, hopefully a bit slower and more steady than it was doing the past month. That way the stores can adjust and start pricing their products in Satoshis (0.01BTC, named after the mysterious pseudonymous creator of Bitcoin) instead. But even if the price drops massively, even if governments outlaw it (which they won't, because they can earn money from it), there will still be a use for Bitcoin. This may be vapor talk right before the crash, but I still believe in Bitcoin.

And if Bitcoin becomes a success, what's next? What else can we apply this encrypted peer-to-peer proof-of-work technology to? Many spin-offs of Bitcoin have already been made, most of them naive in their idea or purely opportunistic, leeching off of Bitcoin's popularity. Two alternatives may have a reason to exist though: Namecoin and Litecoin.

Namecoin is essentially Bitcoin for domain names. Instead of using a Bitcoin as a proof-of-wealth, you use it as a proof-of-ownership of a domain name. Generation and verification happens exactly the same way as in Bitcoin, and the code is pretty much a carbon copy of the Bitcoin codebase with some extra features tacked on. I believe this has merit because DNS servers are increasingly becoming the weakest link of the internet, and we need something stronger and more distributed to take its place. While I'm positive about the idea, I'm not so sure about its value proposition, or why you need a proof of work to register a domain. It seems like it can be solved just by peer-to-peer and public/private key technology. Despite that, Namecoin is becoming more widespread.

Litecoin is a bit of a maybe. Its original concept was to fix the weak points of Bitcoin: deflation, transaction processing speed and waste of mining resources. Litecoins were initially meant to be mined using different resources than Bitcoin, but in the end it seems that they're both going to end up being mined by GPUs and specially-designed hardware. The deflation was made less of a problem by increasing the maximum amount of coins generated, which is good, but not necessarily a problem in Bitcoin since there's still plenty of precision left to shift the comma many places to the right and subdivide a Bitcoin into smaller bits.

Transaction processing speed remains a valid issue. The last I heard is that the Bitcoin network is starting to suffer from this, as only so many transactions can be spread throughout the network at once, which will surely become a problem when Bitcoin becomes more popular. Still, the Bitcoin protocol can be refined if the core developers release a new client that allows for faster/more transactions. I'm a bit skeptical about Litecoin. If it takes off, it's probably more viable than Bitcoin, but Bitcoin already has traction and the benefits of Litecoin over Bitcoin are not that great.

The success or failure of Bitcoin is tightly linked to Litecoin and Namecoin. One will not fall without the other, but the derivatives may still fail even if Bitcoin is successful. Still, if Bitcoin is not speculative enough for you then you may care to wager something on Litecoin and Namecoin.

Much like everybody else, I have no clue what's going to happen to Bitcoin. All I can tell you is that I'm not selling mine, because I believe Bitcoin will have a bright future. Henry Blodget said it best:

The most you can lose is 100% of your bet. The most you can make, meanwhile, is theoretically unlimited.

(In the time it took to write this article, 1 Bitcoin increased $13 in value).

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