An Introductory Guide to Bitcoin: Part 1

It’s hard to ignore the current buzz surrounding cryptocurrencies in the media and throughout public discourse. With Bitcoin leading the charge, the valuations of these new financial tools have skyrocketed in recent months – leading many to question whether investing is their quick ticket to early retirement. However, as issues of price volatility and warnings of a potential bubble remain – along with cryptocurrencies being the payment system of choice for organized crime, ransomware attackers and the dark web elite – strong opinions can be found both for and against this controversial topic.

Cryptocurrencies, and bitcoin in particular, have sparked intense debates about longevity and price stability from their outset. When the idea of a decentralized digital currency (i.e. one that is not controlled by a singular government or central bank) was first proposed in 2008, economists, politicians and investors were immediately divided about the practicality and long-term viability of such a currency. With prices increasing one thousand-fold over the past 12 months, the debate has become even more heated as its popularity and interest grows.

What is bitcoin? Why the sudden interest? Where is the market headed and how will you be affected? As the conversation intensifies, this three-part blog series will help you make informed decisions.

Breaking Down Bitcoin

For as long as there has been currency, there has been a sovereign nation or central authority backing it. While that undoubtedly offers an underlying sense of validity, security and public confidence to the financial system, it also comes with its share of drawbacks. For one, the value of a given country’s currency is intricately tied to that nation’s economic output. If a country is struggling financially, the value of its currency tends to drop – sometimes precipitously. This makes it difficult for governments to provide for its citizens and for citizens to provide for themselves. Especially during lean times when a strong economic foundation is needed most. Import costs go up. Export revenues drop, and it becomes prohibitively expensive to convert domestic into foreign currency (U.S. dollars, for example) which may be required to secure loans from the World Bank or International Monetary Fund.

Which leads to another major concern: centralized currencies are highly susceptible to manipulation by concentrated power circles. For better or worse, central bankers and their monetary policy wield a great deal of leverage over currency values. Though most try to act in the public interest, that is not always the case. In extreme circumstances, such as post-WWI Germany or present-day Zimbabwe, decisions to dramatically increase the national debt through the rapid and intensive printing of money has led to uncontrollable hyperinflation. This makes it more and more difficult to finance government expenditures while greatly reducing the public’s buying power and their ability to meet their basic needs.

Even recent developments here in Canada have shown how interest rate manipulation can cause trouble. With central bankers holding the key benchmark at historic lows for almost a decade, the move might be credited from preventing an all-out recession – but it also had unintended and potentially disastrous consequences: Canada is now the most indebted country in the world. The balance owing is worth 100 percent of GDP. The national debt to disposable income ratio is 106 percent. So, now that rates are going back up, millions of consumers who were encouraged and incentivized to borrow find themselves worrying about the very real prospect of bankruptcy and financial ruin.

By taking control away from a small, connected group of people and putting it instead in the hands of many independent individuals, decentralized currencies should, theoretically, be more stable, keep inflation in check and provide a strong foundation for all people around the world to work with and benefit from. This core tenant was the vision for bitcoin and other subsequent cryptocurrency offerings. Their value would be determined purely by market forces and the will of the general public. No one central bank, organization or individual would be influential enough to sway it in one direction or another. Not to mention – cryptocurrencies would be universally accepted; an international currency for the global marketplace. No trading dollars for pounds or euros; you could fly from Canada to Japan to Bolivia and pay for everything without worrying about exchange rates or dramatic cost fluctuations.

That, at least, is the utopian vision. Because the concept is still in its infancy, it is far too early to tell if that will become a reality. But regardless whether cryptocurrencies such as bitcoin ever eclipse dollars, pounds sterling or euros as the global trading mechanism of choice, they have firmly established themselves as an investment vehicle of growing interest.

Now that you understand what bitcoin is and why it was developed, stay tuned for Part 2 where we’ll take a closer look at the feverish interest and the intense skepticism that is simultaneously growing around cryptocurrencies and the debate that is fueling among seemingly everyone.

This article and the subsequent Parts 2 and 3 of this series are intended as a basic introduction to bitcoin and other cryptocurrency offerings for businesses and individuals new to this space. All explanations are high level and non-technical in nature. A series of more technical articles will soon be available on MNP.ca.

For further information about bitcoin and other cryptocurrencies or to arrange a Lunch and Learn session for your team, contact Brian Beveridge, Partner, Technology Solutions at 204.775.4531 or [email protected].