Are Bitcoins for You?

You've already probably heard something about Bitcoin over the last couple months (and if you haven't, you should probably pay some attention) and many are wondering exactly what is Bitcoin and is it for real. Since a Congressional hearing on the currency in November the value of a Bitcoin has soared from under $100 several months ago to over $1,000 today.

So, what is a Bitcoin and is it something that you should consider getting involved with? Bitcoin is a new type of currency that takes advantage of peer-to-peer technology to facilitate transactions. Like many of the file sharing networks that sprang up around music, it uses connections between individual computers to transfer Bitcoins, or funds, eliminating the need for a central authority - no central bank, no bank, no credit card processor. So, how would a typical transaction work using Bitcoin?

Anyone can create a Bitcoin by installing software and becoming a Bitcoin miner. A certain amount of work is required for the creation of every Bitcoin, and this amount is adjusted by the network so that the amount of Bitcoins in circulation is controlled and predictable. It's important to note that this is done automatically without the intervention of any central authority. Bitcoins are stored in a digital wallet, and when a transaction is created, the Bitcoins are given a unique digital signature. When you send money to pay for a good or service, the transaction is recorded in the network and the proper ledgers are automatically adjusted. These ledgers are all public, allowing anyone to review the transactions, although the personal information of the sender and receiver is not typically included in these transaction logs. As a result, every transaction is both encoded to ensure it cannot be tampered and it anonymous, and made public, to ensure that it is executed in an open and transparent way.

Several private markets have sprung up to allow users to convert Bitcoins to dollars, Euros, or other currencies. It is this conversion rate that has boomed since the hearings.

So, what are the advantage of Bitcoins?

• Zero or low fees. Because there is no middleman, there are very little or no fees associated with transactions.
• Fast international payments. Bitcoin transactions can be done in 10 minutes from any part of the world.
• Identity protection. Because there is no credit card number or single number used to key a transaction, there is no chance of having your credentials stolen, like with a credit card.
• Theft protection. Bitcoins are digitally signed too a user so there is no way to steal a Bitcoin.
• Universal access. Anyone can pay or accept money via Bitcoin. The system is totally open and the documentation can be read and implemented by anyone.
• No taxes. Since the transaction is entirely between two individuals, there is no record of the money transfer for tax purposes. Taxes would have to be levied in an entirely voluntary manner.

What are the disadvantages of Bitcoins?

• Because money can be sent anonymously, criminal networks and enterprises have begun to utilize the currency to facilitate payments.
• Boom and Bust. Because no one really understands the value of a Bitcoin, there are wild price swings in the conversion rate of Bitcoins to dollars and other currencies.
• Not widely accepted. At the moment, only a few merchants accept Bitcoins.
• Bitcoins can be lost. If a hard drive crashes or a user misplaces their USB drive, the Bitcoins stores on there will be lost. Most experts advise users to store their Bitcoins on a computer device not connected to the Internet and use a backup.
• No Buyer Protection. If a good is purchases using Bitcoins and the product or service is not delivered as promised, there is no mechanism to enforce refunding of the Bitcoins. Adding a third party escrow service would essentially mitigate the strength of Bitcoin, no middleman.

Should You Buy Bitcoins?

If you are just hearing about Bitcoins for the first time and have no desire to actively trade Bitcoins, then I would say know. While the value has shown spectacular growth in the past couple of years, the Bitcoin economy is highly volatile and values could crash any day. No one knows what the future of Bitcoins will be and whether they will eventually assume a widely accepted alternative form of payment, or if they will remain a fringe currency, used by drug dealers and money launderers to escape the spying eyes of law enforcement.

If you're interested in seeing what the future of currency may be about, then it might be worth it to purchase a few Bitcoins, understanding that the value may soar, or may drop like a rock. But it does seem that currency, like music, newspapers, books, and movies is not impervious to the impact of digital technology and the Internet.