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A Guide to Bitcoin: How Are People Getting Rich?

Updated 07 Jun, 2021 03:09pm
What Bitcoin is all about.

If you have access to the internet (and are not a cryptocurrency trader), you may have spent the last few weeks wondering what Bitcoin is. If so, you have probably spent more time thinking about how people can make money out of thin air and how you can get in on the action. The future will tell us if Bitcoin is indeed the future of finance or just another Ponzi scheme; what we do know is that Bitcoin (and cryptocurrencies in general) will remain a hot topic for some time to come.

What Is Bitcoin?
Bitcoin is a virtual currency (or cryptocurrency) that allows users to transfer money or make payments anonymously without relying on a central bank or government. They can be bought using real money (as we like to call it) and they can be stored in digital wallets in smartphones, computers or even online. Transferring is not very different from cash transfers from one bank account to another, the main difference is that everything is done anonymously. Anonymity is maintained using cryptography, in other words, encryption of data. Every Bitcoin wallet has a nonsensical public deposit address (for example, xxjfje343405ngoxcnd345gf) that allows one to receive it. It also has a private key which allows people to access their holdings and make transfers.

Okay, But What’s A Blockchain?
Every time a Bitcoin is sent from one address to another, the transaction is validated and recorded on a public ledger called the blockchain. Since it is made up of nonsensical public addresses and transaction IDs, there is complete anonymity. This blockchain is not controlled by anyone, rather, it is maintained by all the computers on the network, making it almost impossible to hack or alter.

Who Created Bitcoin And How Many Are There?
It was created by a person under the pseudonym of Satoshi Nakamoto in 2009. The reason to create this was to decentralise currency. It was initially adopted on the dark web (see definition on Google) and became mainstream in recent years. There are currently almost 19 million Bitcoin in circulation and the total supply is limited to 21 million. The smallest denominations (Satoshis) go up-to nine decimal points. Additional Bitcoin are created through ‘mining’, whereby computer hardware is used to solve complex mathematical problems and ‘miners’ are rewarded with Bitcoin. In other words, a bunch of graphic cards use a colossal amount of electricity to produce Bitcoin. The mathematical problems have become increasingly complex and are expected to reach the maximum supply of 21 million by 2140.

How Does The Value Change?
Paper currency is no longer backed by gold and holds value because we believe it holds value. Similarly, Bitcoin holds value because we believe it holds value (well, some of us do). The difference is that we know it is scarce (only 21 million) and unlike paper money, more cannot be printed. Consequently, as the demand for Bitcoin rises and merchants globally increasingly accept it, its value will grow. The best example of the exponential rise in Bitcoin’s value is when someone famously purchased two pizzas worth $20 for 10,000 Bitcoin in 2011. In 2021, the price of one Bitcoin touched $64,000 (over one trillion dollars in market cap*). There are other factors that affect the rise and fall in value. They include government regulations (China recently banned them, more acceptance (ApplePay now accepts Bitcoin) and media influence (I am sure you heard about the Elon Musk - DogeCoin fiasco recently).

How Do People Make Money?
While thousands of cryptocurrencies have been created in recent years with different use cases, 40% to 50% of the total cryptocurrency market cap consists of Bitcoin, with Ethereum taking up 20%. The rest of the market cap is made up of over 10,000 different cryptocurrencies. Some people (visionaries) buy certain cryptocurrencies and hold them for a few years until their value increases exponentially before selling to other believers who believe the value will skyrocket. Imagine buying a Bitcoin for $100 in 2014 and selling it today for $40,000. Others make money by trading cryptocurrencies on crypto exchanges (similar to how the stock market works).

Given the recent hype and confidence that one can easily convert one’s crypto assets to paper money, coupled with the fact that there is increasing demand and widespread acceptability, more and more people are looking to buy cryptocurrency. Although cryptocurrencies are banned in Pakistan, Binance, a crypto exchange, is the third most downloaded mobile app in the country. Bitcoin has been trending on Pakistani Twitter for the last few weeks. While it remains to be seen if the authorities will regulate it, the tide is definitely moving towards decentralisation.

*The price of one Bitcoin went to a high of $64,000 this year. That means that the total price of all Bitcoin in circulation went above one trillion dollars. For comparison sake, only Apple and Amazon have a market capitalisation higher than one trillion dollars.

Arafat Mir is the Global Head of Prospecting at S&P Global. He is a sports, financial markets and crypto enthusiast. Likes to comment on Pakistani societal habits.