The market uncertainty seen in the run-up to the Brexit referendum created one big winner: Bitcoin. In the space of a week, US$3 billion, around a 30% increase, would flow into the Bitcoin economy as polls showed uncertainty over which way the vote would go.
Bitcoin has often made news headlines during times of financial uncertainty. Currency controls in Greece in 2015 also led to a surge in bitcoin buying as a way to get around banking restrictions, while many in Venezuela have turned to the cryptocurrency to stave off rapidly rising inflation.
Digital currencies are fundamentally changing the way we understand money.
With a rapidly growing market of around US$10 billion run by a technology that has the potential to change financial institutions forever – Bitcoin cannot be ignored. But what is Bitcoin, exactly?
Bitcoin is a form of encrypted Internet-based digital currency invented in 2009 by an anonymous creator known as Satoshi Nakamoto, whose identity remains a mystery and has been the source of much speculation. Most significantly, the digital currency is run by a decentralised network of computers owned by private individuals, and not by a centralised system such as a bank. This means that no single institution controls the currency.
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Instead of having currency issued and controlled by central banks, bitcoins are created in a process called mining. Mining is where privately held computers provide processing power to the network to verify transactions that occur directly between users. In this process, these computers build a publically available list of transactions called the blockchain. As a reward for verifying this blockchain, miners are issued with a small number of newly created bitcoins released incrementally based on the original code.
The blockchain contains a record of all transactions ever made, and as it is verified between records kept by the individual computers that support the network, transactions cannot be faked and bitcoins cannot be forged.
The idea is that Bitcoin will bypass the control of banks that currently dominate the financial system, and which have come to be distrusted by many that see them as complicit in the 2008 financial crisis.
Unlike banking that relies on trust in banks and government, Bitcoin’s decentralised system based on encryption and verification means that governments and banks are not able to manipulate the system and simply ‘print’ new money to cover debts. (This had happened, for instance, in Zimbabwe, where the government excessively printed money to fund its budget, ultimately leading to the currency losing all value.)
The mining process limits the number of bitcoin in circulation and restricts it to a maximum of 21 million bitcoins, which will only be created by 2140. Bitcoins can also be broken up into fractions of eight decimal digits, which is important considering that one bitcoin is currently worth around US$580.
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Bitcoin’s electronic nature guarantees fast and cheap transactions, while being decentralised makes it free from manipulation. For many, this makes Bitcoin a better and easier alternative to traditional banking.
Bitcoin is also considered to be pseudo-anonymous because while the list of transactions is publically available, the owner of an account, called a wallet, can remain private.
In its early days, Bitcoin was favoured by those who wanted anonymity – criminals especially. Mostly famously, Bitcoin was used for payments on the ‘darknet’ website Silk Road, which acted as a type of eBay for the sale of illicit goods and services including drugs, weapons and stolen goods. It is estimated that between 2011 and 2013, Silk Road facilitated over US$200 million worth of sales between 3 748 vendors and 115 391 customers.
While cryptocurrencies allow for fast, borderless transactions and can be used to facilitate crime, these same qualities are now shown to be valuable in mainstream transactions. Researchers have found that Bitcoin has now moved beyond its initial purposes and that the digital currency is increasingly serving legal markets. More than 100 000 vendors worldwide accepted Bitcoin in 2015, with large companies like Microsoft among them.
The first steps towards regulating cryptocurrencies have already taken place with most Bitcoin exchanges, where people exchange ordinary currencies for bitcoin, requiring proof of identity. Law enforcement has also caught up – and tools now exist for linking payments to suspects.
Ironically, while Bitcoin is usually associated with being anonymous, the publically available blockchain, which keeps records of all transactions, means that payments are transparent.
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This transparency is significant in the context of providing loans and aid. Corruption and mismanagement have meant that foreign aid in Africa has sometimes been misappropriated or wasted, leaving ordinary people no better off. Given that the blockchain is publically available, money can be traced to its destination.
The decentralised and electronic system also means that relatively little infrastructure is needed to run it. Anyone with a mobile phone can now have access to banking. Users don’t even need a smartphone to use Bitcoin.
Around two billion adults, most in the developing world, do not have access to bank accounts. This means that they cannot receive loans or have trouble saving, both of which are necessary for education or starting a business. Being unable to access banking keeps many trapped in the cycle of poverty. The electronic nature of Bitcoin means that it is now relatively easy to set up financial services in hard-to-reach places or places where banks or governments have collapsed.
The technology behind Bitcoin can also be used to keep track of various other transactions, such as diamond trading, and can be used in regulating elections as votes, similar to bitcoin transactions, cannot be forged or manipulated. Considering the extent of Africa’s problems both in the trade of conflict diamonds and with the legitimacy of elections, there are clear uses for the technology behind Bitcoin beyond currency.
Bitcoin is increasingly seen as an opportunity rather than a threat. Africa should consider how it can take advantage of these opportunities to reduce corruption, and promote development and good governance.
Albertus Schoeman, Consultant, Transnational Threats and International Crime Division, ISS Pretoria