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Bitcoin: Currency Revolution or Bubblicious Fad?

You may not want to be the person holding the Bitcoin bag when the music stops.

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Bitcoin has the media in a swoon. Libertarians are in love with it, and techies can’t get enough of the virtual phenom. Hailed as the world’s first decentralized digital currency, the beacon of a new alternative tender movement, and potentially the bane of big banks, the Bitcoin was born in 2009 to a mysterious developer (or perhaps multiple developers) known by the pseudonym Satoshi Nakamoto.  

Bitcoin quickly got a high-profile customer in the form of Wikileaks and gained a cult following. Lately, Bitcoin has burst into mainstream consciousness with a wild boom-and-bust rollercoaster ride and the endorsement of the twins Cameron and Tyler Winklevoss, the brothers famed for suing former Harvard classmate Mark Zuckerberg for stealing their social media idea. The value of a Bitcoin, which was worth $10 at the start of the year, recently leapt to $250, then nosedived to below $150 on April 11.

How does it work? (Warning: your head may explode)

Part of Bitcoin’s mystique is the glorious wonkery surrounding how it gets made and passed around. There’s a public peer-to-peer transaction log, called a block chain, which is stored on computers running Bitcoin and records transactions. You start your Bitcoin adventure by installing a “wallet” from on your computer or smartphone. Now you’re in the network, and you can conduct transactions between other people in the network, much as you can call another Skype user once you’ve downloaded the program and joined the circle of Skype users.

Bitcoins are like gold in that there are a finite amount of them – this was done to try to keep the Bitcoin economy stable and prevent inflation. A fixed amount of Bitcoins will be released (“mined”) each year set within the open source code of the Bitcoin project.  Bitcoins, in blocks of 25, are awarded to miners when their computer generates a 64-digit number from a complex algorithm. The maximum number of Bitcoins is 21 million. Right now, there are about 11 million in circulation, and the number of coins that can be generated by the mining process gets cut in half every four years.

Bitcoins can be used to buy things online. The WordPress blog platform accepts Bitcoin, and so does WikiLeaks. Some sites offer gift vouchers for stores like Amazon, and you can also find sites selling electronic goods for Bitcoin. Bitcoin is also accepted on sites such as anonymous marketplace Silk Road, where users can buy illegal drugs.

The Bitcoin system is maintained by a volunteer open-source community coordinated by four core developers. Bitcoins are supposed to be encrypted in such a way that they can’t be “forged.” The transactions are made peer-to-peer and are supposed to be secure. Are they? No one really knows. It has been pointed out that handing over your bank information to strangers on the Internet (Bitcoin doesn’t take credit cards) may not be the wisest move. You also have to take it on faith that the limited number will stay limited and that it won’t be replaced by another digital currency.

Why are people excited?

The excitement over Bitcoin is a manifestation of the growing distrust of government, the global financial system and central banks, in particular. Tech-savvy libertarians get delirious over it because it’s touted as a form of cash that doesn’t need government backing, ostensibly beyond the reach of regulators and central bankers. Grassroots types who yearn for smaller scale, locally focused systems of exchange are also infatuated with Bitcoin. Many hope that Bitcoin is the future of the world economy.

Is Bitcoin something new?