The Advantages and Disadvantages of Digital Money
Now you have a general sense for what Bitcoin is, and know about its history. But why use it at all? What is wrong with our current money?
Bitcoin isn’t for everyone. It does require some amount of technical knowledge to purchase and use, as well as safely store your coins. It also is a volatile market, with rapid price fluctuations that can wreak havoc for investors. While these problems will lessen with time, they are still a barrier to many.
However, there are significant drawbacks to our current monetary system that
make Bitcoin appealing, and it can be summarized in one word: trust
Reducing the trust needed for transactions was one of the primary drivers for Bitcoin in the first place. As Satoshi’s original paper states in his concluding paragraph, “We have proposed a system for electronic transactions without relying on trust.”
In order to use money today, you must have a significant amount of trust in
multiple institutions.
Banks. When using banks, you are trusting that they will be able to pay you back when you withdraw your money, and that they will not go bankrupt. As we have seen many times in history, bank runs and financial panics prove that you cannot be certain your money is safe inside a bank.
Central Banks. The United States has the Federal Reserve, the European Union has the European Central Bank (ECB), Japan has the Bank of Japan;this is repeated the world over. Countries have central banks that control the issuance of their currency.
Typically, this currency is
not backed by any commodity (such as gold or silver) and therefore is
only valuable by law – also called fiat money. We trust that central banks
will not create too much fiat money, which results in inflation and higher
prices for everybody.
Unfortunately, since the financial crisis in 2008,
central banks across the world have all printed more fiat money, which likely means we will face inflation in the future.
Payment Processors. We trust that when we spend or accept money
online, the payment processors will ensure there are no double spends, and
that they will not reverse the transaction. We also trust that they will allow
us to spend our money as we like, but this isn’t always true. Political
advocacy group Wikileaks was trying to solicit donations in 2012, but due
to pressure from governments payment processors (such as Visa and
PayPal) refused to allow donations from their users.
Governments. Events in Cyprus during March of 2013 show how
dangerous governments can be to our currency. Investors in banks had
many of their assets confiscated in order to pay for the country’s debt
problems. Also, governments tend to restrict the types of things that
individuals can spend money on, such as drugs, prostitution, gambling,
etc.
Identity Required. For banks, payment processors, and government,
using currency typically requires being identified. Under the currency
system, unless you are using cash in person, you must be identified, which
can cause privacy and security problems.
How does Bitcoin reduce the trust necessary in these institutions? I'll walk through each of them again.
Banks. No banks are needed when using Bitcoin. You manage the
currency yourself, and if you take the right precautions you can be sure
your Bitcoin are right where you left them.
Central Banks. Bitcoin are not created by any central institution, and
they are created by the network at a predictable and steady rate. No need
to worry about inflation.
Payment Processors. There are none. Bitcoin is peer-to-peer,
meaning the transaction occurs directly from one user to another. No
middlemen at all.
Governments. There is little that governments can do to negatively
impact Bitcoin. They cannot confiscate coins from banks, and they can’t
prevent users from spending their Bitcoin however they like. However,
they aren’t completely powerless: they can target the exchanges, the points
at which people buy or sell Bitcoin for fiat currencies. Still, their control over Bitcoin is substantially less than traditional currencies.
Identity Not Required. If you choose to be anonymous with Bitcoin,
you can be. Even though all transactions are publicly viewable on the
blockchain, the sender and receiver of the funds are only known by a
string of numbers and letters. If you’re careful, you cannot be identified in
the blockchain.