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Start Bitcoin: Decentralized Virtual Currency
03 November 2014

Bitcoin: Decentralized Virtual Currency

Estimated reading time Time 3 to read

PayPal has recently announced that it will accept Bitcoins. Since its creation in 2009, the virtual currency has gradually gained in popularity; however, I believe the general public is not entirely aware of how it works.

What is Bitcoin?

Bitcoin is an open-source virtual currency regulated without the intervention of a centralizing entity or government. To this end, cryptography and P2P file exchange are used.

To start using bitcoins, you first need a program acting as a wallet to store them. Next, you need to gather bitcoins by receiving a transaction in this currency (payment for a product or service, for instance) or buying it from an individual or exchange using a credit card or bank account. Once you have bitcoins, you can use them to pay distributors and retailers that accept them, or transfer them to anyone you choose. Given its expansion, there is a growing number of points of sale of both virtual and physical products that take bitcoins. This article is not intended to describe how to use Bitcoin in detail, as this is relatively complex and there is plenty of information online about this subject.

Pros and Cons of the currency

In general, commissions are low or nonexistent as transactions are completed directly, without a centralized intermediary. Transactions are accepted in a very short time, approximately 10 minutes on average. During that time, the recipient can use the bitcoins they received. It should be noted that once the transaction is approved and validated, it cannot be undone, which could be inconvenient in case of fraud. Low latency and low commissions are especially important as opposed to the commissions and latency applied to traditional international money transfers.

Bitcoin also enables financial service globalization as it can be used by people in developing countries with Internet access. The quality of some financial services could thus be comparable to that of developed countries. In theory, Bitcoin could also be used in countries with hyperinflation; however, at the moment there is very high volatility and this type of use would be nullified. For this reason, it is also not possible to use it as a stable means of investment.

On the other hand, since it is based on open source code, it makes it possible to develop innovative financial services. Many start-up companies are working on applications with new features. The most relevant trends are: currency conversion to bitcoins, wallet services and payment gateway companies that enable retailers to adopt payment in bitcoins. On a smaller scale, work is being completed on international remittances, online gaming (thanks to the ability to make micro-payments due to lack of commissions), authentication services of the people involved in the transaction, etc.

Finally, I would like to mention anonymity as another characteristic of bitcoin transactions (albeit you have to follow certain rules). This has been one of its most controversial specificities, especially since the Silk Road website was shut down and a connection was made between this currency and illegal online drug sales.

Challenges for the currency

Even though it is becoming more popular, Bitcoin is far from a daily-use currency. Its use can only be expanded if a series of challenges are overcome, e.g. security, usability and international regulation.

Security is a vital requirement for Bitcoin to be globally adopted. Together with asymmetric cryptography, security is based on open source. Anyone can see the currency’s open source, thus being able to protect and alert the community to possible scams. However, this has not prevented some cases of fraud and attacks that affect Bitcoin expansion.

In terms of usability, it is relatively difficult to safely store bitcoins. They can be stored in online wallets but you must trust the service provider. You can also save them on you PC but attacks by hackers or physical hard drive problems may cause you to lose them. Lastly, some companies offer physical wallets. Again, customer experience could be greatly improved, as prices are very volatile, most prices require up to 8 decimals, etc.

Governments are currently reviewing how to regulate the use of virtual currency. Given bitcoin’s distributed nature, inter-country jurisdictional and tax issues will have to be faced sooner or later. Still to be explored, this path is undoubtedly one of the currency’s future challenges.

Regardless of its success, I consider Bitcoin to be an interesting idea. It is worth knowing about it and exploring its current and future possibilities.

Igor Delgado

Manager at BBVA Corporate Data Warehouse

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