Bitcoin For Dummies

If you're new to GradMoney, you may have missed my posts regarding Bitcoin, such as the one that provides a basic introduction to Bitcoin as an investment, and this which talks about the explosive value of Bitcoin to the point of it being more valuable than gold. If you're still scratching your head about the concept of Bitcoin, you really shouldn't be. Today I'm going to breakdown the concept of Bitcoin even further so that there is hopefully no more confusion. 

In super plain English, and thanks to this article from CoinDesk, I'll give you an explanation of Bitcoin that can help even a 5-year-old understand. Ready? Let's go!

Firstly, imagine that you and I are sitting on a park bench. I have a sandwich and I give it to you. Now you have one sandwich and I have zero sandwiches. Simple right? When I physically give you a sandwich, the transfer is tangible and easy to see. We didn't need a third person to do the transfer or to confirm that the transfer happened. The sandwich is yours - I can't give you another sandwich because I don't have any left. 

Now let's say I have one digital sandwich and I give you my digital sandwich. How do you know that the sandwich belongs to you and only you? How do you know that I even have the sandwich at all, or that I didn't put it into an email attachment and transfer it to my Uncle Joe? Maybe I have a bunch of copies of digital sandwiches on my desktop or that I made copies so that millions of people can download it. 

The reason I point this out is that giving a physical sandwich is not the same as sending a digital one. Computer scientists actually have a name for this problem: it’s called the double-spending problem. But don’t worry about it. All you need to know is that it’s confused them for quite some time and they’ve never solved it. Except with the help of modern technology.

Perhaps digital sandwiches are tracked in a "ledger" like you would do to keep track of the accounting transactions for your business or for yourself. If the ledger is digital, then someone needs to keep track of it. If you've ever played an online game, like World of Warcraft, the company Blizzard (who created it) have also created some rare swords in their system and they are kept track of with a digital ledger. It's an easy way to make sure that there are not more swords in the system than are meant to and they won't create any more.

There are some problems with this kind of solution...

1) What if the Blizzard guys decided to create more swords? They can always add additional sandwiches to the balance whenever they want.

2) When I originally gave you the sandwich on the park bench it was just you and me. In the digital world, we need to have a third park confirm our transactions. Isn't there a way to make this transaction more like the one in the park?

If we give the ledger to EVERYONE, instead of just living with the source, then all the transactions that have ever happened can be seen by everyone who can read the ledger. You can't cheat, the rules are already defined, and like Wikipedia, there are smart people who are constantly maintaining, securing, improving and checking the transactions.

So what does having this public ledger enable?

1) It’s open source, so the total number of sandwiches was defined in the public ledger at the beginning. I know the exact amount that exists. Within the system, I know they are limited (i.e. there is scarcity).

2) When I make an exchange I now know that digital sandwich certifiably left my possession and is now completely yours. I used to not be able to say that about digital things. It will be updated and verified by the public ledger.

3) Because it’s a public ledger, I didn’t need a third-party to make sure I didn’t cheat, or make extra copies for myself, or send sandwiches twice, or more times.

Within the system, the exchange of a digital sandwich is now just like the exchange of a physical one. It’s now as good as seeing a physical sandwich leave my hands and go into your hands. Just like on the park bench, the exchange involved two people only. You and me , we didn’t need to find a third person to make it valid.

In other words, it behaves like a physical object. But it is still digital. Make sense? Now replace "sandwich" with "Bitcoin" and you've just about got the concept down :) Feel better?