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All About Bitcoin Mining: Road To Riches Or Fool's Gold?

The Basics Of Bitcoin

I suppose the best place to start is in the beginning...

Satoshi Nakamoto, The Phantom

In 2009, a scientist calling himself Satoshi Nakamoto published an eight-page paper entitled Bitcoin: A Peer-To-Peer Electronic Cash System, along with working proof-of-concept source code. There was nothing unusual about this, except for the simple fact that there is no Satoshi Nakamoto. Stunningly, the author of a scientific paper had used a pseudonym.

The paper itself was not particularly revolutionary either; it built upon previous attempts at crypto-currencies, such as b-money and Hashcash. Satoshi’s true innovation was combining several known concepts like peer-to-peer networking and secure hashes with inventions of his own, namely a clever incentive system for the participants and an anti-inflation mechanism.

Silk Road and Illegal Drugs 

Being an anonymous crypto-currency, Bitcoins (BTC) were soon adopted for payments on Silk Road, an online marketplace for illegal drugs. Silk Road lives inside TOR (The Onion Router) and sports a transaction feedback system similar to the one used by eBay, allowing customers to avoid dishonest sellers. It is unfortunate that Bitcoins are still stigmatized as being linked to Silk Road, and overzealous politicians have used this coincidental connection to call for a ban of the cyber currency. While it is a well-known fact that most dollar bills in circulation have traces of cocaine on them, nobody in their right mind would use this fact as pretext to stigmatize U.S. currency.

MtGox and Other Bitcoin Exchanges 

So, how can you buy Bitcoins? First, create an account on MtGox.com (or any other Bitcoin exchange), and then wire money to that account. Once the funds arrive at the exchange and show up in your account, you can purchase Bitcoins at the current exchange rate. If desired, you can then send all or part of the Bitcoin balance to the Bitcoin wallet on your computer. Several different wallet programs are available for download, for instance Bitcoin-Qt or Multibit, and wallets are also available for mobile devices.

A Crisis in Cyprus and a Bitcoin Bubble

Economists have pointed out that a currency should not have an intrinsic value. For instance, it costs less than 10 cents to produce any U.S. banknote. However, there is a limited number of Bitcoins in circulation. In fact, only 21 million Bitcoins will ever exist. So, when demand exceeds supply, the price will rise.

Demand started to increase during the financial crisis in Cyprus, when a stunned public learned from the media that their bank deposits would be subject to a one-time 6.7% levy, or 10% for accounts valued more than 100,000 Euros. Even though the bank levy for small accounts was later rescinded, the mere suggestion that bank deposits are not safe from surprise retroactive taxation drove some people in EU member countries to look for ways to park their money anonymously. Due to this increased demand, Bitcoins began to appreciate against traditional currencies like the U.S. dollar and the Euro. As Bitcoins became ever more valuable, speculators jumped in, thus pouring gasoline on the fire.

The Burst of the Bitcoin Bubble and the Recovery

By mid-March, word had gotten out that by buying Bitcoins, one could double his investment within a week. By April 10th, a historical peak of $266 per Bitcoin had been reached. Speculators flooded MtGox (the major Bitcoin trading platform), overwhelming the server and causing trading to lag. At some point, a selling panic started. Finally, MtGox suspended trading in order to upgrade the trading server, and to exert a calming effect on the market. Once trading resumed, the Bitcoin’s price crashed to approximately $65 before recovery began. At the time of writing, one Bitcoin is valued slightly above US$120.