Today somebody asked WeUseCoins support where all the money goes that people invest into Bitcoin. It's actually kind of an interesting question with a lot of facets, so I ended up spending way too much time writing a reply. I thought I'd share it in case anyone is interested.
Bitcoins are issued via the process of "mining". Mining refers to a competitive, open-access activity which serves two main functions:
1. Create agreement about the ordering of transactions. (This is the main problem that a distributed payment system has to solve.)
2. Distribute newly created Bitcoins.
The actual mining work is just to run a specific algorithm. The important property of this algorithm is that it is easy to look at the result the miner presents and determine how much work has gone into it. The network considers how much mining each miner has done and uses that information to solve the two problems above:
Solving 1.: The majority of miners (weighted by hashing power) decides the ordering of transactions.
Solving 2.: Each miner gets a share of the new Bitcoins proportional to the amount of mining work he did.
The total amount of Bitcoins is predetermined (~21 million) and the rate at which the coins are minted is also (approximately) predetermined.
So to answer your question:
> where the money paid by punters for Bitcoins actually goes?
Most of the money just goes to people who previously bought the bitcoins.
But of course you're right that ultimately every Bitcoin had to have been created at some point, so I suppose it would be fair to say that in the first instance it's the Bitcoin miners who would profit.
However, keep in mind that on MtGox alone, more than 100000 BTC change hands every day, whereas only about 3600 BTC are newly minted in the same amount of time. Many if not most miners immediately sell their bitcoins in order to cover their mining expenses and the price has risen only recently, so lots of miners will have sold at much lower prices.
Also consider that a miner's income isn't pure profit, a miner has costs. He has to pay for the hardware and for the electricity. Also mining is competitive, if mining were extremely profitable, more people would do it, meaning the newly minted coins would be divided up amongst more people and profits would drop until they reached a point where it is no longer financially attractive to become a Bitcoin miner.
Because of mining costs a good chunk of Bitcoin seignorage profit would have gone to electricity companies and hardware/chip manufacturers. Those companies of course also have costs, so another good chunk would have gone to the energy and high-tech sectors more generally.
Hope that helps.
I glossed over some technical nuances here, before you judge me, keep in mind that this is intended for a novice and that it's an reply to an economic question, not a technical one.
