A simpler explanation, please...

[flamesong]

I just heard about Bitcoin this morning and have spent an hour or so trying to get my head around it.

Maybe it's my age? I'm certainly not stupid and I'm not here to brag but last time I had my IQ tested it was 155. I have a fairly rudimentary understanding of economics and have managed to keep a succession of computers functional for about thirty years - but I really don't understand certain principles which must, I imagine, be fairly fundamental to the function of the system.

I have a certain amount of historical understanding of how fiat money acquired its value, albeit based currently on faith. But I don't grasp where the value of Bitcoin originates. If it comes from thin air, then how can it be sustained? If it is somehow the transmutation of energy from my electricity supply, by what process does that occur and how is that value sustained.

I also allowed a couple of computers to be used in the Seti@home project, so I don't have an issue with the use of networked CPU use. But I don't really understand what 'work' the Bitcoin client is doing - it has been knocking on a ceiling of 100% CPU usage since it was launched.

But taking a leap of faith from that, neither do I fully see how/why there should be a 50 Bitcoin credit for every new block other than it being something like a Premium Bond (lottery) which may reward persistent client use.

It is not my intention to be antagonistic or to instigate any kind of combative debate, I simply wanted to convey that to those who designed the system, it may seem perfectly elementary and early adopters and those of a particular aptitude may also find it simplicity itself. I find my own work, some of which involved video editing and prepress graphic design very easy but impossible to convey - I'm not a natural teacher.

Or should I just blindly comply as if putting a SIM card in my iPhone - not questioning how it works? Just accepting?

[arturh]

1) Do not mine, it is not profitable
2) Do not mine, it is not profitable
3) In order to get Bitcoins buy them or earn them
4) Some Bitcoins are generated every 10 minutes (6 million so far)
5) 21 million Bitcoins will be ever generated
6) You can receive Bitcoins anonymously
7) You can send Bitcoins almost anonymously

[flamesong]

Thanks but I'm not sure how that helps my understanding.

[dikidera]

Where is the question?

[Garrett Burgwardt]

But I don't grasp where the value of Bitcoin originates. If it comes from thin air, then how can it be sustained?

People want a currency that has the properties of bitcoin- Specifically the fact that bitcoin is:

Deflationary
Easy to transfer online
Fee free or low fees
Free from a central server that serves as a point of failure
Free from a central entity that can print more money on a whim
Secure
Quick transferring

etc

So as long as people want an easy way to transfer value securely, with the properties listed above, bitcoins have value as a commodity (Commodity currency? I never understood the distinction because currency is simply a specific commodity that is good for trading)

I also allowed a couple of computers to be used in the Seti@home project, so I don't have an issue with the use of networked CPU use. But I don't really understand what 'work' the Bitcoin client is doing - it has been knocking on a ceiling of 100% CPU usage since it was launched.

If you've got the generate coins option enabled, you're essentially wasting power- it would likely take you years to find a block and thus help the network.

The processing done by miners is used to secure the block chain- the more work is being done to validate transactions, the more an attacker would have to spend to compromise the network. Thus it is economically safer to simply be an honest miner than a malicious attacker.

But taking a leap of faith from that, neither do I fully see how/why there should be a 50 Bitcoin credit for every new block other than it being something like a Premium Bond (lottery) which may reward persistent client use.

The 50 bitcoins found by miners are paid to help bootstrap mining, making it profitable so that the network is safe in its infancy. Additionally, it serves as a good way to bring coins into circulation.

Or should I just blindly comply as if putting a SIM card in my iPhone - not questioning how it works? Just accepting?

Never! Always ask questions, when people stopped doing that we got into the mess we're in now with the economy

[db]

It gets value the same way as gold: by being uniform, divisible, convenient to handle and scarce.

All the processing secures the transactions by making it impossible to double spend or change the transaction history without expending as much computing power as all the honest nodes combined. Those helping to secure the transactions get rewarded with the newly minted coins.

[Jaime Frontero]

"I have a certain amount of historical understanding of how fiat money acquired its value, albeit based currently on faith. But I don't grasp where the value of Bitcoin originates."

take a piece of fiat money out of your pocket.  look at it.

where does the value of it originate?  in your faith, and only there - even knowing it is completely manipulated and manipulable by forces outside your control.

now open up your Bitcoin wallet.  look at it.

faith is good - and faith in Bitcoin (that it is usable for transactions with others) is good.

but also, it is not under the control of outside forces.

better.

[stakhanov]

If you want to understand how Bitcoin works, read Satoshi's original paper. Then if you have specific questions about the paper, we can talk

[barbarousrelic]

From your post, I think you are asking these three questions:

1) Why is Bitcoin valuable?  faq

2) What work is being performed when mining?

here.

Miners perform a hash calculation on the set of data: (all previous transactions, plus a random number,) with the aim of finding a hash with a lower value than the current difficulty level. If the hash found is greater than the difficulty level, it changes the random number and tries again. It does this millions or billions of times per second.

It is not currently cost or time effective to mine unless you have spent a few thousand dollars on high-end video cards.

3) Why do people deserve to get coins when they mine a block?

Because it's the most equitable and practical way of distributing new coins, and it promotes security of the network.

[Zibbo]

I just heard about Bitcoin this morning and have spent an hour or so trying to get my head around it.

Maybe it's my age? I'm certainly not stupid and I'm not here to brag but last time I had my IQ tested it was 155. I have a fairly rudimentary understanding of economics and have managed to keep a succession of computers functional for about thirty years - but I really don't understand certain principles which must, I imagine, be fairly fundamental to the function of the system.

I have a certain amount of historical understanding of how fiat money acquired its value, albeit based currently on faith. But I don't grasp where the value of Bitcoin originates. If it comes from thin air, then how can it be sustained? If it is somehow the transmutation of energy from my electricity supply, by what process does that occur and how is that value sustained.

The same thing that gives monetary value to gold, EUR, USD or any other currency. Your belief that in future, other people will accept that money as a payment for goods and services. And why would they do that? Because they believe that other people will do the same. Fiat currencies have easier time in achieving that position because governments can force people to use their fiat money, but once you reach the point where you trust it, because I trust it, because everybody trust it, it doesn't matter anymore how it started. Bitcoin has just recently reached a critical mass, where the faith in the system is growing exponentially, and I believe that some day in not too distant future, people will accept Bitcoin without understanding every single detail about how the system works. Just as they do with fiat currencies today.

But still, where did the first adopter come from, you might ask? In bitcoin they saw a superior currency, and believed (correctly) that a lot of people wound come to the same conclusion. Some might have been interested purely in technical aspects of Bitcoin, because once you manage to wrap your head around the system, you notice that it solves seemingly unsolvable problem in an elegant and novel way. Whatever the motivation, kudos to them. They got the ball rolling.

[John Tobey]

I just heard about Bitcoin this morning and have spent an hour or so trying to get my head around it.

An hour?  It took me two weeks to get past basic questions!  

But taking a leap of faith from that, neither do I fully see how/why there should be a 50 Bitcoin credit for every new block other than it being something like a Premium Bond (lottery) which may reward persistent client use.

I'll try this one.  The network must reward whoever processes transactions, i.e., miners/processors.  In the long term, if Bitcoin is popular, users will find it worthwhile to include transaction fees, and those fees will support the processing.  Until that trend has a chance to become firmly established, the network will pay a fixed BTC amount per block, roughly 300 BTC/hour (more when the network hash rate grows, less when it shrinks and after the block reward goes to 25).  The hope is that this reward will go to electricity, but also optimizations probably leading to the development of highly specialized, efficient hardware (Bitcoin chips).  Whether this happens depends on the value of BTC (or a similar currency) in the near to medium term.  (One of my gripes is that whoever controls the chip fabs will control the economy, with probably more centralization than the central banks of today.  But such "control" over the economy may be less open to abuse.)

Note that "the network pays..." means that the software, which users choose to run, accepts or rejects blocks according to rules that implement this effect.

It is not my intention to be antagonistic or to instigate any kind of combative debate, I simply wanted to convey that to those who designed the system, it may seem perfectly elementary and early adopters and those of a particular aptitude may also find it simplicity itself. I find my own work, some of which involved video editing and prepress graphic design very easy but impossible to convey - I'm not a natural teacher.

Or should I just blindly comply as if putting a SIM card in my iPhone - not questioning how it works? Just accepting?

I feel your pain!  For the first week or two, my CPU (brain) was at 100% with the comp-sci and economics parts talking up a storm.  It is one of those rare developments that stimulates, and puts demands on, both.  The early adopters who most "get it" probably have both technical and financial backgrounds.  Those who don't will ultimately have to put some faith in those who do, if the project will succeed.

[DATA COMMANDER]

But I don't really understand what 'work' the Bitcoin client is doing - it has been knocking on a ceiling of 100% CPU usage since it was launched.

That confused me at first too. The client is downloading the block chain. That can take several hours, but once it's done the client will leave your CPU alone.

Also, someone should start a thread or make a web page about the purpose of mining. Too many people seem to think that bitcoins are "backed" by CPU cycles or some such nonsense.

[flamesong]

OK, thanks for all the replies.

I am slightly wiser.

However, with regard to where the value of Bitcoins originates, I am still unclear.

It has been said a number of times and referred to in the FAQ that the value of fiat currency comes from gold.

This may be true, though in the UK I believe it is actually silver, hence 'sterling'.

That the currency has this credibility is due to hundreds of years that this was truly the case, though as anybody who has seriously looked into it will be aware, there is not nearly enough gold or silver to back up global currencies, most estimates, I believe, are that there is a discrepancy factor in the region of 11:1, i.e. if about 9% of the world's currency was withdrawn on the same day, the whole banking system would collapse as there would not be enough real collateral to sustain such a run. Nowadays, with the preponderance of cashless banking, this confidence trick has been played once more because there is not enough cash to cover the deposits. The twee argument that George Bailey makes in It's A Wonderful Life, that one neighbour's deposit has built another neighbour's home is, as much as I love the film, a bit of banking propaganda.

However, a global run on the bank is fairly unlikely. The faith in the currency is, I suspect, maintained not by the general belief that it is supported by precious metals but out of mere convention, it's what we are used to. We were born into it. The loss of credulity in money would be as devastating to the population and the powers that be as the discovery that there is no God would be to the billions of people whose lives orbit such credo (the gold/silver explanation is simply the BS which satisfies most people who start asking questions).

That is why money is so powerful and so instrumental. Quite how that kind of power/value can be injected artificially is not clear. Unless the process is comprehensible to the vast majority of people expected to adopt it, it is my view that merely insisting that the value exists, therefore it exists, therefore it exists, therefore it exists etc. is akin to peddling the status quo.

[edd]

The value of bitcoins isn't being "injected artificially," it's been agreed upon by a group of individuals who see the benefits to using a decentralized, encrypted, electronic currency. The growing popularity has caused some incredible growth in the exchange rates, but ultimately its worth will be realized in the commerce it facilitates. I, and many others, I'm sure, doubt bitcoins will ever completely eradicate all other forms of currency, but believe instead it will come into its own with those who have become disillusioned with the current global economies.

Personally, I don't feel the need to convince anyone that bitcoins are valuable. I believe it. As a matter of fact, I believe it enough to trade you a pound of coffee for 1.95 BTC. Interested?

[John Tobey]

It has been said a number of times and referred to in the FAQ that the value of fiat currency comes from gold.

The last pretence of gold backing fell away in 1971.  Look for the video "Money as Debt" or the (lengthy) audio series "Wizards of Money" for an understanding of fiat.

Quite how that kind of power/value can be injected artificially is not clear.

Consider the work put into creating and maintaining the Bitcoin system and the currency's advantages (such as inflation immunity) as the source of that value.

[Steve]

Because it's the most equitable and practical way of distributing new coins, and it promotes security of the network.

Fairness was not the goal, a mechanism for a peer to peer network to agree on an authoritative record of transactions was the goal...creating blocks and extending the block chain is how transactions are recorded and agreed upon by all users of bitcoin.  And if you don't provide any incentive to mine, no one will and the system will not be adequately protected from attack.

[MoonShadow]

I just heard about Bitcoin this morning and have spent an hour or so trying to get my head around it.

Maybe it's my age? I'm certainly not stupid and I'm not here to brag but last time I had my IQ tested it was 155. I have a fairly rudimentary understanding of economics and have managed to keep a succession of computers functional for about thirty years - but I really don't understand certain principles which must, I imagine, be fairly fundamental to the function of the system.

You sound like me.  I seem to be quite a bit older than the average forum member here, am a long time GNU/Linux user, a lifelong student of Economics, and it took me about two weeks to wrap my head around Bitcoin.  For a few days, my brain refused to accept it as real, and I had to keep looking for the trick.  But there is no trick, it's exactly what it claims to be.  And it's elegant as anything I've ever seen wrought by the human mind.

I have a certain amount of historical understanding of how fiat money acquired its value, albeit based currently on faith. But I don't grasp where the value of Bitcoin originates. If it comes from thin air, then how can it be sustained? If it is somehow the transmutation of energy from my electricity supply, by what process does that occur and how is that value sustained.

Bitcoin derived it's initial value from the early users who, upon studying it, determined that it's virtues would lend it's use well towards being a medium of exchange.

I also allowed a couple of computers to be used in the Seti@home project, so I don't have an issue with the use of networked CPU use. But I don't really understand what 'work' the Bitcoin client is doing - it has been knocking on a ceiling of 100% CPU usage since it was launched.

You shouldn't bother with (generating/mining), your cpu is almost useless to this end.  The client, while generating, is repeatedly hashing a collection of recent transactions, attempting to solve a "block" by being the first to find a hash for that group of transactions that is below a target number.  The target number is chosen by the system every 2016 blocks in order to make the task difficult enough for the entire network to average one block every ten minutes or so.  It needs to do this because the issuing of a block is also how new funds enter into the system in a controlled fashion, as the computer that solves the block gets to keep a reward for doing so.  Which is currently 50 bitcoins.

But taking a leap of faith from that, neither do I fully see how/why there should be a 50 Bitcoin credit for every new block other than it being something like a Premium Bond (lottery) which may reward persistent client use.

It's an incentive for users to participate in the network, as the hashing (proof-of-work) system is also how the system defends itself from a malicious brute force cryptographic attack.

It is not my intention to be antagonistic or to instigate any kind of combative debate, I simply wanted to convey that to those who designed the system, it may seem perfectly elementary and early adopters and those of a particular aptitude may also find it simplicity itself. I find my own work, some of which involved video editing and prepress graphic design very easy but impossible to convey - I'm not a natural teacher.

No, this system is elegant, but also very complicated.  Trust me, it's not you.

Or should I just blindly comply as if putting a SIM card in my iPhone - not questioning how it works? Just accepting?

no you should not.  The system can be understood, it just takes a while for most to really grok it.  Don't put a dime into bitcoin until you understand it.  Keep searching the forum archives, read, and ask questions.  Once you do grok it, you will be an advocate.  Everyone is.

[Steve]

I heard Gavin describe bitcoin as "pure money" ...I think that is a great description of bitcoin.  I like to compare it with gold.  Gold has value because:

- there is a limited quantity (due to physics and the composition of elements on earth)
- it's difficult to counterfeit (almost impossible and fairly easy to detect fake gold)
- it is not subject to inflation
- it is relatively easy to handle (due to the limited quantity, a small amount represent a large value)
- it can be secured relatively easily (vaults and weapons)
- it can be divided without losing value
- it doesn't deteriorate
- its value is not controlled by any central authority (though various powerful entities could affect its value)
- there is a worldwide market for gold (if trade is impaired in one region, gold could be sold in other regions of the world)
- there is no counter party risk associated with holding physical gold

(the value gold has as a metal are inconsequential to the value it has as money...aside from the fact that it may have been initially bootstrapped as a money due to such non monetary uses)

Gold is a relatively pure form of physical money.

Bitcoin has value because:
- there is a limited quantity (due to mathematics and the physics that enable rapid computation)
- it's difficult to counterfeit (also due to mathematics...the block chain and miners protect against double spending...double spending is also easy to detect)
- it is not subject to inflation
- it is relatively easy to handle (far easier than gold in fact, it's all digital after all)
- it can be secured (but unlike gold, you don't need vaults or weapons and if you do it right, one would have to torture you to reveal a code in order to steal your bitcoins and theft of your computers would yield nothing of value for the thief)
- it can be divided without losing value (to 8 decimal places, more if necessary...and unlike gold, change is never a problem)
- it doesn't deteriorate (as long as you take steps to make adequate backups)
- its value is not controlled by any central authority (though various powerful entities could affect its value)
- there is a worldwide market for bitcoins (if trade is impaired in one region, bitcoins could be sold in other regions of the world)
- there is no counter party risk associated with holding physical gold
- it is digital, which means people do not have to be physically co-located to transact with it
- it is pseudo-anonymous
- transaction fees are low or non existent

Bitcoin is pure money.

[Gavin Andresen]

To get even more "meta" : ask yourself why anything has value.

Tools, like hammers or cars or pants, have value mostly because they're useful and it takes effort to create them.

Some things have value because they're beautiful or rare.

Bitcoins have value because they are useful and rare.  As more and more people use them, they're useful for more and more things-- so their value will increase.  A lot of the current value of bitcoin is people who realize this and are trying to 'buy in early' -- they think that bitcoin will be used for more trading next year, so the value will be higher, so they want to get some now before the price rises.

I have no idea what the "right" value for bitcoin is, but I am very encouraged by all of the fantastic, innovative ways people are using bitcoin.  I expect most of those experiments will fail, and I hope that everybody realizes that there will be lots of failures along the way to what I hope will be a huge success.

[Nesetalis]

i hate when people compare bitcoins to gold... gold has intrinsic value in manufacturing, chemistry, and even as a vital nutrient in the body supposedly.
bitcoin is something beyond gold, gold is an old archaic form of currency that has fallen out of favor.