Bitcoin has been generating plenty of column inches recently –
but how does the P2P digital currency work in practice? Vitalik Buterin
gives the lowdown
This article first appeared in issue 239 of .net magazine – the world's best-selling magazine for web designers and developers.
The most basic level of the internet’s architecture is client and server protocols. There is no centralised ‘server company’ to ask permission and register an account before you can start operating your own website. As long as you have a static IP address, you can simply plug in and do it. Email is similar: anyone can run their own SMTP server to send and receive mail. True, in many cases, we opt for centralised web hosting and email providers like Google, as well as additional services like Facebook. But we have a vibrant, competitive marketplace giving consumers options to choose from to suit their needs and start their own - at rock-bottom prices.
Payment picklesIn contrast, to be able to accept payments, you must sign up for a merchant account with an established provider, pay high fees and risk your account getting closed and your funds locked at a moment’s notice. Starting up your own processor costs millions of dollars getting deals with established banks, worming your way through a federal government and 50 states’ worth of money laundering regulations. Even if you do succeed, good luck getting any users; unlike email there’s no common protocol your service PayPal can interact with.
Decentralised Bitcoin is changing things. There are no central parties managing the system, anyone can start up their own Bitcoin node (or use a free third party provider), and the process of maintaining the network’s security is similarly delegated out to the community in the form of a protocol called ‘mining’. Transactions happen directly from sender to receiver without intermediaries.
To receive bitcoins, ask your wallet application for a Bitcoin address; you’ll be notified of the payment within seconds, and be able to spend it within about fifteen minutes. To prevent you sending money into the abyss if you make a typo, the addresses have a checksum included so any attempt to send a transaction to an invalid address will fail. It’s easier for a smartphone client: scan a QR code and the address will appear automatically.
The benefits of BitcoinBitcoin has numerous benefits. There are no mandatory fees. Even businesses paying optional transaction confirmation charges report average fee rates below 0.03 per cent. Bitcoin’s privacy is almost as strong as that of cash. International payments are simple, too; sending money to Kyrgyzstan or Guatemala is as instant and free as making a payment to your neighbour.
To accept Bitcoin as a merchant you need to automatically generate a payment request for each customer, keep track of all addresses and send a confirmation when the customer has paid – and do so privately and securely. BitPay allows merchants to start accepting payments online and in a brick-and-mortar operation. WalletBit is another popular alternative, and technically inclined users have an even wider array of options. As a US customer, Coinbase allows you to buy bitcoins directly from your bank account with a one per cent fee (and sell in the same way). If you want to pay cash, BitInstant and BitMe allow you to do so at any Walmart, 7/11 or Chase bank branch. And, the Bitcoin community is a great place to earn the digital money by freelancing or starting an online business yourself.
Bitcoin has grown a lot in the past few months. You can now use bitcoins to pay for premium services for WordPress. In December, Bitcoin Central finalised an agreement with a payment processor in France enabling them to integrate their Bitcoin exchange into the banking system directly. Once everything is set up, Bitcoin Central users will be able to have their salary sent to a bank account that converts everything to Bitcoin automatically.
Get your first bitcoin today and find the best fees and payment options to suit your needs.
How to Avoid Bank Fees With Bitcoin
Get Started with the Alternative Currency and Free Yourself From Costly Transaction Fees
If there is a clear and present danger to the status quo banking system, it exists in the form of digital crypto-currencies like Bitcoin.Unlike today’s national fiat currencies, Bitcoin is a decentralized, digital currency coded with the latest cryptographic protections and powered exclusively by a peer-to-peer network.
Its community-driven, open-source design purposefully keeps control out of the hands of central banks and governments, avoiding the threats of shutdown and confiscation. The currency’s self-imposed ceiling of 21 million also saves it from the ruinous fate of inflation, creating new Bitcoins only once data “miners” have solved a string of complex algorithms — ultimately becoming more difficult after each equation is solved.
The benefits to this concept became especially clear in the run-up to the Cypriot banking crisis of March 2013. Closed banks, capital controls, and news of a looming bailout by the European Union led to Bitcoin achieving an all-time high value of US$266.
Bank wire transfers cost a minimum of $35 for each transaction, and normally impose conversion costs on the receiving end as well.
Airports exchange desks notoriously charge large fees for converting cash on the spot, sometimes as much as 27 percent. Even PayPal, once thought to be a haven of online trade, has gradually been increasing the cost of sending money across national borders, charging as much as 6.5 percent for each conversion.
For an alternative to these currency exchanges, here’s a step-by-step guide for using Bitcoin to get the most of your money overseas.
1. Setting up your wallet
The first thing to do is set up a Bitcoin wallet to hold your funds.The official Bitcoin-Qt app, available from Bitcoin.org, is one of the most basic desktop clients to hold your funds. It requires a lot of disk space and takes about a day to initially load, but it remains the most basic program for new users.
Multibit is popular because of its speed and relative ease, and Electrum offers a higher level of customization.
For the novice user, I would suggest an online wallet, such as Coinbase. It’s the largest and most reliable Bitcoin start-up, backed up with more $5 million in venture capital funds. The two-step verification keeps your wallet safe and allows you to buy and sell Bitcoins directly on the page. Blockchain is another simple online wallet, but I’ve avoided it because it charges small fees for normal transactions.
Many users of the digital currency prefer to host their wallets on their smartphones, allowing them to easily buy and sell goods on the spot.
The Bitcoin Wallet and Bitcoin Spinner apps are available for Android devices.Apple is not yet keen to accept Bitcoin wallets in its App Store because of the still unclear legal boundaries. That leaves iPhone users to resort to the wallets based on desktops and in the cloud. (iOS users can download the Blockchain app, but its functionality is still questionable.)
2. Changing your money into Bitcoins
Once you have your wallet, it’s time to get Bitcoins. Without a doubt, this is the most difficult part of the process for new adopters.
To deal with cash, make a deposit at CVS or Walmart with the specific account information provided by trader BitInstant. This will allow you to send cash immediately to a Bitcoin address (as explained in this video). The trader is recently flush with a $1.5 million investment from the Winklevoss twins, of Facebook fame, so it remains reliable. Another option is to trade cash with a local dealer on LocalBitcoins.com, who will send Bitcoins to your digital address on-the-spot.In the case of an expat or traveler already overseas, however, it’s easier to conduct all the trades online. For U.S. account holders, one method is the online payment processor Dwolla, which can easily withdraw cash from your domestic bank account and be converted into Bitcoin on BitInstant.
Earlier this month, the U.S. government shut down the Dwolla account maintained by Mtgox, the largest Bitcoin exchange, accusing the website of failing to register as a “money transmitting business,” according to the Department of Homeland Security‘s seizure order.
Despite the setback, individual users can still use Dwolla to convert cash into Bitcoin and vice versa.
The same cannot be said for the digital currency service Liberty Reserve, once highly popular for converting cash into Bitcoin, which was forcibly shut down by the U.S. government in May 2013 for alleged money laundering. Despite these high-profile shutdowns surrounding Bitcoin, it must be remembered that the only danger is to individual exchanges, not the currency itself.
In my opinion, probably the easiest vehicle for buying and selling Bitcoins online is Coinbase.
After a few test deposits, Coinbase can link to your bank account and automatically deposit Bitcoins into your online wallet at less than 1 percent.
The only set-back to this process, however, is time. It takes up to 3 days to receive Bitcoins when purchased through Dwolla or Coinbase. While this may be somewhat longer than exchange bureaus, banks and ATMs, it saves huge chunks of money that would otherwise be lost to the institutions completing the exchange.
3. Sending Bitcoins
Now that you have Bitcoins in your wallet, it’s time to send them to
an address in order to cash them out in an exchange. Though Bitcoin is
an international currency, most exchanges are nationally based. Mtgox is the most popular in the U.S., but a longer international list is maintained by the Bitcoin wiki page.Send your Bitcoins to your wallet on the foreign exchange. You can do this by scanning the QR code of the Bitcoin address or simply copy and pasting it on the website. This process will take a matter of minutes and is free. Once the request is complete, you’re ready to turn your Bitcoin into foreign cash.
4. Cashing out
I live in Austria, so I’m most familiar with European virtual currency exchanges. For users wanting Euros directly deposited into a bank account, I would suggest Bitcoin.de, one of the largest Euro exchanges which also hosts online wallets. Authentication of a chosen bank account will take less than 2 days.
The Bitcoin.de marketplace displays the latest bids for Bitcoin, both buying and selling. You can choose an offer based upon the current asking price or you can create your own. Just like a true free-market, the price you pick will determine how quickly it’s selected by another user.
Euro bank transfers typically only take 1-2 days, and the Bitcoins will be transferred to the buyer once you have acknowledged receiving the cash.
5. Enjoying the digital economy
If all went well, then congratulations! You have successfully used Bitcoin to avoid costly bank transaction fees.
If you followed the exact procedure from beginning until the end, you
will have paid a maximum of 1.5 percent in conversion fees, a fraction
of that offered by banks and other currency dealers.Of course, this is just a rudimentary run-through, and there are plenty of alternatives out there.
If you’d like to support the world of alternative money not controlled by central banks and governments, use Bitcoins online or visit participating stores in your neighborhood.
Happy trading.