A little on Bitcoin

There’s a lot of fuss going on around about “the next best thing” on the Internet – the Bitcoins. I decided to compile some of my thoughts and impressions on this thing, and explain why I think it is a giant scam.

First – what it is: bitcoin is a software that is designed to produce certain amount of digitally signed chunks of digital data, called “bitcoins”. The software is designed to be decentralized (similarly to BitTorrent network, hence the name), and the digital signature is supposed to ensure that every chunk of data is unique and authentic. The software creates these chunks through a process called “mining” when several distributed (or one powerful) computers recalculate the digital signature hashes. The created signed batches are given as “rewards” for the hashing efforts.

The proponents of the bitcoin software call it a currency, claim that it is safer than the government backed currency, and that it is “real”, vs the “paper” regular currency.

I will show now why it is not true, and why it is in fact a scam (basically – its a Ponzi scheme).

1. Safe. How safe is it? The accounts are anonymous, the money doesn’t exist in reality, and the digital wallet will only work if you’re connected to the network. Once your computer is stolen or the password is compromised – there’s no real way to recover, and the police won’t help you much because no real thing was stolen. Here’s an example just from today – $12000 worth of bitcoins stolen. What can you do if it happens to you? Nothing. Safe? Think again.

2. Reliable. It is only reliable if people think its reliable. That’s exactly why its a scam. While the “paper” money is backed by your government (and say whatever you want – its the government you elected, so if you trust them to govern you should trust their money, or vote them out), the bitcoins are backed by nothing. Today someone wants them, tomorrow – the trend is over and you’re stuck with bits on your computer that worth nothing. No-one to hold accountable, no-one to outvote, no-one to complain to. Reliable? Think again.

3. “Real” money. Is it real? It comes out of thin air. There’s no underlying value. Paper money has underlying national economy, precious metals have the underlying intrinsic value and have demand in industry that means they will always have some value. Bonds, stocks – have certain guaranties and assets to back them up. You can evaluate these assets and decide what’s the risk you’re taking. You can try to assess the future growth of the national economy and decide whether to invest in its money. But what is the underlying value of the bitcoins? NOTHING. So how is it real? Think again.

4. Ponzi scheme characteristics. The bitcoins are created by a certain algorithm, and it provides a limited supply. More than half of that supply had already been created and allocated between the early investors. Some paid real money into it, some just “created” the coins out of the thin air. The earlier they started the more coins they have. Compare it to gold: people have been mining gold for thousands of years, and there’s still plenty left to mine. Bitcoins have been around for only several years, and more than half have already been allocated to very few. The more people join in – the more profits these early starters have. So they have an inherent interest to get you all suckers into this scheme. But what do you get out of that? People who claim that bitcoins are the real money and the paper is worthless – want you to pay the same old paper US dollars for their bitcoins. Now think – why would they want these unreliable worthless pieces of paper and give up their own “real” currency to you? That’s the whole point of Ponzi schemes. Once the suckers stop coming it collapses.

So what do you do with this? Whatever you want. But consider this: the bitcoins are currently used mostly to break laws. That’s the barter of choice for drug dealers, money launderers, tax evasion and cross-border smuggling. They need you to pour in your “paper” money so they could cash-out of their bitcoins. Do you really want to support these people? Think again.

Bottom line – don’t just believe everything you hear, think for yourself and evaluate for yourself.

Your Little Advisor