May 11, 2017

When the local vada-pav joint started accepting Bitcoin, I was a bit startled, but in retrospect, it is not so unlikely. This may well be the form of a large amount of monetary transactions in the future. Bitcoin was the one among many cryptocurrencies that grabbed the attention of the many. For that reason, it is special.

In order to understand the innards of something like Bitcoin, let us take a step back and ask what a coin or currency means. It is a token of value for goods or services provided or work done. The basic requirements of currency is that it should be hard to duplicate (or counterfeit), that any transaction should be irreversible (once you give someone money, you can't reverse it), and the value of any token should be understood by most people.

The underlying technology of Bitcoin is called Blockchain. It is a distributed ledger or data storage that achieves the goals outlined above. Blockchain records are unique. They are very hard to tamper with or replicate (although a serious vulnerability was discovered in 2010). They are irreversible by design. The core idea of Blockchain is something called proof of work, which is basically a record of value created. The quantum associated with these records and the value is consistent at least on a relative scale. All of this is achieved through very sophisticated cryptography and other algorithms.

In the case of open-source applications like Bitcoin, these records are published but there could be implementations of the same ideas that are private. Each block of a Blockchain consists of an encrypted record that includes the result of the previous record in the chain. The process of verifying and propagating the unbroken chain in order to complete a transaction is done by a large number of distributed nodes and is referred to as mining. Blockchain is designed to remain consistent and secure as long as the number of good nodes in the system is more than the number of rogue nodes (if any). At any given point in time, a particular Blockchain is considered to be the master ledger and any rogue or inadvertent branches die off in a stable system.

 There were more than 710 cryptocurrencies available for trade in online markets as of July 2016. Image Source

Bitcoin is based on a now iconic paper from 2008 published under the name Satoshi Nakamoto  (believed to be a pseudonym). There are other cryptocurrencies, and in the future we can expect regime-specific versions to emerge, e.g. a crypto-rupee! One of the most powerful features of such cryptocurrencies is that they are purely peer-to-peer, and thus obviate the need for expensive intermediaries like banks and gateways. They can therefore enable extremely efficient digital payment solutions.

As with any other financial instrument, there is a need to standardize and regulate Bitcoin, and unfortunately such processes are regime-specific and extremely complex. While Bitcoin is legaland regulated in many countries around the world, its market behavior is like that of a commodity (i.e. its exchange rate freely fluctuates based on market forces) and is not backed up by any guarantee. Its status in India is somewhat ambiguous. let it suffice to say that it is not illegal and also not regulated here.

Text by Chetan Vinchhi. 


Chetan Vinchi is a Technologist, Entrepreneur, Mentor, and Consultant based in Bengaluru.