• 09 December 2020
  • Treasury

The mysterious birth of bitcoin

A new weekly blog on the rise of cryptocurrencies - Part One

 

Bitcoin has still only been around for just over a decade, and remains a fascinating concept. Why has bitcoin, along with cryptocurrencies in general, become so popular and trusted in such a short space of time? What impact has the arrival of cryptocurrency had on currency markets and on the treasury function within a business? Are we just at the beginning of a revolution in how we trade and deal with each other?

I will be attempting to answer some of these questions in a new weekly cryptocurrency blog.

To kick off, I will start with the basics, looking at how money works and why the currency market was ripe for disruption.

The mysterious birth of bitcoin

Money in my pocket… 

If you go way back in time, as far back as the start of this year (before the pandemic changed the world), you may recall that people used to carry bank notes around them, or money as it used to be called. It was a strange concept. You could go into a shop or a bar and exchange a small strip of slippery paper for goods or services.

It was all based on a promise. The sheets were effectively IOUs with the small print on a tenner, for instance, declaring, “I promise to pay the bearer on demand the sum of ten pounds". 

Who promised this? It’s a great question for the Christmas quiz. A close examination of a tenner reveals this important promise was signed by Chief Cashier Sarah John, on behalf of the Governor and Company of the Bank of England.

She is the person we have to trust. When the pubs finally open properly, if I try and buy a couple of beers with a ten pound note, the bartender will have to take a leap of faith, and believe that Sarah will live up to her promise and be good for that tenner. 

When described in these terms, it all sounds a bit of a risk. Few of us would recognise  Sarah, let alone know her personally. But we have no concern about giving and receiving bank notes - we all have utter faith and trust in the system.

Money by decree

Currencies such as sterling, euros and dollars, are examples of Fiat Money - they are currencies which do not have intrinsic value, but they have been established as money, usually by way of government regulation. The Latin word ‘fiat’ roughly translates to “by decree”. In the case of a currency, it is real just because the government says so. 

Fiat money is only worth anything because a government maintains its value, or because parties engaging in exchange agree on its value. To believe in a fiat currency, you have to have faith in the institution that created it. If a country descends into civil war and the government loses its authority, you can expect the trust in the currency to plummet, and citizens will scramble to transfer their savings into safe currencies such as US dollars.

Although it is not overly difficult to create a local currency, convincing the world to take it seriously (and accept it as legal tender) is another matter entirely. To consider creating a currency, with brand new technologies and without the backing of a nation state, would appear to a folly of epic proportions.

Unless that is, you believe that the whole concept of fiat money is deeply flawed and, consequently, dangerous. And such a viewpoint was not unreasonable in 2007 when the vast interconnected financial networks suddenly failed in the most dramatic way.

Step forward the mythical Satoshi Nakamoto

The launch of Bitcoin could hardly have been more perfectly timed. In 2009, the full implications of the global financial crisis had been laid bare, and trust in the banking system had taken a damaging hit. What better time for a new way of trading?

Was bitcoin a stringing rebuttal to the failures of the financial establishment? Perhaps it was. The mysterious Satoshi Nakamoto, the inventor of bitcoin, was certainly happy to promote this narrative with a pointed reference to the crisis on the very first bitcoin release. 

In January 2009, bitcoin was unleashed on the world. The New Yorker’s Joshua Davis wrote, “There are lots of ways to make money: You can earn it, find it, counterfeit it, steal it. Or, if you’re Satoshi Nakamoto, a preternaturally talented computer coder, you can invent it. That’s what he did in January 2009, when he pressed a button on his keyboard and created a new currency called bitcoin. It was all bit and no coin. There was no paper, copper, or silver - just thirty-one thousand lines of code and an announcement on the Internet.”

Nakamoto launched the currency by releasing version 0.1 of the bitcoin software and ‘mining’ the first ever block of bitcoin, known as the ‘genesis block’ (I will explain mining and other processes in next week's blog). Embedded within the block was a line of text, taken from a newspaper headline: 

"The Times 03/Jan/2009 Chancellor on brink of second bailout for banks

Some believe this was just a way to timestamp the ‘genesis’ block’, but the general consensus was that it was a deliberate and barbed criticism of the banking status quo.

Nakamoto was savagely critical of the financial institutions believing that the system was vulnerable to unpredictable interventions, often for political reasons. For him, the notion of fractional-reserve banking, where banks only needed to hold a small percentage of their deposit liabilities in reserve, was inherently unstable.

Talking about Nakamoto’s motives or views is a risky endeavour - as no-one knows who he is (or was). Seeing as no-one had heard of him before, his name is inevitably a pseudonym. Some schools of thought suggest that Nakamoto was more than one person. On the assumption that it was one person, he appeared to have been central to bitcoin development from 2008 till late 2010. At this time he was active on blogs and forums, but almost overnight he mysteriously vanished from the community, and his footprint on the internet began to mysteriously disappear.

Davis writes, “Before the début of bitcoin, there was no record of any coder with that name. He used an e-mail address and a website that were untraceable. In 2009 and 2010, he wrote hundreds of posts in flawless English, and though he invited other software developers to help him improve the code, and corresponded with them, he never revealed a personal detail. Then, in April, 2011, he sent a note to a developer saying that he had “moved on to other things.” He has not been heard from since.”

The short history of bitcoin has seen huge fluctuations in valuations, a huge malicious hack, the launch of competitor currencies and some countries have banned it outright. But the biggest mystery surrounds the person(s) who started the whole thing - the elusive Satoshi Nakamoto.

-

The rise of cryptocurrency - The blogs

2 - Bitcoin - A beginners guide

3 - The dark side of bitcoin

4. Will the volatility ever end?

5. Can block chain technology make elections foolproof?

6. Bitcoin and the Elon Musk Effect

7. Is Bitcoin killing the planet?

8. Bitcoin  - A Treasury view

-

Guy Middleton is a Treasury Associate Director at Harvey John.

If you would like to see our company updates and industry insights, follow our LinkedIn page here.

© Copyright 2020 Harvey John. All rights reserved.

Designed & Built by Venn Digital