Bitcoin Review: Pros and Cons (Part 2/3)

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In the first part of this article, I introduced Bitcoin, what it is, where it came from and how it works. Now that you have a better understanding of the topic, I will explain the reasons why you might want to use Bitcoins, but also the major drawbacks of the system underneath. This will help you decide if you want to buy some Bitcoins or not.

Bitcoin Advantages

As an electronic form of payment;

1.  Transferring Bitcoins from one wallet to another is practically free of charge and there is no limit on the amount you can transact. For example, it will cost you less than a dollar to transfer millions of dollars, compared to Paypal and bank wire transfers which cost around 3% of the amount and limit the amount you can transfer in a given period.

2.  Bitcoin transactions are almost immediate and can be done all over the world, whereas other online transfer services can take several days to process and may be restricted to specific geographic areas.

As a digital currency;

3.  Bitcoins are cheaper to produce than paper money and metal coins and can be issued by anybody. However the huge amount of electricity needed to run a Bitcoin mine can be costly for an individual.

4.  Bitcoin was designed to become a viable alternative to the current monetary system. As western economies like the United States have been sharply increasing their fiat money supply over decades for various reasons (stimulating economic growth, reducing interest rates, repaying debt, etc), there has been a long-run decrease in the value of those currencies, hence inflation. Conversely, the Bitcoin was designed to be capped at a maximum production level (the total number of Bitcoins that will ever exist is hard coded in the software at 21 million BTC) and the increasing complexity of algorithms are making it more difficult to mine Bitcoins. So because of its scarcity, the value of the Bitcoin is expected to increase in the long run, making it a more desirable replacement for traditional currencies.

Bitcoin Disadvantages

1.  Bitcoin is a decentralized system of payment, which means that its circulation, supply and demand is not regulated by any controlling authority, contrary to fiat money (i.e. your dollar bills), which is issued by central banks. Anybody with a powerful computer can mine Bitcoins and become their own bank. This feature has made it attractive to people eager to see a change in the global financial system, presently ran by public and corporate institutions. However it also means that:

    • Bitcoin users are more at risk to be victims of fraudulous abuse like illegal mining, counterfeit, hacking or a sudden increase in the production limit.
    • The value of a Bitcoin can be manipulated at any time by speculators, thus influencing the exchange rate and the consuming power of Bitcoin users.
    • The supply and demand of Bitcoins cannot be controlled to stabilize the exchange rate volatility or monitor interest rates (in case a Bitcoin credit system emerges).

2.  Bitcoin is not backed by any tangible asset (like the Dollar used to be in regards to Gold). Therefore its value will drop to zero, once the public loses interest or trust in it, particularly since it’s not endorsed by any government. Plus, many factors could lead to the depreciation of the Bitcoin today, including regulation (most countries have either banned digital currencies or are working on legal restrictions to limit their circulation in the ‘real’ world), and rejection from mainstream finance (e.g. a lot of banks refuse to transact with businesses which deal with Bitcoins)

3.  Criminals have historically used digital currencies to launder their money and trade on underground economies. So Bitcoin is not new. Actually, several digital currencies presently exist under a comparable design. Examples are Litecoin, Namecoin, Peercoin, Primecoin, Feathercoin, Novacoin, Infinite coin, Mega Coin and Quark Coin. This system makes it much easier for criminals to transact on the ‘Dark Web’ anonymously. Many online stores like Silk Road (who recently got shut down) are still able to sell illegal drugs and guns by using Bitcoin as a medium of exchange.

4.  Bitcoin might fail to establish a fully democratic financial system. Indeed, not only is there very little information on who created Bitcoin, but like every valuable asset, the Bitcoin is or will be controlled by people who own a lot of it. So as the currency appraises and the mining algorithms get more difficult, Bitcoin miners and early investors like the Winklevoss twins from Facebook, will be able to influence the market the same way the biggest investment banks do through market making and insider trading.

So should you buy Bitcoins or not?

Bitcoin has been able to establish itself as a medium of exchange, but still lacks two crucial characteristics of money. Indeed, because of its hyper volatility, It is not yet a viable store of value and a trustworthy unit of account.  However I do think digital currencies in general make us redefine the way we think about finance and can be used for a greater good. But today, in regards to Bitcoins, you basically have three options:

  • Buy some Bitcoins and start transacting with them because it’s cheaper, faster and global (personally I don’t see much added value with this option).
  • Buy Bitcoins and hold them, with the intention of selling them at a higher price if their value continues to increase.
  • Invest in companies that offer services to Bitcoin users. As the number of users increase, those companies will grow very fast.

In part 3 I offer some food for thought and explain how we can benefit from an improved version of Bitcoin. Read: Are Digital currencies the future of finance?

Did this help? Your opinion matters. You can rate this article, leave a comment below or share it on social media. Follow Bobbyfinance for more financial tips.

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