What is Bitcoin?
Bitcoin is a form of digital currency, created and held electronically. No one controls it. Bitcoins aren't printed, like dollars or euros – they're produced by lots of people running computers all around the world, using software that solves mathematical problems. It's the first example of a growing category of money known as cryptocurrency.
What makes it different from normal currencies?
Bitcoin can be used to buy things electronically. In that sense, it's like conventional dollars, euros, or yen, which are also traded digitally.
However, bitcoin's most important characteristic, and the thing that makes it different to conventional money, is that it is decentralized. No single institution controls the bitcoin network. This puts some people at ease, because it means that a large bank can't control their money.
So you can't churn out unlimited bitcoins?
That's right. The Bitcoin protocol – the rules that make bitcoin work – say that only 21 million bitcoins can ever be created by miners. However, these coins can be divided into smaller parts (the smallest divisible amount is one hundred millionth of a bitcoin and is called a ‘Satoshi', after the founder of bitcoin).
What is it based on?
Conventional currency has been based on gold or silver. Theoretically, you knew that if you handed over a dollar at the bank, you could get some gold back (although this didn't actually work in practice). But bitcoin isn't based on gold; it's based on mathematics.
Around the world, people are using software programs that follow a mathematical formula to produce bitcoins. The mathematical formula is freely available, so that anyone can check it. The software is also open source, meaning that anyone can look at it to make sure that it does what it is supposed to.
What are its characteristics?
It's decentralized: The bitcoin network isn't controlled by one central authority. It's easy to set up: Conventional banks make you jump through hoops simply to open a bank account. Setting up merchant accounts for payment is another Kafkaesque task, beset by bureaucracy. It's anonymous: Well, kind of. Users can hold multiple bitcoin addresses, and they aren't linked to names, addresses, or other personally identifying information. It's completely transparent: bitcoin stores details of every single transaction that ever happened in the network in a huge version of a general ledger, called the block chain. The block chain tells all. If you have a publicly used bitcoin address, anyone can tell how many bitcoins are stored at that address. Transaction fees are miniscule: Your bank may charge you a $2 fee for international transfers. Bitcoin doesn't. It's fast: You can send money anywhere and it will arrive minutes later, as soon as the bitcoin network processes the payment. It's non-repudiable: When your bitcoins are sent, there's no getting them back, unless the recipient returns them to you. They're gone forever.