May 2, 2013

Bitcoin: Possible Shortcomings

               The electronic crypto-currency known as Bitcoin is the new hot topic of debate among economists. A year ago, Bitcoin appeared to be little more than a digital novelty, the concept of a completely decentralized digital commodity that individuals all around the world would use as money completely alien to the general populous. The events of the past few months have proven differently,  with Bitcoin's sudden rise in value leading many to hail Bitcoin as the future of money. This claim is not entirely with reason. Bitcoins are superior to conventional currency in many aspects, such as imperishability,  transportability, and divisibility. However, Bitcoin falls short is two key aspects, and only time will tell if these shortcomings will prove to be Bitcoin's ultimate undoing.
                The first aspect Bitcoin falls short in is  ease of use. Few businesses, either digital or brick-and-mortar, accept Bitcoins as payment for goods and services. While that number is starting to increase, current Bitcoin users must rely on digital trading houses, which charge a fee for each transaction, to convert Bitcoins into local currency. Due to the decentralized nature of the Bitcoin system, It is not uncommon for transfers to take an hour or more to process, and the problem will only get worse as new users, and therefore more computers, are added. With no central controlling entity with an incentive to improve the Bitcoin client in order to attract new users, current users are forced to rely  on third party development to improve the system, which can  lead to software conflicts, further decreasing the system's performance.
                The second aspect that may result in the failure of Bitcoin is its presumed inability to be counterfeited. One of the most widely known traits of Bitcoin is its 21 million "coin" cap. The system is purportedly programmed to never pass this limit, ensuring that Bitcoins will never inflate. However,  with this critical task left entirely to the system, and with no governing entity ever vigilant for hackers developing new ways to ensure that the currency cannot be duplicated, it may only be a matter of time before someone finds an ingenious way around the system's safeguards and finds a way to counterfeit bitcoins. Every user has an incentive to be the first to hack Bitcoin's system, for whoever discovers it first will be able to reap a vast sum of money by simply creating and selling as many Bitcoins as possible until the currency inevitably collapses. What makes this even more attractive is the fact that, due to Bitcoin's open-sourced nature,  so long as the hackers find a way to create more Bitcoins instead of stealing, their actions will be perfectly legal.
                Despite these flaws, this does not mean that Bitcoin is a great leap forward in the development of currency. A similar system with a currency cap could be adapted to work under some form of private ownership, which would result in an individual with incentives to actively upgrade and monitor the system in order to attract more users, resulting in greater profits for the owner. So long as the owner is able to prove that he is unable to inflate the currency, the result will be a system that is, in theory, superior to Bitcoin. Such currencies are already in development, and only with time will the market process show what system consumers prefer.   

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