When Satoshi Nakamoto created Bitcoin, he outlined its primary use case in the white paper. According to that white paper, Bitcoin should primarily serve as a medium of exchange. Where do we stand 11 years after Bitcoin’s inception? Is Bitcoin really used as a medium of exchange or is it rather used as a store of value? Find out below!
Bitcoin was invented in 2008 by an unknown person or group of people using the name Satoshi Nakamoto and started in 2009 when its source code was released as open-source software. As explained in previous blog posts, new Bitcoins are only created as a reward for a process known as mining. Bitcoin mining is the processing/validating of transactions in the digital currency system, in which the records of current Bitcoin transactions, known as a blocks, are added to the record of past transactions, known as the blockchain. To take part in the mining process, miners have to invest computer power (and hence electricity) to solve highly complex hash puzzles. In return, they are awarded a certain number of Bitcoins per block. The consensus algorithm described above is referred to as „proof of work“ (POW) and is a common consensus algorithm used by cryptocurrency networks like Bitcoin and Litecoin. It requires a participant node to prove that the work done and submitted by them qualifies them to receive the right to add new transactions to the blockchain and therefore further participate in the mining process (to receive newly mined bitcoins).
Bitcoin was originally meant to be a decentralized medium of exchange. Based upon the first blockchain, Bitcoin aimed to become a global digital and decentralized currency, which empowers everyone to transact directly (“peer-to-peer“) between each other to allow for transfer of value without the need for any central authority as intermediary. In the traditional system, central parties are needed to provide trust and to keep records of who owns what Bitcoin (and cryptocurrencies in gerneral) doesn‘t need a central authority in its network, as the trust provided by such a party is replaced by a blockchain-based distributed ledger, which is secured by cryptography and only changed if consensus on the requested changes is achieved within the network (how this happens depends on the consensus algorithm). The cryptographic characteristics of a blockchain ensure immutability and render manipulation impossible. Therefore, in a cryptocurrency network, everyone knows who owns what as this information (balance of the wallet addresses) is stored in a distributed (stored all over the network, not in a single place) ledger.
With regards to the capacity of bitcoin to serve as a medium of exchange, there are multiple limitations. First of all, and probably most importantly, the Bitcoin price still is highly volatile, which makes it hard to use it as a medium of exchange because of the exchange rate risk merchants and service providers would face. Moreover, the scalability of the bitcoin network in its current state is very limited with regards to transaction processing and speed. Currently, completing a transaction on the bitcoin network takes approximately 10-15 minutes and transaction costs are comparably high, which is problematic to serve as a useful medium of exchange for everyday transactions. Many Altcoins offer higher scalability potential and faster transaction processing for lower fees.
Because of the volatility of is price, and the unprecedented performance of Bitcoin (and other cryptocurrencies) in the past years, interest in this digital asset mainly stems from traders and investors, ranging from private small investors (predominantly millennials), over professional investors to even institutional investors such as hedge funds and others. All either hoping to profit from the high volatility or betting on another parabolic bull run like in 2017 when BTC reached 20k USD and hoping. For long-term value gains. Therefore, the primary use case for bitcoin has shifted to being a speculative asset and a store of value rather than a medium of exchange. Because Bitcoin‘s maximum supply is hard-capped at 21 million Bitcoin and the rate of bitcoins to be mined (BTC rewards per block) is decreased (halved) approximately every four years, Bitcoin is considered to be very scarce and has a very low inflation rate, which even decreases over time. This makes many people believe, that Bitcoin‘s primary use case should be store of value as it represents a form of digital gold, as it is costly to produce (mine) and limited in supply. Also, because of the low inflation rate, many see bitcoin as a perfect hedge against the impeding FIAT inflation amid the very expansionary monetary policy during the past few years and now during the COVID19 pandemic.