What is a Bitcoin?

If you ask a Bitcoin apologist the most fundamental question about their currency, you'll get a litany of terms of art, like "blockchain", "mining", or "Merkle tree." What you won't get is a clear explanation of what gives a Bitcoin value, and why you should exchange what their community calls "fiat currency", e.g. dollars, euros, or yuan, for it.

The simple answer is that Bitcoin is a digital reward for solving a cryptographic puzzle. Solving this puzzle has no ancillary benefit to our collective knowledge or scientific understanding; it is simply meant to occupy computers for a considerable period of time.

The puzzle in question is to find a value (called a nonce, or "number only used once") that, when hashed together with the block data, produces a hash that is less than or equal to a target value set by the network. This target value adjusts over time to maintain a consistent rate of new block creation. That sounds complex, but essentially amounts to a game in which the world competes to guess a number. The first such number, used to mine the initial block of Bitcoin, portentously called the Genesis Block, was 2083236893. As a reward for guessing this number, Satoshi Nakamoto, the pseudonymous creator of Bitcoin, awarded himself 50 Bitcoin to his own digital wallet.

The difficulty of this puzzle changes fortnightly, as an attempt to ensure that a number is guessed correctly about once every ten minutes. When the difficulty target decreases (making it a smaller number), it becomes statistically harder to find a hash that is less than the target. This means miners will, on average, need to make more attempts—trying more nonce values—before they successfully mine a block.

Miners respond to increased competition by purchasing more hardware to help them win the race to guess a number. This initially meant buying better CPUs, and quickly transitioned into purchasing graphics cards, or GPUs. GPUs are better-suited to parallel processing, versus the sequential processing prowess of CPUs. Since 2013, even GPUs have been abandoned in favour of ASICs (Application-Specific Integrated Circuits), which are chips tailor-made for the task of mining Bitcoin. These typically cost thousands of dollars each, and are therefore out of the reach of hobbyists.

The result is an un-winnable arms race, in which mining companies invest ever more money, electricity and time into their number guessing, which results in a dynamic adjustment of the difficulty of this guessing game, which prompts those companies to invest still more. As long as the miners have not yet exhausted all natural resources on Earth, this arms race can continue.

The fundamental nature of this game (commonly called Proof of Work, or PoW), is completely arbitrary. It happens to involve a SHA-256 cryptographic hashing algorithm (hence the "crypto" in "cryptocurrency"), but could just as easily involve any task that can easily be made more or less difficult, depending on the level of competition.

Let's use a thought experiment to create our own currency based on this same principle. Our currency is called DuluthCoin. In the context of our driving record, or DriveChain, drivers earn DuluthCoin by demonstrating via GPS data that they have traveled a multiple of the length of the city of Duluth, Minnesota, dynamically-determined by the network. This GPS data is our Proof of Work.

Initially, the 11km length of Duluth, Minnesota makes for a comfortable ten-minute drive for the first driver on the DriveChain, consistent with the goal of driving a single block every ten minutes. This intrepid initial participant earns 50 DuluthCoin for his trouble, and word spreads. Soon, hundreds of people are competing for this same reward. As long as they are all traveling at roughly the same speed, the distance remains the same, as a block is being driven every 10 minutes. A small degree of luck is involved, in the form of traffic, weather conditions, and vehicle performance but, in the aggregate, someone is winning the race every ten minutes. The percentage of the time each individual driver is rewarded therefore decreases. Very quickly, the drivers devise strategies to outpace the competition, and to thereby ensure they will be rewarded.

Some drivers pool their resources, and trade in their individual cars for a single, faster car, capable of traversing 11km in half the time–about five minutes. These drivers act as a single entity, called Roadtrip Digital Holdings. They win the race handily, and share the 50 DuluthCoin reward equally, netting them a DuluthCoin apiece.

A fortnight later, the DuluthCoin network responds to the new reality, in which Roadtrip Digital Holdings is driving a new block every five minutes, by increasing the difficulty to 2, requiring that two lengths of Duluth be traversed in order to drive a block, ensuring that a block is again driven once every ten minutes.

All this activity has attracted yet more drivers, some of whom have considerable means. 5 extremely wealthy drivers pool their resources to buy a truly outstanding vehicle, capable of traversing the current PoW distance of 22km in a mere five minutes. Other moneyed drivers follow suit, and soon the resulting groups essentially take turns earning DuluthCoin.

The distance of the PoW steadily increases to keep pace with automobile advancements that allow for the purchase of faster cars, with a trend toward the consolidation of resources in order to afford these new advancements, and the fuel it takes to power these supercars. What began as a decentralised race involving individuals of modest means quickly evolves into a highly-centralised skirmish between large corporations, using ever-more wealth and natural resources to outpace the competition.

Most of these vehicles burn fossil fuels, just as 53% of all electricity used to mine Bitcoin comes from coal, with 62% coming from non-renewable resources in general. As DuluthCoin becomes a more prevalent form of payment, an increasingly large percentage of the world's wealth is stored in the DriveChain. As the acquisition of this coin requires an ever-increasing level of investment, the trend toward centralisation increases.

Soon, the landscape looks very much like that of Bitcoin, which stores 0.11% of the world's wealth, with the top 1% of Bitcoin holders owning 90% of the total supply. Compared to traditional currencies, this is a much less equal distribution. The top 1% of individuals own 50% of the world's total wealth in traditional holdings. The nature of the DriveChain ensures that this trend will only worsen over time.

In summary, we have managed to create a currency that, unlike traditional currencies, requires increasingly more natural resources to create. The zero-sum nature of the reward ensures that those with the most resources invariably win the race, which guarantees an inexorable trend toward the consolidation of wealth.

Duly chastened, we take steps to shut down the DriveChain, but it is too late--the decentralised nature of the DriveChain itself renders its deactivation impossible. This is fantastic news for the Mad Max franchise, and terrible news for everyone else.