Bitcoin is often in the news. An ‘independent’ money source, it seems to ignore borders and free up money for the darker sides of the Internet, giving criminals an easier way to pay for things.

On the other hand, some people have been using it in legitimate money-making enterprises, speculating on the rise and fall of its values like any other real-world currency.

So is Bitcoin bad? That’s like asking is the Euro bad, or the American Dollar. In fact, those examples are closer than many realize: Because when you ask if the Dollar is bad, you need to look at fundamentals behind it – so let’s do the same for Bitcoin.

To explain Bitcoin and the potential problems, I’d like to introduce you to Shane.

Shane is a precocious kid who is just contrary – the kind that if you say the sky is gray, he replies with ‘well, actually, the sky is blue’ and so on. If you say the day is cold he says ‘Hot’ and so on. Eventually, talking to him is just seeing what he’ll say to be contrary:

Green? Aardvark.
Building? Rolling.
Truth? Wefgfqaojf. (Shane likes to make up words, too).

And so on.

We all know a kid like Shane.

But Shane is consistent despite being annoying: Every time you say ‘green’ to him he comes back with “aardvark,” or for “truth”, “wefgfqaojf”

He’s so consistent that in fact someone decides to use this for security. This person (we’ll call him the Gamemaster) involves you and Shane in a game, and gives you some rules:

1. You get a word, and you have to add another word to it of your choice. So no more ‘green’ – now it’s ‘bangle green’ or ‘saturday green’ or who knows what. This makes it more complicated, because you can’t keep a list of choices in your head – there’s just too many possibilities.
2. You give this double-word message to Shane, and get his reply.
3. You then take the first letter of whatever he replies. If it begins with A through M, you score a win; otherwise it’s a loss if it begins with N through Z. This works because oddly enough, Shane doesn’t try to be silly and give you all Z words – he’s just as likely to give you an answer beginning with “A” as “Z”, or “W”, or “T”.
4. But there’s the catch: You really have no idea what he’ll say, so you have to talk to him a lot to get an answer that works. So you say to him “green 1”, “green 2”, “green 3”, “green 4”, and so on, to get an answer that begins with A-M.
5. Oh, and a penalty rule from the Gamemaster: You have 10 minutes maximum to win, but if you get a right answer too quickly, the rules for answering get tougher – to keep it challenging of course. For example, let’s say you get a “G” answer for a win in only five seconds. The next game you might need to find a word beginning with A-D, with E-Z being a loss. You ace that, and now the rule changes to “A” only, and so on. Keep it up, and you might need to find a word beginning with “AAAAA” to win, otherwise you lose (and since Shane’s replies are sometimes gibberish, “aaaaasffsiahji” is as likely as “aardvark.)
6. Fortunately, the opposite happens as well: If you don’t get a win in time, the next rounds of guesses might have an easier range to win with, like back to A-M, or from A-T.
7. And because the obvious way to play is to avoid a penalty for the next round, and answer at the maximum time of 9:59, a little more pressure: Other people are playing, and there can be only one winner (turns out a lot of people have their own Shanes.)

So let the games begin:

• The Gamemaster gives you the word ‘bright’ – you say to Shane ‘bright 1’ he says ‘nskaoble’. ‘N’ is no good, and you lose.
• Now you try ‘bright 2’ he says ‘qoqujser’. ‘Q’? You lose.
• Again and again you try. Finally you get to ‘bright 129’ and he says ‘ceaofy’ – ‘C’ works, you win, and the round is over. But you did it too fast, so the next round needs the correct answer to begin with A-F instead of A-M.
• Next round, you get “sdijk” so you dutifully ask Shane “sdijk 1”, “sdijk 2”, “sdijk 3”, and so on. You struggle for 10 minutes but fail. The next round will now require from A-T for a win, to make it a bit easier.
• Round 3: The word is “qofk”. And someone in Singapore using her version of Shane answers with “qofk 24832″=”eroalmf” and wins the round. And because she was very, very quick, the winning letter range tightens up again to just A-B!

Of course, to play a game like this in the real world with a truly consistent “Shane” is not possible. Eventually, he’ll tire out, or maybe forget he said ‘aardvark’ for every ‘green’. But his computer equivalent, called the SHA256 algorithm, doesn’t tire out. Every time you ‘ask’ SHA256 a question like:

0110101111101001101101001101110111011010111111010111010011000101011101011110100101011101101100110110111110111101010001111010110111111011100101011001000110110100001010100101110110000010001010011100100110110011100011001101011101111000010100011001100111011011

It comes back with an answer like this:

0110110011011110001001111101101000010000110000111011101011000010000000010110001100011110111110001101000011000100001000010100000000110000010000011001100001011111010001111101101110010011010001110011011001111101110111111010010010111000101011010000111000000100

And instead of A through G, it’s more like the number of zeroes at the front. Guess too quickly, and you’ll need more zeroes in front for a correct answer next round. But if everyone takes too long, next round you can win with less zeroes (with Bitcoin, this rule ‘adjustment’ happens once every 2016 rounds, or about 2 weeks).

So Bitcoin works like this:

• You get an outside package of data, which you add your guess onto – the result goes to ‘digital Shane’ to get back an answer. If the answer qualifies, you win, and get a few bitcoins for your trouble. If you lose, you try again. And you have 10 minutes per round. And other people are doing it too. And some have really fast computers that can ask questions really fast (process the SHA256 algorithm quickly).
• Also, just like guessing Shane’s replies, guessing what the SHA256 will respond with is in practice impossible (there are 2^256 possible answers, or about 1.2*10^77, and only a few are ‘wins’). So you ask, and ask, and ask again, as fast as you can. So, it’s no wonder that Bitcoin creation (called ‘mining’) uses powerful computers.

So, sound like a game you’d like to play? Then get started, because there also another rule: A deadline to Bitcoin itself. Unlike ‘real’ money, the supply will capped at 21 million.

This deadline affects another aspect of Bitcoin. That random word you’re given to start with? Not so random. In fact, it’s part of the data used by Bitcoin itself. So all the calculations and guesses you are doing are tied into the security of Bitcoin. What happens when fewer and fewer people do the guessing, and eventually stop? Bitcoin will eventually enact a transaction fee for processing, which will help the situation, but who enforces the fee – and like many things on the Internet, will the fee go down towards zero? At some point, a transaction will depend on a computer doing the work – and computers (unlike digital ‘bits’) aren’t free.

In the real world, currency is tied to a country, and they are free to print more money (making inflation happen, of course). Bitcoin is going through an inflationary period now, but what happens in the future? We’re talking about a world-wide currency that will never increase in amount, something unheard of in this modern age. It’s expected the value of it will grow as it is used more and more – but there has been a lot of financial speculation in the world of late, and a lot of screwed up countries to show for it.

How will countries feel about it? Around the world American dollars were tightly controlled since they often undermined the local currency. Nowadays this is less so, but what about Bitcoin? Will laws eventually be enacted to enforce its use? For example, here in Canada you have to declare outside monies earned. How do you declare a Bitcoin? And what valuation do you use? If it gets profitable, countries will not shy away from taxing it.

Another issue: I talk about Shane here to explain the key to the whole Bitcoin process, the SHA256 algorithm. If someone were to come up with a faster way to calculate it (not just a little but a lot faster) they could corner the Bitcoin market, since the right guesses would get harder and harder to get until only they could play. In the world we have currency speculators who try to make ‘runs’ on real world money, which can number in the hundreds of billions or trillions – with Bitcoin’s cap of 21 million could this be managed more easily? Fortunately, an exponentially faster SHA256 is not likely – if it was, not only would Bitcoin suffer, but our entire economy, which depends on algorithms like this to manage all our financial transactions, Bitcoin or not (stay tuned for quantum computing, however, which is expected to break all this – someday.)

Currently, the future for Bitcoin does look bright. More and more people are hearing about it and trying their ‘luck’ at it. But one somewhat more reliable way to success is in what I call selling shovels. This refers to gold miners of bygone eras, where a few people became insanely wealthy panning for gold, while most went broke; but others got consistent riches selling pans and shovels to all the miners. Whether you go for the huge win or the consistent ‘selling shovels’ route (or avoid Bitcoin altogether) is your choice – but expect to hear about it for quite some time…