Bitcoins are a new type of virtual currency that developed in 2008 on the basis of a draft paper (white paper) produced by Satoshi Nakamoto. The white paper is available here. The concept of anonymous digital money based on an asymmetric crypto system such as RSA has been known since 1977. Bitcoins are based on the growing idea of a cryptographic currency that in 1998 was described by Wei Dai as b-money and by Nick Szabo as bit gold.
It is not known whether Satoshi Nakamoto or a person by that name actually exists or whether it is only a pseudonym. Satoshi Nakamoto is said to have bid farewell to developer colleagues after the development of the bitcoin software (client) at the end of 2010 with the message that it was high time for them to dedicate themselves to new projects. The project has been continued by some developers under the direction of Gavin Andresen. The software project is firmly established in the open source community.
The bitcoin network started on 03 January 2009 with the release of the first bitcoin client ‘bitcoind’ that generated the first units on normal PCs. At that point bitcoins did not yet have a quantifiable value in other currencies. The first exchange rates were negotiated about one year later at the beginning of 2010 by persons in the ‘bitcointalk’ forums.
The concept of bitcoins is to establish a free currency independent of central banks, created and administrated via a computer network and suitable for international electronic transfers. The bitcoin network is generated by users running the bitcoin client software on there computers or smartphone.
Ownership of monetary units can be established by holding cryptographic keys (private keys). Each transaction of monetary units between users of the network is recorded in an open database supported by the entire network and provided with digital signatures. This ensures that the amounts of money are forgery-proof, yet at the same time they are subject to a risk of theft through secretly uncovering keys.
The monetary unit is traded as a currency not associated with any country or central bank in online markets such as bitcoin.de and is convertible into a variety of different currencies in the most important industrial and developing countries.
While a significant part of its use has supposedly been speculative and the conversion rate subject to considerable short-term fluctuation, small traders as well as several large well-known online service providers, including users totalling many millions have begun to accept the bitcoin as a means of payment. Furthermore Bitcoin has generated interest as a means of protecting value due to its characteristic of a long-term strictly limited money supply (protection against inflation) and general independence from the traditional financial system.
Bitcoin units are forgery-proof due to a highly secure encryption method. Each amount of money can only be spent once as every transfer of money is irrevocably stored in the bitcoin network and therefore on the systems of each user of bitcoin software. The bitcoin network generates a relatively fast confirmation of transactions within ten and sixty minutes free of charge or a minimal charge per transaction. Ownership of bitcoin amounts is verified by the content of an electronic wallet that contains cryptographic keys. These key signatures are a prerequisite for the recording of a transaction in the network-wide index, the so-called ‘block chain’. The block chain can be viewed on a number of internet pages such as blockchain.info.
Recording of transactions in the block chain takes place by generating a digital signature based on the ‘proof-of-work’ procedure, performed jointly by all computer nodes participating in the bitcoin network. A controlled creation of new monetary units also takes place within the scope of this procedure and through credit entries for a successful ‘proof of work’. The keys do not need to be revealed during this procedure. It is however necessary to protect the wallet against loss through spying or malware.
Payments are sent to pseudonym addresses that the bitcoin software is able to regenerate for each recipient. Bitcoin does not enable identification of the trade partners. The system does not guarantee complete anonymity though, as the chain of all transactions is published openly in the transaction history and a link to further information is in principle always possible.
The quantity of monetary units cannot be manipulated and has an ‘installed’ fixed upper limit. New monetary units may be earned by users of the bitcoin network by applying processing power for the confirmation and signature of transactions.
The ‘value’ of bitcoins exclusively depends on the acceptance or non-acceptance by potential users and is subject to the laws of a free market meaning supply and demand.
Bitcoin features the specific concept of linking remittance transfers with the attribute of limited money supply. The maximum volume of bitcoins had been determined at 21 million at the time of drawing up the bitcoin protocol.
Forgery of units or transactions is effectively impossible according to the current state of knowledge due to the applied asymmetric cryptographic procedure ECC and digital signatures with a dual application hash function.
Incorrect accounting or even the entire bitcoin network becoming unserviceable due to software faults however may not be completely ruled out. Although statistically this risk reduces day by day it may not be completely ruled out.
When the fee is increased voluntarily the confirmation procedure is accelerated by applying a higher priority in the calculation by other users of the network . The fee is credited to the respective network node issuing the confirmation signature. The procedure is to avoid in particular the network being overloaded by numerous and very small transactions. In the long term these transaction fees are planned as a reward for the upkeep of the net by providing processing power.
The system is completely decentralised due to the peer-to peer structure. Influencing the quantity of money would require the majority of the mining processing power being performed with modified software, as otherwise a fork is created between protocol and payment unit that is not generally acceptable.
The initial allocation of money was an issue at the introduction of bitcoins as a currency. Modern national and private currencies - as opposed to bitcoins - are secured by an undertaking to pay by the issuing authority. Originally bitcoins did not have a quantifiable value as initially bitcoins was not trusted as a new payment method and no authority guaranteed redemption. Furthermore usability was initially not possible due to the lack of offers of goods for trade against the currency. On these grounds it was then irrational for the market participants to purchase these new currency units.
In the case of bitcoin new units are distributed pursuant to a principle that rewards support of the network by providing processing power (bitcoin ‘mining’ - the creation or discovery of new ‘coins’ by solving a mathematical task - analogue to mining precious metals). The increasing value of the credit balance constitutes a high reward and therefore a substantial incentive for expanding usage. The resulting imbalance in the distribution of assets is often seen as problematic - even when this credit balance is not directly associated with economic power - should the system have (so far not foreseeable) enduring success and the value of the units surge.
In principle bitcoin is based on the anonymity already possible in the internet. Transactions are not traceable for private persons and companies without additional information. Assuming that neither IP addresses nor bitcoin addresses of a person can be matched, bitcoin offers far better protection of privacy than conventional payment methods.
The anonymity provided by bitcoin is however not infinite and does not offer intrinsic protection against police or intelligence investigation methods. As a rule one of the business partners partially forsakes their anonymity for the purpose of business transactions. As described hereafter in more detail, all transactions between two addresses are publicly protocolled and are permanently stored in the entire network (‘block chain’). Subsequent recipients of part payments are able to report the last owner to the authorities for example, who are then able to track the chain of transactions.
Therefore Bitcoin does not implicitly impede evidence of illegal business transactions. In particular investigative authorities are able to obtain and link access to internet access data, virtual fingerprints (browser fingerprints) and contact data of previous and subsequent parties to a transaction chain. Should at this point a connection be established to a person, for example by intercepting a consignment or a service performed, then all transactions may be traced to the assigned address. The possibilities of tracing transactions are therefore significantly more extensive than with a cash transaction. Operators of exchanges or marketplaces providing the exchange of bitcoins into other currencies are as a rule also subject to regulations for combating money laundering.
Payments with bitcoins are irreversible. This provides a potentially significant advantage for traders in the online market, as negative booking operations of non-cash payments and fraudulent purchases constitute a considerable portion of costs that strain the often already very small profit margins.
It is therefore not possible to re-transfer money that has been transferred incorrectly by a central authority. The recipient is principally anonymous and not able to be contacted within the bitcoin system. Should a payment be made erroneously, then the recipient must be relied on to disclose their identity outside the bitcoin system or show general goodwill by re-transferring the unexpected payment to their account. An unintentional input of an incorrect address due to typing error is prevented by checking a verification total similar to that for bank transfers.
Bitcoin Deutschland AG mediates in the conclusion and investment of financial instruments on their internet page pursuant to §1 para. 1a sentence 2 no. 1 KWG of FIDOR BANK AG, Munich (‘FIDOR’). Bitcoin Deutschland AG acts exclusively in the name and for the account of FIDOR in the provision of these financial instruments. Bitcoin Deutschland AG therefore acts as the contractual intermediary of FIDOR pursuant to § 2 para.10 KWG. FIDOR has provided all the reports required pursuant to § 2 para. 10 KWG to the Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin) on the assumption of liability as the primarily liable company prior to the start of business activities by Bitcoin Deutschland AG as contractual intermediary and registered Bitcoin Deutschland AG in the public register for contractual intermediaries available on the internet site of BaFin as the contractual intermediary of FIDOR. Bitcoin Deutschland AG acts as a representative for the completion and investment activities of FIDOR. FIDOR in this respect assumes the liability pursuant to § 2 para. 10 page 1 KWG- Banking Act).
Registered users are able to purchase and sell bitcoins from and to other users on Bitcoin.de. The users therefore conclude a valid trade contract pursuant to § 433 BGB (German Civil Code).
The customer acquires the virtual currency ‘bitcoin’ which in the opinion of the Bundesanstalt für Finanzaufsicht (BaFin) (Federal Financial Supervisory Authority) are units of account and therefore regarded as financial instruments pursuant to § 1 para.11 KWG. Refer to: http://www.bafin.de/SharedDocs/Veroeffentlichungen/DE/Merkblatt/mb_111222_zag.html
Investments in bitcoins are highly risky and speculative. Price fluctuations of 10 and more percent per day are not uncommon. Only money that originates from freely disposable assets and not required for other purposes such as living expenses should be invested in bitcoins. An investment in bitcoins financed by credit is not to be countenanced since a total loss of the invested capital cannot be excluded.
The price is subject to the laws of the free market and subject to the laws of a free market that is offer and demand. Should the supply exceed demand then the price falls, should the demand exceed supply then the price increases. Historic price developments are no indicator of future price developments.
The opportunities of capital gain lie in the expectation, that bitcoins are to increase in value in the long term on the basis of the maximum calculable amount of 21 million units, as the shortage of offers coupled with at the simultaneously consistent or increasing demand causes the price of bitcoins that sellers are prepared to accept to increase.
Customers are able at any time to offer bitcoins for sale or to make use of offers to purchase bitcoins. The customer clicks on ‘PURCHASE’ or ‘SELL’ in order to purchase or sell bitcoins in the marketplace. Customers conclude valid trade contracts via bitcoin.de The settlement of bitcoins is conducted by Bitcoin Deutschland AG for account and at the liability of FIDOR. Bitcoin Deutschland AG therefore acts as the contractual intermediary of FIDOR pursuant to § 2 para.10 KWG.
The current transaction fees are available in the schedule of prices and services published on bitcoin.de.
The following information should be read in collaboration with the warning on risk of loss through financial instruments, which generally represents the typical risks applicable to bitcoins. Should the customer have misjudged the development of the market then may lead to substantial if not a total loss of the invested capital. Investments in bitcoins are highly speculative and only suitable for customers able to bear a loss of the invested capital. The bitcoin project has been in existence since the beginning of 2009. Even though each additional day makes it less likely, it cannot be excluded that a mistake discovered in the bitcoin system may lead to bitcoins becoming worthless as nobody would continue to purchase bitcoins. Furthermore there is the possibility of a governmental ban on bitcoins leading to the suspension of operations in marketplaces such as bitcoin.de and owners no longer being able to sell bitcoins.
Although bitcoins have recorded high increases in value in the past this is no guarantee of future development.
When bitcoins are stored on private PCs the customer needs to ensure that the PC is not compromised by for example malware, viruses and trojans etc. and that third parties are not able to acquire illegal possession of the bitcoins of the customer. Should the private key of a bitcoin be printed out then it is to be securely protected from access by unauthorized persons and for example stored in a bank safe deposit box.
Source: In excerpts, we have used the easily understandable information from the free encyclopedia Wikipedia (http://en.wikipedia.org/wiki/Bitcoin).
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