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What is bitcoin, how does it work and what affects its price?

Telegraph Reporters
Bitcoin - Bloomberg News

Few technologies have the ability to stir passionate online debate and baffle the vast majority of the population as bitcoin. The virtual currency rocketed in value last year before crashing at the start of 2018.

But bitcoin appears here to stay, at least for the time being. Although the price has fallen since the start of the year to around $7,500 (£5,800), well below its peak of $20,000, it is still above its price a year ago and interest in it continues.

There have been spikes along the way, possibly caused by mass computer trading or short sellers jumping ship and encouraging buyers to flood back in.

It all leaves investors with a slew of questions. Is Bitcoin the future of currency? Is it currency at all? What is it for? And should I buy some? Read on to have your questions answered.

What is Bitcoin?

Bitcoin is a digital currency created in 2009 that uses decentralised technology for secure payments and storing money that doesn't require banks or people's names. It was announced on an email circular as a way to liberate money in a similar way to how the internet made information free. 

FAQ | Bitcoin

How does it work?

Bitcoin works on a public ledger called a blockchain, which holds a decentralised record of all transactions that is updated and held by all users of the network.

To create bitcoins, users must generate blocks on the network. Each block is created cryptographically by harnessing users' computer power and is then added to the blockchain, letting users earn by keeping the network running. 

A limit for how many bitcoins can be created is built into the system so the value can't be diluted.  The maximum amount is just under 21 million bitcoin. There are currently just over 17 million in circulation, each of which was worth around $7500 at the time of writing. That puts its total value at around $130 billion.

While at first ordinary people could mine thousands of bitcoins, potentially now worth millions of pounds, bitcoin mining now requires a huge amount of computer power to achieve. You can read our guide to bitcoin mining here.

What affects its price?

The price of a Bitcoin has jumped up and down since it first entered the mainstream consciousness in 2013. That year prices rose by almost 10,000 per cent before the collapse of Mt Gox, the biggest online bitcoin exchange at the time, sent it crashing.

Prices slowly crept up after that but surged again in 2017. This is largely put down to regulators appearing to warm to bitcoin and the rise of initial coin offerings - a way for projects to raise money by selling cryptographic tokens similar to bitcoins. Sceptics believed we were in the middle of a Bitcoin bubble while advocates say we are just beginning to see the rise starting.

Prices have fallen in 2018 amid fears of a regulatory crackdown.

Who is Satoshi Nakamoto? 

Satoshi Nakamoto is the mysterious creator of Bitcoin and blockchain. Despite countless attempts to unmask the person or people behind the name, their identity has remained elusive. 

There have been numerous unsuccessful attempts by journalists to reveal the Bitcoin founder. In a high-profile incident in 2014, Newsweek magazine relaunched with a feature outing Dorian Nakamoto, a 64-year-old Japanese-American man, as the creator. The affair, having fallen apart under scrutiny, ended with a car chase and the real Nakamoto refuting the allegations. 

Australian computer scientist Craig Wright previously claimed he was Satoshi Nakamoto Credit: PA

The most recent candidate was Craig Wright, a former Australian academic, who claimed to be the bitcoin inventor. Wright wrote blog posts and gave interviews to Wired, BBC and the Economist in 2015 and 2016 saying he was behind bitcoin.

After failing to provide unquestionable proof, Wright posted an apology message that said: "I believed that I could put the years of anonymity and hiding behind me. But, as the events of this week unfolded and I prepared to publish the proof of access to the earliest keys, I broke. I do not have the courage. I cannot."  

How many people use bitcoin?

One of the largest Bitcoin storage platforms, Blockchain.info, claims it has more than 25 million cryptocurrency wallet holders. This has almost doubled from 10 million at the start of 2017.

Bitcoin | Your essential guide

What is it used for? 

Bitcoin has a range of uses, including funding companies, investing cash and transferring money without fees. It is commonly associated with criminal activity such as drug dealing, cyber crime and money laundering, since it can be near-impossible to tie a bitcoin wallet to any one individual.

Bitcoin can be spent online and at select retailers in the UK. They include CEX stores, some pubs and stores like e-cigarette shops and YourSushi restaurants. A full list of online and offline businesses that accept bitcoin is available here. They can also be withdrawn at a couple of dozen bitcoin ATMs, which can be found here.

However, a surge of network activity has meant transaction fees spiking, meaning some retailers have lost enthusiasm. Computer maker Dell, for example, ended its pilot of accepting Bitcoins, as did online gaming store Steam.

Others simply hold their Bitcoins, hoping they will accumulate in value and prove to be a lucrative investment. Its price is notoriously volatile, and early investors are now sitting on massive gains.

Should I invest in Bitcoin?

Bitcoin is safeguarded against fraud and theft through independent and decentralised set up, as well as being free from transaction fees. It has also given great returns to some investors, with the price jumping from a few dollars at the beginning of 2013 to $1,100 by November. People who invested £2,000 five years ago would now be very wealthy. 

After a few level years, its dollar price soared during 2017, and it peaked at more than $20,000. But the price has plunged since then, leaving investors to ponder whether its bubble has burst or the best is yet to come.