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Bitcoin Basics: What is the Difference Between Bitcoin and Other Online Payment Systems?

Picture of gold bitcoinsThere are plenty of online payment systems these days – Venmo, PayPal, stripe, amazon pay… How is bitcoin different?

The question is non-trivial and goes to the heart of what cryptocurrency is.

First, a mundane but relevant observation – the digital world is different from the physical world in one simple but important aspect: physical objects are each unique. If you read this article on a phone, imagine giving the phone away to someone. Now you no longer have this phone. You can purchase one just like it, but the exact, unique phone that you gave away is no longer in your possession. The number of phones that exist on this planet is finite.

By contrast, imagine taking a picture with your phone and then sending that picture to ten of your contacts. Each of them now has the picture and each picture is identical. None of the pictures are unique in the way your phone is. In short: the difference between the physical world and the digital world is that in the digital realm, information can be endlessly multiplied at no cost; nothing is unique.

How does this relate to money? If you buy a bagel using cash, you hand the vendor a coin or a dollar bill – physical money. Because physical money – like your phone – is unique, the vendor can be certain that the bill carries value. That would not be the case if you could duplicate the same dollar bill or coin and spend it again elsewhere.

If you buy a bagel with an online payment system, things are very different because you must rely on a third party, usually a bank. Banks do not, of course, store money in vaults these days. The balance of your account is, in essence, a number on a very large spreadsheet stored on a computer owned by the bank. The moment when you swipe your card, the card reader sends a request to the bank. If the vendor has an account with the same bank, the bank removes some money from your spreadsheet and adds some money to the vendor’s. If he is with a different bank, the two banks communicate and adjust their respective spreadsheets.[1]

The reason is that information can digitally be endlessly duplicated, society needs a third party – i.e. banks – to keep track of who has how much money. Online payment systems like Venmo and PayPal work the same way – they are necessary third parties that transfer money on behalf of the users. It is digitally not possible (until now) to transfer any money directly between two individuals.

Before comparing this to bitcoin, let’s for a moment explore whether this is a particularly good system. Banks keep not only our money, but they also have access to our sensitive information and control over much of what we do. Do banks really deserve our trust? Do we think that Wells Fargo really respects its customers? That HSBC and others play by the rules? Should we trust these financial institutions with our personal and financial information? What exactly have these institutions done to deserve this trust? To deserve access to information on where we live, what our social security numbers are, what we buy? Does anyone believe that banks do anything for their customers other than meet the barest compliance requirements? Or that they have anything but utter contempt for their customers?

To open an account with a bank, you have to provide virtually all your important information. Social security, address, age, government identity, income. Transfers take several days unless you pay extra. Want to change currencies? Pay up, at the bank’s chosen rate. And in exchange for holding the arguably most important parts of our lives – i.e. our money and our information – banks have the temerity to charge fees. In short, the system is completely bass-ackwards.

Unfortunately, there is no alternative. Banks are a necessary evil. Unless you want to stash cash money under your mattress, banks are necessary and unavoidable third party intermediaries for payments in society – and they have been abusing that position for as long as they have existed.

Until now. The difference between bitcoin (and other cryptocurrencies) and any other online payment system is that it does not require banks or any other third party. Bitcoins are like your phone or anything else in the physical world – they are unique. A bitcoin transmitted digitally cannot be duplicated, copied or multiplied. It is the first and only digital asset that does not require a trusted third party to keep a record. The implications are many, but I will end this article with two questions:

  1. Do you think that there is a use, a need even, for an asset that anyone can purchase anywhere on earth, can transfer freely to anywhere on earth, can hold simply, and can spend easily, all without the assistance of banks?
  2. Would it surprise you to learn that banks are not fond of this new technology?

“Bitcoin is a remarkable cryptographic achievement and the ability to create something that is not duplicable in the digital world has enormous value.”

Eric Schmidt, CEO of Google/Alphabet

[1] It is more complex in reality – regulators and clearinghouses are involved. But the concept is the same.

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