Bitcoin

by Dominic Frisby

  That’s a lovely idea – though perhaps bn (Before Nakamoto) is preferable to bs.

  Well done. You’ve just finished the hardest chapter in the book.

  2

  The Anarchic Computing Subculture in which Bitcoin has its Roots

  Cypherpunks write code.

  Eric Hughes, mathematician and Cypherpunk

  In September 1992, Tim May, a computer scientist whose inventions had once made him a great deal of money at Intel, invited a group of eminent, free-thinking programmers to his house in Santa Cruz, California, near Silicon Valley. They were there to discuss this exciting new development called the internet. They were excited about the possibilities, but they were also concerned. Privacy was their issue.

  Beyond the realm of cash payments, no transaction is private. And your financial behaviour says more about you than anything. Banks, credit card companies, merchants and – most worryingly for Tim May and his friends – the government would all have access to this information on the internet. How would they use it? They were scared of Big Brother.

  Some of the group simply wanted to find ways to protect privacy, others wanted to fight back. Their mistrust was born of experience. Their friend, the programmer Phil Zimmerman, was under criminal investigation for a simple piece of privacy software he had developed called PGP (Pretty Good Privacy). He was in serious trouble with the US authorities, who said he had violated the Arms Export Control Act.

  ‘Just as the technology of printing altered and reduced the power of medieval guilds and the social power structure’, said May that night, ‘so too will cryptologic methods fundamentally alter the nature of corporations and of government interference in economic transactions…just as a seemingly minor invention like barbed wire made possible the fencing-off of vast ranches and farms, thus altering forever the concepts of land and property rights in the frontier West, so too will the seemingly minor discovery out of an arcane branch of mathematics come to be the wire clippers which dismantle the barbed wire around intellectual property. Arise, you have nothing to lose but your barbed wire fences!’ 27

  They were a committed, disparate and talented group of computer scientists. Their belief system was largely libertarian; they understood the potential of the internet, but they also saw the possibilities it was opening up for state and corporate invasion of privacy. They thought cryptography could lead to social and political change. By the end of the meeting, an anarchist philosophy had been born, that of the Cypherpunks.

  Within a week mathematician Eric Hughes, a co-founder of the movement, had written a programme that could receive encrypted emails, remove any signs by which they could be identified and send them out to a list of subscribers. Now they had the Cypherpunks Mailing List. On this email list, they would share, discuss and develop their ideas.

  When you signed up, you were greeted with a message from Hughes: ‘Cypherpunks assume privacy is a good thing and wish there were more of it. Cypherpunks acknowledge that those who want privacy must create it for themselves and not expect governments, corporations, or other large, faceless organizations to grant them privacy out of beneficence’.

  That message became the spine of his Cypherpunk Manifesto.28

  Privacy is the power to selectively reveal oneself to the world. When I purchase a magazine at a store and hand cash to the clerk, there is no need to know who I am. When I ask my electronic mail provider to send and receive messages, my provider need not know to whom I am speaking or what I am saying…my provider only need know how to get the message there and how much I owe them in fees. When my identity is revealed by the underlying mechanism of the transaction, I have no privacy. I cannot here selectively reveal myself; I must always reveal myself…If I say something, I want it heard only by those for whom I intend it…We must defend our own privacy if we expect to have any. We must come together and create systems which allow anonymous transactions to take place…Cypherpunks are therefore devoted to cryptography. Cypherpunks wish to learn about it, to teach it, to implement it, and to make more of it…We the Cypherpunks are dedicated to building anonymous systems. We are defending our privacy with cryptography, with anonymous mail forwarding systems, with digital signatures, and with electronic money…Our code is free for all to use, worldwide. The Cypherpunks are actively engaged in making the networks safer for privacy. Let us proceed together apace. 29

  Their mantra, ‘Cypherpunks write code’, meant that rather than talk about how things should be, they would make things as they should be through computer code. If a system isn’t working, write some code and make it work.

  The ultimate dream of the movement was a system of digital cash outside the invasive capabilities of governments or banks. Many attempts have since been made. Each one failed.

  Until Bitcoin: the realization of the Cypherpunk dream.

  The Cypherpunks on whose shoulders Bitcoin is standing

  We all know about spam. It’s extremely annoying. Worse, it’s often dangerous. There is the risk of viruses, worms, Trojans, spyware and adware. Your identity can get stolen; your bank account hacked.

  If there’s one thing a Cypherpunk hates more than an intrusive government, it is spam – and all the invasions of privacy that come with it.

  In 1997, a young English Cypherpunk, a programmer named Adam Back, proposed a system to limit email spam and denial-of-service attacks. (DoS attacks are attempts, usually by hackers, to make a computer or a network unusable.)

  Like many good ideas, the principle behind Back’s idea was simple. And, as he wryly noted to me, several others have since had the ‘same’ idea.

  He would make spam uneconomic.

  Spam is predicated on being able to send large numbers of emails at low cost. But if each individual email involves effort and cost, then the spam becomes uneconomic – and so less likely to happen. Back’s idea was that emails should contain evidence that some kind of effort had gone into their composition – a proof of work. An email that contains proof of work is an email that is less likely to contain spam.

  He developed a system called ‘Hashcash’. This added a textual stamp to the header of an email. It was proof that the sender had expended a certain amount of time in writing and sending the email.

  In 2004, another computer programmer, Hal Finney, built on Back’s proof-of-work system.

  Finney’s idea was that each proof of work could be re-used, so that the work that went into them would not have to be repeated. He called it ‘reusable proof of work’ (RPOW). If a Hashcash stamp could become a token denoting a certain amount of work, it would have some kind of value. In other words, Hashcash stamps could work as a form of digital money.

  Finney was highly regarded in the computer programming world, but his system never saw any economic use.

  Until Bitcoin.

  All a bitcoin is, essentially, is a re-usable proof of work. As Back says, ‘bitcoin mining is basically my hashcash invention’ – with a few small technical adaptations.

  But, of course, there’s more to it than that.

  In November 1998, shortly after Back’s Hashcash proposal, another coder by the name of Wei Dai proposed his idea ‘b-money’.

  He also suggested using Hashcash stamps as money. His proposal was that, as money is transferred, the transaction would be broadcast to all parties on the money network, who can then keep account. There is a public ledger in other words – a type of block chain.

  Satoshi actually cites Dai in his original white paper, as he did Back, but it’s not clear how much influence Dai actually had.30 Just as Back wasn’t the only person to come up with the proof of work idea, Dai wasn’t the only person to conceive of a public ledger.

  At around the same time as Wei Dai, Nick Szabo, another computer scientist, proposed his idea – bit gold.31

  If bit gold sounds eerily similar to Bitcoin, that’s because it is.

  Both are based around chains of proofs of work.

  ‘I started thinking about the analogy between dif
ficult-to-solve problems and the difficulty of mining gold,’ Szabo says.32

  If something took effort to solve, then it could have value. With bit gold, computer power would be used to solve mathematical puzzles or equations. The solved equations would be sent to the community. If accepted, the person (or computer) that had solved the puzzle would receive a credit, a gold bit. Their solution would become part of the next puzzle. This meant the network would have to verify and stamp new bits otherwise they couldn’t start on the next puzzle.

  ‘I was trying to mimic as closely as possible in cyberspace the security and trust characteristics of gold’, he continues, ‘and chief among those is that it doesn’t depend on a trusted central authority’.33

  As well as having a cost of production, bit gold’s public acceptance of solved puzzles – that the network must approve them – would obviate the need for a central authority.

  There are a few small technical differences, but the similarities between Szabo’s bit gold and Bitcoin are uncanny. But Satoshi was the one who actually coded his idea and put it into practice.

  Back, Finney, Dai and Szabo were all Cypherpunks. Bitcoin has implemented all of their ideas, and the ideas of many more besides.34 Without these developments, Bitcoin almost certainly could not have happened. It was ‘standing on the shoulders of Cypherpunks’, to misquote Isaac Newton – who, incidentally, also laid down a new system of money: the gold standard on which Britain would thrive in the 18th and 19th centuries.

  Bitcoin’s first year

  It was two days before anyone even acknowledged Satoshi’s creation.

  ‘Announcing the first release of Bitcoin’, he said. ‘A new electronic cash system.’35

  Nobody seemed to care.

  Eventually a reply came from Hal Finney.

  ‘Congratulations to Satoshi on this first alpha release,’ he said. ‘I am looking forward to trying it out…The possibility of generating coins today with a few cents of compute time may be quite a good bet, with a payoff of something like 100 million to 1! Even if the odds of Bitcoin succeeding to this degree are slim, are they really 100 million to one against? Something to think about.’36

  ‘I would be surprised if 10 years from now we’re not using electronic currency in some way, now that we know a way to do it’, came the reply from Satoshi. ‘It might make sense just to get some in case it catches on.’

  How right he was.

  They were talking on the Cryptography Mailing List – where the more technically minded Cypherpunks had gravitated when the Cypherpunks Mailing List closed down several years earlier in a flood of spam and squabbling.

  On February 11th 2009, a month later, Satoshi would announce his e-cash system on the Peer-to-Peer Foundation forum, saying: ‘I’ve developed a new open source P2P ecash system called Bitcoin. It’s completely decentralized, with no central server or trusted parties, because everything is based on crypto proof instead of trust. Give it a try, or take a look at the screenshots and design paper.’37

  In making this post, he would leave a tiny clue as to his identity. In his original Bitcoin white paper, in his posts on the Cryptography Mailing List and later on the BitcoinTalk forums, he used two spaces after a full stop. But here on the P2P Foundation, he used only one.

  A short discussion followed his post that lasted a few days, then – online at least – it all went quiet.

  In May 2009, a 20-year-old computer sciences student from Finland was searching to see if, he tells me, ‘any peer-to-peer currencies had been successfully implemented’. Bitcoin was the only one he could find that didn’t have centralized parties. This student was Martti Malmi, aka Sirius, the second developer to work on Bitcoin. The domain name bitcoin.org would eventually pass to him.

  ‘If you googled, “Bitcoin”,’ he tells me, ‘you’d find ten results or less. The paper had only been published a few months earlier. I emailed Satoshi and offered him help with the project. I liked the ideology, the interesting technology, the individual freedom – making money was not my motivation.

  ‘I think Satoshi was taking a couple of months break from development and during that time I learnt C++, a computer code, the language Bitcoin was written in. I think Satoshi and I were the only developers until 2010 maybe. There may have been a third one. I am not quite sure…Bitcoin was already quite finished and operational when I joined the project. I didn’t do anything to complicate it. I did some coding work to Linux (it was originally Windows only) and made some user interface improvements, and project organization – like websites, forums, teaching and advertising. But I don’t want to take too much credit for what I did. Maybe I can give myself credit for, you know, understanding the system and believing at the time when people were just joking about it and wouldn’t take it seriously. I realized the potential of this kind of monetary system, the theoretical possibility that it could change the future of money, but I was wondering why no one has done that before.’

  While Satoshi and Sirius got to work, several more months passed. But in the open source movement, among programmers and on forums, Bitcoin was slowly starting to be talked about.

  In February 2010 the first Bitcoin exchange – the Bitcoin Market – began trading. You could now buy bitcoins using PayPal.

  In May 2010, a Florida programmer by the name of Laszlo Hanyecz wanted to test the technology. He offered to buy a pizza for 10,000 coins. The pizza arrived. For several days after that, Hanyecz bought 10,000-bitcoin pizzas. I bet he regrets it now. Ten thousand bitcoins would at one stage be worth over 12 million dollars. Twelve million bucks for a pizza!

  July 2010 saw Bitcoin’s first step out of obscurity. It was mentioned on the website Slashdot and there was a sudden increase in interest. The value of a bitcoin went up over ten times in a week – from eight-tenths of one cent to eight cents. The price would slide back to six cents and remain there for several months.

  Then another Bitcoin exchange sprung up, one that would become the biggest and most notorious – MtGox.

  3

  The Rise of Bitcoin and the Disappearance of its Maker

  I think that the internet is going to be one of the major forces for reducing the role of government. The one thing that’s missing, but that will soon be developed, is a reliable e-cash.

  Milton Friedman, economist

  The US Department of Defense called it the ‘largest leak of classified documents in its history’.

  It’s difficult to overstate how big a threat to the existing world order WikiLeaks was perceived to be in late 2010. There has been revelation after revelation – the Bradley Manning leaks, the video of US soldiers shooting at Reuters cameramen, the ‘friendly fire’ and civilian casualties, then the leak of another 400,000 documents relating to the Iraq war.

  WikiLeaks had caught the imagination of those opposed to the US and other governments. Many wanted to help.

  PayPal was the main means by which WikiLeaks was able to receive funds for its activities and, in 2010, its donors gave around one million dollars. But on December 4th 2010, under pressure from the US government, PayPal froze the WikiLeaks account. Domain name providers and other payment systems followed suit and refused to handle WikiLeaks’ business.

  Julian Assange, the WikiLeaks boss, was involved in expensive litigation at the same time. WikiLeaks was starved of funds. And, unbeknownst to most, the organization was crumbling from within due to a falling-out between Daniel Domscheit-Berg, WikiLeaks’ number two, and Assange.

  One poster at BitcoinTalk thought that Bitcoin would be a means to help WikiLeaks. Others jumped at the idea. ‘Bring it on,’ said one. ‘Let’s encourage WikiLeaks to use Bitcoins and I’m willing to face any risk or fallout from that fact.’

  Then wiser heads stepped in and a long discussion ensued.38 Early developers such as Jeff Garzik, Bruce Wagner and others felt that the last thing they should do was bring the attention of authorities to Bitcoin this early in its evolution.

  ‘It could permanently marginalize
Bitcoin, keeping it out of the mainstream for good. Is that really the end result the Bitcoin community most desires? Does it make sense to actively give multiple world governments incentive to shut down Bitcoin?’ asked Garzik. ‘WikiLeaks is the enemy of major world powers right now, with many influential elites feeling that Assange committed an act of war against the United States, or, at a minimum, irrevocably disrupted world affairs. This is not some mailing list discussion or theoretical exercise; there are very real, very powerful organizations actively targeting WikiLeaks’ network infrastructure, organizational infrastructure, and most importantly, financial infrastructure. It is extraordinarily unwise to make Bitcoin such a highly visible target, at such an early stage in this project. There could be a lot of “collateral damage” in the Bitcoin community while you make your principled stand.’

  Even Satoshi, usually so understated in his opinions if they didn’t relate to coding, said ‘No, don’t “bring it on”. The project needs to grow gradually so the software can be strengthened along the way. I make this appeal to WikiLeaks not to try to use Bitcoin. Bitcoin is a small beta community in its infancy. You would not stand to get more than pocket change, and the heat you would bring would likely destroy us at this stage.’

  Five days later PC World magazine published an article – Could the WikiLeaksScandal Lead to New Virtual Currency?39It was the most prominent site yet to mention Bitcoin and suggested it may be the answer to WikiLeaks’ funding problems. A sudden flood of traffic overwhelmed Bitcoin’s website and it went down. When it came back up again, Satoshi wrote, ‘It would have been nice to get this attention in any other context. WikiLeaks has kicked the hornet’s nest, and the swarm is headed towards us.’ Then Bitcoin was mentioned on Slashdot again, alongside WikiLeaks and the outspoken libertarian US congressman, Ron Paul.