What Makes Bitcoin Different?

Summary/TL;DR

Unlike the other major cryptocurrencies, Bitcoin has a limited supply, operates on a proof-of-work consensus mechanism, and has no central authority determining its future. These fundamental characteristics of Bitcoin has earned it the title of “Digital Gold”, distinguish it as truly unique, and are the primary reasons that it (and only it) is fit for inclusion in a diversified portfolio.

Introduction

To those who are new to the world of Bitcoin and other so-called “cryptocurrencies”, it can be difficult to comprehend the difference between everything out there. These misunderstandings, furthermore, compound the mistrust and apprehension that many already feel towards this growing asset class, unnecessarily making them choose not to invest altogether.

Today’s post will discuss the key differences between Bitcoin and all other crypto-projects. As we’ll see, what makes Bitcoin special is precisely what makes it such a unique opportunity.

The Fundamentals

To begin our discussion, let’s make a helpful analogy between the various cryptocurrencies to another asset class that they are often compared to: precious metals. While there are numerous types of metals under the overarching category of “precious metals”, each one possesses characteristics that make it unique relative to the others. It would be incorrect, for example, to mistake gold for silver, bronze, or platinum, based on the fact that all four of them simply belong to the category of “precious metals”. Likewise, it would be a mistake to think that all cryptocurrencies are “essentially the same” for the simple fact that they can all be lumped under the heading of “cryptocurrency”.

In addition, there are important differences in the fundamental characteristics (fundamentals) of Bitcoin to the other cryptocurrencies, such as there are between the fundamental characteristics of gold with the other precious metals. It is these differences in fundamentals that are the most important to understand.

Limited Supply

First, there is a finite amount of Bitcoin that will ever come into existence – 21 million, almost 20 million of which have already been mined. The supply schedule for Bitcoin can be seen below (the point on this chart marked “today” is November 28, 2023).

In contrast, the other major cryptocurrencies usually have a pre-programmed inflation rate with no theoretical limit to their supply. Every year, therefore, those who have invested in these projects will be slowly diluted.

This is extremely important and goes to the heart of the problem that Bitcoin hopes to solve. In order to understand why, a comparison to gold can be helpful. One of the most important characteristics of gold that made it such a successful monetary asset for thousands of years was its relatively stable supply which, in turn, was a consequence of the difficulty of mining gold. This is why gold is known as “hard money” – bringing new supply to market is very difficult and costly. People were therefore able to use gold to “save” their wealth in and could be reasonably certain that their savings would be worth approximately the same at any point in the future. This characteristic of “hardness”, in other words, allows for one of the most important features of a monetary asset to be fulfilled – transfer of value across time.

Bitcoin, on the other hand, is even “harder” than gold, because bringing new supply to the market becomes not only more and more difficult, but outright impossible beyond a certain point. Furthermore, unlike gold, no one can counterfeit or dilute the supply by means of physical modification (governments used to inflate the supply of gold in their territories by shaving tiny amounts off of coins collected in taxes and melting them into new coins).

Proof of Work Consensus Mechanism

Equally as important as its fixed supply, the Bitcoin protocol operates off of what’s known as a “proof of work” (PoW) consensus mechanism, while most other major cryptocurrencies operate off of a “proof of stake” (PoS) consensus mechanism. The difference here is extremely technical, so let’s break down only what’s important to understand.

A cryptocurrency’s “consensus mechanism” is the method it uses to validate new transactions on its blockchain (a blockchain is just a list of transactions) and preserve its integrity. PoW uses special nodes called “miners” to randomly solve puzzles which, when solved, validate the blockchain. As compensation for the resources expended on solving the puzzle (their “work”), they are rewarded with newly mined coins and transaction fees. PoS, on the other hand, uses special nodes called “validators” who lock-up some of their coins (this is known as “staking”) in exchange for the right to be the one who validates the next block in the blockchain. The more they stake, the higher the likelihood that they will be picked. As their reward for “being picked”, they are also compensated with newly mined coins and transaction fees. The key difference here is this: PoW is purely probabilistic, while PoS favors those with more coins that they can “stake”.

While this difference might feel inconsequential due to its highly technical nature, its importance actually cannot be overstated. The other crypto-projects believe that they are becoming more “efficient” by adopting a proof-of-stake mechanism, but they are actually undermining a key characteristic of what makes blockchain technology so revolutionary – decentralization. PoS transfers control of the consensus mechanism to those who already have large stashes of coins that they can afford to “stake”.

Decentralization

This is arguably the most important difference between Bitcoin and other major cryptocurrencies – Bitcoin has no central authority determining its future. It’s creator, a programmer who went under the pseudonym Satoshi Nakamoto, is unknown and, most importantly, has no more influence over the future development of Bitcoin than any other node in the ecosystem.

Other major cryptocurrencies, on the other hand, have single individuals or boards of directors who can change the “monetary” policy of their protocol at a moment’s whim, leaving little difference between their management system and that of the fiat system which Bitcoin aims to upend.

The Bottom Line

The unique characteristics of Bitcoin explored above are the primary reasons that it is the only “cryptocurrency” that I recommend my clients invest in. I believe every other project is either “too late” or, more fundamentally, fatally flawed. You can read more about my rationale for including Bitcoin in your portfolio here.

I’ll close this post with some notes on a title that Bitcoin is often given: Digital Gold. It is called this because it contains all of the key characteristics of gold, while improving upon them considerably. Like gold, Bitcoin is “hard money”. Like gold, the supply expansion of Bitcoin is decentralized across multiple actors according to free market principles. And, like gold, Bitcoin has no CEO – it just exists. However, due to the digital nature of Bitcoin, all of these comparisons are actually brought to the ultimate forms of their status, improving upon gold dramatically. Unlike gold, Bitcoin is impervious to counterfeit and inflation. Unlike gold, Bitcoin can be transferred to anyone across the globe instantly and (essentially) for free. Finally, and perhaps most importantly, unlike gold, no central authority can demand access to your supply.