Bitcoin: Technical Background and Data Analysis

Abstract

Executive summaryBroadly speaking, Bitcoin is a scheme designed to facilitate the transfer of value between parties. Unlike traditional payment systems, which transfer funds denominated in sovereign currencies, Bitcoin has its own metric for value called bitcoin (with lowercase letter "b", and abbreviated as BTC 1 ). Bitcoin is a complex scheme, and its implementation involves a combination of cryptography, distributed algorithms, and incentive driven behaviour. Moreover, recent developments suggest that Bitcoin operations may involve risks whose nature and proportion are little, if at all, understood. In light of these considerations, the purpose of this paper is to provide the necessary technical background to understand basic Bitcoin operations and document a set of empirical regularities related to Bitcoin usage.We present the micro-structure of the Bitcoin transaction process and highlight the use of cryptography for the purposes of transaction security and distributed maintenance of a ledger. Our empirical analysis is based on publicly available transaction-level data. We examine patterns of general usage together with usage by Satoshi Dice, the largest online gambling service using Bitcoin as the method of payment. Our analysis suggests that less than 50 percent of all bitcoins in circulation are used in transactions. About 1 Others have used XBT to abbreviate bitcoin. In this paper we use BTC throughout as suggested in https://en.bitcoin.it. 1 half of these transactions involve less than U.S.$100 equivalent, and for the period for which we have data for Satoshi Dice, most of these small-value transactions were related to the online gambling service. Relatively less frequent large value transactions drive the average transaction value to levels above U.S.$40, 000 equivalent value, and are not likely to involve payments for goods and services.Bitcoin exchange rates exhibit somewhat complicated dynamics. In the past 24 months, the USD-BTC exchange rate increased more than 50-fold. Unnoticed by the public, however, the daily variance of the USD-BTC exchange rate remained remarkably stable for this same period, once the variance calculations account for the changing exchange rate level.2 We also document that the exchange rates between bitcoin and other major currencies are not well aligned. We interpret this as lack of depth of the exchange markets and as costly exchange rather than as unexploited arbitrage opportunities. Finally, the appendix provides more details on updating the ledger, including a quantitative examination of the economic incentives for the participants in the distributed implementation of the Bitcoin system.

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