Cash is king! Or is it? The double spending problem!

From counterfeiting to digital money. What is the solution?

"We propose a solution to the double-spending problem using a peer-to-peer network." - Satoshi Nakamoto, Bitcoin: A Peer-to-Peer Electronic Cash System.

We live in a world where "Fiat Money" (your local currency) is used to buy and sell goods and services. Humans moved from commodity money to representative money (read about the evolution of cash) long ago. Representative money was revolutionary at the time, but there has always been the possibility of counterfeiting. Central Banks and government authorities have generally been able to stay a step ahead. They have made sure that physical receipts, banknotes and in the last 200 years, fiat currency are extremely hard to replicate or counterfeit.

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To demonstrate how difficult it is to replicate a modern currency note, let us look at the INR 2000 currency note. The most challenging thing to get right is the material used to print the note. Today most modern Indian Banknotes are made with cotton. To be more specific, a mix of 75 per cent of cotton and 25 per cent of linen. This material makes the currency note more durable and is used by many countries, including the United States. The technology used to manufacture it is a closely guarded secret and highly restricted. In India, most currency paper is made at the "Security Paper Mill" in Hoshangabad, Madhya Pradesh. But we also import paper to meet our demand.

If you somehow managed to get your hands on some of this very securely manufactured paper, you would have to convert it into the Indian Currency note. A modern Indian Currency note like the INR 500 note has over "Ten" security features, including:

• a machine-readable security thread

• intaglio printing for the visually impaired

• see-through register for the numeral of the denomination (view in light)

• Mahatma Gandhi watermark and electrotype watermark of the denomination

• colour shifting ink (digits change colour)

• fluorescent ink to print the number panel with dual coloured optical fibres

• a latent image next to the Mahatma Gandhi's portrait

• micro letterings that can be seen better under a magnifying glass

• new numbering pattern

• angular bleed lines

These notes are printed at Dewas (Madhya Pradesh), Nashik (Maharashtra), Salboni (West Bengal), and Mysore (Karnataka).

Almost every Fiat Currency note has similar or even more sophisticated security features. The same is true for Cheques, Demand Crafts, etc. I hope the picture I'm trying to paint is becoming clear. Every year, it's becoming increasingly more and more challenging to forge currency notes.

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It is foolish to assume that there is absolutely no counterfeiting, but in general, physical money transfer is less prone to the double-spending problem. After all, once you hand over the currency note, it is no longer in your possession. You do not need a third person to be present between the buyer and the seller to ensure that you are handing over the note (unless you are doing something very illegal and need protection)

The situation is very different with Internet money. The money transfer is recorded as bits and bytes, and the transactions are monitored in digital ledgers. Without a trusted third party in the middle, there is no guarantee that money will actually get transferred. This is the problem that banks and government institutions worldwide face when trying to convince citizens to transition to digital money. You and I have to trust these institutions explicitly. That they will have sufficient security measures to protect our money. Trust that they will make it easy to access and use it. There will be adequate regulation that ensures it is protected from bad actors within the system. Unfortunately, the institutions we depended on have broken this trust (read my last article to learn about the 2008 crisis). So what happens then?

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Let's equate this to electricity. Most people have no clear understanding of electricity and how it works. It is rare to see it physically, but you know that it's present because it powers your light bulb, fan, A/C, fridge, etc. You have to trust your Electricity Service Provider and hope that it will provide you with electricity all the time. If you do not have this trust, you will resort to finding ways to safeguard yourself with in-house backup power generation systems like a Diesel Power Generator.

Unfortunately, it has never been easy to create your own digital money. This is because of the "double spending" problem. Until recently, a trusted third party was required to ensure that the digital cash transferred between two parties was real and not fake or copied. The third party would verify if the buyer had the money, confirm the transfer request and verify that the money was debited from the buyer's account and credited into the seller's account.

Fortunately, everything changed on October 31st, 2008, when Satoshi Nakamoto released his white paper on Bitcoin. He/they propose a way to solve the double-spending problem while creating a peer-to-peer version of electronic cash. I am sharing the first three sentences of the abstract of the white paper below.

A purely peer-to-peer version of electronic cash would allow online payments to be sent directly from one party to another without going through a financial institution. Digital signatures provide part of the solution, but the main benefits are lost if a trusted third party is still required to prevent double-spending. We propose a solution to the double-spending problem using a peer-to-peer network.

The entire paper focuses on how such a network can be created without the need for trust. This is a powerful, powerful notion. Our financial world today revolves around belief. When you are providing goods or services against credit, you trust the buyer to pay you the money in time (if at all). The opposite is true, for you trust the seller to deliver what he promised when you pay in advance for goods or services. Imagine a world where we can avoid depending on this trust or reduce its need! Bitcoin was the first step into that world. The world of Web3.

I have started reading and dissecting the Bitcoin White Paper. It is truly fascinating. This article is the first of many to focus on specific points brought up in the paper. In the following few articles, we'll get deep into the solution that Satoshi came up with to enable the creation of Bitcoin. 

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