Let’s first start with our current money, the dollar. A single cent, aka a penny, is the smallest unit of the U.S. currency. Each dollar is made up of one hundred cents. We visualize it as $1.00 with two decimal places for cents.
You cannot buy individual items for less than one cent, the reason is that the smallest amount of money you can transmit to another person is a cent. While that seems obvious, have you considered what consequences arise from that?
It boils down to two main problems. The first is that you, as a manufacturer or service provider, are constrained by how little you can charge. As you innovate and decrease costs, there will come a point where you cannot lower your price to customers. You must charge them a penny, and profit handsomely because it costs you a tenth of a penny to produce. You might think this is ridiculous and that’s because we have only ever lived in a world where prices go up. The reason? Because the U.S. currency can only be divided into one hundred cents, but the number of whole dollars is unlimited.
The second is that it incentivizes the government to increase the number of dollars in circulation. Since the dollar cannot be divided more so that the economy can expand, it must expand the money supply so that the economy can expand. The consequence to an expanding money supply is inflation, which leads to higher prices for goods and services. This is the system we all live in today.
Bitcoin also has a smallest unit, referred to as a SAT. There are one hundred million SATS in one bitcoin. We visualize it as 1.00000000 with eight decimal places for sats.
Bitcoin differs from U.S. currency because there is a limit on how many whole bitcoins can exist in the timechain. The code in bitcoin will not allow for more than 21 million. This limitation constrains its users to a hard cap on the amount of SATS that can exist. In SATS, the maximum is 2.1 quadrillion.
A manufacturer in a bitcoin world would find their prices dropping until it hits one SAT, at which point they would profit handsomely for each item sold. In order for bitcoin to allow for an ever-expanding economy, the divisibility of sats must be solved. The reason for using 8 decimal places for sats was technical; it allowed the bitcoin software to be compatible with other programming languages.
Today, a handful of new software exists that allow bitcoin to be transferred fast, held custodially by anyone and account for 3 more decimal places, extending bitcoin to 11 decimal places. The Lightning Protocol software accounts for fees that are agreed upon by two parties to be denominated in 11 decimal places. When an agreement between these parties is terminated, settlement occurs using 8 decimal places.
Custodians operating the Lightning software will enter into agreements with other operators for long periods of time, creating a network of users transferring bitcoin using smaller denominations of SATS. The extension of new types of agreements are limitless and soon to be developed in the coming decades.
