Why Bitcoin Self Custody Matters

There’s been a raging debate on Twitter/X this last week about the value of holding your private keys in Bitcoin. As Bitcoin adoption grows, more and more institutions will hold larger amounts of Bitcoin, and there is a legitimate question of whether such institutions (or even wealthy individuals) should be holding their private keys. Third-party custodians are a growing business in Bitcoin, and these third parties manage your keys for you. When you buy Bitcoin on Coinbase, they also are a third-party custodian.

But make no mistake about it: the self-custody of private keys are the foundation of Bitcoin’s trustless model. This does not mean that every single Bitcoin user needs to hold their private keys. But if no one does, then Bitcoin is no different than the fiat system we have in place today. Here are three reasons why self-custody matters, both philosophically and pragmatically.

Not your keys, not your coins

Let’s rewind to remember what private keys actually are. Your private key is the secret random number that generates your public key, and therefore your Bitcoin address. The purpose of the private key is that it allows you to sign a Bitcoin transaction. That signature unlocks the ability to spend your bitcoin. The digital signature algorithm used in Bitcoin is truly a marvel, because it proves that you know your secret without revealing that secret.

Your private keys guarantee your ability to transfer your Bitcoin to someone else. And that is what confers ownership. At a deep level, ownership in Bitcoin means the ability to move coins from your address to another. Without this ability to move the coin, you do not have ownership. And the private key is essential for forming the signature and therefore guaranteeing your ability to move your Bitcoin. This is why private keys matter so much. They are the foundation of ownership in Bitcoin.

Without access to your keys, any other party can move them on your behalf, and therefore, essentially owns them (since they could just move them into their own account). When you buy bitcoin, you will know whether you have the keys or not. Without some kind of wallet in place, you generally are forfeiting your keys to the exchange (or vendor) from which you are buying the bitcoin.

So, if you buy on an exchange like Coinbase, you will need to explicitly export your bitcoin to a wallet in order to fully control them with your keys. If you don’t do that, they sit in your Coinbase account and your ownership is only as strong as the security mechanisms of the exchange itself. So, if someone gets your Coinbase password they could transfer your Bitcoin to another account and therefore steal your bitcoin. Ultimately, without the private keys you don’t really own the bitcoin, but only have an IOU that rests on the security model of a third-party, the exchange.

Private keys are permissionless

Anyone can make a private key, so anyone can make a public key and therefore a Bitcoin address. So, anyone can make a Bitcoin transaction. Just like Bitcoin mining, this whole process is permissionless. There is no gatekeeper, no committee of people, no central organization that needs to approve your ability to generate a private key, no formal identity verification, no credit checks, no interview process.

Contrast this to the process of opening a bank account, which requires various levels of onerous KYC regulations. While it may seem like that process is designed to protect against fraud and risk, in reality it creates unnecessary digital paperwork, and subjects the whole process to human judgment and bias. Bitcoin shifts the security model to math and cryptography. While it is true that anyone can transact on the Bitcoin network, the underlying incentives and economics of Bitcoin are sufficiently strong that it rewards successes and punishes failure, just like the free market.

Proponents of a permissioned model (like incumbents of the existing fiat banking system) argue that KYC regulation prevents bad actors from entering the space. Another way to frame this is that traditional fiat takes an ex-ante approach to fraud/risk, whereas Bitcoin takes an ex-post approach. It’s tempting to believe that human gatekeepers can identify and prevent bad actors ex-ante, but the history of financial crises shows that this isn’t possible. A better model is to jettison the flawed premise that ex-ante detection of bad actors is even possible, and instead allow everyone in and let the market render its judgment through the price system. This is how capitalism works.

Self-custody is a vehicle for learning

Because the fiat system does not have anything like a private key, the entire process of self-custody of your private key forces you on a journey towards Bitcoin’s foundations. Not only do you need to learn about what private keys are, a cornerstone of public-key cryptography, but it also reveals to you that in traditional finance you really don’t own anything. Your notion of ownership is determined exclusively through trusted third parties such as banks, governments, or courts that tell you that you own something.

In Bitcoin, ownership is secured by math and cryptography, whereas in traditional finance, it is secured by laws. A court upholding your title to a house is only as strong as the legal system in place. When governments collapse, rule of law breaks, and civil unrest grows, your ownership erodes.

Self-custody is not nearly as daunting as many people believe. It requires a little bit of mental reframing and a little bit more practice and developing new habits. Think of it like exercise, something that requires a shift in mindset, commitment over time, but will lead to substantial benefits for your long-term health.