What Is Cryptocurrency?
Cryptocurrencies are digital coins secured by cryptography and primarily used for online purchases. They emerged as a byproduct of the groundbreaking digital cash system known as blockchain technology.
Ten years ago, the prospects for the development of a functional e-market were pretty bleak, especially after a couple of promising startups turned into failures – take what happened to DigiCash for example. Finally, with the blockchain breakthrough and the appearance of cryptocurrencies, the inconceivable dream of a decentralized yet trustworthy online market became a (virtual) reality.
Cryptocurrencies have always had their advocates and critics, with opinions ranging from “cryptos are the greatest invention ever” to “they’re the biggest market mirage in history”.
But before taking a stance on digital coins yourself, take your time to read through our detailed guide on cryptocurrencies.
We’ll dive into the history and the main incentives for creating these coins. We’ll talk about their attractiveness and sustainability, why there’s a growing number of unique cryptos, how and where to use them, and what are some of the benefits for the global economic system.
So, without further ado, let us give you something to chew on.
If cryptocurrencies have caught your attention, you probably want to know what’s so exceptional about them.
The key to their revolutionary nature can be found in the way they make use of the main blockchain principles: decentralization, privacy, trust, and immutability.
The Story Behind Blockchain
Before we go into further details, you need to get acquainted with the main idea behind blockchain technology. Invented in 2008 by Satoshi Nakamoto, an individual whose true identity remains a secret, blockchain is a digital ledger for storing information on a decentralized peer-to-peer network, based on crypto proof instead of trust.
Back in those days, trust-based payment systems were the norm. The traditional financial system allowed people to send money to friends and family, trade stock, and take out loans. At the same time, it came at a great cost, and not only literally. Apart from high transaction fees, this system compromised user privacy, took a lot of time for the transactions to be completed, especially if the transfer was international, and it wasn’t available to everyone.
The great stock market crash in 2008 was like the explosion of a ticking time bomb. People lost faith and trust in financial institutions, and their disapproval was even greater when the state had to bail out many banks and investors using tax money. It was also an additional incentive for cryptographers like Satoshi to come up with an alternative payment system.
And this is exactly what they did. For the first time ever, they proposed a completely devised non-trust based system, detailed in the white paper.
What Lies Beyond Trust?
In 2009, on the P2P Foundation website, a discussion under the name Bitcoin open source implementation of P2P currency opened by Satoshi Nakamoto stated the following:
The root problem with conventional currency is all the trust that’s required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust. Banks must be trusted to hold our money and transfer it electronically, but they lend it out in waves of credit bubbles with barely a fraction in reserve. We have to trust them with our privacy, trust them not to let identity thieves drain our accounts. Their massive overhead costs make micropayments impossible.
Cryptocurrencies have managed to vault over these limitations and inconveniences, and exist independently from any third party. They’re immune to government meddlings and trust-based models of exchange that make us compromise our privacy. On top of that, they’re very cost-effective, even as far as micropayments go, since there are no intermediaries to set those audacious processing fees we are accustomed to.
Interestingly, even though cryptocurrencies seem to be the talk of the decade, their demand is not very high among the general public. The Harris Poll, on behalf of Blockchain Capital, conducted a small scale survey among 2,029 American adults in April this year and found out that only 9% of the participants own cryptocurrencies. This demographic trend is on the rise with the younger adults, aged 18-34.
On the other hand, a 2017 household survey conducted by the FDIC has found that 6.5% of the US households are unbanked, while an additional 18.7% are underbanked. The unbanked households cited not having enough money to keep in an account, not trusting the banks in the first place, or living in a place that lacks access to banks. This means that more and more people might be turning to cryptocurrencies in the future.
What’s a “Good” Currency?
For cryptocurrencies to be accepted and widely used, they have to meet certain currency criteria. As you already know, a currency is a monetary unit that denominates cash flows, and you can either invest them or use their purchasing power.
On their own, currencies can’t be valued since they’re without cash flows but they can be priced against other currencies. The purchasing or buying power of a currency can vary due to inflation, deflation, and other economic phenomena, regulated by the government with different policies such as interest rates, quantitative easing, etc.
To measure a currency’s standing, you should take into account how it delivers on the following purposes:
Unit of account
The first purpose of a currency is to serve as a unit of account or a measurement of value. You can value goods, services, assets, labor, income, expenses, and liabilities. This allows us to evaluate anything we produce or consume and compare it in monetary values based on different currencies such as the US dollar or the Euro. To perform the role of a unit of account effectively, a currency has to be fungible, divisible, and countable.
Medium of exchange
The second function of a currency is to intermediate the exchange of goods and services, i.e. to be accepted as a payment method in a transaction or for the repayment of debts. This is only possible if buyers and sellers recognize and later on trust the value of that particular currency, and if transaction costs are affordable. A currency will be an even better candidate if it’s easily accessible and portable.
Store of value.
A currency is considered to be a store of value if it retains its purchasing power in the long run. This means that if you hold on to this currency or make investments with it, you’ll still profit in the future. You’ll be able to save, retrieve, and exchange the currency later on without being at a loss.
What Makes Cryptocurrency a Currency?
Before we answer the question, let’s classify the existent types of money to get a better idea of how cryptocurrencies differ from traditional fiat currencies. This classification, included in a 2018 monetary dialogue made at the request of the European Parliament Committee on Economic and Monetary Affairs, focuses on three criteria among those discussed by Bech and Garratt (2017): a) issuer: government or private; b) form: physical or digital; and c) how transactions are settled: centralized or decentralized.
Source: Monetary Dialogue
Fiat currencies have the advantage of being backed by the government, they’re tangible objects, and they’re regulated by intermediaries. On the other hand, there are cases where they became almost worthless in the event of hyperinflation. These cases are rare, but the risk still exists. What’s the status of the cryptocurrencies? We see that they’re private, digital, and decentralized. But how well do they deliver on the above-mentioned currency purposes?
Cryptocurrencies function seamlessly as units of account since they’re fungible, divisible, and countable.
In economics, a fungible currency is when two separate units of a particular currency have the same value and can be exchanged at the same rate. One Bitcoin values the same as another Bitcoin. Next, cryptocurrencies are even more divisible than fiat currencies. One Satoshi is a hundredth of a millionth of Bitcoin or, for example, if a Bitcoin is worth $5000, one Satoshi would be worth $0.00005.
In the beginning, digital coins weren’t the best mediums of exchanges or stores of value, since most merchants were skeptical and didn’t want to risk accepting them as payment methods. Even if they did, like Overstock in 2014, they did so on limited items only and partnered with a third-party that would convert cryptos to fiat currencies for them. Luckily, things have started changing in the past couple of years.
The History of Cryptocurrencies
Cryptocurrency is such a powerful concept that it can almost overturn governments. – Charles Lee, Litecoin founder
Satoshi Nakamoto might have been the one credited for the creation of blockchain but his idea was inspired by previous projects and innovations. Ten years prior to his white paper, which described how he envisioned the blockchain to function, another famous cryptographer Wei Dai proposed his own idea of digital money called B-Money.
His idea, much like Satoshi’s, was to make sure customers can pay anonymously with digital money using digital pseudonyms. Dai discussed two protocols that the network could implement to verify online transactions but he couldn’t solve the double-spend problem completely. Satoshi was the first one who overcame this obstacle in a decentralized cash system.
In the famous White Paper, Satoshi used the term ‘Bitcoin’ to refer to the whole peer-to-peer electronic cash payment system that he had been working on for over a year. The term ‘blockchain’ came a bit later, and it stands for the core elements of the technology: the data stored on the digital ledger (e.g. the transactions) is stored in “blocks” which are then “chained” together in succession by means of a hash function.
Bitcoin still refers to the cash system and trading platform, while ‘bitcoin’ written in lowercase, stands for the first digital coin itself, and it’s abbreviated to BTC. For example, you can say: I traded 50 bitcoins/ BTC. On January 3rd 2009, Satoshi Nakamoto mined the first Bitcoin block (Block 0) on the blockchain network, the prototype of all blocks to follow, piloting his electronic cash system. This block became known as the Genesis Block.
The coinbase had the following message: “The Times 03/Jan/2009 Chancellor on brink of second bailout for banks”. If you’re curious to know what it looked like, here’s the raw hex version of the Genesis Block:
Source: Block Explorer
A few months later, on October 12th 2009, Satoshi made the world’s first bitcoin transaction on the blockchain. He sent 10 BTC to his friend and supporter Hal Finney, a famous programmer who was among the first to download the software the day it was released, together with Wei Dai, the creator of B-Money we mentioned before.
That day was also the first time Bitcoin gained value. Martti Malmi, a Finnish developer, sold 5,050 BTC to NewLibertyStandard for $5.02 using PayPal. That means that back then 1 BTC was worth $0.0009 whereas today, that same amount of bitcoins is worth $37,314,450.00! Isn’t that impressive?
“Bitcoin price index represents an average of bitcoin prices across leading global exchanges.” Source:Statista
Despite all the ups and downs, Bitcoin has remained the number one cryptocurrency for a whole decade now. It has come far in terms of being accepted as a possible form of payment by billion-dollar companies like Microsoft, PayPal, and Deli, food chains like KFC in Canada, travel sites like Expedia, or online stores like Amazon. Since May this year, Bitcoin is accepted at Starbucks and Whole Foods too.
In the same way in which gold has to be mined out of the ground, Bitcoin has to be digitally mined as well. The mining process takes place on the blockchain peer-to-peer network where every transaction reaches the users’ computers. In order to validate the transaction and mine the coins, these “miners” have to solve a complex mathematical problem by running a hash function.
The solution has to be accepted by other miners, and that’s when a transaction gets verified and added to the chain of data blocks. Since this requires a lot of time and computational power, miners receive cryptocurrencies as an award for their effort in maintaining the blockchain network. Bitcoin adds a new block to the blockchain every 10 minutes on average.
However, there’s a fixed supply limit of 21 million bitcoins that can be mined in total. When miners reach this number, the supply will be tapped out worldwide. No need to raise the alarm just yet because some experts have estimated that it will take more than one hundred years to mine that much bitcoins.
“When I first heard about Bitcoin, I thought it was impossible. How can you have a purely digital currency? Can’t I just copy your hard drive and have your bitcoins? I didn’t understand how that could be done, and then I looked into it and it was brilliant” – Jeff Garzik, CEO of Bloq Inc
So far, we’ve learned what cryptocurrencies are and how and why they came to be, but we’re pretty sure this has raised even more questions in your head than it has answered. Okay, digital coins are mined on the blockchain, and yes, they’re useful because they’re decentralized which equals privacy, lower transaction costs, and greater speed. But how is all this possible anyway?
Decentralization and Security
If blockchain technology had begun as a project owned by a certain company where that company would’ve been its central authority, the whole project and ideology behind it would’ve been dead in the water from the start. Instead, blockchain uses a network where anyone can take part in and be rewarded for their work, and have the option to join in or leave anytime they want. But most importantly, they will never be able to control the network.
So, if you want to send your friends some bitcoins that you’ve been keeping in your digital wallet, they’ll just need to have a wallet themselves and then you can send those coins much like you send a regular email. In order for the coins to arrive in your friend’s wallet, all of the people who have joined the network will have to agree that your transaction is valid. The bigger the number of people who do that, the more secure your transfer is. But how?
All these people work on their computers and compete on solving the algorithm that will make your transaction work. This requires computing power, advanced cryptography, and encoding. Once someone succeeds, they send the code to all the other computers working on it who, once they see the answer, can easily check it and confirm it. The transaction is verified, put in a record, and a copy remains on each participating computer.
This is a type of consensus method known as proof-of-work, where the mining community takes responsibility to protect the decentralized blockchain network from double-spending and forging coins. Moreover, if anyone tries to tamper and make changes to a stored record, their changes won’t match up with the logs on the participating computers and will be rejected. An attempt to gain control over all these computers will take an impossible amount of computing power.
One of the best things about cryptocurrency transactions is that they aren’t linked to real identities. However, if you were one of those who believed that cryptocurrencies are anonymous by design, we’ll have to disappoint you. Cryptocurrencies are actually pseudonymous. Your transaction is only linked to an electronic address which becomes your digital pseudonym. If no one knows your pseudonym, no one will find out when and how much cryptos you’re buying or selling. Your privacy is guaranteed if you keep your digital identity to yourself.
The blockchain stores the history of all the transactions that have ever taken place on the network. This is what makes cryptocurrencies both private and public, or rather transparent. If a company uses the electronic address publicly, anyone can log online and check how much BTC or other cryptos it owns, and how frequently it makes any purchases with them. But if the company takes great care to keep its address internally safe, it can be tracked only with very sophisticated software.
This explains why companies often resort to unique electronic addresses for every new transaction to achieve complete privacy.
Another valuable property of cryptocurrencies is the speed at which you complete your money transfer. Unlike banking transfers and credit card transaction which might take up to several days, especially if more than one bank is involved (e.g. international transfers). Regardless of your and the place of residence of the person you’re sending money to, transfers happen instantaneously as long as you have a device to download and use the software on.
This is an advantage that makes cryptocurrencies even more relevant for the busy lifestyle that has become the norm today.
Fiat currencies have to be carried around in your pocket and presented physically when you want to purchase something. Of course, most of us use their debit or credit cards nowadays, but that also ties you to a third-party, namely, a bank. In comparison, cryptocurrencies can be transferred from one account to another or used as a payment method from every single gadget, including your smartphone regardless of the amount!
Third parties thrive on transaction fees and use every chance they get to rip you off. You’re charged for withdrawals and transfers, and the amount depends on whether the transactions are made in the same bank, to other banks in the country, or internationally (the last ones are the most expensive).
The mining of cryptocurrencies is a mathematical process which is why the commission fee in the Bitcoin blockchain system is lower than in any other. It equals 0.1% of the transaction amount and is rewarded to the miners for verifying the transaction.
In every other cash system in the world, your account is owned by someone else besides you who has control over your money, and the job of an intermediary. If the company suspects your account of misuse, it can freeze all of your money without consulting you. It will take additional time for you to reassure them that you haven’t been engaged in any illegal activity and regain access to your funds.
This brings us to the best thing about cryptocurrencies and the electronic cash system they’re part of. You’re the only one in charge of your money! You own the private and public key that represents your electronic address. That’s why you should take extra care not to lose it or share it with untrusted parties.
List of Cryptocurrencies
Bitcoin has spurred an avalanche of offshoots during the last ten years. According to CoinMarketCap, the number of cryptocurrencies today is just short of 5,000! Our selection includes the most popular ones.
Litecoin was among the first cryptocurrencies to be created after Bitcoin. It was launched in 2011 by the MIT graduate and former Google engineer Charles Lee. The cryptocurrency was frequently referred to as “the silver to Bitcoin’s gold” and initially tried to dethrone bitcoin and deliver better on its shortcomings.
The coins are mined on an open-source peer-to-peer network as well which functions similar to the Bitcoin blockchain. The main difference between the two is that Litecoin offers:
- Faster block generation rate: new block every 2.5 minutes to Bitcoin’s 10;
- Greater speed and ease of acquisition;
- Higher supply limit set at 84 million coins;
- The use of “scrypt” as a proof-of-work algorithm.
Litecoin is among the coins with the largest distribution on the market and as of December 10th 2019, Litecoin has a market cap of $2.83 billion and a per token value of $44.37.
Ethereum is both a decentralized software platform and a cryptocurrency, which also goes by the name Ether (ETH). It’s the brainchild of the Russian-Canadian cryptographer Vitalik Buterin who was only 21 years old when he launched the platform in 2015.
Ethereum has some more advanced features and enables users to create Decentralized Applications (DApps) or issue new crypto assets known as Ethereum tokens. You can also build and run Smart Contracts without third-party interference.
Following the malicious attack on the DAO in 2016, when Ethereum lost $50 million, the company was split into two separate blockchains – Ethereum (ETH) and Ethereum Classic (ETC). The new Ethereum underwent a complete upgrade of its previous network protocol, i.e. a hard fork, with the intention to strengthen its security system.
The great news is that since September this year, Ethereum has become the second-largest digital coin on the crypto market, which means it’s Bitcoin’s runner-up. Like Litecoin, ethers are quicker to mine, and the team is looking to replace the PoW consensus method with the resource-friendly Proof-of-stake (PoS) method, in an effort to reduce unnecessary energy consumption.
As of December 10th 2019, Ethereum has a market cap of over $15 billion and a per token value of $145.99.
Ripple is a platform launched in 2012 that has its own currency XRP which can be used and traded similar to bitcoins. The platform also issues IOUs, which are essentially tokens that you can redeem for a fungible currency (e.g. USD, EUR, or gold). Why would you need these tokens? Well, if Alice owes Bob $5, what she can do is issue an IOUs token on Ripple. Then, if Bob trusts Alice he’ll accept the IOU as a temporary payment.
Although XRP are traded on the blockchain, there’s no coin mining involved. The company itself has control over the coin supply and all of them are pre-mined. For many crypto enthusiasts, this goes against the principles of blockchain technology but on the other hand, this is the reason why the company enjoys the trust of many banks who now accept payments made with XRP.
Monero appeared on the market in 2014, and its mining process is based on the CryptoNight hashing algorithm through CryptoNote technology. This proof-of-work method adds a layer of extra privacy that was lacking on Bitcoin. The transactions hashed with CryptoNight can’t be tracked on the blockchain, and you can’t see the origin, amount or electronic address of the sender. This makes the currencies fungible, unlike bitcoins which can become “tainted” if someone used them previously for an illegal transaction.
The Benefits of Using Cryptocurrencies
Cryptocurrency skeptics seriously doubt that digital coins serve any additional functions to those already provided by the regular currencies. Apart from some more privacy, usually abused for illegal activities, they wonder what else makes digital assets valuable for consumers around the world.
The Advantages of Push-Based Payments
Traditional payment systems like credit cards and the ACH network are all pull-based systems. This means that even though the customers think they’re initiating the transaction themselves, in reality, they’re actually sending an instruction to their financial institution (e.g. their bank) to authorize the merchant to “pull” money from their account.
The advantages of this model are outweighed by the disadvantages. You’re required to place your trust not only in the merchant but also in the third-parties involved such as their IT supplier and bank, and your own card-issuer.
On the other hand, cryptocurrency payments are push-based. They reverse the transaction process by allowing customers to be in charge. They’re the ones who get the merchant’s account information and initiate the transaction, instructing their financial institution to “push” money out of their account. They don’t have to worry that the merchant will misuse their account information and continue to charge them without approval.
The Advantage of Micropayments
Before cryptocurrencies, electronic payments always came with an additional transaction cost deduced by third-party financial institutions for the service. Therefore, if you wanted to make a very small payment or money transfer, i.e. a micropayment, the transaction fee would be higher than the payment itself.
Paying with cryptocurrencies makes these micropayments viable and opens the door for a whole host of new business models. One such innovation is SatoshiPay, an unhosted blockchain-based cryptocurrency wallet that allows you to access diverse media content for a small charge. If you pay with cryptos, you can enjoy books and videos for only a few cents.
Take “The Geek’s Guide to Britain” for example, a travel guide published by The Register and sold for $25 in paperback. On SatoshiPay, you can buy the same guide in digital format for about $3, or purchase only one chapter for $0.12, an amount that would be unviable with credit cards or on the ACH network.
The Costs with Cryptocurrencies
This brings us to another advantage that comes with using cryptocurrencies – there are no transaction fees since miners are rewarded with bitcoins by the network itself. However, many crypto enthusiasts engage with the so-called cryptocurrency exchanges for buying, selling, trading, and transferring cryptocurrencies or use their electronic wallet to store your coins.
These platforms are likely to charge small transaction fees for their services. For more information on how to use them and the features they offer, check out our detailed cryptocurrency exchange guides.
The Challenges of Cryptocurrencies
Cryptocurrencies have only been around for ten years, so it comes as no surprise that the general public still regards them with suspicion. Fiat currencies have served us long and served us well, and in doing so have established the ground rules that a currency you can trust is one that is physical and government-issued.
It’s true that cryptocurrencies have a long way to go before they become accepted as a regular payment method by customers and merchants alike. However, half a century ago people were skeptical about paying with credit cards as well or ordering on Apple Pay until recently. Next, the speed with which consumers have accepted social media, ride-sharing services, or online-renting marketplaces, suggests that it shouldn’t be long before cryptos follow.
In finance, volatility describes the extent to which the price of an asset fluctuates over time. A developing market, especially one launched on new technology, is more likely to be volatile because of the high risk of failure and estimations based on speculation.
Another factor that made the crypto market extremely volatile in the beginning was low liquidity. There was an enormous discrepancy between the daily trading volumes of different cryptocurrencies and the ones on the stock market which has been decreasing ever since.
For these reasons, merchants had to constantly reset the bitcoin prices of their goods and services, while customers were unsure how much their bitcoins will be worth a few days after they bought them.
Absence of Regulation
It’s an incredible challenge to regulate an open-source decentralized technology such as blockchain which is why the crypto market is largely unregulated or regulated differently depending on the country’s financial laws. Because of this, users are concerned that there will be even more bad actors in the future, abusing cryptocurrencies to support their illegal activities such as purchasing drugs or funding terrorist attacks.
The Future of Cryptocurrencies
So far we’ve touched upon the history of this miracle currency and the mechanism of the network behind it. We listed the major and most popular digital coins out there, talked about how consumers can benefit from them, and made sure to mention some of the potential risks and challenges. At the end of this guide, let’s take a look at what the future has in store for the crypto market, and how the big companies are joining the game.
Samsung Adds Cryptocurrencies to Samsung Pay
Samsung users will be familiar with Samsung Pay, a mobile payment and digital wallet service by Samsung Electronics in the same way as Apple Pay is used by iOS users. The company has announced that it plans to integrate a crypto-wallet as part of the payment platform which is used by over 10 million customers around the world.
The announcement made by Business Korea reads the following: “Samsung Electronics appears to be moving to integrate cryptocurrencies to Samsung Pay, which accounts for 80 percent of the South Korean simple payment market. The company has recently transferred the blockchain task force (TF) of the mobile business division to the service business division.”
Square Crypto to Fund Projects on Bitcoin
Square is a financial service founded by Jack Dorsey, the CEO of Twitter, most famous for its online tool for sending money, CashApp.
In March this year, Jack has tweeted a job offer for crypto engineers to work on projects around Bitcoin: “Square is hiring 3-4 crypto engineers and one designer to work full-time on open source contributions to the bitcoin/crypto ecosystem. Work from anywhere, report directly to me, and we can even pay you in bitcoin! Introducing @SqCrypto.” This initiative, says Jack, is aligned with the company’s interest to promote “a more accessible global financial system for the Internet”.
Paying Your Taxes With Bitcoins
In November 2018, Ohio became the first US state to allow residents to pay their taxes with bitcoins. All they have to do is register on the newly launched website OhioCrypto.com. Other states including California, New Hampshire, Indiana, and Arizona might join the train soon.
Decentralized Social Media Networks
Peepeth is a blockchain-powered social platform that stores all your information on the blockchain unlike mainstream social networks like Facebook or Twitter where the companies keep and control all your data resulting in a lack of privacy.
The platform includes no adverts, you can’t edit or delete your posts (or “peeps”), and everything is kept clean and transparent. Members who aren’t acting mindfully will be sacked, as Peepeth has its own Code of Conduct based on a discourse on Right Speech by the Buddhist monk Thich Nhat Hanh’s, an advocate for harmonious life and compassion.
Disclaimer: Digital currencies and cryptocurrencies are volatile and can involve a lot of risk. Their prices and performance is very unpredictable and past performance is no guarantee of future performance. Consult a financial advisor or obtain your own advice independent of this site before relying and acting on the information provided.