The evolution of money started with the barter system, where commodities and services were exchanged based on their use value.
Then came paper and coin money, which is fungible, fiat, legal tender, limited by quantity and valid as a value of exchange backed by the trust in the national government and managed by central government authorities like the Fed or the RBI.
The issues with these currencies are that they can be transferred without any trace of the source and destination of the money, which may lead to an increase in cases of counterfeit money, money laundering, corruption, illegal election funding, terror funding, and so on.
The digitalisation of this money, in the form of virtual wallets like PhonePe, Paytm, and GooglePay, has somewhat checked the problem of traceability.
Their control, being centred on only a small group of people, and the lack of transparency in currency control and regulation, is the major cause of corruption and instability in the currency.
A could-be solution to all these problems is being explored in “cryptocurrencies”, the buzzword of the 21st century. The government’s experimental attempts to control the crypto market and investors’ raving to explore this new magnetic market of cryptocurrencies have made it all the more important to understand them properly.
Key Takeaways
- Know what cryptocurrency is.
- Learn about the origin of cryptocurrencies.
- Learn all about how cryptocurrencies work.
- Know the key features of cryptocurrencies.
- Read about how to invest in cryptocurrencies.
- Learn the key issues revolving around them.
- Read about the future of cryptocurrencies.
What Is Cryptocurrency?
The word “crypto” comes from the Greek word “krypton”, which means “secret or hidden.” The term refers to an encryption technique that conceals messages to increase privacy.
A cryptocurrency is a virtual currency system where money is transferred online via a decentralised peer-to-peer network spread all around the world. The users of the cryptocurrency network verify the transaction based on consensus, and no central authority or third party is involved in currency control. Money gets transferred when all the users authenticate.
It uses cryptographic techniques on the source, destination, and amount of transaction data. Each transaction data is wrapped in chains of blocks that are connected to each other at nodes, which keep changing every few minutes, and no one can tamper with them. This is the process that we all know as “blockchain technology.”
This data is recorded virtually in one single distributed ledger in the cloud, whose identical copies are with all the users of the cryptocurrency network. The transaction entries in this one sun-sized virtual ledger are verified when a consensus is agreed upon by the cryptocurrency owners and the peers observing this network.
Every month a new cryptocurrency enters the market. Countries like Japan, Venezuela, El Salvador, the Central African Republic, and others are racing to have their own cryptocurrency. Some of the best-known cryptocurrencies are Bitcoin, Libra, Ethereum, Dogecoin, Ripple, etc.
Before we know how cryptocurrency works, let us know a little bit about the background of crypto.
Also read: What Is Cryptocurrency? Understanding Cryptocurrency And Blockchain
Who Invented Cryptocurrency?
The concept of such currencies originated in the 1980s by a cryptographer named David Chaum, who initiated the idea of securing and verifying transactions using cryptography for digital cash called “cyber currencies.”
It was only in 2008, when Satoshi Nakomoto, a pseudonym, published a paper called “Bitcoins: A Peer-to-Peer Electronic Cash System” that revolutionised the whole digital currency system by creating a virtual currency that was peer-to-peer and without mediating houses.
He created open-source software and the Bitcoin protocol in 2009 to send money across nations without any banks or government interference.
Satoshi Nakomoto and Hal Finney made the first transaction of Bitcoins on January 12th, 2009. A maximum of 21 million bitcoins can be mined, which is expected to happen until 2040.
How Does Cryptocurrency Work?
We will learn step by step how this new virtual currency platform works:
- One Huge, Virtual Ledger:
A person (say, A) from one country sends an “x” amount to another person (say, B) from a different country. This transaction will get inserted into just one big virtual ledger as “A paid “x” amount to B”.
2. Exact Copies With All:
All the computers observing this transaction will have an exact copy of this ledger, which can’t be tampered with unless consensus is reached.
3. Blockchain Technology:
This transaction will become one block. Likewise, other transactions will each be in a separate block in the chain of blocks, all connected to another block through nodes spread across the globe. This networking process is known as “blockchain”.
4. Hash, Data, and Previous Hash:
The transaction in the block will be inserted with three pieces of information they are hash (the address of the current transaction), data (details of the current transaction), and the previous hash (the address of the last transaction in the block’s chain).
5. Continuous Hash Address Change:
A new block is created every few minutes, and a new blockchain is created every few months. However, along with creating a new block, the hash addresses of the previous block change.
6. Consensus-Based Modification Authentication:
All the computers in this cryptocurrency network observing this transaction need to authenticate it as valid if “A” actually has “x” amount with him, in the identical ledger copy with them. This authentication is validated in real-time based on consensus.
7. Miners and Crypto-mining:
One who holds a copy of the ledger and authenticates the transactions is called a “miner.” As compensation for proofreading and validating this data entry, they are given a set amount of cryptocurrency. This process is known as “crypto-mining.”
8. Proof of Work:
Nowadays, hackers may use powerful machines to temper the data, so every person authenticating the ledger data entry needs to perform a proof of work (solve a random arbitrary mathematical puzzle to discourage bot use).
The Key Features of Cryptocurrency
Let us quickly list a few features of cryptocurrency in this section below.
- Trust Lies in All:
The functioning of blockchain technology can be compared to a kitty party or a chit fund, where all the participants come together and trust each other to invest money. Only consensus-based transactions are allowed, making the kitty bag or chit fund process democratic. Here, trust lies with all, rather than a group of people, thus ideally a corruption-free system.
2. More Transparency:
Since there is only one giant ledger whose identical copy is available to all the miners, hence the decentralisation of the process, and it needs to be authenticated by them on a majority basis, it is a transparent process.
3. All-round Availability:
All the procedures happen in real-time, making them fast, easy, and available 24 hours a day. Here, the trust lies not with the bank or the government but with the peer group, secure transaction authentication, and blockchain technology.
4. Absence of Intermediaries:
The attraction here is that it nullifies the significance of intermediaries like banks, mediating houses, or any governmental regulatory authority like the Fed of the USA or RBI (Reserve Bank of India) and tackles any vested interest of these intermediaries.
5. Least Transaction Rates:
These features checks-out all the issues we discussed related to money in the introductory part. Thus making the interest rates zero and very low to the nil transaction fees for some cryptos.
6. Promotes Equality:
It brings equality, as it is open to all, with no permission required and fast account opening. Whoever holds a smartphone with internet access can earn cryptocurrencies.
7. Super-security and Immutability:
The super-security and immutable features include proof of work, consensus-based authentication, blockchain technology, in which new blocks are created every few minutes, and real-time transactions. If anybody wants to change an entry, they must manipulate the entire blockchain.
8. Pseudo-anonymous Features:
As we have discussed earlier, it holds the anonymity of the source and destination, just like cash, but also the traceability feature. Thus, it is a pseudo-anonymous currency system.
9. Scope to Become a Legit Currency:
Along with all the above features, digital cryptocurrencies can be embedded with extra layers of security programming and used as a legit currency by governments.
You must be curious to know all the options available to you on how you can invest in these currencies. We will list them here in this section right below.
How to Invest in Cryptocurrency?
Despite much variability, cryptocurrencies have become increasingly popular, attracting speculators, tech-savvy entrepreneurs, and governments that see potential value in them. Some cryptocurrencies are more stable than others as well, with a full-bag variety still in the growth pipeline.
As we move on to our main topic, here are some ways you can invest in cryptocurrencies. The first step in investing in digital coins is to thoroughly research the nitty-gritty of these new forms of currency, including their historical performance, potential return, and relative riskiness.
The ability of cryptocurrencies to pay for other goods, such as Tesla cars and their tax implications should be considered when investing in this market.
Also, make sure not to keep all your eggs in one basket; diversify your investments.
- Purchase directly from the primary market as the Initial Coin Offerings (ICOs), when the companies, individuals, or nations release a cryptocurrency in the market to raise money or increase.
- Invest in cryptocurrency-related companies (such as those that develop or support the technology or provide hardware for mining), or invest in companies that work with cryptocurrencies directly.
- You can invest a little bit to buy the software and machines to mine cryptocurrencies and directly mine them by authenticating the transactions.
- You can invest through Crypto Exchange Trade Funds (EFTs) like Binance, Hashdex Nasdaq Crypto Index (HDEX.BH), etc. These exchanges track a basket of cryptocurrencies, and many mobile apps are available to direct this procedure easily online from the comfort of your home.
Every good innovation brings a list of issues along with its good features, which takes the test of time to resolve these issues for the betterment of technology and people. Let us go through the problems that a linked with the cryptocurrency system.
Issues With Cryptocurrency
- The crypto economy is a decentralised and unregulated market that bypasses the banking system. The central government bears no control over the crypto market, making it an unsafe investment market. This is potentially disrupting the macroeconomic stability or destabilising the socio-economic integrity of the nation.
- There are reports on the environmental inefficiency of cryptocurrency mining and trading as a hub of carbon emissions and e-waste. But major reports also disprove these statements, stating that cryptocurrency is less carbon-emitting than the present banking and trading systems.
- Cryptocurrency as an unregulated market limits the government’s ability to fund new public welfare programmes by diverting investment away from traditional markets.
- Technical service providers of crypto networking systems are still vulnerable to malware and hacking attacks, as their private keys are viable targets.
- With a decentralised system, transactions are irreversible; this makes it less attractive than mediator banking systems.
- The lack of clarity in the government’s framework for taxing crypto assets may lead to market manipulation, insider trading and illegal trade.
The Future of Cryptocurrency
Cryptocurrencies are still in the pipeline for public policy frameworks by nations. But, the tech-savvy innovators and investors are already testing the waves of crypto volatility, its market, demand and supply, and new frameworks to imbibe it in new platforms.
This heralds the need for reforms to remove the ambiguity of tax structure and legality of cryptocurrencies by seeking international collaborations and establishing an organic dialogue among the relevant stakeholders of the nations.
To fill the vacuum for transparent and secure currency management and to bring the governmental authority to assimilate technologies like blockchain and cryptocurrency under its ambit, there is an urgent need to analyse, adapt, and structure their policies along with these technologies.
The currency convertibility from crypto to rupee or euros or yen and vice versa also be analysed and assessed.
Regulation by central authorities like RBI, and the Fed, by ample reforms and planning, is the pathway to a clear, transparent, secure, coherent, and trustworthy currency management vision that the cryptocurrency system seeks to achieve.
With that said, we believe that cryptocurrencies are here to stay for the betterment of society, with their blockchain technology going to transform many industries.
Conclusion
One thing is sure cryptocurrency enables new wealth creation platforms that are not limited by geographical boundaries.
The sound technology underpinning cryptocurrencies have the potential to change how we interact with money and each other. Whether or not it does so is governed by our willingness as a society to accept cryptocurrency as legitimate (and valuable).
Indeed, the cryptocurrency market is still in the transition phase, thus demanding systemic reforms and new, structured pathways that will be revealed over time only.
But blockchain technology is already proving its mettle, which is why the industry which is on the verge of getting bypassed by this development, i.e. banks, are the first ones trying to absorb this technology and are still in the race for currency management.
What we need is to channel this innovation to a positive acceleration of the economy and people’s advancement, as we are on the cusp of the new revolutionary stage of the Fourth Revolution (4th Revolution), which benefits from the cryptocurrency mode of money transaction, the internet of things (IoT), Artificial Intelligence (AI), Metaverse, and, of course, human intelligence and innovation.
FAQs
Q. What is the main purpose of cryptocurrency?
The cryptocurrency aims to fix the problems associated with the traditional currencies backed by nations’ governments. It seeks to allocate power and trust among all the peers mining and holding the cryptocurrency. They have the potential to solve the real-world problems of hacking, corruption, money laundering, counterfeit money, etc.
Q. Is Bitcoin the same as cryptocurrency?
Bitcoin is the first cryptocurrency created in 2009 by a geek pseudonym, Satoshi Nakomoto. It was the first time blockchain technology was developed to back bitcoin security. Today, a maximum of 21 million bitcoins can be mined. This makes its prices skyrocket.
Q. What are the five disadvantages of cryptocurrency?
Cryptocurrencies are still an immature field, undergoing time tests and innovations, making them an under-development system. Some of the few issues with cryptocurrencies are: being an unregulated and decentralised market, it is out of control of governments right now; will trigger a large amount of e-waste, hence environmentally unviable; not under the ambit of governments, making it a hub for criminals, hackers, terror financiers, money launderers, and illegal political funding; policing not possible if criminal activities; and curbs the ability of governments to fund public programmes.
Q. Is cryptocurrency safe?
The backbone of cryptocurrency, i.e., blockchain technology, is made inherently super-secure, with its proof of work programming and decentralised identical ledgers authenticated by all the miners and cryptocurrency holders based on consensus. These features make cryptocurrency a safer option than legal tender currencies.
