Everyone’s talking about it: What is cryptocurrency?
It’s trending on Twitter almost every day and governments around the world are wondering where they stand with it. You have everyone, from notable celebrities to students using it. And everyone is talking about it.
The topic is cryptocurrency—a word that inspires both fear and excitement in people. You can’t escape it online. It’s everywhere—from Twitter timelines to pop-up ads. So, what exactly is it?
A Brief History of Cryptocurrency
Before the first digital alternative currencies appeared, cryptocurrency existed as a theoretical construct. The early proponents of cryptocurrency shared the objective of using computer science and cutting-edge mathematical principles to solve what they considered as political and practical shortcomings of “traditional” fiat currencies.
The technical foundations of cryptocurrency date back to the 1980s when David Chaum, an American cryptographer, invented a “blinding” algorithm that is still central to modern web-based encryption. The algorithm allowed unalterable, secure data exchanges between parties, setting the groundwork for future electronic money transfers.
Then, 15 years later, Wei Dai, an accomplished software engineer, published a white paper on b-money, a virtual currency architecture that included several basic elements of modern cryptocurrencies, such as decentralisation and intricate anonymity protections.
However, b-money was never used as a means of exchange. Though mobile payment technologies boomed in the late 1990s and early 2000s, no true cryptocurrency emerged until the late 2000s when Bitcoin debuted. Widely considered to be the first modern cryptocurrency, Bitcoin is the first publicly available means of exchange that combines user anonymity, built-in scarcity, decentralized control and record-keeping via a blockchain. It was first summarised in a 2008 white paper published by Satoshi Nakamoto, a pseudonymous group or person. Nakamoto released Bitcoin in early 2009 and a group of ardent supporters began trading and mining the currency.
Decentralisation seems to be the key motivation for creating alternative currencies. But what does it really mean?
First, let’s talk about the blockchain.
A blockchain is a growing index of records, known as blocks, that are connected to each other using cryptography. They are resistant to data modification because once recorded, the data in any given block cannot be changed retroactively without changing all subsequent blocks. In the blockchain, decentralisation implicates transferring the decision-making and supervision from a centralised institution (group of people, individual or a company) to a dispersed network. Decentralised networks try to limit the degree of trust that members should put in each other and discourage their capability to put forth command or authority over each other in terms that debase the network’s potency.
The decentralised control is inherent in blockchain technology. The supply and value of cryptocurrency are maintained by user activities and the extremely intricate protocols built into their governing codes, not the premeditated decisions of regulatory authorities like central banks.
The Cryptocurrency Architecture
As mentioned, the technical controls and source codes that support and secure cryptocurrencies are extremely complex. However, it’s not difficult to become an informed cryptocurrency user. Here are some words you need to know.
A cryptocurrency’s blockchain is the master public ledger that maintains and stores all previous activity and transactions, validating ownership of all units of the currency at any given point in time. Since it records the entire transaction history, a blockchain has no limit—contains a finite number of transactions—that grows over time.
Duplicate copies of the blockchain are kept in each node of the cryptocurrency’s software network. Miners continually record and validate cryptocurrency transactions, which aren’t technically finalised until it’s added to the blockchain. This takes only minutes.
Unlike conventional payment processors, such as credit cards and PayPal, most cryptocurrencies have no in-built chargeback or refund functions, although some recent cryptocurrencies have elementary refund features.
In the lag time between the initiation and finalisation of the transaction, the units are unavailable for use by either party. Instead, they are detained in a sort of escrow for all intents and purposes. Thus, the blockchain deters double-spending or currency manipulation.
Smart contracts are programs stored on a blockchain that work when predetermined requirements are met. They are generally employed to automate the implementation of an agreement so that all participants can be instantly certain of the outcome, without an arbitrator’s involvement or time loss. They can even automate a workflow, activating the next step when requirements are met.
A token usually refers to any cryptocurrency besides Ethereum and Bitcoin—even though they are both technically a token. The other increasingly accepted meaning for the token has even more nuanced connotations: as cryptoassets that run on top of another cryptocurrency’s blockchain.
Tokens in this second category help decentralized applications to do everything from selling virtual real estate to automating interest rates. But they can also be traded or held like any other cryptocurrency.
Miners operate as cryptocurrency community record-keepers and indirect referees of the currencies’ worth.
Using extensive amounts of computing capacity, usually embodied in confidential server farms owned by mining collectives that incorporate dozens of individuals, miners use extremely technical strategies to confirm the entirety, precision, and security of currencies’ blockchains.
Node is a computer that connects to the cryptocurrency network. The node supports the network through hosting or validating the blockchain copy, relaying transactions. When relaying transactions, each node contains a blockchain copy of the cryptocurrency it supports. When a transaction is made, the node creating the transaction displays its details applying encryption to other nodes throughout the network so that the transaction is visible. Node owners are either volunteers or interested parties who host a node to obtain rewards from hosting the network.
A cryptocurrency wallet stores private and public keys or seeds that can be applied to spend or receive the cryptocurrency. With the private key, it is possible to register in the public ledger, efficiently spending the associated cryptocurrency. With the public key, it is possible for others to transmit currency to the wallet.
The Anonymity Factor
Bitcoin is not anonymous but pseudonymous—the cryptocurrency inside a wallet is not linked to people. It is rather tied to more than one specific key. Thereby, Bitcoin owners can’t be identified but all transactions are publicly known in the blockchain. Additionally, cryptocurrency exchanges are usually mandated by law to collect the personal data of their users.
Cryptocurrency is based on rational democratic principles, it remains a practical and technological work in progress. For the foreseeable future, the near-monopoly of nation-states on monetary policy and currency production appears secure. Yet, cryptocurrency is still a compelling concept with the power to essentially transform global finance for the better.