May 20, 2019, Written By John H. Oldshue
Most people have heard the term “cryptocurrency,” usually from a tech reporter or someone in the banking industry. But many of us do not fully understand cryptocurrency and how it works.
What is cryptocurrency?
Cryptocurrency is a secure, digital currency. Think of it as a medium of exchange in the digital world. The currency uses cryptography to encrypt and protect the data used in transactions. The first cryptocurrency was developed in 2009, and it probably the most well known: Bitcoin. But there are many other types of cryptocurrency, such as Litecoin, Ethereum, Ripple, Zcash and Cardano.
Since cryptocurrency is not controlled by a central authority, such as a bank, advocates say it is not beholden to government regulation. However, there are a number of U.S. states that have passed regulation on cryptocurrency trading. Anyone can exchange cryptocurrency through peer-to-peer payment networks.
Why people like it
Those in favor of cyrptocurrencies point to the fact that it is a way for individuals to send money to one another without the interference of big banks. Previous attempts to set up this type of network proved difficult due to double-spending. In the 1990’s, some entities tried to create these peer-to-peer payment networks that would work like music sharing platforms, such as Napster. The reason they didn’t work is that there would be no centralized authority (e.g., a bank) monitoring transactions to ensure that someone didn’t spend the same money twice.
The latest iteration of cryptocurrencies work because everyone on the network has a record of the cryptocurrency held by everyone else. If two people complete a transaction, each of them will have to sign-off with their private key, and the sale information will be broadcast to the rest of the group. In that way, the payment group regulates itself.
Verified transactions may be instantly broadcast to the group, however until they are confirmed, the transaction could be forged. In the Bitcoin system, miners are the individuals who confirm transactions, and as an award for their services, they get a certain pre-set amount of cryptocurrency. While miners confirm transactions as quickly as possible, there could be a delay that could result in fraud.
Another concern with cryptocurrencies is they are irreversible. Once the money is sent and confirmed, it is gone. When you pay with a credit card or your bank account, you can stop a transaction if you do not receive your goods or services from a third party. However, this option is not available with cryptocurrencies.
The other drawback is a legal and moral one. Transactions and holdings are not connected to real-world identities, so there is no way to see who is sending or receiving money. Additionally, parties do not need to receive “permission” to use cryptocurrencies. Thus, Bitcoin and other cryptocurrencies can and have been used to purchase illegal goods and services, and there is no way to trace the transactions back to the guilty parties.
Even with these concerns, there are a number of benefits to using cryptocurrencies. Transactions can be completed quickly with parties anywhere in the world. Since the funds are not held with a traditional bank, there are no foreign transaction fees or other hurdles. Additionally, since strong cryptography protects these digital funds, it would be difficult (if not impossible) for someone to hack the system and steal the cryptocurrency.
Also, since anyone can access cryptocurrency, you do not need good credit or a U.S. social security number to open an account, which means that cryptocurrency could pave the way for individuals in the developing world to participate more easily with the global financial community.
People in support of cryptocurrency say it will limit the power of banks, which may encourage them to cut fees and provide services to currently underrepresented populations.
Since it is such a new entity, the value of cryptocurrency is volatile. As of last week, the value of Bitcoin is at $7,860.67–down from an all-time high of over $19,700 in December 2017. Due to this volatility, it is hard to predict whether cryptocurrency will ever enter the mainstream–even with its benefits.