I explain cryptocurrency1.
- What cryptocurrency is
- History of Bitcoin
- The Bitcoin bubble
- Why cryptocurrency is bad
- Why cryptocurrency is good
- Other observations
The following article has been adapted from a local publication that I write for.
In the news over the past few months, you may have heard about Bitcoin. It is a digital currency that has recently grown vastly in popularity. Bitcoin is one of hundreds of “cryptocurrencies,” a specific type of digital currency. Other notable cryptocurrencies include Ethereum, Litecoin, and Ripple. The “crypto-“ in the name refers to cryptography, an important part of the systems used in cryptocurrencies. A “currency” is simply some kind of object or item that is traded in exchange for goods and services. Cryptocurrencies are built on “blockchain” technology, a decentralized system for using a global network of computers (the internet) for recording past actions. What I mean by “decentralized” is that there is no central authority or entity that tracks and controls transactions; blockchain cuts out the middle man. This system is used to store and cross-verify a “ledger”, or record of actions that are to be tracked; this ledger is publicly accessible, which prevents anyone from making unauthorized edits to the record without detection. In the case of cryptocurrencies, this ledger contains a record of all transactions that have ever been made. Each user has a cryptocurrency “wallet,” with a specific address, that can send and receive cryptocurrency to and from other wallets. People who wish to buy and sell cryptocurrency, including Bitcoin (often called “traders”) use exchange platforms, such as CoinBase, to manage their cryptocurrency wallets for them and help them make transactions. In exchange for their services, these platforms take a fee from each transaction. Please note that not every virtual or online currency is a cryptocurrency – it is the decentralized nature of the system that makes it so.
Bitcoin is one of the oldest, most trusted, and most popular forms of cryptocurrency. It was first created in 2009 by an unknown person or organization, who is now identified by an alias (CNN). During the first couple of years, Bitcoin had no practical applications whatsoever and next to no value. The group of people who used it were mostly computer scientists and people with a specific interest in this emerging technology. Over time, however, more and more people began to hear about Bitcoin, and more and more people began to buy it. Eventually, investors and speculators2 began to gain interest in Bitcoin. This was mainly due to its apparent potential to rapidly increase in price and seemingly create a profit for Bitcoin owners3. The more people who were interested in Bitcoin, the more people owned Bitcoin. The more people who bought Bitcoin, the more the price rose.
In the last couple years or so, the price of a single Bitcoin has grown exponentially, from costing just a few cents per coin to thousands of dollars. Over the past few months, the price of Bitcoin has wildly fluctuated, increasing or decreasing by hundreds of dollars in price in a matter of hours. This culminated in December of 2016, when the price was increasing by up to 2,000 dollars a day. Until recently, it was unclear if Bitcoin represented an economic “bubble,” or an extremely rapid price increase that ends up bringing the price of a good far higher than that specific good’s intrinsic value4. However, after the rapid speculation and corresponding price increase that we have seen over the past year or so, it is safe to assume that Bitcoin was, in fact, a bubble. The value of a Bitcoin has since decreased substantially and stabilized. By now, it is probably safe to assume that the bubble is over, and Bitcoin (or any other cryptocurrency) will not experience such a rapid increase in value anytime in the near future. The price of a Bitcoin has been relatively stable5 for several months now.
What gives Bitcoin, or any other cryptocurrency, value? It is the same thing that gives value to physical currencies, including the dollar, the euro, or the pound; that is, people are willing to treat them as if they have value6 You may argue that gold, silver, or diamonds are more intrinsically valuable because they have many uses and are so extremely rare. It is true that Bitcoin does not have any physical uses7, because it is not a physical object. This has also made it harder for people to understand why it is worth anything, because it is easier to feel that something tangible is useful or practical. However, the creators of most cryptocurrencies have solved the problem of supply scarcity (albeit artificially) when it comes to digital currencies. This has been done by limiting the total amount of a currency that can ever be found, or “mined.” In the case of Bitcoin, there are only twenty-one million Bitcoins that will ever be available (Investopedia). The issue with this is that while the amount of one specific cryptocurrency may be limited, the total number of cryptocurrencies that are created can never be limited. Not all of these twenty-one million have been mined, however, so this number does not represent the total supply in circulation.
As impressive as Bitcoin is, it has some flaws. Many of which relate to malicious uses that criminals have found for the anonymous and private system that cryptocurrencies use. For example, in some cases, “cryptojacking” attacks have been used by hackers to financially gain from hacking into websites and using them to mine Bitcoin. Mining Bitcoin involves running complex calculations on high-end computers to Increasingly often, compromised websites and advertising networks have had cryptojacking malware installed into their systems. When people visit these websites, cryptojacking malware may use their processor without their consent to mine cryptocurrencies, allowing hackers to easily make a profit8. It should, however, be pointed out that this has nothing to do with the nature of cryptocurrency itself. If there was a better reason for hackers to steal computing power from unwitting internet users, then similar malware would likely be used for the same purpose.
Some have also argued that cryptocurrencies are dangerous and attract illicit activity or criminal transactions. Due to the anonymity and security provided by cryptocurrency, it has been used. However, so has the U.S. dollar and virtually every other currency ever created. If criminals have a method to conduct illegal activity, they will use it, whatever it is. It is not the fault of cryptocurrency, or any other innovative technology, that people so often act poorly. If we are constantly afraid of what people will may do in the future, we will never move past the present. Bitcoin may also be used by people seeking to evade taxes or other monetary laws in their country, but there are merits and disadvantages to every system that could possibly be used. Technological development is almost always a double-edged sword: while we create new, better ways to make life easier and safer for more people, we create new challenges and problems that must also be solved. Such is the problem with cryptocurrency.
It doesn’t help, either, that many “ransomware” attacks use Bitcoin as a form of payment. In these attacks, a computer system is hacked and the information stored on it is encrypted, so that it cannot be accessed by the owner of the data. The hacker then demands payment in exchange for the key to decrypt the data. Again, this has little to do with the nature of Bitcoin or cryptocurrency itself; whatever system people have access to, someone will find a malicious use for it.
At this moment, there are very few real-world goods and services that can be bought with Bitcoin. Hopefully, this will change with time, as more businesses realize the many merits of using cryptocurrency systems over traditional online payment methods, such as credit cards. Finally, Bitcoin mining uses a very substantial amount of electricity (often generated by burning fossil fuels), which has raised concerns about the potential environmental impact of thousands or millions of people mining Bitcoin on their computers9.
But we shouldn’t only think about the negative, illegal side of cryptocurrency, which has unfairly tarnished its reputation. There are many positive, helpful, and practical applications for cryptocurrency. It is a very complex system that should not be judged on a couple of unfortunate issues, most of which could be fixed in the near future.
For example, the blockchain technology that cryptocurrency is built on is extremely secure. Because everyone has access to a record of all transactions, it is very hard to make counterfeit transactions or attempt to cheat the system. This makes cryptocurrency one of the safer, more secure available online payment options10.
Another advantage to cryptocurrency is that it can be almost infinitely divided. Due to the way that computers handle computation, including the computation of cryptocurrency transactions, crypto (an abbreviation for cryptocurrency) denominations can be as small as is necessary. This is also the most practical way to make transactions – rather than rounding to the nearest Bitcoin11, or even one percent of a Bitcoin, it can be divided into increasingly small segments. When paying, there is no simple way to split a penny or similarly small denomination. However, cryptocurrencies like Bitcoin can be split as much as is needed, making for much more precise transactions.
Now back to the aforementioned “bubble” situation. In December, the price of a single Bitcoin rose and rose, reaching nearly 20,000 dollars per coin (CoinDesk). Then, one day, the price began to plummet. Many have referred to this as a “price correction,” a term for when the price of a good approaches what that good is actually worth, instead of what speculation and greed have driven it to. A price correction for Bitcoin may be positive, because it makes it more useful as an actual currency; it is hard to buy and sell goods with something that may be worth twice as much tomorrow as it is today.
The situation is reminiscent of the Dutch tulip mania, during which the price of tulips (yes, tulips) rose at an extremely rapid rate, similarly to what happened to Bitcoin about five months ago. Tulips quickly became so expensive that speculators would sell their houses and all their possessions to buy one, in hopes that the price would be driven up even further and they would make a massive profit (Investopedia). Some did gain from the increase in price, but many were left with no money or tools, having given everything up to join in on the tulip craze. This same situation has been repeated time and time again, all over the world. Lust for quickly gaining money and power has been part of human culture for thousands of years, and it seems that no amount of technological advancement will change this.
Just because the Bitcoin bubble has burst, we should not forget about cryptocurrency. Depending on your perspective, this could even be a good thing12. Once people can stop seeing cryptocurrency as a shaky, unstable, and impractical investment asset, progress may be made toward finding more practical uses for it. If cryptocurrency13 finds more practical applications, and survives the bad press, it could be a legitimate and incredibly useful tool for businesses and consumers alike in the very near future. Instead of focusing on the mistakes that have been made in the past, we should look to the future for new solutions and innovation.
Image source: pixabay.com/en/bitcoin-cryptocurrency-blockchain-3014614
- “Cryptocurrency, in a nutshell.”
- Many of whom placed money into Bitcoin without fully understanding the risks and benefits, mainly for “fear of missing out.”
- In a similar way to buying stock in a company, waiting for the price to increase, and then reselling it to make money.
- It is doubtful whether Bitcoin actually has any intrinsic value, but more on this later.
- For a cryptocurrency.
- With physical currencies, a government is also usually backing the integrity of the currency, but this endorsement only holds as much power as the people’s trust in their government’s authority.
- just like the U.S. dollar, a thin sheet of green paper or cotton
- This has, unfortunately, become quite common now, in part due to the high value of some cryptocurrencies.
- Much of the Bitcoin mining is now done on massive server farms; small, individual operations have become less and less profitable over time as more and more Bitcoins have been mined.
- Were it not for the current extreme volatility of the cryptocurrency market, which will hopefully improve over time.
- Most likely a terrible idea, with the current price hovering near 9,000 dollars (CoinDesk).
- That is, if you haven’t invested your life savings in Bitcoin.
- I said “cryptocurrency” 44 times in this article, if you were wondering.