What is a Cryptocurrency?
We’ve all heard about it; Some hate it, and some made a fortune from it. For some it is the money of the future, while for some it’s nothing more than a 21st century Ponzi scheme. But what exactly is it?
Before we get there, let us first address the root cause of its creation.
#1- People’s lack of trust with the current Financial System
Money is a form of Value. Back from Barter, to Gold coins and Paper, money was always used as a method of exchange. Central Authority including the Banks and the Government oversee controlling and maintaining the supply of Money circulating today.
The current financial system has been going on for eons, but people has started to lose their faith in it. What could possibly go wrong with a group of people and their computers controlling our money?
Power. And too much power in the hand of a minuscule may cause several red flags including:
- Extreme Control: The Central Authority, in this case a Bank or Government, has the rights over not only the money you keep with them but also the money you hold. The Government could one day announce the money we own hold no more value, like the 2016 demonetization in India.
- Corruption: “With great power, comes great responsibility” was Uncle Ben’s advice to Peter Parker. The close to unlimited power that central authorities have over people’s money and information gives them a backdoor to corruption. (Recent Example: Wells Fargo fake account scandal in late 2016)
- Inflation: When a country is facing crisis, one solution for central authority is to print more money. What happens when you load too much money into the market? Inflation. The price of goods doesn’t change, but the value of your money drops. (Recent Example: Venezuelan current Hyperinflation)
The 21st Century Money
With technological advancement, grows with it people’s need for an easier and faster way to transact.
Comes the Digital Money.
Today, we use money in the forms of Credit Card, Paypal or Financial Technologies and it makes transaction easier. Supply of money going around the economy reduces, thus maintaining the value of money from flooding the market causing hyper-inflation.
But a challenge arises…
#2- The Double-Spend Problem
Let’s say today within the Digital Platform we can represent an algorithm for $1. If I understand Technology and how Digital Money works, what stops me from copying the same algorithm one million times and make a Million dollars?
This is called the Double Spend problem. It is the risk that a digital currency can be replicated more than once and thus, be used for multiple purposes. This issue is unique only to Digital Currencies, as physical money is more difficult to replicate.
A solution for a payment system that tackles these issues is imperative. A lot of companies tried but none came up with a fitting answer.
It was late in the year 2008 when a man who called himself Satoshi Nakamoto releases a white-paper that describes a peer-to-peer electronic cash system that was transparent, decentralized and would solve the double-spending problem. This system was called Bitcoin, the first Cryptocurrency.
A Cryptocurrency is an internet-based medium of exchange which uses cryptography to conduct its function. Cryptocurrency leverages on Blockchain technology for it to achieve Immutability, Transparency and Decentralization.
How does it work?
Within a traditional financial system, the financial transaction database is controlled by a central authority, in this case a bank. On a Micro scale, they know how much money you have. On a Macro scale, no one really knows how much money the bank has.
This is what Cryptocurrencies came to change.
Think of a Cryptocurrency as a giant electronic ledger that maintains all transaction information since the first time it was created. A copy of information, or a Block is added to the ledger each time a new information is recorded on the chain.
When a new transaction is to occur, the copy of the information is sent across a group of people who maintains the chain. For a block to be deemed valid and thus added to the record, the people maintaining the chain must come to a majority consensus on the validity of the information.
The information passed around the chain is secured with cryptography to maintain confidentiality while still allowing for efficiency and accessibility.
Why do Distributed Ledger and Blockchain matter?
Cryptocurrency and Blockchain answered the challenges the economy faces with the current financial system. Some of which are:
- Decentralization: By utilizing distributed ledger technology, a Cryptocurrency can achieve its function of creating a Decentralized ecosystem. They are not managed by a central authority, but by a group of people who verifies transactions and maintains the ledger.
- Transparency: The ledger that is kept within the Blockchain Network is kept and maintained by everybody in the chain. Each transaction must be verified by the majority, and after a consensus is reached, the encrypted transaction record is shared throughout the chain for everyone to see.
- Solves the Double-Spend Problem: When a transaction is to be added to the Chain, a consensus needs to be reached by majority of people maintaining the chain. This reduces the risk of a Double input and thus ensures Transaction that is recorded to be valid.
- Limited Amount: Unlike the FIAT money that the Central Authority can print during need, Cryptocurrencies are limited in amount. This ensures exclusivity and maintaining Inflation in check.
Cryptocurrency came as a Solution to people’s need for a more Decentralized & Transparent financial System. People can now send information, assets and money over its secure blockchain network or hold Cryptocurrencies as an Asset.
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