Over the past few years, the world of cryptocurrencies has evolved from a niche experiment to a sprawling, trillion-dollar financial sector full of heroes, villains, and warring tribes.
You know it’s trendy – Matt Damon and Tom Brady promoted it during Super Bowl. And you know it’s debatable because you don’t live under a rock. (See: FTX Train Wreck)
But you may find yourself nodding at parties when the conversation turns to the collapse of the Sam Bankman-Freed empire or the benefits of proof of stake over proof of work. (Or better yet, maybe your parties aren’t dominated by insufferable nerds?)
Anyway, it’s 2022 and a lot of people still can’t understand cryptocurrencies. If you are one of them, stay close. We break down what the industry is and why it matters, even if you never intend to invest in it.
Version tl;dr: Cryptocurrencies are a form of digital assets that are secured by a decentralized network of computers.
Unlike traditional “fiat” currencies such as the euro or the US dollar, cryptocurrencies reject the idea of central bank or government control. The original cryptocurrency, bitcoin, emerged in 2009 from the ashes of the worst financial crisis in modern history.
The pioneers of the digital currency world were basically saying: to hell with your state control, we need our own currency, which cannot be manipulated by any organization. (It is this anti-establishment background that makes some crypto-believers rather, shall we say, intensive when they have a chance to talk about it.)
The term “crypto” refers to how networks are secured using cryptographic systems (think: very, very complex encryptions) that make the tokens virtually impossible to counterfeit. When we talk about “crypto”, we can mean the virtual tokens themselves or the entire ecosystem of digital assets.
Another key component to become familiar with is blockchain. To save us time, I’m simplifying dramatically: a blockchain is a digital public ledger that records transactions. This is the accounting system on which most cryptocurrencies are built.
“Think of blockchain like a Google spreadsheet,” said Gareth Rhodes, a former deputy superintendent of the New York State Department of Financial Services who is now the managing director of research and consulting firm Pacific Street.
“If Gareth gives Allison $10 and Allison gives someone else the same $10, how do you know Allison is giving the same $10 she got from Gareth to her friend? You need some way to check that each entry in this Google spreadsheet follows the one before it.”
Basically, there is a huge community of auditors who invest in the project (more on them in a minute).
Once a transaction has been verified by the network, it is stored—forever—in an immutable “block.”
Bottom line: Blockchain is the underlying technology of the crypto world. These are bones. And if you bring a crypto evangelist to this, you will definitely hear that this is the most important technological innovation of our time.
And, of course, people are starting to implement blockchain systems outside of the world of crypto, and they seem to be promising. Think about medical records—they should be super secure, but their transmission has historically been messy and inefficient. Global food supply is another area where blockchain is making it easier for large food manufacturers and distributors like Walmart to track goods from farm to fork and respond faster when contaminated food enters the mix.
But to be honest, the hype around blockchain seems out of proportion to the use cases that its proponents have proposed so far.
If you want to dive deeper, tech news site Verge has a helpful article on blockchain.
It may seem that crypto was invented out of thin air. To some extent this is true.
The Bitcoin network went public in 2009 and was created by an anonymous developer (or group of developers) named Satoshi Nakamoto.
Fast forward to today, after several ups and downs, and this community is now a huge global network of very expensive, very powerful computers whose only function is to run algorithms that solve mathematical problems in a process called mining.
Mining is a complex concept – there are no headlamps or picks – so Rhodes suggests thinking of it as an “audit”.
“Mining is basically just the process by which people who invest in securing and validating the network verify these transactions” on the blockchain/Google spreadsheet, he said.
All computers on the network, in fact, tend to the “target hash” – aka a very long number sequence – and the first computer to produce the correct sequence corresponding to the target gets the opportunity to create a new block and receives a reward in bitcoins.
Essentially, this is a game two functions: verifying transactions and launching new bitcoins into circulation. Another way to think about it is to play Powerball, where you have to guess a set of numbers to win, and the more tickets you buy – or in the case of cryptocurrencies, the more hashes your computer can produce – the better your chances of winning. .
This computer competition is ongoing, with the winner creating a new block on the chain approximately every 10 minutes, 24 hours a day, seven days a week.
The whole process consumes an incredible amount of computing power, which is why you hear people say that bitcoin is an environmental disaster. It could be something from this is an exaggeration – and advocates are quick to point out that traditional finance is not exactly a green business – but it is absolutely true that mining requires massive amounts of energy, much of it derived from fossil fuels.
This is one of the main arguments of the supporters of the second largest cryptocurrency, ether, which uses a different protocol to verify transactions, much less energy intensive.
LOL, not really. At the time of this writing, the number of things you can actually buy with cryptocurrencies is growing, although it is still very small. Some retailers and trading platforms have warmed up to bitcoin — Home Depot, Overstock, and Shopify, just to name a few.
But the vast majority of retailers don’t accept it. Which undermines his entire “currency” part of the cryptocurrency promise.
Most people who own cryptocurrencies treat it as an investment (albeit a speculative one).
The combination of FOMO and a bored population stuck at home during the pandemic helped boost demand for bitcoin and other tokens, which peaked at the end of 2021. Since then, prices have dropped sharply. Bitcoin has lost about 75% of its value since its November 2021 high. It’s the same with ether.
If you are thinking about investing, be prepared for wild and unpredictable price fluctuations. Cryptocurrency is not for the faint of heart.
Right! And the US regulator responsible for overseeing the stock markets agrees.
Gary Gensler, The head of the Securities and Exchange Commission announced earlier this year that the agency would almost double the size of its crypto department and warned that unregistered crypto exchanges could operate “outside the law.” He also promised to work with Congress to develop regulations for the industry.
It won’t happen overnight. Cryptocurrency is the Wild West, and writing the rules for an industry based on doing your own thing outside of government oversight. it is difficult. As Bloomberg’s Matt Levine put it, “If you try to write all the rules from scratch in one go, you’re going to be wrong. And then people will ruthlessly exploit everything you do wrong.”
Ah, good question. The answer is positive. And no.
Is there a cryptocurrency scam? 100%. Too many scammers within traditional finance (or TradFi in cryptographic jargon). In addition to the usual high-risk bets and shady companies with cool names, real crypto Ponzi schemes are up for grabs.
But all crypto scam? Probably no. There is still a lot of debate about the usefulness of assets like bitcoin and ethereum and whether we all want to join their grandiose vision for the future.
According to Rhodes, it can be difficult for Americans to understand the potential utility of cryptocurrencies because the US has a very complex financial system. “We can put our money in the bank and we don’t have to worry about it.”
But it’s not always so reliable. in other parts of the world. “You have all these scenarios outside of the United States, where government control of the financial system can give authoritarian regimes tremendous power over citizens, as well as mismanagement of the economies of some of these countries.”
In theory, decentralization places power in the hands of the people.
Of course, the technology is not there yet. A person who wants to hide their money in bitcoin because the dictator running the economy is letting inflation run wild can do it and they can trade it in the crypto ecosystem. But at some point, in order to use it to buy something, they will most likely have to convert it back to fiat, which is the good old legal tender issued by the government.