By the end of this article, you will understand:
- The principles of cryptocurrency and its main vocabulary
- The most important cryptocurrencies
- What blockchain technology is and how it is used
Cryptocurrency has become a global phenomenon but is understood by relatively few people. It is here to stay but, beyond the noise, many people still find it hard to understand the basic principles. Let’s start with the fundamentals of it.
What are cryptocurrencies?
Cryptocurrencies are digital money. However, unlike traditional payment systems which have a central organisation such as a bank managing transactions, they are ‘decentralised’. Cryptocurrency payments exist as digital entries on an online database. Rather than one authority controlling this database, the transactions are recorded in a ledger that is shared publicly across a network of computers.
To use cryptocurrencies, users need somewhere to store them. Digital wallets do this by storing the private keys needed to access and manage the funds owned by each cryptocurrency holder. These keys decrypt the codes that are used to secure the transactions held in the network.
Where does ‘blockchain’ come in?
Blockchain is the technology that underpins cryptocurrencies and is another name for the distributed ledger that enables cryptocurrency transactions. It records all the transactions across its network. The transactions are grouped onto blocks and once added to the blockchain they cannot be changed or removed. The transactions are therefore arranged in chronological order in a chain of blocks, hence the name blockchain.
The rise of Bitcoin
Bitcoin was the world’s first cryptocurrency and remains the most popular. It was created in 2009 by an individual, or group of individuals, using the name Satoshi Nakamoto. It introduced the concept of the decentralised public ledger (the blockchain).
Bitcoin can serve a number of purposes. For many people, it’s value is as a secure and anonymous digital payment that is outside of the traditional banking network and cannot be controlled by any organisation or government. If you send cryptocurrency over the blockchain, thousands of computers worldwide will confirm and store all the information about the transfer.
It can also be used as a store of value and is sometimes referred to as the digital equivalent of gold. Some people buy bitcoin to speculate and make a profit from price increases. But the volatility of the price of bitcoin makes this a very high-risk investment.
Since the launch of Bitcoin, many other cryptocurrencies have followed, each with its own approach and objectives. These are sometimes collectively referred to as ‘altcoins’. Here are some examples:
Ethereum – The currency runs on the Ethereum blockchain platform, similar to Bitcoin, created by the world’s youngest Russian cryptocurrency billionaire – Vitalik Buterin.
Litecoin – This currency is the most similar to Bitcoin but has moved quickly to develop new innovations such as faster payments and processes to allow more transactions.
Ripple (XRP) – Ripple is a distributed ledger system that was founded in 2012. Ripple has its own currency (XRP) but can track different kinds of transactions. The company behind it has worked with various banks and financial institutions.
Dogecoin – This is an example of a ‘meme’ cryptocurrency which became popular purely through social media hype. The name refers to the internet meme Doge and the Shiba Inu dog logo. It was created as a joke to make fun of the wild speculation in cryptocurrencies. Its rapid increase in value came as a shock to its creators after becoming a hit on Reddit.
Bitcoin Mining
The supply of Bitcoin is limited to a maximum of 21 million bitcoins. This is a key feature of the cryptocurrency, and this scarcity affects is value. There are not yet 21 million bitcoins in circulation, some are still being ‘mined’. Mining is the process of generating cryptocurrency using computing equipment to solve a computational puzzle.
There is a network of miners, some being large companies whose shares are traded on a stock exchange, others being individuals who mine at home. But Bitcoin mining requires significant resources in terms of hardware and electricity. The process is designed to be resource-intensive and secure, making it difficult for any single entity to control the network or manipulate transactions.
Why Cryptocurrency has grown
Blockchain is a proven and effective technology that enables financial transactions to take place accurately and securely without interference from banks or financial regulators. This is attractive to people who distrust the global financial system and traditional currencies.
Others like cryptocurrencies because they are a way to make transactions anonymously. Some people just have an interest in electronic money and new payment technologies. For these reasons, cryptocurrencies are gradually becoming a serious competitor to the traditional financial system.
But the value of cryptocurrency traded on blockchain is volatile. It can fluctuate up and down a significant amount in a short space of time. Even a small comment on social media by a key player such as Elon Musk can have a huge impact on its value. It is therefore high-risk asset to invest in.
Blockchain – not just about cryptocurrency
Blockchain technology has a wide range of use cases beyond cryptocurrency. Its core features, including decentralization, transparency and security make it suitable for various applications. One example is supply chain management, which can use blockchain to provide end-to-end traceability of goods moving from one place to another. It is used in the banking industry, cybersecurity, identity verification, and many more.
Another example is the tokenization of assets. This is where assets such as art, real estate or company shares can be represented as digital tokens on a blockchain. This makes it easier to divide ownership of an asset between different owners and to transfer ownership. This use of blockchain is the basis for how Tukki enables buying and selling of investments and is the subject of another article ‘What is asset tokenisation?’