Cryptocurrency 101: A Primer To The Future of Finance

Cryptocurrency 101: A Primer To The Future of Finance

Welcome to the world of cryptocurrencies! Strap in, because it can be a whirlwind.  You're about to embark on a fascinating journey to the potential future of finance, where money isn't just something you keep in your wallet, but something you can also mine in cyberspace. Sounds like a sci-fi novel, right? Well, it’s very real, and it's transforming how we think about and use money.

What on Earth is Cryptocurrency?

At its core, cryptocurrency is a type of digital or virtual currency that uses cryptography for security, making it incredibly difficult to counterfeit. Imagine a currency that isn't controlled by a central authority like a government or bank. Instead, it’s decentralized and operates on a technology called blockchain, which is a public ledger recording all transactions held by currency holders.

If the idea of subtracting a central authority from the system feels a bit jarring at first, relax, I get it.  However, it is not as scary as you might think. There are many benefits to using a decentralized system and, when paired with the right blockchain, security is one of them. As will be covered later, there are also centralized digital currencies that are issued by the central banks of various countries. We have options!

The Quick Takeaways:

• A cryptocurrency is a digital asset with cryptographic security features and operates on a public ledger called blockchain.

• Cryptocurrency is now poised to begin disrupting industries like finance.

• Cryptocurrency can make the transfer of money faster and cheaper with robust security features.

A Brief History of Digital Dough

The concept of digital money has been floating around since the 1980s when David Chaum began working with the idea at UC Berkeley. Chaum showed digital money was a feasible reality, but it wasn't until 2009 that it really took shape with the launch of Bitcoin by an anonymous person (or group) known as Satoshi Nakamoto. Bitcoin offered a peer-to-peer electronic cash system that was secure, anonymous, and independent of any central authority. This revolutionary idea paved the way for thousands of altcoins (alternative coins) and a whole new world of blockchain technology.

The Pre-Bitcoin Era

Before Bitcoin, there were several attempts at creating online currencies with ledgers secured by encryption. Notable experiments include B-Money and Bit Gold, which were formulated but never fully developed. These concepts were built around the idea of creating a decentralized digital currency, but they lacked the robust mechanism that Bitcoin introduced with its blockchain technology.

Enter Blockchain

Blockchain is essentially a distributed database that is shared among the nodes of a computer network. As a database, it electronically stores information in digital format. Blockchain's innovative twist is its guarantee of the fidelity and security of a data record and generates trust without the need for a trusted third party.

Note: See our previous newsletter dedicated to blockchain for a refresher!

One key characteristic of blockchain is its immutability, which means that once data has been recorded, it cannot be altered without altering all subsequent blocks and the consensus of the network. This feature is what makes blockchain a revolutionary tool for achieving decentralization.

Different Flavors of Cryptocurrencies

While most people have heard of Bitcoin, the cryptocurrency universe is vast with a number of other significant players. It is a real Baskin Robbins of crypto with even more than 31 flavors. Here’s a closer look at some of the major types of cryptocurrency blockchains that have emerged:

• Bitcoin (BTC): The original cryptocurrency, Bitcoin remains the most recognized and widely used. It was designed primarily as a digital currency to replace traditional money.

• Ethereum (ETH): More than just a currency, Ethereum is a platform for building decentralized applications (dApps) on its network. Its token, Ether, is used primarily for two purposes: as a digital currency and for running applications inside Ethereum.

• Ripple (XRP): Unlike Bitcoin and Ethereum, Ripple is known for its digital payment protocol more than its cryptocurrency. It enables fast, cross-border money transactions and is used by many banks and financial institutions.

• Litecoin (LTC): Created as a lighter alternative to Bitcoin, Litecoin offers faster processing times and a higher number of maximum coins.

• Dogecoin (DOGE): Initially started as a joke based on a popular internet meme, Dogecoin has a loyal community and is used for tipping and donations on social media.

Use Types of Crypto

Beyond the different types of blockchains, you can sort them further into five primary use types:

• Utility: Utility tokens allow for the creation of specialized products or services. Axie Infinity is a popular example. 

• Transactional: These are tokens designed to be used as a form of payment. Bitcoin is the most-well known payment coin.

• Governance: These tokens enable rights, such as voting rights on a blockchain.  Uniswap is a good example.

• Platform: Platform tokens provide blockchain for use with a decentralized application (DApp), such as Cosmos, Cardano, or Ethereum.

• Security Tokens: These tokens represent an asset, like a stock, that has had its value transferred to a blockchain (i.e. tokenized).

Central Bank Digital Currencies 

A central bank digital currency (CBDC) is a digital currency issued by a government’s central bank and tied to that state’s regular currency.  This means that CBDCs are not part of a decentralized ledger or blockchain. CBDCs do not offer the same type of data protection and privacy as traditional cryptocurrencies. While there are not many examples of CBDCs currently in circulation, it is something that many countries are developing in still experimental stages, including the US, UK, India, China, Russia, and the EU.

How Do You Use This Stuff?

Buying Cryptocurrency

Before you use crypto you first need to buy crypto. To do this you would go to a cryptocurrency exchange. This is a marketplace where you are able to buy and sell crypto just as you would a stock. There are a number of different exchanges to choose from. Coinbase and Binance are among the larger and well-known exchanges. Once you sign up on an exchange you can connect a bank account and make transfers of fiat currency in exchange for crypto currency or vice versa.

You will also need to establish a crypto wallet to store your crypto and other digital assets.  Many of the exchanges have wallet services at no cost or you can use external crypto wallets, or third-party providers like MetaMask. For more information about wallets see this article.

Now that you have a crypto account and a wallet with cryptocurrency you are ready to engage the digital world! Cryptocurrencies can be used for a variety of activities—just like real money. Here are some practical applications:

• Purchasing Goods and Services: Many online retailers and some brick-and-mortar stores now accept cryptocurrencies as payment. They provide a digital alternative to traditional payment methods, often with lower transaction fees.

• Investment and Speculation: Due to their rapid value appreciation, many people buy cryptocurrencies as an investment. Others trade cryptocurrencies similarly to stocks, on various exchanges.

• Cross-Border Transactions: Cryptocurrencies can facilitate international money transfers without the hefty fees or the need for currency exchange, making transactions smoother and faster.

• Participation in Blockchain Systems: Beyond buying and trading, you can use cryptocurrencies to participate in specific blockchain ecosystems. For instance, by using Ether, you can create or use applications on Ethereum.

Now that certain cryptocurrencies like Bitcoin and Ethereum are well-established and the crypto and blockchain developer communities are innovating at faster rates, you can expect the number of use cases for crypto to increase soon.

The Good, The Bad, and The Crypto

The Pros:

• Decentralization: No single authority can control the currency.

• Transparency: All transactions are recorded publicly, making it hard to cheat.

• Security: Advanced cryptography secures transactions and controls the creation of new units.

• Inclusion: Cryptocurrencies provide access to a global financial system regardless of location or socioeconomic status in ways traditional finance has not.

• Growth Potential: Crypto and blockchain are still relatively new but they are quickly becoming mainstream. We are just now reaching the point of developing the real potential that lies within the technology. 

The Cons:

• Volatility: Prices can skyrocket or plummet overnight, making cryptocurrencies a risky investment.

• Regulatory Uncertainty: Cryptocurrencies operate in a regulatory gray area, which could lead to future constraints that could affect their value and use.

• Technical Barriers: The technology behind cryptocurrencies is complex, which can be a barrier to entry for non-technical individuals.

What’s Next for Cryptocurrency?

While the future of cryptocurrency is full of unpredictability, it is becoming increasingly clear that crypto will play an important role in the future of financial services. Could cryptocurrencies become the norm for daily transactions?  It is quite possible.

Here are a few things that will add clarity as they are resolved:

• As central banks work through their research and experiments with CBDC and begin to issue digital currencies more broadly the general public will become increasingly accustomed to the use of digital money and diversification to cryptocurrencies won’t seem so risky or unconventional.

• Wall Street is beginning to embrace cryptocurrencies. Investment funds like BlackRock are releasing ETFs (exchanged traded funds) that invest in Bitcoin. JP Morgan has also created a crypto-based payments service. The direction of the trend is clear and you can expect a wave of new crypto and blockchain financial services offerings to launch over the next year.

• Regulation, or the lack of clarity in regulation, is one of the biggest issues surrounding cryptocurrency going mainstream.  The current rules are antiquated and unclear.  Depending upon various factors, cryptocurrencies can be regulated as securities and fall under SEC jurisdiction or as commodities and fall under the jurisdiction of the Commodities Futures Trading Commission (CFTC) (which Bitcoin does). Creating an updated and transparent regulatory framework is an essential step for cryptocurrency to realize its full potential.

The signs of a bright crypto future are there.  While there are still some puzzles to solve, one thing's for sure, the crypto world will continue to evolve and perhaps, revolutionize our digital and economic landscapes.

So there you have it—a primer on the exciting world of cryptocurrencies! Whether you’re looking to invest, innovate, or just stay informed, understanding this digital phenomenon is now part of being financially literate in our increasingly digital world. Dive in, explore, and who knows—maybe you'll be part of the next big digital breakthrough!

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Other Articles In This Issue:

• Editorial: The Promise of Cryptocurrency For Reshaping A Modern Economy

• Case Study: How Crypto Has Supported Ukraine’s Wartime Economy

• Hashed Out Archive