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What’s CryptoCurrency? Why does it matter to us?

tons_of_btc

Wondered what’s all the talk about bitcoins and who one Earth started it? Or why it matters to us anyway? Here’s a brief overview for you.

 

On a certain day in October 2008, a mysterious individual going by the name, “Satoshi Nakamoto”, published a bizarre yet intriguing paper on an even more obscure mailing list.

Eight years later, this brain-child of Nakamoto is worth billions of dollars. This is the Bitcoin and since its inception, it has certainly had a major impact on the world, in terms of economic as well as social aspects.

First of all, what is Bitcoin? Simply put, it is a decentralized, proof of work based, digital currency and to be more specific, a cryptocurrency. Now, dozens of questions arise. What does it mean for a currency to be decentralized? What does proof have to do with how it works? What’s a digital currency to begin with? And, most importantly, does its existence matter to me? This article aims to shed some light on the whole matter of cryptocurrencies such as Bitcoin.

The money we use for our everyday transactions, be it Sri Lankan Rupees, Japanese Yen or US Dollar are classified as fiat money, i.e, paper money endorsed by their respective governments and is controlled by the central bank of the respective country.

Crypto-currencies (as well as some other forms of digital currencies), on the other hand, utilise mathematical algorithms and the like to function, forming cryptographic hashes that are to be deciphered by computers, all without the regulation and supervision of a centralized body such as the central bank. Hence, they’re “decentralized”.

Now, one may argue that, without regulation, it would be futile to set up and let such a system function with worries of possible fraud, etc. This is where the whole “proof of work” idea comes in. While the very core of the theory seems rather mundane and esoteric to most people, the idea of how it works is rather simple; you take a chunk of data that is difficult to produce, but easy for others to verify under certain conditions. The only resources needed for the system is raw computing power (and electricity, of course). The whole process of “creating” a new Bitcoin is referred to as “mining”.

While the actual functioning of the concept is far more complex, the idea remains the same. To get a better understanding of the entire Bitcoin system, let’s briefly run through how it works. Each Bitcoin user has their own Bitcoin “wallet”, which consists of some pieces of information unique to that user. This is, effectively, like a mailbox to send and receive Bitcoins, while maintaining complete anonymity during transactions. Yes, none of the user’s personal details are required, all data such as the “pseudo-address” are stored as alphanumeric hashes. Each transaction is recorded on a public ledger called the “blockchain”. Each transaction, from the very first one, is recorded on this ledger and is visible to anyone on the network.

However, in recent times, Bitcoin hasn’t been viewed in the most favourable light. In fact, it became infamous for various things. The anonymous nature of the currency is like a beacon to criminal activity. One of the most popular uses in the criminal sphere was the role it played in the Deep (and Dark Web). From purchasing drugs on “Silk Road” to hiring hit-men, Bitcoin found itself to be the choice of monetary transactions to those who perpetuated atrocities in the digital world. Furthermore, in recent times, there have been substantial allegations that Bitcoin was used by terrorist organizations for the purchase of arms and ammunition as well as demanding that ransoms be paid in Bitcoins. The anonymous nature of the currency indeed serves as a major asset to these perpetrators.

Incidentally, very recently, a private technological firm based in the UK called Elliptic, claimed that they have found a method of tracing transactions by analysing the blockchain with the aid of multiple databases of known transactions. While these claims may seem dubious, at first, it does give some hope towards a stronger legal recognition of cryptocurrencies.

Then, there’s the major economic aspects regarding Bitcoins. One major concern is that once all Bitcoins have been “mined” (Bitcoins cap at 21 million), the entire Bitcoin economy will plunge into a massive deflationary spiral, which, in turn, would have catastrophic effects on the global economy.

Then, there are claims that the entire system is nothing but a giant Ponzi scheme. But this claim is rather controversial and is subject to much debate.

However, despite all these, some countries such as Japan, France, Italy and others have looked at crypto-currencies in a favorable light. Some of these governments, Japan for instance, have introduced legal frameworks to deal with Bitcoin. In Japan’s case, the Financial Services Agency (FSA) are responsible for overseeing any Bitcoin exchanges in the nation. So, through this, we see that certain countries have identified the potential of crypto-currencies such as Bitcoin.

Let’s have a look at some of the possible perks the system may have. Take the African nations as an example. An uncommon fact about most African nations is that, even before landline cables were installed across the countries, they directly implemented mobile networks with 3G and even LTE capabilities. This is an instance of what’s known as “leap-frogging”; a theory of economic development which skips inferior or obsolete technologies in order to move directly to advanced ones.

Now, consider the fact that, worldwide, approximately 2.5 billion people lack a formal account at a financial institution. “If one third of adults lack access to formal banking systems, a bank account stored in cyberspace may prove to be a catalyst in developing markets. Bitcoin will benefit Africa more than any other region in the world due to the massive business opportunity which presents itself as an unbanked yet mobile-friendly market. Such a leapfrogging effect would serve to pull struggling African economies out of stagnation and onto the global stage in a very big way.

“The combination of ubiquitous Internet-connected mobile devices and digital currency presents a tremendous opportunity to radically expand access to financial services on a worldwide basis”

– Jeremy Allaire, Circle Internet Financial, 2013 US hearing on digital currencies.

Of course, current crypto-currencies aren’t the exact answer to solving the issue in Africa, but they provide a decent path that may benefit such nations in the long run. Several leading mathematicians and computer scientists describe their amazement at the blockchain technology and Bitcoin. However, at the same time, they all agree that, while Bitcoin was a good first attempt, it still has some major issues of concern for proper implementation. Several countries too, such as the UK and other European states have expressed interest in creating their own cryptocurrencies, ones which limit anonymity, improve traceability and uphold accountability and transparency of transactions.

Should you and I be concerned about the whole matter of digital currencies and blockchain technology? In a world where our lives are, more or less, on a network of networks, I think it’s only sensible that we do take note of what is most probably going to be, a pivot in the future of the global economy. So keep an eye out for future developments in blockchain and new cryptocurrencies. Central Banks might soon step into the sector.

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