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What is cryptocurrency? The digital asset revolution explained

A cryptocurrency is a digital asset that may be used as a medium of exchange. Cryptocurrencies typically exist on blockchain networks that do not require oversight by financial institutions or any other central authority. Their possession can be monitored on a digital database known as a ledger, which is secured by cryptography. Today, there are thousands of digital currencies, the most notable being BTC and ETH

Exchanges like OKX enable users to buy cryptocurrency. Yet, at the network level, cryptocurrencies enable economic interaction between parties without reliance on central intermediaries. Unlike traditional digital transactions — such as credit card transfers — cryptocurrency transactions do not require oversight from trusted central authorities. 

In this article, we introduce cryptocurrencies. We cover their history, various use cases and their place within the global economy. 

What is cryptocurrency?

Cryptocurrencies — often referred to as “crypto” — can be thought of as virtual money that can be bought and sold using a cryptocurrency exchange or transferred between off-exchange, user-controlled wallets. Typically, cryptocurrencies are not backed by assets like precious metals or traditional financial institutions. 

Like central bank-issued fiat currencies, some cryptocurrencies can be used as a medium of exchange, a unit of account and a store of value. A cryptocurrency may be exchanged for goods and services, used to measure relative worth or to retain future purchasing power. However, most commonly, cryptocurrency is used as an investment to store or increase value.

Cryptocurrencies are held in digital wallets. These wallets use a public and private key system. Private keys act as the password to the user’s digital assets, while the public key functions like the wallet address and is necessary to receive assets. 

Cryptocurrencies exist on decentralized networks built using blockchain technology and cryptography. This means that cryptocurrencies are not issued, regulated or distributed by a central authority. 

How does cryptocurrency work?

Blockchain technology is central to cryptocurrencies. As the name suggests, a cryptocurrency blockchain is formed by chaining together blocks of data. The blocks are linked cryptographically in chronological order to prevent modification after being recorded.  

Each block contains information on the network’s activity. For example, if a cryptocurrency transaction takes place, a record of that transaction is stored in a block. Once that block is added to the chain, a new block is created, and the cycle repeats.

This immutable structure means that information becomes increasingly difficult to edit or change once additional blocks are added to the chain. Therefore, cryptocurrency transactions are increasingly irreversible after more new blocks are recorded. 

Distributed nodes form a network and store the entire blockchain and all its data independently. This decentralized system makes it extremely difficult for governments or other centralized authorities to regulate blockchain activity and the cryptocurrencies deployed on them. 

Blockchain networks employ various consensus mechanisms to ensure records of network activity are accurate. These mechanisms help ensure that all nodes are synchronized and that the information they store is the same. There are many different consensus mechanisms, but the most notable are proof-of-work and proof-of-stake. 

Cryptocurrency history

Pre-Bitcoin

Before the cryptocurrencies we know today, there were several efforts to create digital monetary systems independent from traditional, central bank-issued fiat currencies. This started with theoretical models for a distributed ledger system, with ideas for currencies like BitGold and B-Money. These currencies were never fully realized but laid the groundwork for what was to follow.

2008 — Satoshi Nakamoto’s idea

The idea of cryptocurrency became a reality with the anonymous developer or group of developers going by the name Satoshi Nakamoto. In 2008, Nakamoto published Bitcoin’s white paper, laying the foundation for what was to come the following year. 

In 2009, Nakamoto released the Bitcoin software. Early enthusiasts could mine for 50 BTC per block using computer power available with typical home hardware, which released new units of the young currency into circulating supply. 

The first peer-to-peer Bitcoin transaction for an actual purchase would not occur until roughly a year later, in 2010, when 10,000 BTC was used to buy pizza. The same year would also mark the creation of the first cryptocurrency exchanges. 

Laszlo Hanyecz purchases two pizzas for 10,000 BTC, now worth ~$400 million. Source: CoinDesk

2011 — Bitcoin copies

As the years passed, more and more cryptocurrencies began to appear, using Bitcoin’s source code as a foundation. These so-called altcoins would come and go, and Bitcoin remained dominant. 

2014 — Mt. Gox hack

In 2014, an unprecedented hack occurred. The world’s largest Bitcoin exchange at the time, Mt. Gox, lost 850,000 BTC, forcing it to declare bankruptcy. 

2015 — Ethereum’s creation

One altcoin that has enjoyed enduring success is ETH. Native to the Ethereum blockchain, ETH is used to pay transaction fees, incentivize participation in the network’s consensus mechanism, and as a medium of exchange. The network’s more sophisticated programming language also enables developers to deploy decentralized applications using smart contracts. 

Vitalik Buterin, the creator of the Ethereum blockchain. Source: Forbes

Among Ethereum’s capabilities, users could issue their own cryptocurrencies on the network. This prompted an explosion of new cryptocurrencies during what became known as the ICO bubble. Ethereum’s greater functionality enabled it to quickly become one of the most used cryptocurrency blockchains, and it remains that way today. 

2018 — market crash

This year would mark a large crash in the cryptocurrency market. Hundreds of billions of dollars were lost during the market downturn. 

2019 to present

The cryptocurrency industry has evolved and now features several well-used blockchain networks. Joining Ethereum are dozens of other networks, which form a new multichain reality. These blockchains include Avalanche, Solana, Fantom and others. 

Cryptocurrencies became more popular globally during the global pandemic. Alongside the surge in attention, the industry came under increased attention from regulatory agencies. 

Nayib Bukele, president of El Salvador, declares Bitcoin legal tender. Source: CNBC

Overall, a lot has changed since cryptocurrency’s inception. The industry has become a target for financial agencies like the U.S. Securities and Exchange Commission, which attempt to minimize the asset class’s dangers and risks. Cryptocurrency adoption has grown exponentially, even at the national level. In 2021, for example, El Salvador made Bitcoin legal tender. 

Advantages and disadvantages of crypto

Cryptocurrencies, like any asset, have their own set of advantages and disadvantages. An investor must understand these pros and cons before purchasing cryptocurrencies. 

Advantages

Volatility — high risk, high rewards

Cryptocurrencies tend to spike in price suddenly, and dramatic increases of 300% or more in a day are not uncommon. Cryptocurrency prices are determined by supply and demand. Therefore, their intended use case and subsequent adoption matter significantly to the present and future price. Investors should thoroughly research the utility of any digital currencies to minimize risk. 

Peer-to-peer transactions

Blockchain networks allow users to transfer funds between one another without reliance on a central authority. This makes them well-suited to international transactions because they operate seamlessly across national borders. 

Cryptographic security 

Because cryptocurrency blockchains use cryptography to secure the network, hacking wallets or reversing cryptocurrency transactions is extremely difficult. 

Inflation protection

Cryptocurrencies may act as a hedge against inflation. As cryptocurrencies are not tied to a single national currency and, in most cases, have a capped supply, they may act to protect investors from inflation. 

Disadvantages

Volatility — high risk, high losses

While volatility can work in an investor’s favor, it can also be their worst nightmare. During times of high tension in the market, some cryptocurrencies can drop by 90% or more. This can quickly destroy a user’s portfolio if they are not adequately prepared. 

No payment protection

As mentioned, cryptocurrency transactions are final and cannot be reversed. If a merchant does not deliver goods and services, the buyer might not receive a refund. 

Transparency

Because cryptocurrencies are built using blockchain technology, every transaction and wallet is publicly viewable on the blockchain’s distributed ledger. While no name is attached to the wallet, investors may not want their information on public display. 

Truly anonymous?

While it is often said that cryptocurrencies can be held anonymously, this is rarely the case. True anonymity is possible with some crypto assets. However, individuals and organizations can track the flow of most cryptocurrency transactions made with non-privacy-focused crypto assets. 

Criminal activity

Like any form of currency, cryptocurrencies may be used for criminal activities. Regulators frequently cite crypto’s illegal usage as grounds for closer oversight. However, research suggests that only a tiny fraction of digital asset transactions are for unlawful purposes.

What is cryptocurrency used for?

Cryptocurrencies have many different uses. As they are a new type of asset, it is important to remember that the use cases are constantly expanding and changing. 

Cryptocurrency trading

While options to trade crypto for goods and services remain somewhat limited, cryptocurrencies may be traded for other cryptocurrencies or fiat currency. The majority of cryptocurrency trading takes place on crypto exchanges. 

Investing

Digital currencies may also be used to store and accrue value. Investors buy cryptocurrency on exchanges that hold the currency in storage for the investor’s protection. Some investors even gain interest from their currencies through lending practices or staking to secure a blockchain network. 

Blockchain security

Many blockchains have a native currency. To participate within a blockchain network, users may need the blockchain’s native currency to pay for transaction fees. 

Native crypto assets provide an incentive mechanism for network participants to deploy the computer power required to operate blockchain networks. Rewards are distributed for validating cryptocurrency transactions according to the network’s rules.  

Cheap payments and donations

Cryptocurrency transactions can be incredibly cheap — particularly when transferring large amounts of money. Users can make huge transactions for pennies in transaction fees. 

Crypto assets can make a good vehicle for charitable giving, too. For example, Vitalik Buterin, Ethereum’s cofounder, donated over $1 billion in SHIB tokens to India’s COVID aid fund.

Cryptocurrency donations in USD sent to Ukraine. Source: Dune Analytics

Private transactions

Cryptocurrencies may be used to facilitate private online transactions between parties. However, this usually requires a specific blockchain network or currency, such as Monero. 

Most common cryptocurrencies

While cryptocurrency is still very new, several digital currencies have been consistently at the top of the market. These cryptocurrencies hold a large percentage of the industry’s total market capitalization. 

Bitcoin (BTC)

BTC is the digital currency launched by Satoshi Nakomoto in 2009. It was the first cryptocurrency blockchain ever and has consistently held the largest market capitalization of all digital assets. 

Ethereum (ETH)

ETH is the second-largest cryptocurrency behind BTC. Its blockchain has smart contract capabilities, enabling the creation of decentralized applications. There are many of these so-called DApps, with most focused on financial uses. 

Stablecoins

Stablecoins, like USDT and USDC, are digital currencies pegged to the value of the U.S. dollar. These coins are usually backed by a reserve of fiat currencies or other cryptocurrencies. Investors use them to minimize risk from volatility.

Solana (SOL)

Solana is another cryptocurrency blockchain network. Its native currency is SOL. Like Ethereum, it offers smart contract functionality, enabling users to interact with DApps. It claims to have lower transaction costs and faster transaction settlement times than the original smart contract network. 

Ripple (XRP)

Ripple is a blockchain built for fast, low-cost global payments between parties. It was created for the benefit of financial institutions and services. Its native currency is XRP

Is cryptocurrency safe? 

Digital currencies are still a new market that is not overseen by any central authority. Thus, the space is host to various scams, and if users do not store their cryptocurrency correctly, they are more likely to fall victim to malicious parties. 

As an emerging market, there are few protections for payments made in cryptocurrency. Additionally, due to the nature of a blockchain network, the currency lost in transactions with hackers or scammers cannot be easily returned, as in the case of credit card fraud. 

Furthermore, many cryptocurrencies are highly volatile, for better or worse. Many crypto users like to diversify their portfolios to mitigate extreme losses due to volatility. 

There are various types of scams that users should be aware of to maintain the safety of their assets. The most common scams are phishing links and social engineering attacks. 

Phishing 

Phishing links are one of the most common scams. Attackers will send users a seemingly harmless link that, upon interaction, will take sensitive information from the user, such as their wallet password or other important information. 

Impersonation

Impersonation is another scam where a scammer will impersonate an important figure to extort cryptocurrencies from users. For example, scammers make fake livestreams on YouTube claiming to be famous cryptocurrency innovators to scam users. Scammers will also claim to match donations sent to them with giveaways of free crypto. 

Scam ICOs 

An ICO, or initial coin offering, is a form of crowdfunding where there is an initial sale of cryptocurrency. Development teams often use this to gain funding for a project. However, scammers will take advantage of investors by advertising without an established product and launching an ICO to fund a product’s release that never happens. 

Pump-and-dump scams 

Sometimes cryptocurrencies are released by scammers and promoted by famous personalities. The teams behind these currencies then dump the crypto on unsuspecting investors. A notable example is the Squid Game token, which saw a 99.9% drop in price after the scammers behind the project cashed out. 

Storage 

There are two ways for users to store cryptocurrencies themselves — hot wallets and cold wallets. Hot wallets are wallets connected to the internet, such as mobile wallets or desktop-based wallets. Cold wallets are not connected to the internet and keep private keys offline using a dedicated piece of physical hardware for greater security. 

The safest place to store cryptocurrency for novice users is often at exchanges like OKX. Investors may use crypto exchanges to store cryptocurrencies as the exchange maintains its own security systems, and funds may be insured. 

Users should check their country’s laws before investing in cryptocurrencies. Regulations vary on how cryptocurrencies may be obtained, sent or stored. The more decentralized cryptocurrencies are, the more difficult it is to regulate them, leading to regulatory uncertainty.

Virtual currencies may receive different treatment depending on the area of their holder’s residence. In the United States, the IRS treats cryptocurrencies as property, making them subject to certain tax principles. Capital losses and gains must be reported when one cryptocurrency is swapped for another or for fiat currency. Users should check their own country’s regulatory definitions for cryptocurrency to learn exactly how their assets will be taxed.


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