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Cryptocurrency

CryptocurrencyThe “cryptocurrency” term may be used to refer to any digital currency, but actually, it is a narrower concept.

What Is a Cryptocurrency?

It is a form of electronic currency that is created and controlled by using cryptographic methods and blockchain technology. As a rule, accounting for the cryptocurrency is decentralized. Transaction-related data is typically not encrypted and is publicly available. Cryptographic elements (digital signature based on the public key system, consequent hashing) are used to make sure that the blockchain base of the transaction remains unchanged. Cryptocurrencies are emitted via mining, forging, or ICO.

The key feature of cryptocurrencies is the absence of any internal or external administrator. That’s why banks, tax administrations and other state or private authorities cannot influence the transactions. The cryptocurrency transfer is irreversible – no one can cancel, block, or dispute the transaction. However, the transaction participants can voluntarily block their cryptocurrencies as a deposit or agree that a mutual agreement is required to complete or cancel the transaction.

According to researcher Jan Lansky, a cryptocurrency is a system that meets the following requirements:

  • It does not require a central authority.

  • It allows performing transactions in which ownership of the cryptographic units is changed.

  • It determines whether new cryptocurrency units can be created. If new cryptocurrency units can be created, it determines their origin and ownership.

  • In the case of two simultaneous but different instructions for changing the ownership of the same cryptographic units, the system performs at most one of them.

  • It is possible to prove the ownership of cryptocurrency units only cryptographically.

How Cryptocurrency Works

The cryptocurrency technology is based on the fact that the network does not have a trusted node, i.e. someone whose actions are guaranteed true and who can confirm the correctness of other operations. This problem was first resolved in the Bitcoin system due to the artificial complication of making changes to the transaction history. To store the data, transactions are united into blocks forming a continuous chain (blockchain).

This continuity is provided by including the hash sum of the previous block in the current block. As a result, it does not allow changing the information in the block without changing the hashes in all subsequent blocks. It takes quite a long time to generate hashes that meet all necessary requirements. The longest chain is considered to be the true one. To form a new block, three conditions must be met: proof of work, proof of stake, and proof of space.

It is possible to transfer cryptocurrency to anyone who gives the sender the correct public key. To transfer cryptocurrency, you should basically do the following:

  1. Create a new transaction containing a hash signed by the initiator of the previous transaction.

  2. The previous transaction becomes the “entry” of the current transaction and indicates the recipient’s public key.

  3. A transaction is sent to the network by a broadcast request over open channels without encryption.

  4. Before accepting the transaction, the remaining nodes of the network verify the signature.

  5. The transactions support a random number of "inputs" (references to previous transactions) and "outputs" (information about the recipients). Values from all “inputs” are summed up, and the amount is distributed among the “outputs”.

  6. The transfer of coins is possible when the conditions of their use are specified. These conditions are formed by using public keys. To satisfy these conditions, the recipient will need an appropriate electronic signature by using private keys.

  7. The network verifies the signatures with a pair of public keys. You can voluntarily set the transaction fee, the size of which will affect the transaction processing priority. It is possible to complete a transaction without a commission, but it will take you quite a long time.

History of Cryptocurrency

In 1983, the American cryptographer David Chaum founded anonymous cryptographic electronic money called cash. Later, in 1995, he implemented it through Digicash, an early form of cryptographic electronic payments. This allowed the digital currency to be untraceable by banks, governments, or any third party. However, unlike modern cryptocurrencies, Digicash was centralized.

The first use of the cryptocurrency term occurred in 2009 after the Bitcoin payment system appeared. This time it was decentralized. Decentralization solved a major problem of all payment networks – double spending when the same amount is spent twice because of a central server that keeps records about the balances. There is no such server in a decentralized network – the job is done by each node of the network.

Before July 2013, the software of all cryptocurrencies except Ripple was based on Bitcoin’s open source code. Other platforms started appearing after 2013, with additional functionality such as stock trading, e-commerce, messengers, etc.

In 2011, other cryptocurrencies (altcoins) appeared. The first altcoins were Litecoin and Namecoin. Altcoin developers were trying to solve the problems of Bitcoin such as the low transaction speed or use the blockchain technology in other domains. Many altcoins are basically similar to Bitcoin but there are also significant differences. For example, Ethereum has transformed into a crypto trading platform due to its smart contracts technology.

Top Cryptocurrencies

Currently (as of May 2019) there are over 2,000 cryptocurrencies in the world, with the following Top 10 according to market capitalization:

  1. Bitcoin: $142,638,487,788

  2. Ethereum: $27,415,930,662

  3. Ripple: $17,078,581,557

  4. Bitcoin Cash: $7,325,652,776

  5. Litecoin: $5,848,648,867

  6. EOS: $5,802,350,373

  7. Binance Coin: $4,150,537,317

  8. Tether: $2,874,571,703

  9. Stellar: $2,689,670,064

  10. Cardano: $2,243,204,067

And here is the Top 10 according to the price per coin, as of May 2019:

  1. Bitcoin: $8,054.42

  2. ThoreCoin: $1,191.55

  3. Maker: $669.58

  4. BitCoin Cash: $411.77

  5. Ethereum: $258.32

  6. Mixin: $172.32

  7. Dash: $152.50

  8. Litecoin: $94.58

  9. Monero: $87.49

  10. Zcash: $76.31

Regulation of Cryptocurrencies

The regulation of cryptocurrencies varies from country to country. While some countries allow cryptocurrency operations, others prohibit or limit them. For example, the People’s Bank of China prohibited bitcoin operations for Chinese financial institutions but allowed them for individuals. State institutions of different countries also classify cryptocurrencies in a different way.

For example, in 2014, the Internal Revenue Service (IRS) of the United States decided to treat bitcoin as taxable property and not as currency. A benefit of such a decision is that it clarifies bitcoin’s status. The investors no longer have to worry about the legality of their investments or profits gained from bitcoin operations.

In 2015, the European Court decided that the bitcoin – fiat exchange operations are free from VAT. Bitcoin transactions were classified as payment operations with currencies, coins, and banknotes and thus are not subject to VAT.

ICO

ICO is an unregulated way of raising funds for a new enterprise in the form of cryptocurrency. Startups use ICO to bypass the strict and regulated ways of fundraising that are required for venture entrepreneurs or banks. In an ICO campaign, a percentage of the cryptocurrency is sold to early project supporters in exchange for legal payment facilities or other cryptocurrencies such as Bitcoin or Ethereum. In mid-2017, the US Securities and Exchange Commission (SEC) explained the risks of ICO.

The commission stated that ICO can be used to provide fair and legitimate investment opportunities, and offered to regulate placements according to the US law “Securities Exchange Act” as of 1934.

Cryptocurrency Pros and Cons

Cryptocurrencies have a range of undeniable benefits, such as:

  • Easy transfer of funds directly between two parties without any third party involved. The transfers are made via public keys and private keys for security purposes.

  • The transfers are made with minimal processing fees.

  • Blockchain technology provides a secure data structure so the online ledger is exposed to a limited threat from hackers and can be copied across all computers running the cryptocurrency software. Each newly generated block must be verified by the ledgers of each user on the market, making it almost impossible to forge transaction histories.

But they also have the following drawbacks:

  • Decentralization is both an advantage and a disadvantage. Lack of control over cryptocurrency transactions makes them well suited for tax evasion, money laundering, and other similar activities.

  • Cryptocurrency exchange rates fluctuate a lot and this can lead to losses. For example, since December 2017, the value of bitcoin has dropped from $19,000 to $7,000.

  • A cryptocurrency balance can be wiped out because of a computer crash, so it needs backups.

Summary

Cryptocurrency is a type of digital currency that is controlled by using cryptographic methods and is decentralized. Each transaction within a cryptocurrency system is approved by each node in the network and not by a central server. To store the data, transactions are united into blocks forming a continuous chain (blockchain).

The benefits of cryptocurrencies are an easy transfer of funds without third parties, minimal processing fees, and secure blockchain technology. The drawbacks of blockchain are lack of governmental control and thus risks of money laundering and tax evasion as well as fluctuating exchange rates.