You’ve probably heard it talked about at a party, or in the office, or on public transport. Maybe a family member has invested in it, or a colleague has sunk their savings on it and they tell you enthusiastically to do the same. Some people even think that it’s the future of all money and transactions – and maybe they’re right. The topic of conversation is, of course, cryptocurrency.
Bitcoin, Etherium, Polygon, NFTs – there’s no shortage of varieties of the digital money. But what actually is this stuff, and how does it work?
What is cryptocurrency?
Just like pounds, dollars, and euros, cryptocurrency is money. The difference is that it’s 100% virtual and operates without a central monetary authority. Made possible through cryptography, the fact that cryptocurrencies don’t need a bank or marketplace between buyers and purchasers means that value can be transferred globally, nearly instantly, 24/7, and for very low fees.
Think about it. If you want to buy an item, you’ll have to go to eBay or Amazon to connect with the seller. The third party’s presence is always there, regulating how it works. But what if you could buy and sell directly without this kind of marketplace? That’s what crypto allows.
How does cryptocurrency work?
Let’s say you’re shopping online for socks. You find the pair, you make the purchase, and your bank goes into their spreadsheet. They reduce the number in your account by £5, and increase the amount in someone else’s by £5.
With crypto it’s not just your bank that has a copy of this spreadsheet – everyone has that spreadsheet. This spreadsheet, or ‘ledger’, is secured using software called blockchain. Every time a purchase is made, that transaction is recorded as a ‘block’ containing details of the purchase, a unique ID, and then the ID of the previous block, creating a chain that is difficult to tamper with. This makes cryptocurrency very resistant to fraud.
People who dedicate their computers to validating purchases are called miners, and their reward for their work is brand new currency. But mining is competitive, which has led to the development of extremely powerful computers, and people teaming together to mine the currency.
When did it start?
On October 31st 2008, a white paper was released online titled ‘Bitcoin: A Peer-To-Peer Electronic Cash System’. It introduced the idea of a peer-to-peer digital cash system based on a new form of technology called blockchain.
A few months later, at the start of 2009, the Bitcoin network went live with the genesis block, which allowed the first group of transactions to form a blockchain. In this very first block, a message was stamped – “Chancellor on Brink of Second Bailout for Banks” – a reference to the 2008-2009 financial crisis where commercial banks received trillions in bailouts from central governments.
Bitcoin was created, and due to the message in the first block, in many people’s eyes it was a direct response to the financial crash. Bitcoin’s peer-to-peer network, forgoing legacy financial institutions, changed global finance forever.
“It takes advantage of the nature of information being easy to spread but hard to stifle.”Satoshi Nakamoto
Who created it?
Bitcoin was created by Satoshi Nakomoto. But no one knows who he, she or they actually are – Nakomoto is a pseudonym used by whoever developed Bitcoin and the first blockchain database. Judging by the amount of Bitcoin Nakomoto has, they are the 15th richest person or group in the world.
Since Bitcoin, we’ve seen the emergence of no shortage of cryptocurrency manifestations including Dogecoin that emerged as an online joke but quickly became lucrative – with Elon Musk even saying it could be the future of currency.
So what are the main benefits of crypto?
There’s a reason cryptocurrency is so popular at the moment. Firstly, it’s easier for people to make transactions without requiring a middleman like Amazon or your bank to be involved. Plus you can make payments with no credit limit and no exchange rates, with transaction fees often coming close to zero.
A lot of people are drawn to the decentralised system, viewing it as more democratic than one governing body making all the rules. For example, Honduras saw land seized from farmers on a mass scale when corrupt officials used governmental computers to forge ownership documentation – something that could be mitigated by an immutable system of landowning records on a blockchain.
Helping to bank the unbanked
The biggest flow of funds from the developed world to the developing world is remittance – sending money to loved ones back home through companies like Western Union who take a whopping 10% fee. Cryptocurrencies like Abra offer an alternative to this which is much faster, and much cheaper. Their is real potential for cryptocurrency to redistribute global finance and lift people out of poverty.
Most of all, cryptocurrency is extremely secure, with most crypto leaks happening when people have attempted to centralise the system.
What are the downsides?
Perhaps one of the biggest downsides to crypto is the amount of energy required to mine for new currency. With Bitcoin, every new coin needs to be mined using computers that perform complex calculations. These computers use an astronomical amount of energy to perform the calculations and to be cooled down – and the result is a carbon footprint as big as the annual carbon consumption of an entire nation like Argentina, Finland, or Malaysia.
Bitcoin alone uses 2.5 times the amount of electricity used annually by Amazon, Apple, Facebook, Microsoft, and Google combined – or about the same as Norway. That’s £29 million worth of electricity every day, with 61% of it coming from fossil fuels.
While many big names publically support crypto, like Bill Gates, Richard Branson and even celebrities like Kim Kardashian and Paris Hilton, others are not convinced. Nobel Prize winner in economics Paul Krugman has argued that the risks of cryptocurrency fall disproportionately on individuals with lower incomes and limited resources to handle a bad investment: “[Regulators] failed to protect the public against financial products nobody understood, and many vulnerable families may end up paying the price.”
Another Nobel Prize winning economist, Robert Shiller, has labelled the crypto market and mentality of its investors as akin to the wild west. “It’s impressive technology. But the ultimate source of value is so ambiguous that it has a lot to do with our narratives rather than reality.”
It also isn’t accepted tender in most places, and its exchange rate is volatile – when Tesla bought $1.5 billion worth of Bitcoin, prices shot up, but when Elon Musk tweeted negatively about them, their value plummeted.
Others have argued that cryptocurrency enables a wave of crime. After all, isn’t a pseudonymous, unregulated platform the perfect place for criminals to launder money, or buy illicit goods and services?
But in reality, the evidence points to a different conclusion. Last year only 0.15% of crypto transactions were criminal, and cash remains the strong preference for criminal activity. Crypto works because of trust – buyers and sellers don’t have to trust or even know each other, they just have to trust the blockchain system itself.
Can we use cryptocurrency purposefully?
It’s difficult to say. Urgently cryptocurrency needs to switch to a renewable, circular energy source if it’s going to be sustainable long-term. But as we’ve discussed before, pitting money and the planet against each other means nobody wins, and cryptocurrency can be a powerful tool for change. There are plenty of parts of the developing world where there isn’t access to traditional banks, but there’s no shortage of internet. What we could see is cryptocurrency having a democratising effect on global finance, easing poverty and inequality worldwide. The potential is there – it’s just about how it’s made and how we use it.
“It’s giving us another kick at the can, another opportunity to rewrite the economic power grid and the old order of things, and to solve some of the world’s most difficult problems. If we will it.”Don Tapscott, Co-founder of The Blockchain Research Group