“We have elected to put our money and faith in a mathematical framework that is free of politics and human error,” Tyler Winklevoss, an investor and entrepreneur, opined on cryptocurrency.
A monetary system other than the traditional fiat one without any flaws – is that even possible? As incredible it may sound, it is to some extent quite true. You’re ambiguously aware of the term, but possibly not quite sure what it implies. Frustrated that you don’t comprehend the craze behind it? Worry no more, your vexation ends here!
With the rapid advancements in science and technology, particularly IT, people have often mooted the idea of a digital currency — which would, hopefully, solve some of the drawbacks currently faced by the normal (fiat) form of currency. Cryptographers had been toying with the idea of using cryptocurrency as an alternative. The first recorded development was the conception of anonymous electronic cash (e-cash) by David Chaum in 1983. But it was not until the year 2009 when Satoshi Nakamoto invented Bitcoin, that it reignited the dormant interest in cryptocurrency.
What is Cryptocurrency?
While there are varying definitions, the general consensus is that it is a “digital asset that works on blockchain technology.” In other words, it is a form of currency devised with strong foundations in numerological cryptography.
For the uninitiated, cryptography is a branch of discipline in computing science which primarily focuses on safeguarding information and communication, by the use of algorithms based on encryption and decryption. This, coupled with additional functionalities of anonymity and decentralization, is what birthed the first widely adopted cryptocurrency — Bitcoin.
What’s the hype?
Cryptocurrencies have generated much traction and attention over recent years. From social media trends to memes, it surely has captivated many people. One notable instance is that according to data retrieved from Google Trends, the search volume for the word cryptocurrency hit an all-time high during the month of May when the stock exchange price for 1 BTC (Bitcoin) had soared 50,000 USD and 1 ETH (Ethereum) about 4,000 USD. This was partially attributable to Tesla’s initial announcement that they would accept Bitcoins but then they retracted it, citing environmental concerns.
It may appeal to the investors and consumers alike for one or more reasons:
- An alluring future due to expanding digital space. More and more people are shifting to electronic media. We can witness this with the widespread adoption and incrementing transaction volume in our own country with the UPI — 3.43 trillion transactions for July alone, according to information by the National Payments Corporation of India. Even though it is completely different from cryptocurrency, it shares a commonality in operating electronically, and we can be certain that a similar paradigm shift in interest can peak with it too.
- The robust technology features that blockchain provides — from cryptography to consensus mechanism to approve new blocks, maintaining the CIA triad — confidentiality, integrity and availability of the transactions recorded on the blockchain.
- The valuation, which is sky-rocketing depending on parameters like amount of transactions, number of peer nodes contributing to building the blockchain imperative for this infrastructure, mining reward incentives for the miners, who create blocks and decide upon the policies and rules to be enforced for transaction in the blockchain and the entire block to be deemed valid, paving its way for acceptance.
- Greater Privacy: One of the foremost reasons behind the adoption of cryptocurrencies, this feature is not provided in fiat currency. We withdraw or deposit money from and to the banks which are centrally regulated by the government and hence, our activities can easily be tracked and monitored. While this is used to surveil financial irregularities and frauds, sometimes, this can be misused by authorities, which might decrease the faith of normal, law-abiding citizens in banks.
This problem has been eradicated in cryptosystems, wherein there’s no way one person can snoop on another person. This is due to the introduction of public keys and private keys and using cryptographic hashing to generate addresses and signatures, which cannot be forged easily without a SHA-256 hash function in place. Payments are done to addresses and verified via signatures, so it is difficult to monitor activities in this way.
- Inflation Control: A basic postulate of economics entails that increasing money supply into the currency system will result in catapulting inflation and can have an adverse impact on purchasing power, which can worsen the balance of payments (BoP) situation. And since, this power again rests with the governments, we’ve no control, whatsoever. This is where cryptocurrency can prove to be beneficial — the money supply cannot be increased at will and some systems like Bitcoin have a fixed upper limit (21 million). Coins can only be flushed into the system only when certain procedures have been adhered to like — a block getting required validation and approval and coinbase transaction is not extraneous etc.
- Decentralization: Decentralization refers to the process, by virtue of which, control is delegated from central authorities/organization to the ordinary members of the organization itself. It is implemented via peer-to-peer networking of nodes (basically, computer devices) over the network, all of which have equal power and no single node can ever have more influence than the others. This can ensure a two-pronged advantage: it can prevent corrupt practices and ensure untraceability.
Every coin has two sides and even with all the boons that it has to offer, these financial contrivances have their loopholes too, some of which are listed below.
- Untraceability leads to an increase in financial crimes. Criminals can disguise their ill-gotten money and thus elude law-enforcement agencies, by investing in cryptocurrencies. No provision as yet allows any form of de-anonymization on behalf of any investigating bodies. There’s an alarming trend that is being observed concerning the Latin American crime cartels.
- There’s no stability and price volatility on the whole. Even though it was originally intended that no one person can influence this ecosystem, it has been ironically proved to be otherwise as can be seen in the cases where Dogecoin’s stock prices bumped when Elon Musk tweeted optimistically about it and Bitcoin’s plummeted when he raised environmental concerns.
- The regulations are very vague and too technical to comprehend and it doesn’t share much fluidity with the fiat currency.
Should You Invest In Them?
Cryptocurrencies may go up in value, but investors see them as mere speculations, not investments, reports NerdWallet. It comes with risks and profits, just like mutual funds or SIPs, but it is the volatility that tends to be worrisome.
Trading facilities are provided by several online “wallets” (basically apps which hold the currency) and exchange platforms like WazirX, CoinDCX, Binance etc. To know more about WazirX, which is presently India’s largest cryptocurrency exchange platform visit: https://www.instagram.com/wazirx/?hl=en.
While it may be noted that cryptocurrencies have indeed created a buzz, it is important to understand that these do have a significant impact on how we envision the financial axioms established long before their existence, along with the offset benefits that blockchain technology provides (e-voting, smart contracts etc.). Only time will tell how it will eventually fare for the better or worse.