Cryptocurrency has been around since 2008. However, it went from being generally unheard of by most to a frequent topic of household conversation within a few months. At the end of 2017 and the beginning of 2018, there was daily news coverage regarding cryptocurrencies caused by the significant spike in prices (upwards of a thousand percent) that increased the wealth of many coin holders.
What is a cryptocurrency?
A cryptocurrency is an electronic currency that is designed to be exchanged for goods or services (i.e., Bitcoin, Ethereum, Litecoin, and Monero are some of the most popular). Each “coin” can be “mined” utilizing the power of graphics cards to perform complex calculations to solve algorithms. Once a solution is found, a block (as in blockchain) is complete, and a coin is rewarded to the computer responsible for finding the answer. These calculations are verifying that the data batched into a block is accurate. The new block is then sent to all other computer systems on the block-chain network. The block cannot be altered because all systems possess the same information. We discussed blockchain technology in Part 1 here.
How can we use cryptocurrency?
The first transaction ever recorded with Bitcoin was used to order pizza in exchange for 10,000 Bitcoins (BTC). This was long before Bitcoin reached a value of over $19,000. However, ordering pizza is not the only thing we can use cryptocurrency for.
A valuable function created from cryptocurrencies is an immediate exchange of funds globally. Transfers can happen almost instantaneously. For example, $99 million worth of Lite Coin was moved in a single trade on April 23, 2018, and the transaction took about two minutes and thirty seconds to settle. The associated fees for this transaction cost about 40 cents. This process is substantially cheaper than other means of transferring funds from one entity to another. Typical funds exchange services can charge 10% or more for the service and take several days to settle.
Cryptocurrency trading has become quite popular recently and there are risks involved as with any other investment. Smartphone apps have been developed, including Coinbase, to act as an easy to use interface to trade a variety of cryptocurrencies. Prices are known to be extremely volatile and various online exchanges have been compromised where investors lose all the cryptocurrencies that they own. The most important distinction regarding blockchain and cryptocurrencies is that, while the blockchain is not a hackable system, the exchanges and your computer that holds your coin can be. Investors must take the necessary precautions when dealing with this new opportunity.
We discuss the taxation of cryptocurrency and how it can affect investors and miners in Part 3.