Cryptocurrency - Virtual Means of Payment
As the first and publicly traded virtual currency Bitcoin appeared in 2009, hardly anyone knew which impact this would have on both the financial market as well as the digital payment industry. Although Bitcoin was relatively unknown and useless at the beginning, its value has multiplied by 879,999 times from 2010 to 2017. This exponential increases in value has led to more and more attention being paid to cryptocurrencies and the promising blockchain technology behind the cryptocurrencies. Seen by many experts as as the future of payment, cryptocurrencies are finally permitted as means of payment in many states. As a result, this shows the success and importance that virtual currencies are taking today and take them in the future.
What is a Cryptocurrency?
A cryptocurrency is an independent digital currency and a recognized form of payment created by a programming code that uses blockchain technology as its foundation. A blockchain is a chain of several different datasets, called blocks, which are linked by cryptography. Cryptography ensures the confidentiality, integrity, authenticity, and commitment of the information in a blockchain. The processing and documentation of all digital transactions of the global participants take place via decentralized and jointly managed account books, called distributed ledger. The distributed ledger not only manages the recorded transaction. It also creates a consensus among all participating computers in a peer-to-peer network. The used consensus algorithm ensures that the replicated, shared and synchronized data is distributed across multiple sites, countries or institutions. This means that the distributed ledger is not a central administrator and not a data store. The distributed ledger manages the entire blockchain of a cryptocurrency and stores it on many computers.
History of Cryptocurrency
The idea of using cryptography to make secure payments with virtual units of currency dates back to the 1980's. It was first implemented in the 90's. The idea behind the virtual money was ensuring the anonymity of the users. The early cryptocurrencies differ drastically from modern ones in that they used a central authority to sign all transactions and stop double spending from happening. Thus, they relied on traditional infrastructure and services to function and were an extension to the services banks provided to their customer. The main selling point is the ease of use and the improved privacy. As in the case of eCash, where the bank would use blind signing to validate a transaction and therefore not obtain any details.
Modern cryptocurrencies were strongly influenced and inspired by the release of Bitcoin in 2009. Bitcoin established many of the mechanisms that now power most cryptocurrencies. For example, the use of blockchains and their decentralized nature. The attention Bitcoin generated over the years helped popularize the concept of decentralized virtual currencies. Many currencies have followed the model and added changes and improvements to it, creating large amounts of diversity and innovation in the sector.
What are the characteristics of Cryptocurrencies?
Cryptocurrencies as digital assets offer plenty of possibilities. They are globally accessible. Anyone with a computer with internet access can participate in the world of virtual currencies. No permission from central organizational units (e.g. financial institutions) is required. Every participant is anonymous. Payments are made to and from aliases. A peer-to-peer network (P2P) allows nearly instantaneous sending and payment verification directly from user to user. That means, that the network is used to maintain consensus over the ownership of currency units and the history of transactions. The ownership of those units can be proven to the network by the cryptographic algorithm. Also, only the owner of a currency unit can initiate a transaction involving that specific unit. Another major advantage is the low transaction costs. Payments with cryptocurrencies are associated with low to no costs.
The use of blockchain technology and cryptographic encryption methods makes the storage of all transaction data additionally tamper-proof. Also, transactions confirmed by a miner, cannot be undone in the blockchain. Another feature of a cryptocurrency that has been indirectly addressed is decentralization. Through peer-to-peer networks all transactional computers are equal. As a final feature, virtual currencies make their source code public and accessible to everyone. That means complete transparency.
All described features of cryptocurrencies are listed below:
- global access
- no permission from central offices needed
- fast payments
- low to no transaction costs
- use of peer-to-peer-network
- open source
Comparison between traditional Currencies and Cryptocurrencies
Cryptocurrencies have some features that traditional currencies can't match. Some of these features are automatically given by their digital nature, others because their software is based on blockchain. A comparison between the two kinds of currencies are shown in the table below:
|Cryptocurrencies||Traditional Currencies (Fiat Money)|
|Kind of Money:||Virtual||Physical|
- Not controlled by banks or government (neutrality)
- Affected by government and banks
|Payment methods:||Transaction confirmed by network||Cash, Bank card or Credit card|
|Privacy:||Anonymous (no proof of identity)||Mostly personalized|
|Security:||- Integrity and security by a decentralized computer network (peer-to-peer)
- Forgery proofed (blockchain technology)
|Integrity and security by trusted third parties:
- Banks / Financial Companies or Credit card companies
- Central Banks with note monopoly
|Liability:||No compensation for losing a private key or for transfers to a wrong recipient address.||Liability for loss of bank card, credit card or PIN.|
Advantages of Cryptocurrencies
Virtual currencies have the advantage that they operate on the basis of a decentralized computer system. The security and integrity of transactions are ensured by the participants in the peer-to-peer network. Far away by any state control or trusted third parties. All individual transactions are stored in extensible blocks of data and concatenated together by cryptographic encryption systems to form a blockchain. This blockchain is stored on all computers, who participate in the peer-to-peer network. This makes the blockchain transparent and tamper-proof because the hash values of each record must match.
If transactions are made with a cryptocurrency, another advantage is anonymity. Firstly, no verification of identity is required for acting with cryptocurrencies. Second, all transactions take place under pseudonyms but with complete transparency. Secondly, all transactions can be made at any time and without intermediaries such as banks. By bypassing intermediaries, the transactions are noticeably lower. Transactions are additionally completed faster than traditional payment systems.
Some advantages of cryptocurrencies are again mentioned below:
- integrity and security by the peer-to-peer-network
- independence of intermediaries
- access can't be controlled by the government
- low transaction costs by bypassing intermediate
- faster transactions
- increased privacy (no proof of identity)
How many Cryptocurrencies are currently available on the market?
According to coinmarketcap.com, more than 1,600 cryptocurrencies are currently available on the market and tend to be more and more. Introducing a new virtual currency can happen anytime. The market for cryptocurrencies, with a current market capitalization value in excess of $ 200 billion, has become a lucrative and engaging industry. More and more small businesses (such as startups), large corporations such as Kodak and PayPal and the financial industry itself (for example Deutsche Bank) are seeking entry.
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