What Is Cryptocurrency: A Beginner's Guide

Cryptocurrencies are digital assets that use decentralized ledger technology to exchange between parties. Read on to learn more.

What Is Cryptocurrency: A Beginner's Guide

Disclaimer: This is for informational purposes and is not meant to serve as financial or investing advice.

What Is a Cryptocurrency?

Cryptocurrencies are digital assets that can be sent back and forth between parties without an intermediary by using decentralized technology as a medium of exchange. The “crypto” part comes from the encryption technology used to verify currency transactions.

“Decentralized” means that instead of centralized authority deciding which transactions are valid, a network of many nodes reaches a consensus that a transaction is valid.

Since its inception in 2009, cryptocurrencies have been hailed as the future of digital finance. Many describe cryptocurrencies as censor-proof. This is because your right to transact and make payments cannot be infringed as long as the blockchain is running.

What Is a Wallet?

Cryptocurrencies are stored in wallets. For most cryptocurrencies, there are unique software wallets you must download to use that cryptocurrency.

Users have to be careful to send currencies to the correct wallet. For instance, you couldn’t send Ethereum to a Bitcoin (BTC) wallet.

Some companies make hardware wallets, physical devices containing your wallet’s private key.

Wallets are like encrypted email accounts that you can only access if you have access to the private key.

Private keys are usually encoded into a seed phrase. Seed phrases are strings of 12-24 words that reveal a wallet's private key when input in the proper order — giving the person entering it complete access to the wallet.

In short, crypto wallets enable users to self-custody their financial assets without needing a bank account.

What Is a Blockchain?

A blockchain is a distributed ledger that records all cryptocurrency transactions on the network. The blockchain is a permanent, immutable ledger.

This means they can’t be rolled back, and transactions cannot be undone once written. Of course, there are always exceptions, as many flavors of enterprise and public blockchains are made for specific use cases.

In general, blockchain technology aims to reach a distributed consensus on what transactions have taken place and how much currency is in each person’s wallet.

Blockchains are designed to prevent “double spend,” which is tricking a network into letting you spend the fungible token more than once.

In banking, this could look like credit card fraud, where someone reverts a credit card purchase after receiving the good and spends the money elsewhere.

What Are Cryptocurrencies Used For?

The cryptocurrency was initially designed as a store of value alternative to fiat currency and for censorship-resistant transactions.

Today blockchains resemble programmable economies. Every digital asset can be specially designed to have unique properties and interact with different software programs.

Crypto assets like Ether and Bitcoin are virtual currencies you can trade like traditional currencies, and this financial activity comprises the crypto market.

DeFi

One major use case touted by crypto advocates is decentralized finance or DeFi. DeFi allows crypto users to use crypto as collateral and take out overcollateralized loans against them.

This kind of P2P lending is trustless. This is important because it allows anyone with an internet connection to get a line of credit.

Privacy

The ability to transact anonymously and privacy is a central tenet of the crypto space. Well-known blockchains like Bitcoin and Ethereum are public, meaning anyone can view your transaction details and wallet history.

Some cryptocurrencies are private, though. Privacy coins like Monero and Zcash allow users to hold and transact cryptocurrencies in a decentralized and trustless manner but with complete privacy. Third parties cannot view transaction details on the blockchain.

Privacy tools called “mixers” allow public blockchain users to mix their money and anonymize it.

If someone has a public wallet, they can send tokens to a decentralized mixer, where they will be sent to a new anonymous wallet after a certain amount of time.

What Is the History of Cryptocurrencies?

Bitcoin

Bitcoin is the oldest cryptocurrency dating back to 2009. In 2008 an anonymous cryptographer Satoshi Nakamoto released a whitepaper entitled Bitcoin: A Peer-to-Peer Electronic Cash System.

Discouraged by the actions of central banks during the Recession, Nakamoto set out to create a financial system governed by computer code and cryptography.

The Bitcoin blockchain’s first blocks got mined in early 2009, and it’s been off to the races ever since. It’s worth noting that Satoshi Nakamoto’s real identity has never been revealed, and he hasn’t been heard from online since 2010.

Ethereum

The Ethereum blockchain was launched in 2015 by the Ethereum Foundation, a group of crypto enthusiasts led by Vitalik Buterin and his vision for programmable money.

Ethereum, or ETH for short, uses smart contract technology to program rules into the blockchain. Once a smart contract has been added to the blockchain, it can be interacted with like software.

Ethereum is the birthplace of decentralized finance and popularized collectible digital assets called NFTs (non-fungible tokens).

Litecoin

Litecoin is a “fork” of the Bitcoin protocol. Meaning it borrows many of the same features but with different tweaks. It was created in 2011 by Charlie Lee.

Litecoin set out to be a payment coin that is the silver to Bitcoin’s digital gold.

Altcoins

Altcoins are tokens with market capitalizations much lower than significant tokens like the ones mentioned above. Altcoins are speculatively traded by investors who think they could one day be as big as other cryptocurrencies.

There is a particular pecking order to cryptocurrencies. It takes the form of a leaderboard. Because cryptocurrencies have differing token supplies, prices, and protocols, the most straightforward way to compare them is by market capitalization.

Market capitalization, or market cap for short, is the total circulating supply of a cryptocurrency multiple by its current price.

For example, Bitcoin peaked at a market cap of $1.2 trillion in 2021 and now trades at around $300 million. Bitcoin has always been the top market cap in crypto, followed by Eth, which is at a little over a third of Bitcoin’s market cap.

Altcoin enthusiasts hope their token’s value can break into the top 100 or top 50 market caps to be taken seriously as significant cryptocurrencies.

Stablecoins

Stablecoins are cryptocurrencies pegged to a fiat currency’s value. DAI, USDT (Tether), and USDC (USD Coin) are popular cryptocurrencies pegged to the U.S. dollar. These enable crypto users to take profits in dollars without cash out to actual dollars.

There are stablecoins pegged to the Euro and other fiats, but USD is the most popular peg.

Stablecoins allow crypto users to have savings accounts in their crypto wallets that aren’t affected by volatile price action.

CBDCs

CBDCs are the newest significant type of cryptocurrency to come on the scene. CBDC stands for Central Bank Digital Currency.

A CBDC is a digital currency entirely controlled by a central bank. As you can imagine, decentralization and privacy advocates in the crypto community are not fans of the concept.

The only major central bank to issue a CBDC is China with the digital Yuan. The digital Yuan gives the Chinese government surveillance and censorship control over those who use it.

How Is Crypto Regulated?

Crypto is a new and evolving technology. Government regulators are always playing catchup as technology changes.

In the United States, cryptocurrency is treated like property. Meaning you must report it to the government and pay taxes on it. For several years, the CFTC (Commodity Futures Trading Commission) and SEC (Securities and Exchange Commission) have sparred over whether crypto is a security or a commodity.

The ICOs of 2017 prompted regulatory intervention after many investors lost money on the crypto equivalent of IPOs.

In the rest of the world, there are varying levels of “crypto friendliness.” The EU recently passed regulations requiring greater transparency and reporting regarding personal crypto wallets.

In China, cryptocurrency outside of the digital Yuan is straight-up illegal. Some countries like the Bahamas and Malta have been safe havens for crypto companies and traders who want low taxes and minimal regulatory overhead.

Trading Crypto

Cryptocurrency exchanges are centralized custodians of cryptocurrency that allow users to trade crypto like they would stocks. Examples are Coinbase, Huobi, and Binance.

Reliable crypto exchanges are an integral part of the growing economy. Many modern crypto exchanges offer services like crypto-powered debit cards. Users can load up a card like a bank account and spend it using a Visa.

Other benefits of exchanges are earning passive yield on assets greater than banking rates.

Crypto exchanges have ushered in a new era of retail trading. The cryptocurrency market is open 24/7 and is more accessible than ever. Regular people worldwide can trade different currencies at the click of a button without a traditional brokerage.

What Is Crypto Mining?

Cryptocurrency mining is how blockchain networks are secured. In return for some computational power, network consensus is reached, and a new block gets added to the chain.

The “miners” supplying this computational power get rewarded with newly created crypto. Bitcoin uses a proof-of-work model where clusters of miners use electricity to solve complex algorithms. For more details about proof-of-work mining, read our blog post on the Bitcoin hashrate.

Ethereum recently switched to a proof of stake mining system where you don’t need to use electricity; instead, you must hold 32 Eth to run a node and validate transactions.

Mining new blockchains can be incredibly lucrative. Those who mined Bitcoin, ETH, or even Dogecoin before they rocketed in price could make tens and even hundreds of millions.

Is it profitable to mine cryptocurrency today? Yes, but (if you want to make a hefty profit), you need to either invest in expensive mining hardware and have access to cheap electricity or be early to a new blockchain no one knows.

Entire companies stack Bitcoin mining rigs into air-conditioned miners just to make a profit on mining.

What Are the Advantages of Crypto?

The advantages of cryptocurrency are like those of cell phones or personal computers. The answers will be different depending on which user you ask.

For many, it will be the core tenets of privacy, censorship resistance, and peer-to-peer finance. In countries with failing economies or fascist governments, resourceful citizens have been able to use crypto to avoid censorship and hyperinflation.

Other more casual crypto users may like trading digital collectibles or playing games built on the blockchain. Axie Infinity is the most famous example of a “web3” game that has reached the masses.

What Are the Disadvantages of Crypto?

Because the blockchain is immutable or unchangeable, it is unforgiving to new users. If you incorrectly type in a wallet address and send crypto, you probably won’t see that money again.

Cryptocurrency is also rife with scammers. There are many phishing and social engineering scams meant to trick people out of their money.

Many governments are concerned that blockchains enable fraudsters and other bad actors like terrorists to launder money.

Recent cryptocurrency disasters include the Luna foundation’s implosion and FTX s outright financial crimes.

However, cryptocurrency advocates would push back that these are both examples of centralized entities that abused their authority, and the fact that they have been flushed out is good for the long-term outlook of the space.

The Bottom Line

Cryptocurrencies are digital assets that use decentralized networks to exchange value between two parties without needing a central authority or intermediary. The main values of the cryptocurrency ecosystem are censorship resistance, anonymity, and decentralization.

Censorship resistance means anyone can take control of their finances with interference from the government or the banking system. Decentralization is the global consensus network that validates and records these transactions on the blockchain.

Anyone can download a digital wallet and transact on their chosen blockchain. Cryptocurrencies can be used for various financial activities, from payments to lending to gaming and virtual business structuring.

The first cryptocurrency was Bitcoin. It was created in 2009 by the mythical Satoshi Nakomoto, whose ideals have left a mark on cryptocurrency enthusiasts and developers alike.

Since then, cryptocurrencies have become a platform for personal finance — a new layer of software for the internet akin to HTML or email. This is colloquially called “Web3”. Web1 is HTML, the dot-com bubble, and Web2 is eCommerce and social media.

Cryptocurrencies probably won’t ever replace the U.S. dollar or financial institutions completely. But this technology is already affecting how people worldwide do their banking and personal finance.

Sources:

Bitcoin: A Peer-to-Peer Electronic Cash System | Bitcoin.org

Ethereum Whitepaper | Ethereum

Non-Fungible Token (NFT): What It Means and How It Works | Investopedia

Coinmarketcap

How Are Venezuela’s Economy Gaps Filled With Crypto | Sounds and Colours

EU Finalizes Crypto Anti-Money Laundering Rules, Walks Back Tracking of Private Wallets | Decrypt