A cryptocurrency (or crypto
currency) is a digital asset designed to work as a medium of
exchange that uses cryptography to secure its
transactions, to control the creation of additional units, and to verify the
transfer of assets. Cryptocurrencies are classified as a subset of digital currencies and are
also classified as a subset of alternative
currencies and virtual currencies.
Bitcoin, created in 2009, was the first decentralized cryptocurrency.Since then, numerous cryptocurrencies have been created.These are frequently called altcoins, as a blend of bitcoin alternative. Bitcoin and its derivatives use decentralized control as opposed to centralized electronic money/central banking systems.The decentralized control is related to the use of bitcoin's blockchain transaction database in the role of a distributed ledger.
Overview
Decentralized cryptocurrency is
produced by the entire cryptocurrency system collectively, at a rate which is
defined when the system is created and which is publicly known. In centralized
banking and economic systems such as the Federal Reserve
System, corporate boards or governments control the supply of
currency by printing units of fiat moneyor demanding additions to digital banking ledgers. In case of decentralized
cryptocurrency, companies or governments cannot produce new units, and have not
so far provided backing for other firms, banks or corporate entities which hold
asset value measured in it. The underlying technical system upon which
decentralized cryptocurrencies are based was created by the group or individual
known as Satoshi Nakamoto.
As of September 2017, over a
thousand cryptocurrency specifications exist; most are similar to and derived from the first fully implemented decentralized cryptocurrency, bitcoin. Within
cryptocurrency systems the safety, integrity and balance of ledgers is maintained by a
community of mutually distrustful parties referred to as miners: members of the
general public using their computers to help validate and timestamp
transactions, adding them to the ledger in accordance with a particular
timestamping scheme. Miners have a financial incentive to maintain the security
of a cryptocurrency ledger.
Most cryptocurrencies are
designed to gradually decrease production of currency, placing an ultimate cap
on the total amount of currency that will ever be in circulation, mimicking
precious metals. Compared with ordinary currencies held by financial institutions
or kept as cash on hand,
cryptocurrencies can be more difficult for seizure by law
enforcement. This difficulty is derived from leveraging cryptographic
technologies. A primary example of this new challenge for law enforcement comes
from the Silk Road case, where Ulbricht's bitcoin stash "was held
separately and ... encrypted." Cryptocurrencies such as bitcoin are
pseudonymous, though additions such as Zerocoin have been
suggested, which would allow for true anonymity.
History
In 1998, Wei Dai published a
description of "b-money", an anonymous, distributed electronic cash
system. Shortly thereafter, Nick Szabo created
"bit gold". Like bitcoin and other
cryptocurrencies that would follow it, bit gold (not to be confused with the
later gold-based exchange, BitGold) was an
electronic currency system which required users to complete a proof of work function with solutions
being cryptographically put together and published. A currency system based on
a reusable proof of work was later created by Hal Finney who followed the work of Dai and Szabo.
The first decentralized
cryptocurrency, bitcoin, was created in 2009 by pseudonymous developer Satoshi Nakamoto. It used SHA-256, a cryptographic hash function, as its proof-of-work scheme. In April 2011, Namecoin was created as an attempt at forming a
decentralized DNS, which would make internet censorship very difficult.
Soon after, in October 2011, Litecoin was released.
It was the first successful cryptocurrency to use scrypt as its hash function instead of SHA-256. Another
notable cryptocurrency, Peercoin was the first
to use a proof-of-work/proof-of-stake hybrid. IOTA was the first
cryptocurrency not based on a blockchain, and instead uses the Tangle. Many
other cryptocurrencies have been created though few have been successful, as
they have brought little in the way of technical innovation. On 6 August 2014, the UK
announced its Treasury had been
commissioned to do a study of cryptocurrencies, and what role, if any, they can
play in the UK economy. The study was also to report on whether regulation
should be considered.
Publicity
Gareth Murphy, a senior central
banking officer has stated "widespread use [of cryptocurrency] would also
make it more difficult for statistical agencies to gather data on economic
activity, which are used by governments to steer the economy". He
cautioned that virtual currencies pose a new challenge to central banks'
control over the important functions of monetary and exchange rate policy.
Jordan Kelley, founder of Robocoin, launched the first bitcoin ATM in the United States on February 20, 2014. The
kiosk installed in Austin, Texas is similar to bank ATMs but has scanners to
read government-issued identification such as a driver's license or a passport
to confirm users' identities. By September 2017 1574 bitcoin ATMs were
installed around the world with an average fee of 9.05%. An average of 3
bitcoin ATMs were being installed per day in September 2017.
The Dogecoin Foundation, a charitable organization centered
around Dogecoin and co-founded by Dogecoin co-creator Jackson Palmer, donated
more than $30,000 worth of Dogecoin to help fund the Jamaican bobsled team's trip to the 2014 Olympic games in Sochi, Russia. The growing community around
Dogecoin is looking to cement its charitable credentials by raising funds to
sponsor service dogs for children with special needs.
Legality
The legal status of
cryptocurrencies varies substantially from country to country and is still
undefined or changing in many of them. While some countries have explicitly
allowed their use and trade, others have banned or restricted it. Likewise,
various government agencies, departments, and courts have classified bitcoins
differently. China Central Bank banned the handling of bitcoins by financial institutions in China during an extremely fast adoption period in early
2014. In Russia, though cryptocurrencies are legal, it is illegal to actually
purchase goods with any currency other than the Russian ruble.
On March 25, 2014, the United
States Internal Revenue Service(IRS) ruled that bitcoin will be treated as property for tax purposes as
opposed to currency. This means bitcoin will be subject to capital gains tax. One benefit of this
ruling is that it clarifies the legality of bitcoin. No longer do investors need
to worry that investments in or profit made from bitcoins are illegal or how to
report them to the IRS. In a paper published by researchers from Oxford and
Warwick, it was shown that bitcoin has some characteristics more like the
precious metals market than traditional currencies, hence in agreement with the
IRS decision even if based on different reasons.
In response to the IRS ruling,
numerous organizations have been created to advocate for consumers. One of the
most prominent examples is the Washington, D.C. based Cryptocurrency Alliance,
an independent expenditure-only committee (Super PAC), created to raise
awareness about cryptocurrencies and blockchain technology.
Legal issues not dealing with
governments have also arisen for cryptocurrencies. Coinye, for example, is an altcoin that used rapper Kanye West as its logo without permission. Upon hearing of
the release of Coinye, originally called Coinye West, attorneys for Kanye West
sent a cease and desist letter to the email operator of Coinye, David P. McEnery Jr. The letter stated
that Coinye was willful trademark infringement, unfair competition,
cyberpiracy, and dilution and instructed Coinye to stop using the likeness and
name of Kanye West.
The legal concern of an
unregulated global economy
As the popularity of and demand
for online currencies has increased since the inception of bitcoin in 2009, so
have concerns that such an unregulated person to person global economy that
cryptocurrencies offer may become a threat to society. Concerns abound that
altcoins may become tools for anonymous web criminals.
Cryptocurrency networks display a
marked lack of regulation that attracts many users who seek decentralized
exchange and use of currency; however the very same lack of regulations has
been critiqued as potentially enabling criminals who seek to evade taxes and
launder money.
Transactions that occur through
the use and exchange of these altcoins are independent from formal banking
systems, and therefore can make tax evasion simpler for individuals. Since
charting taxable income is based upon what a recipient reports to the revenue
service, it becomes extremely difficult to account for transactions made using
existing cryptocurrencies, a mode of exchange that is complex and (in some
cases) impossible to track.
Systems of anonymity that most
cryptocurrencies offer can also serve as a simpler means to launder money.
Rather than laundering money through an intricate net of financial actors and
offshore bank accounts, laundering money through altcoins can be achieved
through anonymous transactions.
Fraud
On August 6, 2013, Magistrate
Judge Amos Mazzant of the Eastern District of Texas federal court ruled that because cryptocurrency (expressly bitcoin) can be used
as money (it can be used to purchase goods and services, pay for individual
living expenses, and exchanged for conventional currencies), it is a currency
or form of money. This ruling allowed for the SEC to have
jurisdiction over cases of securities fraud involving cryptocurrency.
GBL, a Chinese bitcoin trading
platform, suddenly shut down on October 26, 2013. Subscribers, unable to log
in, lost up to $5 million worth of bitcoin.
In February 2014, cryptocurrency
made national headlines due to the world's largest bitcoin exchange, Mt. Gox, declaring bankruptcy. The company stated that it had lost nearly
$473 million of their customer's bitcoins likely due to theft. This was
equivalent to approximately 750,000 bitcoins, or about 7% of all the bitcoins
in existence. Due to this crisis, among other news, the price of a bitcoin fell
from a high of about $1,160 in December to under $400 in February.
On March 31, 2015, two now-former
agents from the Drug Enforcement Administration and the U.S. Secret Servicewere charged with wire fraud, money laundering and other offenses for allegedly
stealing bitcoin during the federal investigation of Silk Road, an
underground illicit black market federal prosecutors shut down in 2013.
On December 1, 2015, the owner of
the now-defunct GAW Miners website was accused of securities fraud following
his development of the cryptocurrency known as Paycoin. He is accused of
masterminding an elaborate ponzi scheme under the guise of "cloud
mining" with mining equipment hosted in a data center. He purported the
cloud miners known as "hashlets" to be mining cryptocurrency within
the Zen portal "cloud" when in fact there were no miners actively
mining cryptocurrency. Zen portal had over 10,000 users that had purchased
hashlets for a total of over 19 million U.S. dollars.
On August 24, 2016, a federal
judge in Florida certified a class action lawsuit against defunct cryptocurrency exchange Cryptsy and Cryptsy's owner. He is accused of misappropriating millions of dollars
of user deposits, destroying evidence, and is believed to have fled to China.
On November 21, 2017, an online
company (Tether) which backs bitcoin cryptocurrency with fiat currency claims
they were hacked, losing $31 million in USTD from their primary wallet. The
company has 'tagged' the stolen currency, hoping to 'lock' them in the hacker's
wallet (making them unspendable). Tether indicates that it is building a new
core for its primary wallet in response to the attack in order to prevent the
stolen coins from being used.
On December 6, 2017, more than
$60 million worth of bitcoin was stolen after a cyber attack hit the
cryptocurrency mining platform NiceHash(Slovenia-based company). According to the CEO Marko Kobal and co-founder Sasa
Coh, bitcoin worth $64 million USD was stolen, although users have pointed to a
bitcoin wallet which holds 4,736.42 bitcoins, equivalent to $67 million.
Darknet markets
Main article: Darknet market
Cryptocurrency is also used in
controversial settings in the form of online black markets, such as Silk Road. The
original Silk Road was shut down in October 2013 and there have been two more
versions in use since then; the current version being Silk Road 3.0. The
successful format of Silk Road has been widely used in online dark markets,
which has led to a subsequent decentralization of the online dark market. In
the year following the initial shutdown of Silk Road, the number of prominent
dark markets increased from four to twelve, while the amount of drug listings
increased from 18,000 to 32,000.
Darknet markets present growing
challenges in regard to legality. Bitcoins and other forms of cryptocurrency
used in dark markets are not clearly or legally classified in almost all parts
of the world. In the U.S., bitcoins are labelled as "virtual assets".
This type of ambiguous classification puts mounting pressure on law enforcement
agencies around the world to adapt to the shifting drug trade of dark markets.
Since most darknet markets run
through Tor, they can be found
with relative ease on public domains. This means that their addresses can be
found, as well as customer reviews and open forums pertaining to the drugs
being sold on the market, all without incriminating any form of user. This kind
of anonymity enables users on both sides of dark markets to escape the reaches
of law enforcement. The result is that law enforcement adheres to a campaign of
singling out individual markets and drug dealers to cut down supply. However, dealers
and suppliers are able to stay one step ahead of law enforcement, who cannot
keep up with the rapidly expanding and anonymous marketplaces of dark markets.
Fundings – ICOs
An initial coin offering (ICO) is an
unregulated means by which funds are raised for a new cryptocurrency venture.
An ICO is used by startups to bypass rigorous and regulated capital-raising
processes required by venture capitalists or banks. In an ICO campaign, a
percentage of the cryptocurrency is sold to early backers of the project in
exchange for legal tender or other cryptocurrencies, often Bitcoin or Ethereum.
Timestamping
Cryptocurrencies use various
timestamping schemes to avoid the need for a trusted third party to timestamp
transactions added to the blockchain ledger.
Proof-of-work schemes
The first timestamping scheme
invented was the proof-of-work scheme.
The most widely used proof-of-work schemes are based on SHA-256, which was
introduced by bitcoin, and scrypt, which is used
by currencies such as Litecoin. The latter now dominates over the world of
cryptocurrencies, with at least 480 confirmed implementations.
Some other hashing algorithms
that are used for proof-of-work include CryptoNight, Blake, SHA-3, and X11.
Modifications of the
proof-of-work algorithm have been created to address the problem of scaling,
such as the way the IOTA ledger works. IOTA uses a simplified Proof-of-work
algorithm making use of directed acyclic graph. A new transaction becomes part of
the ledger after its sender does a small amount of proof-of-work. Each network
participant is therefore also a miner, however without any economic incentive
other than enabling their own transactions. This system scales automatically as
it gets used more.
Proof-of-stake and combined
schemes
Some cryptocurrencies use a
combined proof-of-work/proof-of-stake scheme. The
proof-of-stake is a method of securing a cryptocurrency network and achieving
distributed consensus through requesting users to show ownership of a certain
amount of currency. It is different from proof-of-work systems that run
difficult hashing algorithms to validate electronic transactions. The scheme is
largely dependent on the coin, and there's currently no standard form of it.
Economics
Crypto-currency market
capitalizations as of 12 November 2016
Crypto-currency market
capitalizations as of 29 June 2017
Cryptocurrencies are used
primarily outside existing banking and governmental institutions, and exchanged
over the Internet. While these alternative, decentralized modes of exchange are
in the early stages of development, they have the unique potential to challenge
existing systems of currency and payments. As of June 2017 total market
capitalization of cryptocurrencies is bigger than 100 billion USD and record
high daily volume is larger than 6 billion USD.
Competition in cryptocurrency
markets
As of September 2017, there were
over 1100 digital currencies in existence.
Indices
In order to follow the
development of the market of cryptocurrencies, indices keep track of notable
cryptocurrencies and their cumulative market value.
Crypto index CRIX
The cryptocurrency index CRIX is
a conceptual measurement jointly developed by statisticians at Humboldt University of Berlin,Singapore Management University and the enterprise CoinGecko and was launched in 2016.[62] The index represents
cryptocurrency market characteristics dating back until July 31, 2014. Its
algorithm takes into account that the cryptocurrency market is frequently
changing, with the continuous creation of new cryptocurrencies and infrequent
trading of some of the existing ones. Therefore, the number of index members is
adjusted quarterly according to their relevance on the cryptocurrency market as
a whole. It is the first dynamic index reflecting changes on the cryptocurrency
market.
CCI30 Crypto Currencies Index
The CCI30 index is composed of
the 30 crypto currencies with the biggest market capitalization. It was created
by a team of mathematicians, quantitative analysts and traders, led by
Professor Igor Rivin and Carlo
Scevola, economist. The components of the index are set at a fixed number of
30, weighted based on the square root of their smoothed market capitalization.
The composition of the index is revised on a quarterly basis, using an
exponentially weighted moving average of the market capitalization. The CCI30
starts in January 2015 with a value of 100. This index is freely available to
the public, and can be replicated by funds that follow a passive investment
strategy.
Academic studies
Journals
Main article: Ledger (journal)
In September 2015, the
establishment of the peer-reviewed academic journal Ledger (ISSN 2379-5980) was
announced. It will cover studies of cryptocurrencies and related technologies,
and is published by the University of Pittsburgh.
The journal encourages authors to digitally sign a file hash of submitted papers, which
will then be timestamped into the
bitcoin blockchain. Authors
are also asked to include a personal bitcoin address in the first page of their
papers.
Criticism
• Cryptocurrencies have been
compared to pyramid schemes and economic bubbles, such as housing market bubbles.[72] Howard Marks of Oaktree Capital Management stated in 2017 that digital currencies were "nothing but an unfounded fad
(or perhaps even a pyramid scheme), based on a willingness to ascribe value to
something that has little or none beyond what people will pay for it", and
compared them to the tulip mania (1637), South Sea Bubble (1720), and dot-com bubble (1999).
• Community refers to premining,
hidden launches, or extreme rewards for the altcoin founders as a deceptive
practice, but it can also be used as an inherent part of a digital
cryptocurrency's design, as in the case of Ripple. Pre-mining means currency is
generated by the currency's founders prior to mining code being released to the
public.
• Many banks do not offer services
for cryptocurrencies and can refuse to offer services to virtual-currency
companies.
• Cryptocurrency can be permanently
lost from local storage due to malware or data loss.
This can also happen through the destruction of the physical media, effectively
removing lost cryptocurrencies forever from their markets.
• There are many perceived criteria
that cryptocurrencies must reach before they can become mainstream. For
example, the number of merchants accepting cryptocurrencies is low, but
increasing.
• With technological advancement in
cryptocurrencies such as bitcoin, the cost of entry for miners requiring
specialized hardware and software is high.
• Cryptocurrency transactions are
normally irreversible after a number of blocks confirm the transaction. One of
the features cryptocurrency lacks in comparison to credit cards is consumer
protection against fraud, such as chargebacks.
• While cryptocurrencies are
digital currencies that are managed through advanced encryption techniques,
many governments have taken a cautious approach toward them, fearing their lack
of central control and the effects they could have on financial security.
• An enormous amount of energy goes
into Proof of Work cryptocurrency mining, but it is important to compare it to
the consumption of the traditional financial system. Some cryptocurrencies such
as Ripple require no
mining, and many others use proof-of-stake algorithms, which
require far less energy.
• Traditional financial products
have strong consumer protections. However, if bitcoins are lost or stolen,
there is no intermediary with the power to limit consumer losses.
• Regulators in several countries
have warned against their use and some have taken concrete regulatory measures
to dissuade users.
• The success of some
cryptocurrencies has caused multi-level marketing schemes to arise
with pseudo cryptocurrencies, such as OneCoin.
• In October 2017, BlackRock CEO
Larry Fink called bitcoin an 'index of money laundering'. "Bitcoin just
shows you how much demand for money laundering there is in the world," he
said.