I’m gonna rob you. Because unlike you, I happen to believe in capitalism. I like money. I like the lifestyle it affords me. I like the things that happen when you give it away. – Raymond Reddington – Blacklist, S1 E8
My favourite movie character explains the value of money in a really good capitalist way. How much does 100 USD bill worth? How much will worth the same 100 USD bill in 1 year? It is difficult to give a clear and precise answer. How about the value of a Bitcoin? Even more difficult to estimate. The only value behind any kind of currency comes from what people are willing to give away in order to get it – services, properties, things or other kind of currencies.
The value of any currency (including gold) fluctuates over time and there are many factors that influence the volatility of the currency, including political and economical. It may sound improbable, but any currency, even governmental, can become an almost zero value once interest for it is gone (for example the Zimbabwean dollar case), thus I see extremely similar properties in all kind of money, cryptographic or not. I recommend this Forbes article as a further reading on the point.
What is a crypto currency?
A crypto currency or a crypto coin is nothing more than a unit (also called asset) recorded in a blockchain based system. And a blockchain is basically a distributed ledger of transactions between all the parties involved in trading the assets. Think of a blockchain as a table of transactions between all the parties involved since a currency was issued to the world. The nice details here is that blockchain doesn’t require a central authority to manage the ledger and the transactions, so you don’t need a bank in the middle!
Why is it called “crypto”? Simply because cryptography algorithms are involved in the algorithms used for transactions. Cryptographic algorithms are used for authenticating transactions and hashing algorithms are used to guarantee the immutability of the transaction ledger – meaning that nobody can temper existing transactions once they are accepted by the network.
How to use a crypto currency?
Here I have to admit that it is incredibly easy to create an account and perform transactions. All you need is a wallet. You can create a Bitcoin account for example from your couch by simply installing an application on your phone. No paperwork, no documents required, no driving to the bank’s office. And you can send or receive money immediately as well.
How does it work? Well, any participant in Bitcoin or any other crypto currency transaction needs to join the blockchain network. If you have a server, you can install a fully-featured client and start downloading the full content of the blockchain. That will grant you a public address (wallet – like your account) and you can start adding coins to your account either by buying or by mining.
The content of Bitcoin blockchain is around 200 GB of data at the moment. And I am pretty sure nobody will ever want to download all the 200 GB (and growing) on their Ipad. This is why when you use a Bitcoin client on a mobile device you will basically use something called lightweight client. It is called lightweight because it doesn’t download the full blockchain and instead uses just an address (wallet) created on a provider’s server which has full access to the blockchain network.
Many people are very excited to start using crypt currencies like Bitcoin when they here there is no bank or government institution involved in the transactions. This definitely simplifies a lot the entire transaction process since all addresses (wallets) are seen as equal participants of the network. There is no difference between sending money to someone in your city or to somebody on the other side of the world – the transaction fees are the same and infinitely smaller than what you pay with the normal banking services.
But there’s a catch. Removing banks and governments from the system also removes the protection of the traders. Once you sent the money, there is no way to get it back, even if you will never get the product you just paid for. There is no way to roll back the transactions even with a court order. So one of the weaknesses of the crypto currencies is that they are not backed by the force (and ultimately violence) of a state authority.
In the next article I am going to discuss about how crypto coins are generated and I will give more details about the so-called mining process. These topics are not very well understood even by the people involved in the market and there are some myths that must be blown away.