What Is Cryptocurrency And Why Do We Need It?
By Philip Rutovitz on ALTCOIN MAGAZINE
Cryptocurrency at its core is nothing more or less than a variable in a software program that is stored in a database. It can be attributed to value only due to utility and scarcity. I would point out at this point that traditional fiat currencies such as the dollar and the euro also only have value because we ascribe value to them. There is no inherent value in any currency except to the extent that you can use it to buy things. Most cryptocurrencies have a limited number in circulation.
However, the problem with cryptocurrency is precisely that people ascribed value to a currency that you could not use (in a sustained and easy way). In late 2017, at the height of the hype, cryptocurrencies were being started by people who had no business application and sometimes not even the start of an application. They would launch an ICO on the back of a white paper some times with some well-known advisors but often without. Sometimes founders would claim to have an endorsement that they did not have. This is also the time when some existing companies would change their names to include the word Blockchain and increase their valuation overnight without actually doing anything. For these reasons, cryptocurrency and Blockchain have both gotten a bad name.
In this article, I am going to address the question of what cryptocurrency really is and why we should care.
What is Cryptocurrency?
It all started with Bitcoin which I think at this point is pretty much general knowledge. What people perhaps do not realize or understand is what is the idea behind Bitcoin and why Satoshi created it. The answer lies in the backdrop of the 2008 financial crisis and the resulting massive disruption in the global economic machine. This left a deep mistrust of financial institutions that led to substantially increased regulation, the creation of the occupy movement and Bitcoin.
Bitcoin was created to solve the problem of how to reproduce the functionality of a bank without giving a financial institution control over your finances.
In the end, Bitcoin is nothing other than a software program that created 21 million tokens (also called coins) and devised an ingenious way of distributing them as well as how to keep them out of the hands of the “greedy” banks. This was done through Proof of Work which most people have heard of but with a different name — namely mining. Mining is a process whereby a complicated cryptographic problem is solved by a computer. The first computer to solve the problem gets some bitcoins. Because of the fact that there only 21 million bitcoins that will ever be created, over time there is a built-in appreciation of the value of the currency.
As more and more people use or store the coins the value increases. Add to that speculation and that explains what happened in 2017. However, all of this is meaningless without some utility. Even gold has utility in that it can be made into jewelry that gives people pleasure to wear.
Here is the Bitcoin white paper that was published by Satoshi and started the cryptocurrency craze:
Bitcoin gained in popularity over time but only recently emerged as a kind of digital gold.
Others followed like Litecoin which is actually a fork of Bitcoin and can execute transactions much faster. Litecoin is sometimes considered to be the silver to Bitcoin gold.
Ethereum was the brainchild of a Russian-Canadian Wunderkind called Vitalik Buterin. He took the idea of Bitcoin and added a programming layer or as it is commonly known as smart contracts.
This was really a game-changer for Cryptocurrency as it opened up the means not just to make payments in a decentralized, trustless way but also to put in place controls and conditions around those payments (i.e. Bob will pay Alice $100 subject to Alice mowing Bob’s lawn).
However, this also means that different Cryptocurrencies serve different functions and solve different problems. Some have intrinsic value (acting as a store of value) and some represent valuable work (doing something useful). Some are interesting to a wide audience and some have a very narrow focus. Some Cryptocurrencies have even been created as a joke.
Here are some examples of how Cryptocurrency can be useful:
Cryptocurrency As Oil
Now every Blockchain solution has to have some kind of Cryptocurrency or token behind it. This is kind of like oil to lubricate the engine of a car. Without oil your car will not go very far. Without an underlying token, there is no means for payments to be made or transactions to be executed.
Cryptocurrency is one name, but digital currency, digital assets, and digital tokens are other names for the same thing. The digital token is important for two main purposes. First, it can act as a store of value. An example of this is in the millions of investors who poured into the Cryptocurrency market in late 2017. Other, more sustainable examples are loans made on the Blockchain. Salt is a Cryptocurrency created around that principle:
SALT allows borrowers to borrow funds secured by other digital assets.
BlockFi is another example for a smaller number of assets, but the same principle except it is a company set up to lend without an underlying Cryptocurrency.
Cryptocurrency As Shares
Cryptocurrency can be used to distribute very small shares of an asset such as a small share of a portfolio of loans or a fraction of a property.
This could be in the form of a fund. Here are multiple examples of this already in the market and they will continue to develop over the years to come. Two examples of such funds are
Another example is CRYPTO20 which is an index fund of the top 20 cryptocurrencies.
This is an area of the cryptocurrency world which is going to explode over the next few years. This already exists in Switzerland and the SEC is looking into how tokens can be considered as securities.
This is significant in that it is the first time that the SEC has been satisfied that a Cryptocurrency was not a security. The other side of that equation is that tokens will be issued as securities as well. There is no reason why this should not take off and be interesting to investors over time.
Cryptocurrency as Store of Value
Many people started buying Cryptocurrency in December 2017 for the first time as the market was going crazy. There was a brief time when it was possible to earn 50% or even 100% in a day! Here are the best 5 days in terms of day-on-day performance for XRP in 2017:
At the same time, you could lose a lot of money as well. Here are the 5 worst days in terms of day-on-day performance for XRP in 2017:
Looking just at this data, it would appear that investing in XRP in 2017 was a pretty good bet. The average daily return over this time period was 2.35% which is phenomenal! If you had invested $100 on January 1st, 2017 and sold again on December 31st, 2017, you would buy 15,330.37 XRP and sold them for a grand total of $35,260! That is an increase of 35,260%!
For 2017, the average daily rate of return when it was positive was 8.78% over 181 days while the average daily rate of return when it was negative was -3.98% over 184 days. The same numbers for 2018 are 4.82% average when positive over 163 days and -4.38% over 203 days. 2018 is clearly a bad year for cryptocurrency but compared to 2017, the overall decrease of 85% pales in comparison to the 35,260% increase the year before.
It is my belief that just like stocks, cryptocurrency should be part of everyone’s investment strategy. Just like stocks, there are lemons and there are good investments. Penny stocks used to be sold by unscrupulous brokers promising a quick buck. Many people did make a lot of money investing in penny stocks but a lot of people lost a lot of money. If you invest in anything that is offered to you, you will lose money with cryptocurrency, however, if you look for coins with a real business plan and serious people behind it, you will find winners. Personally, I think that Ripple is the best example of that but for sure not the only one.
Summary
We do not need cryptocurrency in the same way that people did not need a car in the early 1900s. Henry Ford made it possible for regular people to own a car and then all of a sudden everyone “needed” a car. Cryptocurrency solves problems that could be solved in different ways but based on current knowledge and technology are addressed very nicely with thoughtful application of cryptocurrency and smart contracts on the blockchain.
If you like this article, you may also want to look at my article about Blockchain:
