Cryptocurrency

A cryptocurrency (or crypto currency) is a medium of exchange using cryptography to secure the transactions and to control the creation of new units.^[1] Cryptocurrencies are a subset of alternative currencies, or specifically of digital currencies. Bitcoin became the first decentralized cryptocurrency in 2009.^[2] Since then, numerous cryptocurrencies have been created. These are frequently called altcoins, as contraction of bitcoin alternative.^[3][4]

Cryptocurrencies typically feature decentralized control (as opposed to a centralized electronic money system, such as PayPal) and a public ledger (such as bitcoin's block chain) which records transactions.

Overview

Cryptocurrency is produced by the entire cryptocurrency system collectively, at a rate which is defined when the system is created and 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 money or demanding additions to digital banking ledgers. However, companies or governments cannot produce units of cryptocurrency and as such, have not so far provided backing for other firms, banks or corporate entities which hold asset value measured in a decentralized cryptocurrency. The underlying technical system upon which all cryptocurrencies are now based was created by the group or individual known as Satoshi Nakamoto.^[5][6][7]

As of March 2015, hundreds of cryptocurrency specifications exist; most are similar to and derived from the first fully implemented decentralized cryptocurrency, bitcoin.^[8][9] 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.^[10]

The security of cryptocurrency ledgers is based on the assumption that the majority of miners are honestly trying to maintain the 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. This can mimic the scarcity (and value) of precious metals and avoid hyperinflation.^[1][11] Compared with ordinary currencies held by financial institutions or kept as cash on hand, cryptocurrencies are less susceptible to seizure by law enforcement.^[1][12] Existing cryptocurrencies are all pseudo-anonymous, though additions such as Zerocoin and its distributed laundry^[13] feature have been suggested, which would allow for anonymity.^[14][15][16]

History

In 1998, Wei Dai published a description of "b-money", an anonymous, distributed electronic cash system.^[17] Shortly thereafter, Nick Szabo created "Bit Gold".^[18] Like bitcoin and other cryptocurrencies that would follow it, Bit Gold was an electronic currency system which required users to complete a proof of work function with solutions being cryptographically put together and published.

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.^[19][20][21] 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.^[22] 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.^[23]

Publicity

Central bank representatives have stated that the adoption of cryptocurrencies such as bitcoin pose a significant challenge to central banks' ability to influence the price of credit for the whole economy, they've also stated that as trade using cryptocurrencies become more popular, there is bound to be a loss of consumer confidence in fiat currencies. 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.^[24]

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.^[25]

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.^[26] The growing community around Dogecoin is looking to cement its charitable credentials by raising funds to sponsor service dogs for children with special needs.^[27]

Legality

As of 2013 cryptocurrencies were illegal in Iceland, due to its freeze on foreign exchange.^[28] Controversy over the misuse of cryptocurrency has also led to restrictions in certain countries – regulators in China banned the handling of bitcoins by financial institutions during an extremely fast adoption period in early 2014.^[29] In Russia, though cryptocurrencies are legal, it is illegal to actually purchase goods with any currency other than the Russian ruble.^[30]

On March 25, 2014, the 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.^[31] In a paper published by researchers from Oxford and Warwick it was shown that Bitcoin has some characteristics similar to the precious metals market more than to traditional currencies, hence in agreement to the IRS decision even if based on different reasons.^[32]

Some cryptocurrency have legal issues such as Coinye, an altcoin that used, without permission, rapper Kanye West as its logo. This altcoin has been compared to the popular Dogecoin. 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, whose name remains unknown. 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.^[33]

Arrests

There have been very few arrests in the United States related to cryptocurrency. This is primarily due to the difficulty of tracking cryptocurrency payments. The arrests that have been made are all on charges of using cryptocurrency to launder money. The most notable case was the arrest of Charlie Shrem, the CEO of BitInstant, a bitcoin exchange backed by the Winklevoss twins.^[34]

In Florida, a localbitcoins.com user was charged with felony violations of Florida’s law against unlicensed money transmitters for transmitting $30k. He was arrested by an undercover cop pretending to be a customer.^[35]

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.^[36]

GBL, a Chinese bitcoin trading platform, suddenly shut down on October 26, 2013. Subscribers, unable to login, lost up to $5 million worth of bitcoin.^[37][38][39]

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.^[40]

On March 31, 2015, two now-former agents from the Drug Enforcement Administration and the U.S. Secret Service were 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.^[41]

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.^[22] The latter now dominates over the world of cryptocurrencies, with at least 480 confirmed implementations.^[42]

Some other hashing algorithms that are used for proof-of-work include Blake, SHA-3, and X11.

Proof-of-stake and combined schemes

Some cryptocurrencies use a combined proof-of-work/proof-of-stake scheme,^[22][43] 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 code dependent on the coin, and there's currently no standard form of it.

List of cryptocurrencies

Criticism

• Some have expressed concern that cryptocurrencies are extremely risky due to their very high volatility.^[44] and potential for pump and dump schemes^[45]
• Some cryptocurrency systems are pre-mined, have hidden launches, or have extreme rewards for the first miners.^[46] Pre-mining means currency is generated by the currency's founders prior to mining code being released to the public.^[47] It often refers to a deceptive practice, but can also be used as an inherent part of a digital cryptocurrency's design, as in the case of Ripple or Nxt.^[48]
• Most cryptocurrencies are duplicates of existing cryptocurrencies with minor changes and no novel technical developments. One such, "Coinye West", a comedy cryptocurrency alluding to the rapper Kanye West, was served a cease-and-desist letter on January 7, 2014, for using West's name and implying a connection that did not exist.^[49]
• Very few cryptocurrencies can be exchanged for fiat currencies and instead can only be traded for other cryptocurrencies. Banks generally do not offer services for them and sometimes refuse to offer services to virtual-currency companies.^[50]
• There are ways to permanently lose cryptocurrency 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.^[51]
• There are many perceived criteria that cryptocurrencies must reach before they can become a mainstream currency. Because cryptocurrencies do not fully meet some features of fiat currency, few merchants accept them, weakening the value of cryptocurrency.^[52]
• With technological advancement in some cryptocurrencies, the cost of entry is high for casual miners who “mine” or produce cryptocurrency coins through specialized hardware and software.^[53]
• Cryptocurrency transactions are irreversible. One of the features cryptocurrency lacks in comparison to conventional methods of payment is consumer protection against fraud, such as chargebacks to credit cards.^[54]
• Some coins may be a project with little to no community backing and no visible developer.^[55]
• 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.^[56]
• Environmentally conscious people are concerned with the enormous amount of energy that goes into mining cryptocurrency with little to show in return.^[57]
• 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.^[58]
• Regulators in several countries have warned against their use and some have taken concrete regulatory measures to dissuade users.^[59]

See also

• Bitcoin protocol
• Cryptographic protocol
• Digital currency exchanger
• Virtual currency

References

Other references

• Chayka, Kyle (2 July 2013). "What Comes After Bitcoin?". Pacific Standard. Retrieved 18 January 2014. 

External links

• Media related to Cryptocurrency at Wikimedia Commons
• Crypto News – a news outlet about cryptocurrencies and bitcoin

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