How Does Cryptocurrency Work?

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Over the last several decades, cryptocurrency has experienced a volatile rise to prominence. Some traditional financial institutions are skeptical of cryptocurrency markets, while others see them as the wave of the future. Changpeng Zhao discusses the history of cryptocurrency and other digital assets.


What is Cryptocurrency?

Cryptocurrency is a type of digital asset that people use to conduct online transactions. The term comes from how cryptography aids in the encryption of each transaction and account in a ledger using private keys (a concept called the blockchain). To put it another way, when you exchange cryptocurrencies for goods and services, encryption protects them from outside hacking while also making them traceable on a peer-to-peer electronic cash system.

Unlike traditional fiat currencies, cryptocurrencies have no centralized authority. These decentralized tokens exist on a blockchain, which is hosted by millions of different computers, and derive their value in a distributed manner rather than from the power of a central bank.

To "mine" these coins, a significant amount of computing power is required. Many cryptocurrencies require miners (the people and computers who crack algorithms to obtain more coins) to submit proof of work to ensure the legitimacy of their efforts.


How Does Cryptocurrency Work?

Cryptocurrency functions similarly to a credit card, except that digital assets are exchanged for goods and services rather than US dollars (USD). To conduct a cryptocurrency transaction, you must first exchange currency with a peer using a digital wallet.

You can transfer money from one account to another using these wallets. You must have access to a private key in order to complete a transaction (password). These keys work similarly to bank accounts. The transactions are represented as nodes on a public ledger, with totals displayed without revealing the identities of the parties involved.

The process of verifying transactions with cryptocurrency is known as mining. Mining requires a massive amount of computing power and complicated algorithms, but those who successfully solve problems can earn reward coins, tokens, or transaction fees.


A Brief History of Cryptocurrency

The modern world is being reshaped by digital assets. This cryptocurrency history will help you understand how these new technologies are changing everything:

The emergence of digital currency: In the 1980s and 1990s, ideas about digital currency began to spread. Cryptographer David Chaum (ecash and Digicash), programmer Wei Dai (b-money), and computer engineer Nick Szabo were among the early adopters and supporters of digital currency (bit gold). These prototype efforts struggled to get off the ground. Over the next few decades, open-source software and innovation made it more feasible to lay the groundwork for a truly functional digital currency.

The birth of Bitcoin: Bitcoin's (BTC) history began shortly after the 2008 financial crisis. "Satoshi Nakamoto published the Bitcoin white paper, and in 2009, that was deployed onto a live blockchain [the Genesis Block]," explains Changpeng Zhao, cofounder of one of the world's largest cryptocurrency exchanges. "I believe that triggered the entire Bitcoin, blockchain, crypto, and Web3 industry." It was the first cryptocurrency to gain widespread acceptance.

The emergence of new cryptocurrencies: The Bitcoin network took off in 2010 and is still growing today. While Bitcoin remains the most popular cryptocurrency, many altcoins began to gain popularity in the 2010s as well. Ether (ETH, sponsored by Ethereum blockchain technology), Dogecoin (DOGE), Cardano (ADA), Ripple (XRP), and Litecoin were among them (LTC). These new blocks and coins fluctuate in relation to fiat currencies, but stablecoins are more tightly linked to the value of legal tender.

The rise in cryptocurrency value: In 2010, ten thousand Bitcoin was required to purchase two pizzas—the first real-world transaction involving a cryptocurrency. Many onlookers laughed at the Bitcoin exchange at the time. "That pizza transaction was a watershed moment," Changpeng says. "It got to $1 at some point." 'This is impossible,' people said. This is internet magic money.' And then it went up to $10, then $30, and then there was FOMO... so people rushed in." By the end of the decade, the virtual currency had amassed a market capitalization (or market cap) in the hundreds of billions of dollars.

The evolution of DeFi: Initial coin offerings (ICOs) for cryptocurrencies quickly branched out into a variety of other decentralized finance (DeFi) innovations. People began to experiment with using these online coins in real-world scenarios rather than using intermediaries such as cryptocurrency exchanges. NFTs and smart contracts became new forms of exchange.

Increased business interest: Cryptocurrency transactions were a niche phenomenon until the larger business community became aware of them. "You don't have to be a blockchain developer to participate in the ecosystem anymore," Changpeng says. "You can now be any entrepreneur." Startups began to accept or invest in Bitcoin transactions. Some businesses have begun to hold reserve funds in cryptocurrency. For the first time, credit card companies began to experiment with ways to use cryptocurrency.

Governments' interest: As cryptocurrency usage increased, governments around the world reacted differently. El Salvador, for example, accepts Bitcoin as legal tender, whereas China has imposed a ban on the entire cryptocurrency market. Regulators of the overall financial system are still trying to figure out how to protect consumers on blockchains from scams and hackers.

The market's volatility: While cryptocurrency has experienced years of explosive growth, it has also seen a high level of volatility. For example, the value of Bitcoin skyrocketed to an all-time high before halving in the early 2020s. This is only one application, but the value of Bitcoin is a good indicator of the volatility that other virtual currencies are experiencing during this time.

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