Cryptocurrencies, like Bitcoin, have soared from fringe interests of tech evangelists to trillion-dollar technologies with the potential to disrupt global finance. They’re now held as investments, used as currencies to buy a wide range of goods and services, and even traded for illegal drugs.
At the core of cryptocurrency is blockchain, a decentralized public ledger that records transactions and verifies their validity. It is updated simultaneously by all participants and cannot be tampered with or forged. In addition, the total number of a currency’s coins is limited by design, making it less susceptible to inflation.
To verify a transaction, a cryptography algorithm generates a hash code. This hash is then added to the blockchain and is checked by other miners to confirm that the transaction has been successfully processed. In return for this work, miners are awarded with a unit of the currency. As the hashcodes become more complex, the mining process requires specialized computers and can be expensive to operate. It also uses a lot of energy, which has generated backlash among those who see it as a frivolous use of energy in the midst of climate emergency.
As an investment, cryptocurrencies have seen wild swings in value, much like stocks and other high-risk assets. Some investors buy them solely as an investment, while others hold them as a way to send money overseas or pay for goods and services. Some people have been scammed, and experts warn that if you are not careful, you could lose your entire investment.
Cryptos can be exchanged at brokerages or “exchanges” that accept several different types of payments, including credit and debit cards. The exchanges themselves may be subject to cyber attacks, and your cryptocurrency can disappear if you lose your login credentials. It’s also not as easy to convert them back into cash, and you’ll likely have to pay a fee.
Despite the high risks, many experts believe that cryptocurrencies are part of a new, more decentralized way to organize financial markets. They have advantages over traditional, centralized forms of money that are vulnerable to government manipulation and can be inflated by speculation. They can also be used to pay for goods and services without revealing personal information, which is especially valuable in parts of the world where these are restricted or banned by governments.
But a number of regulatory issues still exist, and the industry remains a “Wild West” for many investors. Regulators are slowly beginning to craft rules for the emerging sector, but it will be challenging for lawmakers to balance the need to protect consumers from traditional finance-related risks with the need to foster innovation. Until these problems are addressed, investors should take care to fully understand the risks before taking the plunge.