Chances are you’ve heard of cryptocurrency: Bitcoin, Ethereum, and Dogecoin have all become words we hear on the news or read online. But what exactly is cryptocurrency and how does it work?
Cryptocurrency vs Regular Currency
At this point, you should hopefully have some cash in your pocket in the form of dollars, euros or rupees depending on what your country spends as currency. This money is valued by a delicate system controlled in part by governments, as well as by certain market mechanisms that are too complex to get into. However, this article from The Balance serves as a solid introduction.
Cryptocurrency is different and radical. Rather than being physically present – the notes and coins in your pocket – it exists completely digitally, with no government power to back it up. Rather, it relies on free-market mechanisms to determine its value: what people are willing to pay for it determines what it’s worth.
Of course, without a central issuing authority, inflation could become a real problem: anyone can claim to have a thousand or a million cryptobucks at any time, and there’s nothing anyone could do to stop them. If you create your own US dollars, you will be arrested for counterfeiting. If you create cryptocurrency out of thin air, nothing will happen.
The cryptocurrency blockchain
This problem was one of the biggest problems around cryptocurrencies until Satoshi Nakamoto – probably a pseudonym for a person or group, nobody knows for sure except Satoshi – came up with the blockchain. It’s a pretty complicated piece of technology, but the bottom line is that it’s an online ledger that anyone can view, but not everyone can edit.
Just like the ledger that an old-fashioned accountant would keep (for example, that book where Ebenezer Scrooge is bent over is a ledger), the blockchain records how many there are of a particular cryptocurrency and who owns and spends it. It does this in so-called blocks, hence the name ‘blockchain’. Below is an example of a ledger in action.
The ledger keeps track of how much of a particular cryptocurrency has been spent (Bitcoin in the example above), when it was issued and also who issued it. While your identity is protected by a pseudonym (random numbers and letters called a hash) when using most cryptocurrencies, none, with a few exceptions, are truly anonymous. Even Bitcoin is not “anonymous” as many people think it is.
RELATED: How Anonymous Is Bitcoin?
Converting the cryptocurrency into cryptocurrencies
The ledger is only one side of the equation. While it’s really nice to have an overview of the cryptocurrencies going in or out, ledgers are easy to tamper with. You used to use an eraser or a whiteout to make expenses disappear, now you can do much the same with some advanced tools.
One way to protect yourself from these problems is the openness of blockchain technology: if everyone can see what’s going on at any time, it should be easy to quickly find out if something strange is going on. The other way is to harness the power of cryptography, or encrypt the input data and then decrypt it if necessary.
In the case of cryptocurrencies, this is usually done by using passwords to ensure that a user is who they say they are, or rather that their wallet – where cryptocurrencies are stored – is the one they own. Since a wallet username is usually hashed, as we saw earlier, it is important to ensure that users remember their passwords.
There are several examples of people forgetting their password and locking themselves out of their crypto fortune.
Buying and mining cryptocurrencies
With the theory of cryptocurrencies out of the way, let’s see how they work in practice. To get started with cryptocurrencies, you need to go to an exchange like Coinbase or Kraken to buy your cryptocurrency of choice with regular money. We have a guide on how to buy Bitcoin if you want to learn more; the guide also applies to other cryptocurrencies.
There are other ways to get your hands on most cryptocurrencies, namely through what is called mining. However, this is not like waving a pickaxe: instead, a computer checks whether new blocks of existing cryptocurrencies are real or fake. The payment for this service is then in the same currency. It is the only way to release new units of a cryptocurrency and thus the best way to get more of it.
Given the insane amount of computing power required to process the data required to verify the new blocks, there’s a chance that smoke will begin to come out of your custom gaming rig before you’ll even have the equivalent of a few bucks. can mine. So much computing power is needed that mining is no longer the work of enthusiasts, but of entire companies. Even criminal gangs join in and make millions.
Store and spend Bitcoin
Assuming you’ve just bought your desired cryptocurrency, you’ll still need a place to store it: unlike cash, Bitcoin and Ethereum can’t be sewn into your mattress. For this you need a wallet. These come in software and hardware form and can store your specific blockchain information for you.
A software wallet is often provided by exchanges – although you can subscribe to a separate one, the Bitcoin site has a selection – and is simply an online service where Bitcoin can be stored. Many of them have good security, although they are increasingly becoming prey to hackers.
The alternative is a hardware wallet, which is really just a special USB stick that keeps track of the blockchain for you. Examples are Trezor and Ledger. They are quite useful, but again, if you lose or forget your password, your cryptocurrency is gone.
Once you’ve found a wallet, all you need to do is decide what to spend it on. Many online services allow you to pay in cryptocurrency, and it’s quite simple: just click the appropriate buttons and you should be fine. Alternatively, you can just leave it in your wallet and watch its price go up (or drop completely).
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