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What is a cryptocurrency and how does it work?

Cryptocurrency is decentralized digital money that is based on blockchain technology and secured by cryptography. To understand cryptocurrency, one needs to first understand three terminologies – blockchain, decentralization, and cryptography.

In simple words, blockchain in the context of cryptocurrency is a digital ledger whose access is distributed among authorized users. This ledger records transactions related to a range of assets, like money, a house, or even intellectual property.

Cryptocurrency – meaning and definition

Cryptocurrency, sometimes called crypto-currency or crypto, is any form of currency that exists digitally or virtually and uses cryptography to secure transactions. Cryptocurrencies don’t have a central issuing or regulating authority, instead using a decentralized system to record transactions and issue new units.

What is cryptocurrency?

A cryptocurrency is a digital form of currency that uses cryptography to secure the processes involved in generating units, conducting transactions, and verifying the exchange of currency ownership.

Most modern currency is often referred to as “fiat” currency, which is regulated and produced by a government entity. The U.S. dollar, for example, is a fiat currency. In contrast, cryptocurrency is not issued by any government authority. It is typically not directly managed by a single authority but rather works in a distributed consensus approach.

Cryptocurrency gains its name from the combination of “cryptography” and “currency.” At the heart of all cryptocurrencies is a cryptographic algorithm with complicated encryption. Cryptocurrency is created by solving a piece of a cryptographic hashing algorithm in a long chain. It is not a physical unit, like a coin or a dollar bill, but rather a mathematical computation. Cryptocurrency assets are often stored in a digital wallet that keeps track of the cryptocurrency.

A decentralized, distributed ledger monitors all cryptocurrency transactions around the world. In the case of the popular cryptocurrency Bitcoin, the distributed ledger is what is known as a blockchain, which is a digital system that keeps track of cryptographic hash blocks.

How Does Cryptocurrency Work?

Cryptocurrencies run on a distributed public ledger called blockchain, a record of all transactions updated and held by currency holders.

Units of cryptocurrency are created through a process called mining, which involves using computer power to solve complicated mathematical problems that generate coins. Users can also buy the currencies from brokers, then store and spend them using cryptographic wallets.

If you own cryptocurrency, you don’t own anything tangible. What you own is a key that allows you to move a record or a unit of measure from one person to another without a trusted third party.

1. Mining

Cryptocurrencies (which are completely digital) are generated through a process called “mining”. This is a complex process. Basically, miners are required to solve certain mathematical puzzles over specially equipped computer systems to be rewarded with bitcoins in exchange.

In an ideal world, it would take a person just 10 minutes to mine one bitcoin, but in reality, the process takes an estimated 30 days.

2. Buying, selling and storing

Users today can buy cryptocurrencies from central exchanges, brokers, and individual currency owners or sell them to them. Exchanges or platforms like Coinbase are the easiest ways to buy or sell cryptocurrencies.

Once bought, cryptocurrencies can be stored in digital wallets. Digital wallets can be “hot” or “cold”. Hot means the wallet is connected to the internet, which makes it easy to transact, but vulnerable to thefts and fraud. Cold storage, on the other hand, is safer but makes it harder to transact.

3. Transacting or investing

Cryptocurrencies like Bitcoins can be easily transferred from one digital wallet to another, using only a smartphone.

Once you own them, your choices are to:

a) use them to buy goods or services

b) trade in them

c) exchange them for cash

If you are using Bitcoin for purchases, the easiest way to do that is through debit-card-type transactions. You can also use these debit cards to withdraw cash, just like at an ATM. Converting cryptocurrency to cash is also possible using banking accounts or peer-to-peer transactions.

What are the different types of cryptocurrency?

There are many different types of cryptocurrency, much in the same way that there are many different fiat currencies issued by global governments. While Bitcoin is arguably the best known, many other cryptocurrencies have emerged over the years. These include the internet-popular Dogecoin and Ethereum. The following is a breakdown of popular cryptocurrencies:

There are thousands of cryptocurrencies. Some of the best-known include:

Bitcoin:

Founded in 2009, Bitcoin was the first cryptocurrency and is still the most commonly traded. The currency was developed by Satoshi Nakamoto – widely believed to be a pseudonym for an individual or group of people whose precise identity remains unknown.

Ethereum:

Developed in 2015, Ethereum is a blockchain platform with its own cryptocurrency, called Ether (ETH) or Ethereum. It is the most popular cryptocurrency after Bitcoin.

Litecoin:

This currency is most similar to bitcoin but has moved more quickly to develop new innovations, including faster payments and processes to allow more transactions.

Ripple:

Ripple is a distributed ledger system that was founded in 2012. Ripple can be used to track different kinds of transactions, not just cryptocurrency. The company behind it has worked with various banks and financial institutions.