As covered earlier in this course, digital currencies have no physical form but are still able to function as a store-of-value and medium-of-exchange. Cryptocurrencies also fall into this category, in that they too are digital.
So, what then makes cryptocurrencies so different to traditional digital currencies, such as that of the dollar or pound?
Well, fiat currencies are centrally managed by governments and banks, whereas cryptocurrencies rely on decentralisation, connecting owners of the currency directly to one another via use of a decentralised peer-to-peer, or p2p, network.
We'll take a deeper look into decentralised peer-to-peer networks later in this course, but for now, you can think of decentralisation as removing the need for a central party in the creation, value attribution and exchange of digital currencies. Let's break down these three points to better understand what makes cryptocurrencies unique when compared to their fiat counterparts.
Creation: Whereas traditional currencies are created by central governing bodies, such as banks; cryptocurrencies are created by users of their network through mining or validation. We'll cover both mining and validation in more detail in an upcoming lesson.
Value attribution: Fiat currencies have no intrinsic value and instead derive their monetary worth from their issuing government body, taking into account various domestic and geopolitical factors, including but not limited to: government stability and public faith in the currency, government debt, interest rates, inflation rates, exchange rates, terms of trade, and speculation. In addition, fiat currencies hold some common monetary traits in that they are fungible, portable, durable, divisible, secure, transactable and scare.
Cryptocurrencies share these monetary traits, albeit to varying degrees. However, unlike fiat currencies, cryptocurrencies are not influenced by international or domestic politics, as they're not centrally issued or owned by governments. Although, the rise in popularity and adoption of cryptocurrencies has caught the attention of governments, financial institutions and regulating bodies, all of whom are taking an increasing interest in the world of crypto, with some going so far as to launch, or at least consider launching their very own cryptocurrencies.
Exchange: The exchange of traditional currencies for both personal and business purposes is heavily monitored, regulated and monetised by governments and banks. Money transfers can be time-consuming, expensive and come with all sorts of privacy and tax implications. However, due to the peer-to-peer decentralised nature of cryptocurrencies, local and/or international money transfers can be instantaneous, much cheaper than traditional banks, anonymous, and less regulated.
In summary, cryptocurrencies allow individuals to send and receive funds to one another without the need for a central point of governance or trusted third party, theoretically mitigating the risk of fraud and/or corporate greed, that in the past has led to catastrophic economic disasters, such as The Great Recession of 2008.
Cryptography & Blockchains
One further unique differentiator of cryptocurrency is hidden in the name i.e. crypto - short for cryptography. Cryptography refers to the study and practice of techniques used to encrypt and decrypt data so that only those for whom the data is intended can access, read or manipulate it.
Cryptocurrencies employ cryptography to keep an accurate and tamper-free record of one's cryptocurrency accounts e.g. proof-of-ownership of one's cryptocurrency, as well as the entire history of one's cryptocurrency transactions, reside on an encrypted ledger, in the form of an electronic database. This ledger, or database, is distributed amongst all other users of the network, requiring an autonomous majority consensus on the validity of any new transactions, before they are committed to the ledger stored within the blockchain.
And don't worry if that last paragraph was hard to grasp, as we'll learn much more about distributed ledgers, cryptography and blockchains throughout this course.
In their early years, cryptocurrencies were deemed to have no intrinsic or natural value, meaning that they could not be exchanged for other commodities such as gold or silver; however, the laws surrounding cryptocurrencies are forever changing, in fact...
"On March 6, 2018, a US federal judge upheld the notion that cryptocurrencies, such as Bitcoin, are commodities and can, therefore, be regulated by the U.S. Commodity Futures Trading Commission (CFTC)." ~ Forbes
The point to note is that anyone looking to trade in cryptocurrencies should first look to understand relevant local and international laws, as legislation can vary drastically from one region to another.
Coins & Tokens
As you may know, there are two main types of cryptocurrency, coins and tokens. A topic we'll explore in more detail within our upcoming videos.
Bitcoin was the first-ever cryptocurrency, however, its success has given rise to a vast new generation of digital currencies, also referred to as alt-coins. Short for alternative coins alt-coins is a term used to describe any cryptocurrency that is not a Bitcoin.
As of June 2021, there were more than 4000 cryptocurrencies in existence, with the four most popular of these i.e. those with the biggest market cap, being: Bitcoin, Ethereum, Tether and Binance Coin.