Article by Lana Iliev; updated on 20.04.2022
Bitcoin (BTC), Ethereum (ETH), Bitcoin Cash (BCH), Litecoin (LTC), Monero (XMR), IOTA (MIOTA) — cryptocurrencies are ubiquitous in the media. Spectacular success stories and profits that go into the millions if not billions have been reported — but is it advisable to invest in the virtual money and is the digital currencies a new financial instrument? What is a cryptocurrency?
Cryptocurrency is the umbrella term for virtual currencies that can act as a digital means of payment.
No banks are required for the payment transactions. Financial institutions are being replaced by a decentralized network whose participants manage transactions and generate new units of currency. This is made possible by the blockchain technology that underlies every cryptocurrency.
The prefix “crypto” is derived from the term cryptography, which in turn comes from ancient Greek and can be translated as “secret script”. Today, cryptography describes a branch of computer science that deals with the encryption of secret data.
A blockchain (composed of “block” and “chain”) is often referred to as a “collective accounting system”. In blocks of data, it contains encrypted information about any transactions made with a particular cryptocurrency. It acts as a database whose blocks are not located on a central server, but on the computers of the large number of participants it manages.
Anyone can become a participant in this decentralized network and provide computing power to continue the chain of data. This is rewarded by receiving currency units (“coin” or “coin” or “token” or “token”) of the corresponding cryptocurrency. This process is called “mining”.
Once a transaction is fixed in the blockchain, it can no longer be changed by any participant. As a result, it is hedged and individual currency units cannot be used more than once. For this reason, there is no longer a need for established institutions that have always been intermediary in monetary transactions. Why do cryptocurrencies exist?
The goal of the first cryptocurrency Bitcoin was simply to create a payment system that works without financial institutions in order to give consumers a certain degree of informational self-determination and anonymity. As a result, Bitcoin has been used in recent years, among other things, as a means of payment for illegal transactions. Although this circumstance reduced the social acceptance of crypto currencies, the underlying technology has now been expanded and improved. Cryptocurrencies can now be used for much more than just money transactions, as they represent a secure, fast and cost-effective alternative for transferring sensitive data.
In a pilot project, for example, the United Nations World Food Programme is using Ethereum to distribute resources to refugees. The organization issues food coupons via the blockchain and those affected can pay in refugee camps via iris scan. In this way, the financial resources reach the needy directly and corruption is no longer a problem for the organization.
Facebook also wants to introduce its own digital currency with Libra to enable worldwide payments via Facebook, WhatsApp and Instagram. The coupling to a basket of currencies is intended to protect Libra from fluctuations in value. Central banks have so far been skeptical about the plans of the social media giant. Which cryptocurrencies are there?
In 2009, the first and probably best-known cryptocurrency was created: Bitcoin (BTC). Measured by market capitalization, the crypto first makes up the largest share of the virtual currency market to date. Ethereum (ETH) and Binance Coin (BNB) follow as the second and third largest crypto currencies.
Bitcoin and Bitcoin Cash are two different cryptocurrencies.
In total, however, there are now around 5,000 different crypto currencies worldwide and it feels like the number of virtual currencies is growing daily. But why are there so many different currencies in the first place? Improved technology
Initially, the technology has been improved and further developed since the appearance of Bitcoin. This paved the way for currency alternatives that offer many advantages over Bitcoin and have their own focus.
For example, Litecoin is faster than Bitcoin, Ethereum can not only be used to carry out currency transactions, but also to conclude contracts, so-called “smart contracts”, and Ripple is to be used by banks to speed up regular transfers. Bitcoin boom and crypto madness
In addition to technological progress, came the Bitcoin boom. In mid-December 2017, a single Bitcoin was worth nearly $20,000. In the following months, the value fell to the bottomless. At the end of 2018, a Bitcoin was sometimes worth less than $3,000 – that’s an 85% drop in value. By March 2021, the value of a single bitcoin had risen back to over $50,000. The record-breaking assets of the alternative currency make the market particularly interesting for speculation and create incentives to develop more cryptocurrencies and carry out new issues of crypto units.
New ideas, plans and business models for cashless digital currencies are constantly emerging. Whether it’s cryptocurrencies that are diamonds (“Carat”), cryptocurrency given as a reward for good deeds (“Hullcoin”), or a currency that is simply a parody of Bitcoin (“Dogecoin”) — the imagination seems to have no limits. How does a cryptocurrency work as a means of payment?
Buy coffee and toast in the supermarket with Bitcoin, Ethereum & Co.? Although this type of payment has not yet become widespread, it is already possible in principle.
Using cryptocurrencies as a regular payment system is still quite problematic, as there are no fixed exchange rates and rates fluctuate very strongly. In this respect, it is often risky for retailers, for example, to accept crypto currencies. Nevertheless, more and more online shops are offering to settle outstanding invoice amounts with cashless digital currencies. The Coinmap site lists all transactions that accept cryptocurrencies.
So far, however, the virtual currencies have mainly been stored in so-called “wallets”, digital wallets, and secured with private keys in the form of numerical codes.
Only on the basis of the keys can the wallet and the crypto values in it be accessed. If the owner loses the numerical code, he can no longer access his wallet. How can I invest?
Currently, the total market capitalization of all crypto currencies measured in US dollars is over two trillion and where there is so much capital in circulation, money can also be invested. There are various ways in which crypto currencies can be monetized. Currency tradingA cryptocurrency can be traded like fiat money, i.e. a medium of exchange without intrinsic value. Similar to forex trading, fluctuations in exchange rates are used to multiply money. There are no central banks such as the ECB, financial supervisors or government regulations that monitor the money supply and intervene when the market heats up. The spectacular rise in the price of Bitcoin in 2017 turned cryptocurrencies into objects of speculation and attracted numerous gamblers. CryptominingAnother possibility is the mining of cryptocurrencies already mentioned above. In this case, participants of the decentralized crypto network generate new units of a currency that they can then sell profitably. Stock exchangeIn addition, there are various ways to invest indirectly in the digital currencies via the stock exchange. For example, there are Bitcoin futures with which stock market participants can bet on fluctuations in Bitcoin.
Corresponding ETFs (Exchange Traded Funds) are also largely being planned – but so far such a financial product has not been approved by the US Securities and Exchange Commission (SEC). However, in 2020, the world’s first Bitcoin ETF was launched in Brazil and in 2021 another ETF for the Canadian market followed.