What is a 'Cryptocurrency'

A cryptocurrency is a digital or virtual currency that uses cryptography for security. A cryptocurrency is difficult to counterfeit because of this security feature. A defining feature of a cryptocurrency, and arguably its most endearing allure, is its organic nature; it is not issued by any central authority, rendering it theoretically immune to government interference or manipulation.

BREAKING DOWN 'Cryptocurrency'

The first cryptocurrency to capture the public imagination was Bitcoin, which was launched in 2009 by an individual or group known under the pseudonym Satoshi Nakamoto. As of May 2018, there were over 17 million bitcoins in circulation with a total market value of over $140 billion. Bitcoin's success has spawned a number of competing cryptocurrencies, such as Litecoin, Namecoin and PPCoin.

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Cryptocurrency Benefits and Drawbacks

Cryptocurrencies make it easier to transfer funds between two parties in a transaction; these transfers are facilitated through the use of public and private keys for security purposes. These fund transfers are done with minimal processing fees, allowing users to avoid the steep fees charged by most banks and financial institutions for wire transfers.

Central to the appeal and function of Bitcoin is the blockchain technology it uses to store an online ledger of all the transactions that have ever been conducted using bitcoins, providing a data structure for this ledger that is exposed to a limited threat from hackers and can be copied across all computers running Bitcoin software. Every new block generated must be verified by the ledgers of each user on the market, making it almost impossible to forge transaction histories. Many experts see this blockchain as having important uses in technologies, such as online voting and crowdfunding, and major financial institutions such as JP Morgan Chase see potential in cryptocurrencies to lower transaction costs by making payment processing more efficient.

However, because cryptocurrencies are virtual and do not have a central repository, a digital cryptocurrency balance can be wiped out by a computer crash if a backup copy of the holdings does not exist. Since prices are based on supply and demand, the rate at which a cryptocurrency can be exchanged for another currency can fluctuate widely.

The anonymous nature of cryptocurrency transactions makes them well-suited for a host of nefarious activities, such as money laundering and tax evasion. However, cryptocurrency advocates often value the anonymity highly. Cryptocurrencies are also considered by some economists to be a short-lived fad or speculative bubble - concerned especially that the currency units, such as Bitcoins, are not rooted in any material goods. Bitcoin has indeed experienced some rapid surges and collapses in value.

Cryptocurrencies are not immune to the threat of hacking. In Bitcoin's short history, the company has been subject to over 40 thefts, including a few that exceeded $1 million in value. Still, many observers look at cryptocurrencies as hope that a currency can exist that preserves value, facilitates exchange, is more transportable than hard metals, and is outside the influence of central banks and governments.

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