Financial Terms / C - D / Cryptocurrencies

What are cryptocurrencies?

Cryptocurrency is a digital or virtual form of money that uses cryptography for secure transactions. Unlike traditional currencies, it exists only in electronic form and operates independently of central banks or governments. You can use crypto to make payments directly to others through an online system.

Cryptocurrencies run on decentralized networks, often using blockchain technology. This is a distributed ledger that records all transactions across a network of computers. The blockchain ensures transparency and security, making it nearly impossible to counterfeit or double-spend.

When you own cryptocurrency, you don't possess anything tangible. Instead, you have a key that allows you to move a record or unit of measure from one person to another without a trusted third party. You store your crypto in digital wallets and can buy, sell, or trade it on various platforms.

Popular cryptocurrencies include Bitcoin and Ether, but there are many others. Their value is determined by market demand, not by government backing. This means the worth of a cryptocurrency is simply what people are willing to pay for it in the market.

Types of Cryptocurrencies

Cryptocurrencies come in various forms, each with unique features and purposes. The two main categories are coins and tokens.

Coins, like Bitcoin (BTC) and Ether (ETH), run on their own blockchains. Bitcoin, the first and most well-known cryptocurrency, serves as a digital alternative to traditional money. It's often called "digital gold" due to its perceived scarcity and use as a store of value.

Ether, the native currency of the Ethereum blockchain, goes beyond simple value transfer. It powers smart contracts and decentralized applications (DApps), making it the backbone of many innovative projects in the crypto space.

Altcoins refer to any cryptocurrency other than Bitcoin. These include payment tokens, stablecoins, utility tokens, and meme coins. Each type serves a specific purpose:

1. Payment tokens: Used for transactions, like Bitcoin Cash (BCH).
2. Stablecoins: Pegged to stable assets to reduce volatility.
3. Utility tokens: Provide services within a network, like Filecoin.
4. Meme coins: Inspired by internet jokes or trends.

As you explore the world of cryptocurrencies, you'll find a diverse ecosystem with countless options to suit various needs and interests.

How to Buy and Store Cryptocurrency

You can buy crypto through various platforms. Crypto exchanges offer the biggest selection and competitive prices. Popular exchanges include Coinbase, Kraken, and Binance. To start, open an account by providing basic personal information. You'll need to verify your identity with details like your Social Security number and birth date. After completing your profile, fund your account using a credit card, debit card, or bank account information.

To store your crypto, you'll need a wallet. Some exchanges offer digital wallets within their platforms, while others require external wallets. Exchange wallets are easy to use, but external wallets offer more control and security.

There are two main types of wallets:

1. Software wallets (hot wallets): These are connected to the internet and manage your crypto through desktop software, browser extensions, or mobile apps.
2. Hardware wallets (cold wallets): These store your private keys offline on a USB drive or other device, offering enhanced security against electronic theft.

Choose your wallet based on your security preferences and desired accessibility. A mobile app wallet might be more convenient, while a hardware wallet provides better protection for long-term storage.

Risks and Regulations

Cryptocurrencies come with significant risks. Their value can change rapidly, even by the hour. An investment worth thousands today might be worth only hundreds tomorrow. There's no guarantee that values will rise again after a drop.

Scams are a major concern in the crypto world. Common types include:

1. Fake websites mimicking legitimate platforms
2. Phishing attempts targeting wallet information
3. Pump and dump schemes
4. Fraudulent apps on official app stores
5. Fake celebrity endorsements
6. Giveaway scams promising to multiply your crypto
7. Blackmail and extortion attempts
8. Cloud mining scams
9. Fraudulent initial coin offerings (ICOs)

Regulatory focus is increasing as crypto usage grows. In the U.S., state and federal regulators are considering approaches to add clarity. Key issues include chartering, licensing, fraud prevention, and consumer protection.

Internationally, standard-setters like FSB, BCBS, and FATF are looking to apply existing standards to crypto assets. Enforcement is complex, with agencies like DOJ, SEC, and CFTC actively initiating actions within their jurisdictions.

FAQs

What is cryptocurrency and how does it function for beginners?

Cryptocurrency is a form of digital money that operates independently of a central bank. It facilitates purchases and can be held as an investment. Transactions made with cryptocurrencies are verified and recorded on a blockchain, which is a secure, unalterable ledger that maintains a record of asset movements and transactions.

Can you explain cryptocurrency in straightforward terms?

Cryptocurrency is a type of digital or virtual currency that is protected by cryptography, making it almost impossible to counterfeit or fraudulently spend. Most cryptocurrencies operate on decentralized networks based on blockchain technology—a shared ledger that is maintained by a network of multiple computers.

How can owning cryptocurrency generate income?

Owners of some cryptocurrencies can earn passive income through a process known as staking. This involves using your cryptocurrencies to support the operation of a blockchain network by verifying transactions. While staking offers a way to increase your cryptocurrency holdings without additional purchases, it also carries certain risks.

What should everyone know about cryptocurrency?

Cryptocurrency is essentially digital currency created with cryptographic techniques that ensure it acts as both money and a virtual accounting system. This dual function is supported by encryption technologies, making cryptocurrencies a secure method of transaction and record-keeping.