Cryptocurrency was invented by Satoshi Nakamoto, a Japanese inventor known for his inventions of bitcoin, and implementing the first ever blockchain. These inventions are more in the areas of digital currencies. He became famous with the two mentioned earlier the most.
However, the topic of cryptocurrencies at first glance seems a bit too difficult. Before we dive into these “bitcoin” and “blockchain” discussions, what are cryptocurrencies? We’re first going to introduce to you where cryptocurrency currently stands when it comes to societal currencies, and exactly how they are positioned in our time today.
When the human society was in its early stages, there was no such thing as money. Back then, people wanting products would have to trade them off with something equivalent to an item they want. This is a process called in most areas a barter trade. In barter trades, transactions would come without currencies. The item itself serves as the actual “currency”.
As time progressed, people started to develop this idea of a currency through coins. This idea of trading wasn’t so ideal because of the thought that people didn’t want to lose items that they owned.
As coins became the currency, it started to become everyone’s language. They all suddenly accepted coins and placed some value over them. They thought that finally, they would not have to trade off their prized possessions in the hopes of getting an equivalent item that they want.
Society then continued to evolve to the point that they established banks. People figured that they could do away with carrying heavy bags of metals and have resorted to an easier form of currency that could live with coins: paper money.
These paper bills basically do the same thing but when we think about it enough, we realize that these papers in itself do not possess any value because they’re made of paper. They only possess value because the banks say it does, and it’s been keeping our economy afloat ever since.
Continuing further, people discovered credit cards. Who knew that there would come a time in human society where transactions are made possible without the exchange of any physical currency: paper bills and coins?
We basically don’t see our money anymore but we know that we have money. A swipe away and we take ownership of an item. When we see something online, one click away sends a pizza guy to our doorstep.
All these examples give a context to where cryptocurrency positions itself today.
To make things seem a lot easier to understand, cryptocurrencies are basically 100% virtual. There are no coins, paper bills, or credit cards. It basically just means a “transfer of digital assets.”
The concept of cryptocurrency is exactly the same as how credit cards, paper bills, and coins work, minus the “physicality” of it all.
This leads us to ask the question: if banks keep and regulate our “money” without us necessarily physically possessing it, what makes cryptocurrency different?
How cryptocurrency works
In cryptocurrency, there are no banks.
How would it work then if important transactions aren’t regulated and stored by these banks?
The thing is, they are still regulated and stored, but not through banks serving as the middleman.
In cryptocurrencies, our “banks” are what we call a “ledger”.
A ledger is basically a spreadsheet of all the transactions done in the entire virtual world of cryptocurrency. Yes, every transaction of cryptocurrency in the world is stored in one big online spreadsheet called a ledger.
This leads us to ask the next question: how does it work then if there are no actual “banks” or “humans” behind it regulating these transactions?
The thing is, in cryptocurrency, the whole bank itself that regulates all the validity and truth-ness in these transactions are the people themselves.
The reason why paper bills, credit cards, and online shopping works even though we don’t think it would in a literal sense (by swiping a card, or by giving away a piece of paper that does not even possess any literal value) is because we have made the meaning of “value” transcend beyond that of its literal capabilities and characteristics.
The banks have become the organizations that determine and regulate the validity of these transactions.
From these banks, we know that a paper bill of one dollar is worth one dollar because of the way we have collectively acknowledged placing to such a bill a value of one dollar.
From these banks, we know that a credit card with one dollar is worth one dollar because of the way we have collectively acknowledged placing such a card a value of one dollar.
Now, in the absence of these banks, cryptocurrencies work because every transaction done in this virtual world is stored in a ledger.
While there is, in the virtual world, only one ledger, there are still millions of copies of this same ledger in the possession of everyone who belongs to the network in a specific cryptocurrency. This is why cryptocurrencies work.
A Cryptocurrency Analogy
Photo from The Spruce Crafts
To make the understanding of the validity of this cryptocurrency easier, let’s put it in an analogy of playing a game of monopoly.
When you play monopoly, the game has what you call “play money”.
These toy paper bills take the place of real money, making it easier for you to keep your monetary credits during the game in check.
But the thing is, it’s still possible to play monopoly without making use of the “play money” that game has provided, right?
By listing every transaction that you do on a piece of paper, we realize that we can still play monopoly without having the need to make use of this toy paper money.
How do we make sure then that the person listing every transaction while we play monopoly without play money is being truthful? How do we know that they aren’t fraudulently fabricating the values and the credits written on the paper to make it look like we have more money than usual?
The solution to that is to make everyone else who is playing the game list every transaction being done by everybody and not just one person.
Through this, we can see that the data that one person inputs can be verifiable by the other data that everyone else writes up. And if there are any discrepancies to one copy made by someone, we can definitely fact-check the credit written by everyone else to validate the truth-ness of the transaction and fix that error written by one person.
This is exactly how ledgers work.
People belonging to one network cannot easily fabricate their cryptocurrency for the reason that there are millions of copies of these ledgers in the hands of other people in the same network.
If you intend to fabricate your cryptocurrency in a way that you want to show that you have a million bitcoins, for example, it will never work because of the millions of other ledgers that will say you don’t possess such a number.
Now, we begin to understand how, in a way, all the people in the network of the same cryptocurrency become the “bank” that regulates the validity of these transactions. A transaction made by one person to the other will send this data of transaction to all the millions of copies of this one whole ledger.
Congratulations! If you have reached this part, you have officially understood what cryptocurrencies are and how they work.
Where do we then spend these cryptocurrencies, and what are bitcoins and blockchains? Stay tuned for our future blogs to know more!