What is cryptocurrency in simple words
Today even children can use traditional money, but not everyone can explain what a cryptocurrency is in simple words.
What is a cryptocurrency?
Cryptocurrency is a unit of accounting for transactions within a decentralized payment system. We are accustomed to transfer money, make purchases or sales with the help of banks. They are centralized, that is, information about all transactions is in one hand. The fact of transferring money from one account to another is confirmed by the bank. This operation cannot be carried out twice or pretend that it did not take place, since the bank is responsible for its confirmation and security. For their work, banks charge commissions from customers and dictate their terms for using financial products.
Cryptocurrency works in a similar way, but there is no one center. Transaction information is stored on thousands of computers around the world. It is combined into blocks, blocks - into chains that are protected by cryptographic keys. This technology is called blockchain. If you change the information in any of the blocks, the entire chain will change.
Cryptocurrency is not controlled by states or central banks. It makes transaction processing independent, transparent to all participants in the network of computers included in the blockchain, and at the same time anonymous. The legal status of these transactions in many countries is due to how the cryptocurrency works. In simple words, we can summarize: cryptocurrency replaces banks and traditional payment systems, taking financial transactions out of the control of states and corporations.
What does it mean to mine cryptocurrency?
Blockchain is formed continuously with the advent of data on new operations. Processing transactions on the blockchain and selecting keys for encryption require computing power and effort. For this work, the people who do it are rewarded. The unit of this reward is the “coin” – bitcoin, litecoin, ethereum or any other. This is an example of how cryptocurrency mining works. In simple words, it can be described as the process of sealing blocks in the blockchain, which supports the existence of the payment system and the cryptocurrency itself. Mining is one of the ways to earn cryptocurrency. You can’t call it simple, we’ll explain in a nutshell why.
Since several computers within the cell are simultaneously calculating the keys, there is competition between them. The reward goes to the one who owns the best equipment and does it faster. Because of this, mining is becoming more and more expensive and energy-intensive, so individuals are less and less engaged in it. Usually people or companies get together and buy a large number of computers. They are connected to the network on a permanent basis in order to perform calculations. This is what a cryptocurrency farm or mining farm is.
The main characteristics are embedded in the very definition of what a cryptocurrency is. In simple terms, there are several key features for dummies:
- Decentralization and lack of control. Information about transactions in the blockchain is stored on a huge number of servers around the world. It is equally available to all participants.
- Anonymity. Despite the openness of information about transactions, users see only each other's wallet numbers (analogue of a bank account number). The owner of the wallet remains unknown.
- Irreversibility of transactions. A record of an operation in a block leads to a change in the entire chain. Therefore, the operation cannot be cancelled.
- Lack of physical form. All images with coins are nothing more than symbols. This means that cryptocurrency is a computer code, it cannot be touched or put in a pocket. And a cryptocurrency wallet is a storage of information online or on a device, that is, it has nothing in common with a familiar wallet.
Despite this, cryptocurrency, like traditional money, has an issue. It can be limited or unlimited. Let's analyze this feature of cryptocurrency in simple words using the example of bitcoin. Its source code states that the total number of coins cannot exceed 21 million. The issue affects the price of the cryptocurrency: if a new portion of coins is issued, the unit value usually falls.
Why do you need a cryptocurrency?
In 2009, humanity learned what bitcoin was, and the cryptocurrency gradually became part of the information field. Today there are thousands of cryptocurrencies. Each of them has its own characteristics and purpose.
- Cryptocurrency, like regular currency, is a payment instrument. It can be used to pay for goods and services. Already today, many companies accept bitcoin and other popular tokens for payment.
- Blockchains allow you to process transactions quickly and without fees. The speeds of many modern cryptocurrencies are close to or exceed those of traditional payment systems, such as VISA and Mastercard. In simple terms, what a cryptocurrency is for can be described as conducting financial transactions quickly, without intermediaries and anonymously.
- Cryptocurrencies appear as tokens of blockchain projects, decentralized finance, applications, games, and so on. It can be both an internal unit of account of such a network, and a way to develop the project itself and attract new resources to it. For example, one of the most popular Ethereum coins (Ethereum) has formed a large network that serves smart contracts.
- Most cryptocurrencies are not pegged to gold or traditional currencies. Their rate fluctuates based on supply and demand in the market. Therefore, coins are highly volatile, and many successfully earn on fluctuations in quotes by selling and buying cryptocurrency on exchanges. Trading is another way to use cryptocurrency.
- Many cryptocurrencies show impressive growth in the long term. The already mentioned bitcoin and ether have grown tens of thousands of times since their inception. Therefore, cryptocurrency is a risky, but very profitable investment tool.
- Cryptocurrency is a unit of account of a decentralized payment system. This payment system is a transaction record that is stored on computers around the world. Data is packed into blocks protected by cryptographic keys and combined into a chain - blockchain.
Cryptocurrency has a number of distinctive features:
- Lack of physical form. In essence, a cryptocurrency is a code, not a banknote, coin or card.
- Decentralization. It cannot be controlled by states or corporations.
- Anonymity. Transaction data is available to all network users, but no one knows the identity of the owners of crypto wallets.
- Irreversibility of transactions. Changing information in one of the blocks changes the entire chain, so it is impossible to cancel the operation.
- Volatility. Most cryptocurrencies are not pegged to traditional (fiat) currencies or gold. Their price is influenced by supply and demand, so the rate can change tens and thousands of times in a very short period of time.
- Cryptocurrency is used as a means of payment, an investment tool, as well as for serving blockchain projects, computer games, metaverses, mobile applications, and so on.
- Cryptocurrency can be obtained through mining, earn on a variety of cryptocurrency platforms (PTC, Faucets, etc.), exchanged for goods and services or fiat money. You can buy cryptocurrency for fiat on exchanges, peer-to-peer platforms and exchangers.