There were many attempts to create a digital currency during the technology boom of the 1990s, with systems such as Flows, Beans and DigiCash appearing on the market but ultimately failing. There were many, many reasons for its failure, such as fraud, financial problems, and even friction between company employees and their superiors.
It is worth noting that all of these systems used a trusted third-party approach, which means that the companies behind them have validated and facilitated the transactions. Because of these firms’ failures, the creation of a digital cash system was seen as a hopeless situation for a long time.
Then, in early 2009, an unknown programmer or a group of programmers under the alias “Satoshi Nakamoto” introduced Bitcoin. Satoshi described it as a “peer-to-peer electronic cash system”. It is a completely decentralized system, meaning that there are no servers involved and no central authority controlling. The concept is closely analogous to peer-to-peer file sharing networks.
However, one of the most important problems that any payment network has to solve is double spending. It is a fraudulent method of spending the same amount twice. The traditional solution was a trusted third party – a central server – that kept records of balances and transactions. However, this method always involves an authority that basically controls the funds and has all the personal details.
But in a decentralized network like Bitcoin, every participant needs to do the job. This is done via “blockchain” technology – a public ledger of all transactions that take place at any time within the network, which is available to everyone. Therefore, everyone in the network can see the balance of each account.
Each transaction is a file consisting of the sender and recipient public keys (wallet addresses) and the amount of money transferred. The transaction must also be signed by the sender with the private key. All this is simply basic encryption. Ultimately, the transaction is broadcast on the network, but it needs confirmation first.
Within a digital currency network, only miners can confirm transactions by solving a cryptocurrency puzzle. They take transactions, mark them as legitimate, and spread them across the network. Then, each node of the network adds it to its own database. Once the transaction is confirmed, it is fraudulent and irreversible and the miner gets a reward, in addition to a transaction fee.
Basically, any digital currency network is based on the absolute consensus of all participants regarding the legitimacy of balances and transactions. If the network nodes differ on one balance, the system will essentially break. However, there are many rules that have been pre-programmed and built into the network that prevent this from happening.
Digital currencies are also called cryptocurrencies because the process of preserving the consensus is guaranteed by strong encryption. This, combined with the aforementioned factors, makes third-parties and blind trust as a concept completely redundant.
The most popular digital currencies
Bitcoin – the first digital currency that started it all.
Ethereum – a near-complete, programmable coin that allows developers to build various distributed applications and technologies that will not work with Bitcoin.
Ripple – unlike most cryptocurrencies, it does not use blockchain in order to come to consensus on a large scale for transactions. Instead, an iterative consensus process is implemented, which makes it faster than Bitcoin but also makes it vulnerable to hacking attacks.
Bitcoin Cash – is an outgrowth of Bitcoin fork and is backed by the largest Bitcoin miner and ASIC chip maker for Bitcoin mining. And in just two months in existence, it actually rose to the top of the five cryptocurrencies by market value.
NIM – unlike most other cryptocurrencies that use the proof-of-work algorithm, it uses Proof of Significance, which requires users to actually own certain amounts of coins in order to be able to acquire new coins. It encourages users to spend their money and track transactions to determine how important a particular user is to the NIM Network in general.
Litecoin – a digital currency created with the intention to be “digital silver” compared to describing Bitcoin as “digital gold” and is also a bitcoin fork out, but unlike its predecessor, it can generate blocks four times faster and has four times the maximum number of coins with 84 Million.
IOTA – The advanced ledger technology for this digital currency is called a “Tangle” and it obligates the sender in any transaction to make proof of work that accepts two transactions. Thus, IOTA removed the dedicated miners from the process.
Neo – is a smart contract network that allows all kinds of financial contracts and distributed third-party applications to be developed on top of it. It has many of the same goals as Ethereum, but has been developed in China, which may give it some advantages due to an improved relationship with Chinese regulators and local companies.
Dash – is a two-tier network. The first level is the miners who work to secure the network and record the transactions, while the second level consists of “master nodes” that relay transactions and enable transactions of the type “instant send” and “private send”. The former is much faster than Bitcoin, while the latter is completely anonymous.
Reticulum – A merger of Bitcoin and Ethereum technologies targeting business applications. The network prides itself on having Bitcoin reliability, while allowing the use of smart contracts and distributed applications, much like it is within the Ethereum network.
Monero – a digital currency with private transaction capabilities and one of the most active societies, due to its openness and privacy-focused advantages.
Ethereum Classic – original copy of Ethereum. The split occurred after a decentralized autonomous organization built on the basis of the original Ethereum network was taken over.
Many people believe that digital currencies are the most important investment opportunity currently available. In fact, there are many stories of people becoming millionaires through their Bitcoin investments. Bitcoin is the most premium digital currency to date, and until last year only one bitcoin had a value of $ 800. In November 2017, the price of one Bitcoin exceeded $ 7,000.
While Ethereum, which is probably the second most valuable digital currency, recorded the fastest rise in any digital currency ever. Since May 2016, its value has increased by at least 2,700 percent. And when it comes to all digital currencies combined, the market capitalization has increased by more than 10,000 percent since mid-2013.
However, it should be noted that cryptocurrencies are high-risk investments. The market value fluctuates as it does with any other asset. Moreover, it is partially unregulated, and there is always a risk of being criminalized in some jurisdictions and any cryptocurrency exchange can be hacked.
If you decide to invest in digital currencies, it is clear that Bitcoin is still dominant. However, in 2017, its share of the cryptocurrency market fell dramatically from 90 percent to only 40 percent. There are many options currently available, with some currencies focusing on privacy, others being less open and decentralized than Bitcoin and some just copying that.
And while it is very easy to buy Bitcoin – there are many exchanges out there that trade Bitcoin – other digital currencies cannot be obtained as easily. Although this situation is slowly improving with the start of major exchanges such as “Kraken”, “Bitfinex”, “Bitstamp” and many others, in the sale of Litecoin, Ethereum, Monero, Ripple and others. There are also a few different other ways of being a currency, for example, you can trade face-to-face with sellers or use Bitcoin ATMs.
Once you buy your digital currency, you need a way to store it. All major exchanges offer wallet services. But, while it may seem appropriate, it is still better if you store your assets in an offline wallet on your hard drive, or even invest in an e-wallet. This is the most secure way to store your coins while allowing you complete control over your assets.
As with any other investment, you need to pay close attention to the cryptocurrency market value and any news related to it. CoinMarketCap is the easiest solution to track prices, volume, trade supply and market value of most existing digital currencies.
Depending on the jurisdiction in which you live, once you achieve profits or lose your investment in cryptocurrencies, you may need to include it in your tax return. In terms of taxation, digital currencies are treated very differently from country to country. In the United States, the Internal Revenue Service has ruled that Bitcoin and other digital currencies should be taxed as property and not as currency. For investors, this means that the long-term gains and losses accumulated from trading the digital currency are taxed at each investor’s capital gain rate, which is a maximum of 15%.