A Primer on Cryptocurrencies

By Amir K

The purpose of this article is to briefly delve into the exploding topic of cryptocurrencies – specifically the financial and economic facets of this market. If you are new to crypto – we hope this is an interesting primer that encourages you to learn more, and if you are not – we hope you find this an insightful refresher nonetheless. We will also briefly look at how the coronavirus has impacted this asset class.

Supply

Like most assets, the price of cryptocurrencies is directly impacted by supply and demand, but since cryptocurrencies are fundamentally virtual and digital currencies, their supply must be somewhat artificially controlled to induce scarcity and by extension, value.

This is most commonly done in two ways: by “pre-mining” all existing digital coins so that naturally there are fewer coins with time as they become scarcer, or by increasing the “difficulty” of obtaining/mining these coins – meaning that with time computing efforts to obtain coins are rewarded less and less, making the coins harder to obtain.

Following this principle, it means that with time the supply of a coin such as Bitcoin will eventually deplete to zero. This revolutionary concept of “scalable” growth was first conceptualized by Satoshi Nakamoto – the famous anonymous inventor of Bitcoin.

Note: Mining is the process of generating these coins with computing power, most commonly by solving a difficult mathematical puzzle for which the solver gets rewarded with some fractional amount of the coin – akin to mining for gold.

Demand

Demand is driven by several factors – the stage of adoption, ease of access, potential applications/utility being some of the important few, and just recently, the surge in speculative hysteria. These factors are heavily reliant on each other: consider the fact that Bitcoin was invented in 2008 – an era in where smartphones and high-speed internet were not as ubiquitous in everyday life as they are today.

With their proliferation, however, digital wallets holding crypto have become easier to use and maintain, and thus the ease of access and utility of cryptocurrencies has improved. This has moved the market along its stage of adoption, driving up its demand and potential use-cases.

Ease of access and potential applications have also been influenced by the fact that we see crypto ATMs and online exchanges offering crypto at every corner, with companies recognising the utility and security of conducting business on the blockchain (an irrefutable mechanism that acts akin to a ledger securely recording every global transaction done with the coin).

Blockchain is sometimes implemented with the help of “smart” contracts (programmable contracts that guarantee payout independent of environmental and human factors). This is more appealing than contracts in which some party can go to court or argue whether it is obligated to pay, given that the contract is set in stone (code) and is nonnegotiable once agreed upon. Considering that the field in its baby stages, we are yet to see many ground-breaking developments that are sure to bring about new financial and business applications. Developments and the conceptualization of smart contracts have mostly been pioneered with the Ethereum cryptocurrency – if this has piqued your interest, we encourage you to learn more about it.

Speculation and Impact of COVID-19

Speculation deserves its own discussion, considering it is such a crucial factor in driving both the growth of the market and because it is relevant in the current uncertain economic climate. The consistent exponential increase in the capitalization of the market are linked with speculation that the coins are “sky-rocketing” or “devastatingly crashing” in the media and this trend generally comes in waves every couple of years as the prices of most coins subsequently wax and wane, especially if they are the ones extensively covered in the media.

As a rule of thumb, however, the price trend of Bitcoin generally also drives trends in the entire market since Bitcoin makes up by far the largest portion of the market. Through each cycle of exponential growth, it seems more extreme than the prior as more people find out about the phenomenon, and of course this raises the question of whether this market is simply in a bubble and whether it has any actual utility – especially considering it bears so many similarities to the dot-com environment of the late 90s  – early 2000s.

Most experts think that cryptocurrencies will go through a somewhat similar lifecycle to the dot-coms: an initial bubble-like surge which will follow a crash whereby the key cryptocurrencies will survive and thrive in later years. Bitcoin could potentially behave like amazon.com in this analogy – one of the biggest successes of the dot-com era.

One of the key reasons crypto has appeal is because initially, most were conceived to be stores of value in times of political and economic uncertainty as deflationary assets people could safely store their savings with.

This has certainly been put to the test, and the global populace is yet to see whether this principle will hold. Considering that in the months of February and March alone, crypto has had substantial setbacks and surges with COVID-19 affecting both it and the global economy. Articles and experts’ opinions have since rushed to call it both a “worthless” market and as “a safe haven” in times of uncertainty such as these, but the truth is it is still too early to tell… so we encourage you to keep a close and keen eye, sharing our curiosity as this novel market evolves.


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