How Cryptocurrency Works For Beginners: Everything You Need to Know About the Blockchain Economy

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Over the past decade, cryptocurrency has grown to become a thing. Chances are high, you have encountered the word several times.

However much you could have given it a deaf ear, cryptocurrency is here to stay (at least till the near future). You might be curious to know, “What is cryptocurrency?” or maybe you a big fan of the digital economy.

Whether you’re a casual internet surfer, or a crypto-researcher seeking to get more knowledge on cryptocurrency, this article is the right resource for you.

As you read on, you will learn different concepts related to cryptocurrency, and at the end, you would be right to conclude that you have a remarkable repertoire of knowledge on cryptocurrency.

 

What is Cryptocurrency and How Does it Work?

Cryptocurrency is a digital or virtual currency that works on the Blockchain technology. The Blockchain technology is built around blocks.

A blockchain network is made up of nodes. A node is a single computer or computing entity on the network that participates fundamentally through the digital transactions.

The Blockchain system is decentralised. All nodes carry equal fundamental power on the system. There is no central governing entity.

The Blockchain uses special nodes called miners who are responsible for addition of blocks in the ledger.

Miners are a few nodes on the Blockchain that do computational work to find the random key that is used once, to ‘open up’ the ledger to allow insertion of a new block on the chain.

A block carries transactional information.

When a node intends to make a transaction, they communicate this intention to the community. The community can verify the feasibility and validity of this transaction because of the transparency in the system.

Everyone can see whether this node actually has the money required to make the transaction. The miner validates this transaction.

The first miner to figure out the key announces this key to the community and earns the miner’s token.

Fundamentally, the Blockchain was invented with the purpose of facilitating decentralised transaction while providing transparency whereby all transactions are seen by all nodes in the community and integrity through restricting unauthorised alteration of the data of the network.

 

What Does Decentralisation Mean in Cryptocurrency?

Cryptocurrency is a decentralized currency. This means it is free from control by an external authority.

The conventional currency system in the current monetary economy is built on a centralised basis.

Money is controlled and the economy is managed by centralised systems. In this context, if you want to make a transaction like a money transfer, you need a third party like a bank to handle your transaction.

Digital money transfers, on the other hand, are done without the intervention of a third party. This gives you the benefits of timeliness, freedom from transfer charges and low risk of the transaction failing.

 

What is a Ledger in Cryptocurrency?

Cryptocurrency is founded on the Blockchain technology. Blockchain uses digital ledgers to record transactions in a chronological order of occurrence.

These ledgers are possessed by everyone on the network. Data is stored on every node on the system.

This safeguards the data from manipulative changes by any single entity. A transaction is verified by every node on the system.

 

What is a Simple Explanation of Cryptocurrency?

Cryptocurrency is digital currency that uses the Blockchain technology whereby transactions can be carried out by anyone on the system as connected with an internet connection.

The “crypto” in the term “cryptocurrency” denotes the cryptography technology used to encrypt data in the Blockchain technology.

 

What is Hashgraph?

The Hedera-Hashgraph technology is an alternative and improvement of the Blockchain. Hashgraph is patented.

This means it is currently not available for free use by the public domain. The Hashgraph uses gossip-about-gossip model to classify transactions done on the network and organise them chronologically.

 

What is Bitcoin Mining?

Blockchain miners use computational power to mine the key. The first bitcoin miner to get this key and announce it receives the mining token and adds the block to the ledger.

The miner then avails this key to all the nodes and they use it to update their ledger copies by adding the block to their ledger.

This mining process is what is popularly referred to as Bitcoin mining. Bitcoin mining is one of the ways of making money in the cryptocurrency system.

If you possess computational knowledge, you can become a bitcoin miner and earn the tokens after accomplishing the block addition task.

Bitcoin mining is also the process through which new bitcoins are made. It also serves to put Bitcoin into circulation.

 

What is Blockchain Security?

Blockchain security is the maintenance of the integrity of the Blockchain system and the safeguarding of the data on the network from hackers and other malicious software.

 

How is Blockchain Security Maintained?

a) Few miners

Blockchain security is maintained through the use of just a few miners to approve transactions. This means that the ledger cannot be edited by everyone on the network.

This duty is done by miners, who use computational power figure out a random key before a new block can be added on the network.

 

b) Consensus

Additionally, Blockchain security is maintained through consensus. Consensus is used in a way that before a node is added, all nodes must agree to this.

 

Differences between Hashgraph and Blockchain

These differences are the same as the reasons why Hashgraph is better than Blockchain.

a) Algorithm Vs Miners

Hashgraph, unlike Blockchain is entirely algorithm-based. With Hashgraph, there is no need for miners because this duty is carried out by the algorithm.

 

b) Speed of transaction

Hashgraph is faster than Blockchain. More transactions can be carried out per second in Hashgraph than in Blockchain.

Hashgraph is cheaper and faster than Blockchain because the work done by the Hashgraph algorithm helps to by pass the necessity of figuring out the key to use in updating transactions.

 

c) Environmental Friendliness

Hasgraph is more environmentally friendly because less energy is used in making a Hashgraph transaction than that of Blockchain.

Blockchain requires use of many computers in a mining centre. Sometimes the energy used in making a single Blockchain transaction is enough to power a large city.

This wastage is reduced in Hashgraph.

 

What is the Purpose of Cryptocurrency?

Cryptocurrency aims to solve the current problems in the monetary economy. There are a number of advantages of cryptocurrency over the traditional monetary system as discussed below;

a) Freedom from centralisation.

Centralisation refers to the fact that money in the current monetary economy is controlled by a third party.

Centralisation in the economy has resultant disadvantages it presents to stakeholders especially you and I, the people who make transactions.

In this setting, we have to rely on third-party central authorities as entities to mediate our transactions.

The transactions you make are subject to the inadequacies in the system of the third party entity. For example, if you are using a certain bank, you may encounter a few glitches because you are using their service.

Cryptocurrency aims to solve centralisation problems by founding the financial system on decentralisation.

This makes it possible for transactions to be carried out directly without use of any agent. You transfer the cryptocurrency directly to your recipient as long as you’re both on the network.

 

b) Lower transaction costs

The costs incurred in making a transaction mediated by a third party tend to be overwhelming. Funnily, sometimes the transaction costs are way higher than or are a large percentage of the transaction amount.

Cryptocurrency eliminates this because the decentralised foundation removes the necessity for you to pay any third party.

There is no middle agent or long procedures that will force you to incur extra costs. You send the money directly. Thus, there are little or no transaction costs when using cryptocurrency.

 

Types of Cryptocurrency and their Functions.

Below is the classification of different altcoins under the five main functions of Cryptocurrency. An altcoin is literally a bitcoin alternative.

It is an alternative digital currency that is just like the popular bitcoin.

a) Currency

One of the uses of cryptocurrency is as a medium for making purchases. Several businesses accept bitcoin as ‘money’.

The world is getting more and more digital, the economy is also shifting towards the same direction.

The digital economy is an entire economy of its own where you can pay, exchange money, take out loans, just like in the traditional economy. Examples of digital currency include Bitcoin, Dogecoin and Litecoin.

 

b) Stablecoin

Stablecoins are a type of digital currency that are made stable by being tagged to a reserve that is; a fiat, a cryptocurrency or a stable commodity.

Examples of Stablecoins are Tether, USDC and DAI. All these three cryptocurrencies are backed by the U.S. dollar.

 

Cryptocurrencies that use Proof of Stake.

Proof of Stake is one of the mechanisms by which transactions are validated on the Blockchain technology. Another mechanism is Proof of Work.

 

What is Proof of Stake (PoS)?

Proof of Stake is the transaction validation protocol in the digital economy that involves use of randomly chosen validators that have staked their coins before being chosen to validate digital transactions.

The more coins an aspiring validator stakes, the higher the chances they stand to be chosen as the one to validate the transaction.

This is based on the reasoning that if a validator stakes a high amount of their digital assets to take on the validation task, they’ll feel the pressure to do it well and above all only validate genuine transactions so as not to lose their staked assets.

 

How does Proof of Stake work?

If a node is chosen as the validator of a block, this node checks and verifies that all the transactions within it are authentic.

After all checks are done, the validator adds the block to the ledger. A block is a single transaction in a blockchain ledger.

A block contains its own data, its own hash and a hash of the block before it. Proof of Stake works in a way that if the validator approves of a fraudulent transaction, they lose a percentage of the coins they gave up into the staking pool.

If the transaction is fine and non-fraudulent, the validator is awarded the transaction fees associated with the transaction.

Proof of Stake mechanism is an alternative to the initial Proof of Work mechanism.

 

The difference between Proof of Stake and Proof of Work.

The difference between Proof of Stake and Proof of Work (PoW) is that Proof of Stake uses randomly-chosen validators that stake their digital assets to qualify for the assignment while Proof of Work involves competitive mining of a nonce by a few nodes on the Blockchain network.

 

Advantages of Proof of Stake over Proof of Work?

a) Greener currency system

The advantage of Proof of Stake over Proof of Work is that Proof of Stake does not use many nodes to do the validation of transactions.

Transactions are validated by one validator unlike the many competitive miners who do Blockchain mining in Proof of Work.

This makes Proof of Stake relatively more energy-saving making the digital currency system that uses it to be a better green energy.

 

b) More Reliability

Proof of Stake is also more reliable because the stake of coins to the staking pool is an incentive to the validator to make sure that they make correct validations lest they lose their coins after approving of fraudulent transactions.

 

c) The Mining Pool Risk

Under Proof of Work, there is a risk of miners contriving and creating a mining pool giving them undue control over the network.

A bitcoin mining pool is a group of bitcoin miners who come together under one entity whereby the lump sum has much power and thus can exert control over the system.

This could lead to approval of fraudulent transactions and compromises the integrity and security of the system.

 

d) Effort Conservation.

Proof of Work entails wastage of efforts. After the nonce has been mined by one of the miners, the efforts of the rest of the miners are not acknowledged, not the mention, wasted. Proof of stake eliminates this problem.

 

The Advantage of Proof of Work over Proof of Stake

The advantage of Proof of Work over Proof of Stake is that Proof of Work does not create the financial bias for validators as in Proof of Stake where the aspirant validator who stakes the highest amount of cryptocurrency stands a higher chance of turning out to be the validator of this particular transaction.

Examples of cryptocurrencies that are using the Proof of Stake mechanism are Ether, Solana, Cardano, Peercoin, Lisk and Nxt.

 

Decentralised Finance (DeFi)

Decentralised Finance is a digital sector that uses public Blockchains and Crypto assets to disrupt traditional finance systems.

Decentralization, unlike centralisation, has no reliance on third party central entities for transaction approval and processing.

Examples of applications based on the DeFi model are Uniswap, a cryptocurrency exchange platform which is based on the decentralisation protocol, ChainLink and Aave.

 

Non-Fungible Tokens (NFTs)

What are Non-Fungible Tokens?

NFTs are non-transferable and unique digital tokens that you can use to secure your digital assets from duplicated ownership. For example, you can buy NFTs for your artwork set to be used for an online exhibition where there is risk of someone replicating and ‘stealing’ your content.

NFTs are used to secure personal digital material by tagging unique identification on it. An example are academic documents uploaded online. Each individual’s academic documents can be secured by unique identification through the help of Non-Fungible Tokens.

These tokens cannot be transferred and belong to the owner who has purchased them initially.

NFT technology creates a Blockchain-based digital certificate for your digital belongings.

An example of NFT is CryptoPunks.

NFT technology is invaluable in the digital arts sector. It is a remarkable solution to risks of art plagiarism and gives online customers confidence that the work they’re buying is original.

 

Is Cryptocurrency Safe?

The answer to the question of the safety of cryptocurrency is a subjective one. You should make your inference that leads you to this answer from the following information.

Cryptocurrency is governed on a digital basis and the technology that powers it is based on algorithms. What if an algorithm shuts down completely? What if an algorithm gets faulty? Well, one could say that those are wild thoughts, but they’re not far from the possibility of occurrence. They’re not far-fetched from another universe.

The question of the reliability of any system probes deep into the foundational principle on which it is built. How reliable are the algorithms? Isn’t there a way of manipulating the algorithm by a controlling entity?

Is the decentralised system completely free from any supremacy of control?

There are obviously functions that are unique to the cryptocurrency system, like the function of Non-Fungible Tokens.

However, some economists argue that cryptocurrency is nothing more than an exchange of virtual coins that are not that necessary given the current relatively efficient economic systems and institutions.

The conclusion is yours to make. Cryptocurrency is nonetheless a lucrative venture.

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