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How Cryptocurrency Works?

Dec, 2020 - By Tejaswini Kasture

How Cryptocurrency Works?

A cryptocurrency is a digital or virtual currency that is meant to be a medium of exchange that does not have any physical manifestation. Cryptography is used to verify transactions, secure transactions, and to manage the creation of new cryptocurrency units. Cryptocurrency can be defined as a combination of cryptography and currency, as cryptocurrency extensively uses cryptographic programs to secure transactions between users.

Since man evolved, currencies have been a very important part of our lives. Earlier there was a barter system and it involved the exchange of goods and services among individuals. Later the barter system fell out, as it had some glaring flaws such as no common measure of value. Moreover, overcoming the drawbacks of the barter system and after several alterations in currencies, modern currency came into existence. Modern currency includes paper currency, coins, credit cards, debit cards, and digital wallets such as amazon pay, apple pay, among others. All of these are controlled by the banks and government, indicating centralized regulatory authority that delimits how paper currency and credit card works. Due to technical failures or technical issues, online transactions using bank accounts are unsuccessful which is the central point of failure, and the accounts may get hacked by DDOS attack or identity theft. This indicates that the future of currency relies on cryptocurrency.

Cryptocurrency is a digital currency. Cryptography is used to secure transactions, verify transactions, and control the creation of additional units.  Mining is the process used to create units of cryptocurrency.

Cryptocurrency is a virtual currency or digital currency that works as a medium of exchange. In cryptocurrency, there is no limit to the fund transfer, no central point of failure, and cannot be hacked. As of 2018, there are over 1600 cryptocurrencies available. Bitcoin, Litecoin, Ethereum, Z-cash are some of the popular cryptocurrencies. There’s a limit to how many units of cryptocurrency can exist, with bitcoin, this limit exists at 21 million and after this, no more bitcoins can be produced. The hashing algorithm is used by bitcoin that makes it easy for users to determine whether a transaction is valid or not. Cryptocurrency works in a decentralized manner, hence companies or governments cannot produce new units unless certain conditions are met. Some of the features that make cryptocurrency special include no transaction costs, 24*7 access to money, no limits on purchase and withdrawals, can be used by anyone, and faster international transactions are.

Cryptocurrencies are decentralized by a distributed network of devices across the world and these devices are known as nodes, unlike centralized banking systems. Any individual with internet or weak-signal radio access can exchange valuables across continents easily. Comparatively, cryptocurrency has a lower low cost than intercontinental bank transfers and the transactions are irreversible. Whereas, in charge-bank (regular banking transactions), transactions are permitted by credit card companies. The cryptocurrency algorithm network architecture is responsible to the determined management and issuance of cryptocurrency units that are based on cryptographic proofs and programmed algorithms. Protocols define how the cryptocurrency system operates, these can be considered as a pre-defined set of rules. This means transactions take place directly without the need of a third-party intermediary and these cryptocurrencies cannot be controlled by a single entity as they are decentralized. For instance, a Blockchain protocol operates on top of the Internet, on a P2P network of computers that all run the protocol and hold an identical copy of the ledger of transactions, enabling P2P value transactions without a middleman through machine consensus. However, many cryptocurrencies are developed and managed by private foundations and companies, so there are varying degrees of decentralization. For instance, companies such as Binance, Bitcoin.com, Bitpay, Bitstamp, Coindesk, Kraken, Blockstream, Blockchain.com, etc. provide common services such as providing cryptocurrency wallets, bitcoin exchanges, payment service providers, and venture capital. Depending on network structure and node distribution, some cryptocurrencies can be considered more decentralized than others. Blockchain is the core component for most cryptocurrencies. It consists of a linear chain of multiple linked blocks that are cryptographically secured. Each block a list of recent transactions and a reference to the block that came immediately before it. A permanent record of all confirmed transactions, working as a decentralized digital ledger is maintained by Blockchain. Simply, computer files that store transaction data refers to the term block. The Blockchain is termed as these blocks are arranged in a linear sequence that forms an endless chain of blocks. All the data about blockchain transactions are collected, recorded, and stored inside these blocks, and every newly generated block is connected to the previous one through the use of cryptographic techniques. Moreover, this network is highly resistant to modification as this ledger is distributed across all the nodes in the network. A cryptocurrency has a ledger, where all transactions are made public, hence total visibility is provided. A ledger drives an individual to use fair transactions and reduces the risk of double-spending. The ledger maintains a list of entries in a database and cannot be changed. This system is self-governed without the interference of outside parties indicating that nobody owns the cryptocurrency blockchain or ledger.

The first decentralized cryptocurrency ‘Bitcoin’ was created in 2009 by Satoshi Nakamoto. The main idea was to create a decentralized and independent electronic payment system based on mathematical proofs and cryptography. Like most cryptocurrencies, Bitcoin has a limited supply, which means that no more Bitcoins will be generated by the system after the max supply is reached. The smallest unit of bitcoin cryptocurrency is satoshi. This was named after developer Satoshi Nakamoto, the satoshi to bitcoin ratio is 100 million satoshi’s to one bitcoin. According to Jan Lansky, Cryptocurrency meets six states: The overview of cryptocurrency units and their ownership is tracked by the system. The system does not require a central authority, distributed achieve consensus on its state. The system defines if new cryptocurrency units can be created. If new cryptocurrency units can be created, the system defines how to create new units, and how to determine the ownership of these new units. The owner of a unit of cryptocurrency can transfer this unit. For this transfer to be successful, the current owner must prove the ownership. Ownership of cryptocurrency units can be proved exclusively cryptographically. The system performs at most one of them if two different instructions for changing the ownership of the same cryptographic units are entered at the same time. Crypto refers to cryptography. Cryptography is a method of using encryption and decryption to secure communication in the presence of third parties. Bitcoin is based on cryptography that uses computational algorithm such as SHA256, which is the hashing algorithm, here two keys are used: a public key and private key, a public key is like a digital identity of the user that is shared with everyone and a private key includes a digital signature of the user, which is hidden. Private keys are stored in a cryptocurrency wallet. This could be in the application in a PC or smartphone or a hardware wallet. To interact with this cryptocurrency, network wallets are used by users. Some of the most common cryptocurrencies are Bitcoin – very first cryptocurrency, Ethereum – this currency lets the developer build different distributed technologies and apps that wouldn’t work with bitcoin, Ripple – this currency does not use blockchain instead an iterative consensus process is implemented, Bitcoin cash, NEM, Litecoin, IOTA, NEO, Dash uses a two-tier network transaction, Qtum, Monero, Ethereum classic, and others.

Bitcoin is the most commonly traded cryptocurrency and was the first cryptocurrency developed the currency was developed by Satoshi Nakamoto in 2009. As of May 2018, this had a market capitalization of around US$ 128 billion. Ethereum was developed in 2015, in ethereum blockchain, ether is used as the currency token. This is the second most valuable and popular cryptocurrency. In May 2018, the market capitalization of ether was around US$ 56 billion. Ripple was founded in 2012, which acts as both a digital payment network and a cryptocurrency for financial transactions.

In the current scenario of the economic system, the emergence of cryptocurrency has sparked an attraction about its future in bitcoin and other cryptocurrencies. This emergence aspires and inspires people to be a part of the trending mainstream financial system. While the debate and challenges continue related to success and failure about cryptocurrencies fortune.

 

About the Tejaswini Kasture
Tejaswini Kasture

Tejaswini Kasture

Tejaswini Kasture is a Computer Engineer with a passion for writing, blogging, dancing, sports, art & design, and Yoga. Although being an engineer, her forte is writing technology related blogs, she is able to write on varied subjects including Yoga and others.

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