Explained: What is Cryptocurrency and How Does it Actually Work?
What should you be aware of before investing in cryptocurrencies?
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Video Editor: Sandeep Suman
For the past few months, the Centre has been dropping hints regarding its intent on regulating cryptocurrencies in India. Ahead of the government's plan to introduce the Cryptocurrency and Regulation of Official Digital Currency Bill 2021, seeking a ban on all but a few private cryptocurrencies, while allowing an official digital currency by RBI, Naimish Sanghvi, CEO of CoinCrunch, a cryptocurrency news website, explains what is cryptocurrency, why there is hype around it, and how it works.
What is cryptocurrency?
Cryptocurrencies are nothing but digital currencies. These digital currencies are secured by cryptography, hence the name cryptocurrency. Essentially, when you transact with INR, when you send money from one person to another, the bank checks if the sender has enough balance in the bank account, and then approves that transaction. The bank is the central authority, the middleman ensures that the transaction is successfully completed. In this transaction, we are trusting the bank to be fair and to do the right thing.
With cryptocurrencies, we remove this element of trust. If I want to send cryptocurrencies, the verification of the transaction – the part where they ensure that there is enough balance in the account – that verification is done by hundreds of thousands of computers that are running the same algorithm, are holding the copy of the same ledger of the same transactions of the cryptocurrency that we are sending. Hence, thousands of computers around the world are going to ensure the same thing the bank does in my earlier example.
When thousands of computers are involved, we can call it decentralised, instead of a central authority like a bank ensuring the transaction's success. Hence, it is called a decentralised currency, cryptocurrency, and the underlying technology that ensures this is called a blockchain or distributed ledger technology.
How do you transact money in the crypto market? Where does your money go?
Digital currencies are transacted through a wallet, just like a bank account. However, the wallet is in our control. In this wallet, there are two addresses — a public address and a private address. The public address is where you send the funds. So, to send digital currency from one wallet to another, the sender will need the receiver's wallet's public address. They will enter that public address and send the cryptocurrency to that address.
To access the received cryptocurrencies inside that wallet, what we need is a password or a private key. When you send the transaction from one wallet to another, it is secured by blockchain technology.
Why is There So Much Hype Around Cryptocurrency in India?
Cryptocurrencies around the world has got a lot of attention due to the COVID-19 pandemic and the looming inflation with the use of fiat currencies like dollars or rupees. Hence, cryptocurrencies have become a speculative asset and gained notorious attention as a store of value for people around the world because they are not entrusting their money into their bank accounts, government bonds, or the stock market. They use cryptocurrency as a new tool of investment to gain interest or gain a huge margin on their investment.
In India, they became popular for the very same reason. People are seeing their neighbours who are investing in this unknown technology called bitcoin not for long, and then they saw them becoming rich. So, there's a lot of craze around it. Plus, the exchanges are advertised, which have helped them join the cryptocurrency investment.
What should one be aware of before investing in cryptocurrencies?
The only thing that you need to be aware of while you are investing in cryptocurrencies is that your investment can go down to zero. That's a fact because, at the end of the day, cryptocurrencies are very high-risk, unregulated investments, and tomorrow they could lose their demand temporarily, and you could lose all your investment.
Second, you should never trade futures and options unless you are fairly aware of what they mean. Just go for buying the cryptocurrency and holding them rather than speculate over it using available tools. These are not very good for you, given the volatility in cryptocurrencies, so don’t try them if you are new to the markets.
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