10-15 minute read
Written and edited by Alexander Basler of Studio ArchonomousPreface: What is the purpose of this FAQ article?
The purpose of this article is to offer relatively straightforward answers to common crypto questions as well as an introductory education regarding the origin of cryptocurrency and related technologies in a narrative-style FAQ format. Future content is planned that will do a deeper visual dive into some of the actual processes, such as setting up your first wallet and making a secure transaction, but for now the hope is for you to gain a foundation of knowledge that will allow you to continue with independent learning within the ever-expanding universe of crypto. None of the information herein is intended to be investment advice and Archonomous urges you to always do your own research and due diligence prior, and to only invest what you are comfortable with losing in a worst case scenario.
What is Bitcoin (BTC)?
The desire by cryptographers to make a digital form of money began well before Bitcoin, however, the challenge has always been: how do you build a digital store of value that can only be spent once and cannot be copied? In 2009, an anonymous whitepaper was published under the pseudonym Satoshi Nakamoto that laid out the structure of Bitcoin as we know it today. We still do not know who Satoshi is or if there are multiple people behind the name and it remains one of the greatest tech mysteries of our time.
While many innovations were presented in the paper, the core underlying concept that addresses the challenge above is known as open consensus with an honest majority. As a basic explanation, this means that transactions on the blockchain (more on this below) are validated by individuals that maintain an up-to-date copy of the Bitcoin network. These individuals, known commonly as miners, commit computing power to the network that validate transactions in order to reach a >50% consensus. In return for their honest computational reviews of transactions, these miners are incentivized and rewarded with a portion of the transaction fees in proportion to the amount of computation power contributed; this innovation is known as Proof of Work (PoW).
Since anyone with a computer and internet access is able to commit computing power to help protect and secure the network, this makes Bitcoin decentralized, meaning that it is governed by a global community rather than any single individual or corporate entity. The reason that these network protectors are known as miners is because the rewards earned are in the form of newly-minted Bitcoins. When BTC was first launched, the reward was set at 50 BTC, but the reward halves every 210,000 new blocks, which is roughly every 4 years. The underlying immutable code that the BTC network operates on caps out at 21 million possible coins and once this number of BTC is produced sometime in the next century, no more coins will ever be created, which is why many supporters conceptually equate Bitcoin to digital gold.
Infographic depicting the chain of events of a transaction being sent on the Bitcoin network from initialization to being verified on-chain (click to enlarge)
What is Ethereum (ETH)?
Following the release of the Bitcoin whitepaper, the Ethereum network was proposed in 2013 by programmer Vitalik Buterin and the network went live on July 30th, 2015 with an initial supply of 72 million coins called Ether (ETH). While this is no longer the case as we get closer to the Ethereum 2.0 rollout, we won’t be getting into that level of detail in this primer. Like Bitcoin, Ethereum is a decentralized and open-source blockchain with its own native currency, but where it differs is in its additional smart contract functionality.
Smart contracts are self-executing contracts with the terms of agreement between two parties being directly written into lines of code. Ethereum has it's own scripting language called Solidity that allows for decentralized applications, smart contracts, and tokens (such as NFTs which will be discussed later) to be encoded within the Ethereum network, inheriting all of its native security protocols in the process. An imperfect analogy that may help with understanding the difference between BTC and ETH is that if BTC were email to the Internet, then ETH would be the App Store to Apple. Sub-currencies developed on the ETH network are aptly named altcoins, and can operate in their own way according to their own code. As of January 2021, there are over 4,000 different cryptocurrencies and altcoins, most of which have little to no use. For the sake of clarity, this article is focused only on BTC and ETH.
What makes cryptocurrencies like BTC and ETH valuable?
Since cryptocurrencies are not something tangible that is produced by any government, how can they be worth anything? The answer is that the majority of monetary systems today are built on a shared belief in the system that produces it. In the case of fiat (government-issued) currencies, they are almost entirely not backed by anything in particular. In 1971, United States President Nixon announced that the US dollar was moving away from the gold standard, meaning that USD no longer had to be backed by physical gold in a vault. This fundamentally shifted how the dollar holds its value, which is now based on scarcity of production. Similarly, the finite supply cap of BTC and ETH along with the growing global community of support and use cases is what makes each coin intrinsically valuable. Beyond that, the portable nature and infinite divisibility of digital coins adds to their desirability in our ever-evolving digital world.
What is a blockchain?
You may think of a blockchain as a transparent chronological ledger of transactions from the beginning of time [of that blockchain]. When new transactions are submitted to a blockchain network, they go into a large queue that miners bundle into what is known as a block.
A miner is anyone who hosts an up-to-date copy of the blockchain on a node within the network — this allows the miner to earn relevant currency in return for validating transactions. Basically, a miner verifies that all new blocks to the chain agree with the previous chain of blocks before it can be validated - when more than half of the miners on the network agree with the validation, consensus is achieved and the block is committed to the chain.
The first block in any blockchain is known as the genesis block and all subsequent blocks in the chain are inextricably tied to the previous blocks utilizing cryptographic hash functions. Together, this blockchain network effectively becomes a powerful virtual computer that is composed of nodes of decentralized miners. If any node goes down at any time, all of the other nodes fill in the void and no time or information is lost. The conceptual possibilities of this sort of virtual computer can extend into many aspects of our everyday lives and allow for transparent and immutable activities such as voting and spending that no single person has control over.
What is the importance of decentralization?
Centralization and decentralization are both important concepts to understand, as each system has inherent benefits and downsides. When it comes to decentralized finance (DeFi) specifically, the benefits include self-custody, transparency, immutability, programmability, and interoperability of your funds. DeFi is also defined by its open, permissionless access since anyone with a crypto wallet and internet connection can access DeFi applications regardless of their geography. Transactions happen peer-to-peer rather than through third parties such as banks and financial institutions which results in generally faster transaction times and lower associated fees.
What is a decentralized autonomous organization (DAO)?
A decentralized autonomous organization is an entity that is represented by rules encoded as a computer program — the program is controlled by the members of the organization and is not influenced by any central government. A simple example of a DAO would be a self-driving car that passively earns money for its owner by picking up and dropping off ride-share customers. DAOs can come in many forms and scales depending on the depth of code and infrastructure that the DAO operates on.
What is a non-fungible token (NFT)?
To understand the concept of a non-fungible token, or NFT (sometimes even called a ‘nifty’), it is important to first know what it means for something to be fungible. Directly from the Oxford dictionary, something that is fungible is able to replace or be replaced by another identical item, as they are mutually interchangeable. An example that is used often in the crypto community is the US dollar where a $1 bill in circulation will always be equivalent to another $1 bill since they represent the same intrinsic value. As mentioned before, fungible currencies that are government-issued like USD are known as fiat currencies.
Conversely, something that is non-fungible is inherently bespoke. One non-fungible asset is never exactly interchangeable with another. An NFT is a term used to describe a unique digital asset whose ownership is tracked on a blockchain. NFTs represent a broad set of assets that range from digital goods like artwork and virtual land to a claim on physical assets such as real estate or real-world commodities. Since NFTs most commonly represent digital goods, an applicable metaphor is that NFTs are a way to make digital files ownable, and because they are created (minted) on the blockchain, this makes provenance and attribution traceable.
Another benefit of NFTs is the additional ability to embed properties and royalties directly into the asset itself. For example, an artist that includes a 10% royalty with their minted NFT via a smart contract will automatically receive 10% of any future sales and transfers of that NFT which opens up new opportunities for creators to monetize their work. Some NFTs even allow the owner to unlock real-world access or value such as tickets to a concert or future event. Properties are ‘baked in’ and can be read and interacted with across applications, including NFTs interacting with other NFTs making the possibilities truly unlimited.
Can anything be minted as an NFT?
Anything that is created and digitally represented, such as a work of art, a blog post, a song, or a deed to physical property, may be represented and minted as an NFT. New use cases are being put to the test every day and your imagination and creativity is the limit when it comes to what can become digitized in this new form of asset class, however the future has yet to determine exactly how prolific NFTs will become within our global community.
How do I trade cryptocurrencies & NFTs?
There are many online marketplaces where you may mint, acquire, and sell NFTs such as OpenSea, Rarible, KnownOrigin, MakersPlace, and SuperRare to name a few. Transactions are made using cryptocurrencies which are typically purchased through exchanges such as CoinBase and Binance. In order to store and transact with crypto, you will first need a digital wallet like MyEtherWallet to send your funds and assets to. Most marketplaces connect to your wallet through a compatible browser extension known as MetaMask that allows users to interact with decentralized applications. Your wallet address is used to verify ownership and transactions are processed on the network for a nominal fee (known as gas) which paid to miners for facilitation. Future content will go more into detail on how to set up and work across these various applications and interfaces.
How do I keep my crypto and NFTs safe?
Crypto and NFTs are stored in digital wallets, which are akin to your own private bank. You may have any number of digital wallets and because of this method of storage, there are pros and cons inherent to this sort of decentralized system. Your digital wallets each have an associated private key and public address which are typically in the form of a long string of numbers and letters that are impossible to hack in their own right. Your public address is what you would provide to a friend in order to receive payments and in return, you would see an incoming transaction from your friend's public address. Your private key on the other hand allows complete access to your financial kingdom. If anyone were to get a hold of your private key, then they could access all of the coins and tokens stored within the associated wallet. In the case of banks and fiat cash, there are systems in place to reverse fraudulent transfers and transactions, but no such concept exists in the realm of cryptocurrencies.
If you lose access to your private key, then you lose your funds. This is certainly a serious event, but there are ways to mitigate risk and create safe offline backups of your private key(s) in the event that this happens to you. Exchanges will keep track of private keys for you and often have insurance policies that cover your funds in certain cases of loss. It is always wise to understand an exchange’s terms and conditions before using their service. For storage of coins and tokens off of an exchange, a hardware wallet such as a Trezor or Ledger is recommended for security and ease of use. This is a complex topic that deserves your attention, especially when first entering the world of crypto and setting up your wallets to ensure that you are managing your coins and tokens with the best practices. Below are a few helpful links that will better unpack this topic at length:
Are blockchain networks sustainable?
This is a fantastic question that is often asked, especially given the recent proliferation of NFTs and the energy usage associated with the minting process itself. As you learned earlier about the consensus algorithm known as Proof of Work which relies on massive amounts of computing power to secure the network, there's an alternative method that has since been developed called Proof of Stake (PoS). PoS in essence allows miners to lock up an amount of coins of their choosing that are committed to the network (staked). In return, mining power is attributed and rewarded in proportion to the amount of coins that are staked. For example, if a miner owns 1% of all of the coins available on a PoS-supported network, then they can theoretically mine only 1% of the blocks.
Unsurprisingly, in order to avoid being at the whim of energy cost fluctuations, miners have been looking to renewable energy solutions for years. In recent reports, 56% to 76% of the BTC network runs on sustainable energy which is up insurmountably from the years prior and continues to grow quarter by quarter. Although BTC will likely never change from its current PoW consensus algorithm, the Ethereum 2.0 network (rollout Phase 0 of 2 has already started in 2021) will migrate from PoW to PoS and is said to result in a 1000x faster and even more secure network that will cut energy consumption by over 99.9% from that of Ethereum 1.0. Many altcoins that run on the ETH network already operate using PoS. In short, the jury is still out on the collective sustainability of crypto as the industry continues to evolve and improve. It is clear that sustainability is important to crypto communities worldwide, and since the technology is here to stay, developers have been steadily innovating upon the current systems for which these networks operate — the future looks bright.
Conceptual image depicting decentralized nodes verifying blocks on a shared network
Where can I learn more about crypto concepts?
First off, thank you for reading to this point and please reach out to Alexander if you notice that any information presented requires updating or additional fact checking. If you wish to continue your deep dive down the crypto rabbit hole, below are a few excellent primers and resources for your journey ahead: