A World of Hashes, Part I
1475 words, 8788 characters
To start, I want to share my own crypto story. At the heart of crypto is a narrative, something that everyone Joe on main street to Logan on wall street has bought into and gambled on.
For me, I was first exposed to crypto back in 2013. At the time, Bitcoin was trading a smidge under $300, and the 1 to 1,000 split hadn’t happened yet. Naively surfing different forums and seeing it brought up nearly everywhere, I had the bright idea to mine Bitcoin. There was just one problem, electricity. At the time, Bitcoin mining was hugely unprofitable (low prices + relatively high hash rate + how was a kid going to pay for electricity bills). And so, I ignored it. Weeks later, Bitcoin shot up to $1,000, and I kicked myself for not setting up that mining rig.
Later, during the run-up of Bitcoin in 2017, I saw friends sucked into ICOs that ended up being worthless. With the valuation of Bitcoin skyrocketing each day, it was easy to think that things would keep going up. However, still smarting over missing the first run-up to $1,000 back in 2013, I saw crypto with distrustful eyes and felt validated in the crash shortly afterwards.
And finally, in 2020, when the price of Bitcoin went from $6,000 to $60,000, I gave in and bought $800 worth. Unfortunately, that stake is now a bit under $600. This time, since I had actually lost money, I started doing a deeper dive into crypto and everything about it. Below are a couple of questions about crypto, answered by a guy who lost money on crypto.
How can online money be worth, checks notes, $1.5 trillion?
Let’s start with a joke about Bitcoin (courtesy of u/cubesnack) -
A boy asked his Bitcoin-investing dad for $10.00 worth of Bitcoin currency. Dad: $9.67? What do you need $10.32 for?
This joke tells a simple truth about all cryptocurrencies; their value comes from speculation. In other words, cryptocurrencies are only worth as much as what other people are willing to pay for them.
Since the price of crypto depends on market consensus, this means that a significant amount of crypto supporters believe that crypto will soon rise above its current $1.5 trillion market cap. That’s why there are people buying Bitcoin priced at $40,000 or NFTs for $69 million.
Logically, the next question is, why do people believe that crypto is worth $1.5 trillion?
Because of crypto’s end game, it holds the promise to replace our centralized financial system. Instead of sending wires, we would send $BTC; instead of paying bills through checks, we would send $ETH, and instead of storing money in bank accounts, we hold $doge. So another way to think of the $1.5 trillion valuation is as a bet on the future of crypto. Rewriting the entire financial system is a bounty worth hundreds of trillions, making the crypto valuation a bit more reasonable.
What actually is crypto?
A cryptocurrency is a digital medium of exchange using strong cryptography to secure financial transactions, control the creation of additional units and verify the transfer of assets. (courtesy of coinmarketcap)
Translating the definition to plain English, crypto is meant to be a new form of money. Unlike previous forms of money, from the US Dollar to the Japanese Yen, crypto is designed to be digital and online first. At first glance, this doesn’t seem like much. After all, a lot of the current banking system is online; we cash wages through direct deposit and pay bills seamlessly online.
However, these transactions occur through trusted entities. I first need a federally regulated bank account to access these services. Then I need to have trust that the currency I receive is worth something. For example, even millions of Zimbabwe dollars have less value than a single US dollar.
If we dive a bit deeper, the fundamental backing behind each currency is their government. We generally don’t expect the US government to start printing money recklessly or suddenly cease to function. As a result, the US dollar is “trusted.” In comparison, the German mark in post-WWI Germany saw hyperinflation due to the inability of the German government to obtain foreign currency (this in itself is a fascinating story).
For crypto, the fundamental backing is decentralization. In other words, there is no single king or president behind mainstream cryptocurrencies that can issue more crypto or engage in war with other countries.
Let’s also dive into the technical aspects of crypto -
- Cryptography - If there were a secret sauce to crypto, it’d be in the fact that it uses cryptography. Cryptography in cryptocurrencies ensures that no one can alter the currency. No one can randomly give themselves 100 bitcoins or change past transaction history.
- Bitcoin uses Secure Hashing Algorithm (SHA) -256 and ECDSA (Elliptical Curve Digital Signature Algorithm)
- Previously, real-world applications of cryptography were focused on securing messages. For example, in WW2, codebreakers had to break the German Enigma machine which was used extensively throughout the war.
- Secure financial transactions - The foundation of any financial system is security. If anyone could just take money out of your bank account or steal a check and cash it as their own, we probably wouldn’t have the concept of money.
- Bitcoin does this through ECDSA (the cryptography method mentioned above). With ECDSA, each user has a public and private key. The public key is like a street address. Everyone can find it and send you Bitcoin with the public key. The private key is like the key to your house, except with Bitcoin; there’s no other way to enter the house besides having the key.
- Creation of additional units* - Just like how the fed prints money, institutions need ways to replace old or lost money and also to steady the rate of inflation. Crypto does this in a variety of different ways. Bitcoin specifically has a limit of 21 million units.
At the end of the day, crypto today is simply a bet on a future where the financial infrastructure isn’t backed by governments or central institutions but instead based on decentralization.
Why does crypto exist?
Now that the basics of crypto are out of the way, let’s dive into the fundamental issue of why crypto even exists.
When presented with this question, crypto proponents point at features such as
- decentralization (no one central institution controls crypto)
- anonymity (you’re identified solely by a string of numbers/letters)
- transparency (all transactions are visible on the blockchain)
- scarcity (only 21 million Bitcoins possible)
- *and more
However, these are just features. They’re more than enough to answer mainstream media coverage today centering around the question of how crypto is worth so much. But they don’t explain the fundamental meaning of crypto’s existence.
This is where the whole crypto story comes to an abrupt end. Behind all the futuristic features and bold promises of crypto lies the fact that crypto does not have a “soul.” At the center of crypto is nothingness. Crypto, by itself, is simply a bunch of numbers fancifully shuffling around.
And so, crypto exists not because of its features but rather because people want it to.
Let me explain what I mean by that, and bear with me here. The starting point of crypto in this article was that it holds the promise of replacing our current financial system. But here, we need to ask ourselves one question. What is one bitcoin worth? Right now, one bitcoin is worth $45,810, but just a week earlier, one bitcoin was worth only $38,191. So today, one bitcoin buys me a Mercedes, whereas one week earlier, the same bitcoin would have only bought me a Lexus.
This fluctuation by crypto is like the siren in Greek mythology. Every time Bitcoin shoots past $40k or drops below $10k, countless media coverage flock to crypto. As a result, the fluctuation has made crypto into the household name it is today. But at the same time, this fluctuation also means that crypto can never live up to its wishes of replacing our current financial institution. No company would be foolhardy enough to transact solely on crypto for real-world assets.
In other words, crypto right now is caught in its own cycle of capital. The visions of grandeur depend on keeping the facade of one day replacing financial institutions. Yet, every time the price of Bitcoin or Ethereum goes one step higher (or lower), crypto walks a bit further back from its promises.
With that, I’ve somewhat explored the foundations of crypto. Although we’re ending on a rather gloomy note, the world of crypto today is anything but gloomy. Why is there so much optimism in the world of crypto? I’ll likely dive back in at a later date and explore the industry as it is today.