I’ve decided I’m going to start learning about cryptocurrency this year. From what I can tell, I may be late to the party; but it could also be that the party’s just getting started. At the very least it seems like it could be an interesting ride.
As insurance against this being a waste of time and energy, I thought a fun exercise while I’m learning about it would be to keep a public journal of everything I discover along the way. This way, even if I don’t make any money, I’ll at least have something concrete I can point to that I created in the process. A historical artifact of sorts.
I am starting on this journey as someone with much more technical knowledge than the average person (I have a master’s degree in software engineering and have been a software engineer for nearly a decade) but still very little understanding of cryptocurrency itself. With that in mind it might be amusing to start out by describing how I think most cryptocurrencies work, what the advantages are, and what I perceive the risks to be. Looking back a year from now, I am curious how accurate this description will appear in hindsight.
I believe that fundamentally most cryptocurrencies have some basic characteristics in common. They are all based on distributed ledgers, consisting of blocks of transactions (the “blockchain”) that are agreed upon by some consensus algorithm. I’m not sure how the consensus algorithms work; I suspect they’re different for the different currencies out there today. In any case, that’s something I intend on learning more about this year.
Units of currency themselves (such as Bitcoins) are “mined” through expensive one-way computation. Clusters of CPUs perform expensive calculations in an effort to mine currencies such that when a unit is computed, it is easily verifiable by participants in the blockchain. I’m guessing a new transaction then appears where the miner essentially produces the currency out of nowhere.
As far as I know the main advantage of cryptocurrency is the distributed ledger, which ensures that every transaction is fully documented and verifiable. It is also decentralized, which limits any one organization’s ability to control the flow of the currency. I am honestly not sure what other advantages there are; my perception of the current surge in demand for many of the most popular currencies today is that a significant portion of it is pure hype and people wanting to ride what they perceive as the next big wave.
One of the larger risks of cryptocurrencies is already well known: hacking. Since the flow of currency is controlled by software, bugs in the software introduce opportunities for hackers to siphon potentially large amounts of money to themselves, or wherever they please, including nowhere (e.g., an address for which the private key has been destroyed or never existed). Exacerbating this risk is the fact that as far as I know these currencies are not particularly regulated right now; and even if they are, legislators and law enforcement probably don’t understand them well enough to regulate them effectively.
Another risk that I’m not sure most people are aware of is quantum computing. I am almost completely ignorant on this subject, but my understanding is that much of cryptography today–and I’m guessing this includes some of the asymmetric encryption methods used by cryptocurrencies–is based on operations that are prohibitively computationally expensive for modern processors, but which might be trivial for quantum computers. If this is accurate, it would seem to undermine some of the foundations of cryptocurrencies, including both the process of mining and the manner in which consensus is established. If either of these were compromised, it would be equivalent to someone finding a machine that simply creates gold, or to someone being able to transfer the money in anyone else’s bank account to their own.
I am also somewhat skeptical of the benefits that I listed earlier; but then again I am skeptical of anything and everything, so that is just my nature. That said, the idea that a distributed ledger makes all transactions traceable feels dubious to me. Hypothetically you could already do that in a cashless society; but as long as people are able to decouple their money from their identity, money can effectively change hands off the books. For example, if I had a bank account with $10,000 in it, I could “give” you the money simply by verbally telling you the credentials with which to log in and access the money. The same is true of cryptocurrency. I could print an address and a private key on a piece of paper and hand it to you, and you could hand it to someone else, and so on until eventually the person who ultimately transfers the currency has no relation to me, and the path by which it got from me to them is inscrutable.
And from what I can see so far, the idea that decentralization prevents organizations from exerting undue influence over the system seems effectively already disproved. There are exchanges that undoubtedly wield a significant amount of power already. As long as a system is sufficiently complex that most participants have a weak understanding of it, there will be an opportunity for a minority of participants to control it. The majority (the users buying and selling cryptocurrency to ride the wave) are susceptible to manipulation and can easily be taken advantage of.
I have more thoughts I’d like to capture while I’m still new to this whole world, but what was supposed to be a quick introductory post has already gone on for too long. Tomorrow or another day soon I will write about one of the aspects of mining, specifically, that I find troubling. And then hopefully soon after that we can start getting into the fun stuff.