cryptocurrency
Skepticism has risen over the value of Bitcoin (Image via TNW)

Growing Pains in the Cryptocurrency Industry

The future of cryptocurrency looks potentially unstable, as government institutions and major advertising platforms warn against their risks.

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cryptocurrency

The future of cryptocurrency looks potentially unstable, as government institutions and major advertising platforms warn against their risks.

In recent years, cryptocurrency has begun to enter the popular lexicon. Millions of people know that cryptocurrency exists, even if they are not entirely sure what it is. As major sites such as Google and Facebook ban cryptocurrency-related advertisements, the further spread of cultural awareness may begin to slow.

Cryptocurrencies are types of decentralized, digital currency secured via cryptography. Unlike standard currencies, cryptocurrencies are not kept secure by a central, trusted authority, but by a peer-to-peer network regulated via intricate computer code.

Digital currency of various forms has existed since the early days of the internet. The first functional cryptocurrency, Bitcoin, was released in 2009 by an anonymous person or group who went by the moniker Satoshi Nakamoto.

In the paper with which Nakamoto announced Bitcoin, they described the potential of cryptocurrency to be the first completely secure form of peer-to-peer financial transfers. According to Nakamoto, preexisting forms of digital currency were flawed because of their reliance on a third party to validate transfers; under that system, “Completely non-reversible transactions are not really possible, since financial institutions cannot avoid mediating disputes.”

Nakamoto proposed “an electronic payment system based on cryptographic proof instead of trust, allowing any two willing parties to transact directly with each other without the need for a trusted third party.” Every transfer of Bitcoins would be announced to the entire network with a timestamped block of code, preventing attempts to spend the same Bitcoin more than once.

The timestamped blocks would be verified by a cryptographic code, complicated enough to make forgery impractical and nearly impossible. The complete record of transfers would be called the blockchain.

After its release, Bitcoin exploded in popularity. The first use of Bitcoin to purchase goods in the physical world took place May 22, 2010, when 10,000 units of Bitcoin were traded for two Papa John’s pizzas. From there it gained followers and influence, and rose to a peak of $19,783 on Dec. 17, 2017 (which, incidentally, would make those pizzas worth almost $200 million).

Bitcoin’s success inspired the creation of other cryptocurrencies. As of June 2017, there were over 850 cryptocurrencies around the world, with a total market capitalization exceeding $100 billion. Many of them were built using code from the Ethereum Project, an open source computing platform based off of the ideas at the core of cryptocurrency, particularly the blockchain by which cryptocurrencies are secured.

Other companies across a wide variety of industries have begun examining blockchain for its security potential, aside from its use in cryptocurrency. Most recently, Google has announced projects to use blockchain for secure audits and cloud operations, while the drug company Easton Pharmaceuticals has announced its intentions to use blockchain in its supply chain for medicinal and recreation marajuana.

Even national governments are getting involved in blockchain. The United States Joint Economic Committee Report released March 2018 endorses Blockchain as “a secure transmission and recordkeeping technology in its infancy with vast potential to revolutionize the forms in which we transact and document commercial activity of virtually any kind around the world.” Also in March, South Korea announced new regulation to support the financial technology industry, including the development of blockchain technologies.

The increasing popularity of blockchain, however, has come alongside increased skepticism about cryptocurrencies. Their volatility and their lack of official government backing has led many to see them not as real currencies, or as real, dangerous currencies.

Particularly since 2017, the value of cryptocurrencies has varied widely and spectacularly. Bitcoin started 2017 at around $800, before climbing to nearly $20,000, with massive swings along the way. By January 2018, the price had dropped again, to around half of its peak value.

In response to cryptocurrencies’ volatility and perceived risk, major companies have begun to ban any cryptocurrency related advertising from their platforms. On Jan. 30, 2018, Facebook updated its advertising policies to prohibit the promotion of “financial products or services that are frequently associated with misleading or deceptive promotional practices,” specifically targeting cryptocurrency.

Google recently followed suit, announcing that it will update its advertising policies to prohibit, among other things, “Cryptocurrencies and related content (including but not limited to initial coin offerings, cryptocurrency exchanges, cryptocurrency wallets, and cryptocurrency trading advice).” While it hasn’t announced any plans as of yet, there are rumors that Twitter will be the next major company to pull the plug.

In addition, while governments are looking into the possible uses of blockchain technology and cryptocurrencies, regulations worldwide are varied and largely unfriendly. China has banned cryptocurrency trading outright, while running trials of a government-issued cryptocurrency which, while secure, would be entirely centralized.

South Korea, meanwhile, has banned the introduction of new cryptocurrencies, while considering further regulation. In many other countries, cryptocurrencies operate in a legal grey area, with little explicit regulation, and governments have warned against buying into cryptocurrencies as a dangerous, risky investment.

The skepticism around cryptocurrencies partly reflects their unique position as entirely decentralized forms of value. Historically, currencies have been issued by governments with the authority and obligation to support them, or by major private organizations (such as banks) with the power to do the same.

Cryptocurrencies have no such centralized support; they hold value because their supporters have decided they hold value. Rather than trust being placed in a centralized financial or governing institution to give the currency value, trust is placed in the currency itself.

As a result, this makes cryptocurrencies very insecure as forms of value. According to Forbes contributor Jay Adkisson, “The problem with buying a Bitcoin is that it doesn’t generate a return, but is simply an internet token that is used as an alternative to transfer money between its users… The only thing that Bitcoin investors have is a hope, or maybe closer to a prayer, that the value of Bitcoin will increase in the future based on demand.”

In other words, cryptocurrencies have no intrinsic value; rather, their value is entirely extrinsic, placed upon it by external factors. While the same can be said for fiat currencies, currencies declared to have value by governments or financial institutions, their extrinsic value is dependent on the continued existence of the governing body; as long as the United States government survives, for instance, the United States dollar can be trusted to have some kind of value.

For cryptocurrencies, the extrinsic value is derived from its users; it can be trusted to possess value only as long as people decide that it has value, which is itself a function of people’s trust in the value of the cryptocurrency.

Cryptocurrency’s value as a function of people’s trust in its worth is somewhat ironic when compared with the original aims of cryptocurrencies. According to the original paper announcing Bitcoin, “We have proposed a system for electronic transactions without relying on trust.” Satoshi Nakamoto intended to eliminate the necessity of trust in financial institutions, and decentralized cryptocurrencies have done that. However, they have not entirely been able to eliminate trust from the equation of value.

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