By: Tavaga Research
When the first cryptocurrency was introduced, back in 2009, it promised to transform the monetary system, as we know it, threatening, in turn, to undermine the authority of the central banks world over. They were created amidst the global financial crises, which had already renewed skepticism about the ability of these institutions to promote financial stability and questioned their monopoly on the issuance of currency.
The response, fearing the obsolescence of a potent macroeconomic tool, from the central banks has so far been varied. For instance, the central monetary authority in India, the Reserve Bank of India (RBI), put a complete ban on these currencies, while other central banks such as the People’s Bank of China has been experimenting with its own version of these currencies, which some call the central bank digital currency (CBDC).
While the ban on cryptocurrencies has now been lifted, they have always been thriving in the unregulated markets. They work differently than traditional fiat money and function on the concept of a peer-to-peer network. The renewed interest in these currencies stems from the recent phenomenal run in the first-ever cryptocurrency, known as the Bitcoin.
What is a Bitcoin (BTC)?
Cryptocurrencies were conceptualized to act as a decentralized medium of exchange. It is a digital currency generated using computer codes having no issuing authority (like the Reserve Bank of India). While there have been several attempts to create these currencies since the 1990’s tech boom, Bitcoin (often abbreviated BTC) is the first to gain widespread public visibility.
Leveraging the peer-to-peer technology, the issuance and transaction of Bitcoin is managed collectively by the network, effectively cutting out the middlemen. It is regulated and created by a network of thousands of computers (known as peers) using encryption techniques.
An anonymous programmer under the alias “Satoshi Nakamoto” introduced Bitcoin in August 2008. Since then it has consistently dominated the crypto market since it became available for public holding in 2009. It has remained relatively unchallenged until the introduction of Ethereum in 2016.
Except for the fact that it is intangible (i.e. you cannot touch it for the lack of a physical form) and decentralized, bitcoin works very much like any other real currency. They can be used to purchase products and as payment for services (if accepted) and can be an investment asset. The popularity of bitcoin derives from the anonymity and secrecy it provides.
Therefore, unlike, bank accounts or credit lines, bitcoin simply isn’t an assigned value of money stored in a digital bank account. It has no corresponding physical assets, like gold or the dollar, backing it.
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How does Bitcoin work?
Each bitcoin is a computer file stored in a digital wallet on a smartphone or a computer. They are ultra-secure blocks of data that are treated like money. Every block contains an unmodifiable and permanent record of each transaction, in addition to information about the previous blocks, it is chained to. It is impossible for an individual user, to create a block independently; it has to be connected to a chain of blocks.
People who create these blocks are called miners. They collect all the transactions on the network and form a bundle called a block. For instance, A pays B 3 bitcoins and X receives from Y 5.45 bitcoins, both of these transactions would be a part of the block, which usually has thousands of similar transactions. Miners would validate these transactions, ensuring that A and Y have enough bitcoins in the wallet to make the transfer.
Miners don’t have to enquire from either of the individuals to validate the transaction. The network, using a complex mechanism, does all that. They are trying to find a valid solution to a mathematical problem related to the respective block, the complexity of which increases with the number of blocks. Once the solution is verified, only then a transaction is verified.
Miner who finds the solution, in turn, is entitled to a reward, akin to a commission for validating the transaction. The parties transacting do not give these rewards or commissions, but the network generates a new set of bitcoins as rewards (like the central banks print money). A new block is created only after a solution to a previous block has been found.
What is blockchain?
Blockchain is a distributed ledger that facilitates peer-to-peer transactions in a secure and verifiable way without the need for a centralized party. It is an incorruptible database that records and timestamps transactions, continuously and chronologically.
Each transaction has to be verified by a process called consensus, which requires multiple-system participants to verify independently the authenticity of the transaction. Once a new entry has been verified and made into the blockchain, it cannot be modified.
Bitcoin Features
- Fast: While a normal bank transfer can take several days to transfer money to someone on the other side of the world, the Bitcoin network does that almost instantly.
- Anonymous: Banks virtually know everything about the customers these days: spending habits, credit history, addresses, phone numbers, etc. It is very different from a bitcoin, no one knows the identity of the individuals transacting, as the wallet doesn’t have to be linked to any personally-identifying information.
- Decentralized: The main objective while creating these cryptocurrencies was independence from any governing authorities. It was designed so that every individual, business as well as every machine involved in transaction verification and mining, become a part of the enormous network. Furthermore, the money keeps moving, even if some part of the network blacks out.
- Transparent: Every bitcoin transaction that has ever happened is stored in the blockchain, so the anonymity of bitcoin is only relative. For instance, if your wallet address was available publicly, anyone can figure out the number of bitcoin in the wallet, if he/she is fully aware of the blockchain technology.
- Non-repudiation: Once you’ve transferred your bitcoins to someone, there is no way to get them back, unless the recipient sends them back to you. This ensures that the recipient cannot by claiming that they never received the money.
Cons of holding bitcoins
- Volatility: The price of bitcoin has been very volatile, going through various cycles of ups and downs. The bitcoin has seen its value skyrocket to as high as $ 20,000 only to plummet, since. The value of a bitcoin is very unpredictable; it changes drastically and rapidly, potentially causing significant financial damage to investors.
- Lost Keys: To access their bitcoin wallets, individuals are given a unique alphanumeric password. Losing that password is akin to losing your wallet. Although most wallets have a backup and restore mechanisms, the user has to first set it up.
- Continuous Development: The future of bitcoins is rather bleak. Governments and central banks do not currently regulate these coins. However, the bigger and more popular it gets, the governments will try and regulate them, which would bring in different dynamics.
- Level of recognition: Although, several countries recognize bitcoins are perfectly legal, others, such as India, have banned them outrightly. While others haven’t still brought any regulations regarding these. Businesses are still completely oblivious to them.
Pros of holding bitcoins
- High portability: A characteristic that makes fiat currencies useful is their portability, meaning the ease with which you can carry and use money. Given that bitcoins are completely digital, practically any sum of money carried around. It takes little to no time to process a transaction; all you need is access to the Internet.
- It cannot be counterfeited: A popular way to counterfeit money in the digital world is to use it twice, rendering both the transactions as fraudulent. It is commonly known as the double spend. To overcome this, as mentioned above, bitcoin uses blockchain technology.
- Safety and control: No one can withdraw money from your account without you knowing about it like it sometimes happens with other modes of payments.
How to buy Bitcoins in India?
People looking to buy bitcoins can do so through cryptocurrency exchanges, all of which offer their mobile apps. The most popular options are Coinsecure, Koinex, Remitano, etc. The best platform for buying bitcoins depends on individual preferences.
The price of one bitcoin is around INR 46 lakhs, currently. However, investors can own a part of the bitcoin. The minimum investment in a bitcoin is as low as INR 500. All you need is to get your KYC (Know Your Customer) done.
How to buy Bitcoins with a credit card?
An investor can also buy bitcoin using credit cards.
Steps to buy bitcoin with credit card:
- Create your account on any of the crypto exchanges, mentioned above.
- Verify the account.
- Purchase the desired quantity of bitcoin.
- Make payment via credit card.
How to buy Bitcoins with Paypal?
In some countries, PayPal has also facilitated the buying and selling of cryptocurrencies after doing proper due diligence.
What is fuelling this rally in bitcoins?
The narrative around bitcoins is cyclical. When it plummets from the highs, its detractors deride it as having no future and declare its demise. On the other hand, its believers begin to present it as the new asset class. One day perhaps it will achieve such stability, but in the meanwhile, investors will use it as an instrument to make profits.
The recent run in bitcoins is fuelled by a flurry of developments indicating the big steps taken by bitcoin to go mainstream. In October 2020, PayPal Holdings Inc., global payments giant, allowed its customers to buy and sell bitcoins and other cryptocurrencies from their accounts. In addition, a number of tech companies have begun holding a portion of their cash reserves as cryptos. Furthermore, in August 2020, Fidelity Investments, an asset management firm with assets under management worth $3.3 trillion, announced the launch of its first Bitcoin mutual fund.
Is bitcoin a good investment?
Investors are anxious about missing out on the current bitcoin rally. However, this is startling, given the fact that extreme volatility observed in these currencies does not augur well for the investors, especially the retail category.
Having gone bust post hitting highs of $19,650, in 2017, makes it hard to argue an allocation in these currencies.
Law against cryptocurrencies
The Indian government is planning to introduce a law in the parliament to ban cryptocurrencies, placing it out of steps with other countries within Asia, that plan to regulate the fledgling cryptocurrency markets within their economies.
The central bank, back in 2018, banned crypto transactions following a string of frauds after the Prime Minister suddenly announced to ban 80 percent of the nation’s currency. Crypto exchanges, as mentioned above, responded by challenging that decision in the Supreme Court in September 2019.