Crypto for Grandma

Cryptocurrencies. Bitcoin. Blockchain. The majority of people have trouble wrapping their head around them. What are they? How do they work? What are the benefits of using a cryptocurrency – and what are some of the consequences? In this post, I explain the basics of the space in plain English. If you know nothing about crypto, you’re in the right place.

What are cryptocurrencies?

They’re just another type of currency, like we have the U.S. Dollar or British Pound. There are hundreds of them: Bitcoin, Litecoin, and so on. Each of them are slightly different.

Unlike dollars, cryptocurrencies are completely digital. You might be thinking – “how does that work? Intangible money?” Let me explain some common questions:

Are they backed by anything? They’re backed by the trust that they can be used as currency. A simpler explanation: after the United States dropped the gold standard in 1973, the dollar became backed by the trust that it could still be used to purchase things in one of the largest economies in the world.

How do they obtain their value – are people creating money out of thin air? In order for anything to be seen as “money” – whether it be a green slip of paper, gold, or a cryptocurrency – people must agree that it has value in the first place. Businesses must agree to accept it as payment. People must agree to use it. Therefore, in order for anything to work as “money”, you’d need to create group consensus, which is hard: it takes time, effort, and lots of work from lots of people.

Since it’s digital, can it be hacked? Blockchain technology, which I’ll explain in the next section, is much safer than any system we have in place today. There are only two ways to hack it, both of which are technical and a little farfetched, so I’ll explain those in a footnote.1

Since it’s digital, can people just copy-and-paste money? No, it doesn’t work like that.

Since we already have dollars, what’s the benefit of using a cryptocurrency? There are a few benefits:

And what is Bitcoin?

The original goal of Bitcoin was to allow online payments to be sent directly from one party to another without going through a financial institution.

Bitcoin was the first cryptocurrency, and it is currently the most valuable.

By design, only 21 million Bitcoin can ever be produced. As such, scarcity drives its price higher. People also speculate and trade emotionally, so its price is quite volatile!

And what’s this “blockchain” thing I’ve been hearing about?

A blockchain is like a ledger:

Troy has $20 Abed has $20

If Troy decides to give Abed $10, the ledger would look like this:

Troy has $20 Abed has $20
Troy gives Abed $10  
Troy now has $10 Abed now has $30

From this table, we can determine that Troy now has $10 and Abed has $30.

That’s the basic function of a blockchain. But now the question is: who controls the ledger? Because if any one person, or one business, controls the ledger, they could enter fake information into any account and disrupt the money supply:

Troy has $10 Abed has $30
Troy now has $1,000,000  

We currently trust these ledgers with banks. Banks hold the financial information of every person in the country. But some people don’t like the idea of relying on a third-party entity.

A blockchain allows us a ledger where we don’t have to “trust” anyone. We don’t need to trust banks to keep our information safe from identity thieves. We don’t need to trust anyone to hold our money for us. And so on.

A blockchain is an electronic ledger that runs on a decentralized network: a fancy way of saying that anyone can set up their computer to participate in validating these transactions. For instance, the blockchain that powers Bitcoin holds the power of millions and millions of computers from all around the world. (Your neighbor might even be running a computer on the network as we speak!)

In plain English, you could think about the Bitcoin ledger looking something like:

Annie has 1 BTC Jeff has 2 BTC Pierce has 3 BTC
Annie gives 0.5 BTC to Jeff    
Annie now has 0.5 BTC Jeff now has 2.5 BTC  
  Jeff gives 2 BTC to Pierce  
  Jeff now has 0.5 BTC Pierce now has 5 BTC

The network that powers a blockchain validates each of its transactions with complex math. To verify any transaction, at least 51% of the network needs to signal that it was valid (in other words, that both of you agreed to transfer money, and that each of you has enough money to make the transaction).

This was the most technical part of the post. It’s all smooth sailing from here!

Who created Bitcoin/Blockchain?

It was created by someone, or a group of people, under the name Satoshi Nakamoto. It all started when Satoshi published this whitepaper in October 2008. You might be wondering, “Why do people trust a currency created by an anonymous person?”

The reason: Bitcoin is open source under the MIT License, which means that all of its code is 100% open to the public. You can view every line of code in production right here. Thousands of normal people – engineers, mostly – review this code repository each day. They may propose edits, features, and bug fixes.

This means that Bitcoin is effectively owned by the public. It’s a currency that isn’t controlled by any political body or centralized authority (for better or worse).

Satoshi’s last recorded message was December 12, 2010.

What are some common criticisms against cryptocurrencies?

There are a lot of criticisms against cryptocurrencies! Here are some of the most common.

They’re just another tulip mania

One of the most common criticisms to cryptocurrencies is tulip mania. In 1637, the prices of tulips in the Dutch republic reached extraordinarily high levels as people speculated on their value. Soon after, the prices dramatically collapsed. This was the first recorded speculative bubble in history.

While I understand peoples’ concerns, I believe there are fundamental differences between tulips and cryptocurrencies:

  1. crypto is not a physical commodity
  2. crypto isn’t perishable
  3. crypto is easy to transfer
  4. crypto is fast to transfer
  5. crypto is divisible (for instance, you can buy 0.34587 of a Bitcoin)

They can be used for anonymous crime

This is a real concern. Since many cryptocurrencies are anonymous, they can be used for crime.

In any system, there will be bad actors. For instance, physical exchanges of U.S. Dollars are untraceable. Luckily, we have law enforcement officials and systems in place that can help detect and prevent crime. Let’s continue discussing this from a cryptocurrency perspective.

Some cryptocurrencies, like Zcash, Dash, and Monero, are completely anonymous. They cannot be traced any better than hard cash. Even worse, these cryptocurrencies don’t require a physical exchange (such as meeting under a shady bridge to make an exchange).

Other cryptocurrencies, like Bitcoin, are psuedononymous. You can see the address (“key”) of both parties in a transaction and how much they exchanged. This might look something like:

11:17:21 PM on July 22, 2018
TuLFss gave 16.04 Bitcoin to ZxCAvs

If you knew that your uncle used the address TuLFss, you could go back and see every amount he ever spent with that address, and all the addresses of the people he exchanged money with.

Here’s where I’m going with this: it would be a blessing for law enforcement if they could find criminals’ addresses. If law enforcement learned a criminal’s address, they could write some software to automatically alert them every time a transaction was made under that address. This would give them a true view into how money was moving between criminals.

On an even cooler note, let’s say that a criminal made a big transaction with an unknown adress, LmOSff. To find out who’s using LmOSff, they could crossreference its transactions with the known addresses of public shopping centers, gas stations, and grocery stores. Then it just becomes a matter of checking security footage to uncover the criminal’s identity. So there are blessings hidden in certain cryptos for law enforcement.

That being said, there are ways to get around Bitcoin’s pseudonymity, so this isn’t a foolproof way to catch criminals.

Hacking

Every once and a while, you’ll hear the news that a “Cryptocurrency Exchange” was hacked. Exchanges are not the same thing as cryptocurrencies themselves. They are third-party businesses that help people buy and sell cryptocurrencies.

You can think of an exchange like an online brokerage. For instance, a hacker could gain access to your Vanguard or Charles Schwab account and withdraw your funds.

An even simpler explanation: you have $20. You leave it at your friend’s house. One day, he accidentally leaves his door unlocked, and a burgular steals the $20. It’s not that the U.S. dollar is insecure, it’s just your method of storage.

That’s why most people recommend moving your cryptocurrencies off of an exchange and onto what’s called a “hardware wallet” for safekeeping. For the sake of keeping this post short, I don’t want to get into recommendations on hardware wallets, so I’d direct any further questions to a Google search.

Scams

There are a lot of scams in the cryptocurrency space. Because it’s a new, complicated technology, greedy people often try to make quick profits by exploting others who don’t know a lot. People are easily tricked into making emotional decisions with the promise of quick riches. People with money or connections may create a cryptocurrency, pay for media coverage and promotions, and then quickly sell their coins for a profit.

Others have initial coin offerings (ICOs), in which you give the offering company some of your Bitcoin, and they’ll give you a hefty amount of their new coin in return. Investors hope that the new coin, which they bought for a few cents each, will return 10x, 100x, or even 1000x their initial investment. Not all ICOs are scams, but many are. Some ICOs take your money and run.

Other cryptocurrencies are created by people who mean well, but their coins are targeted by third party traders hoping to hype and then sell the coin for a quick profit. This causes the price of an otherwise promising coin to crash.

Approach any cryptocurrency or ICO with a heavy amount of cynicism. Learn about the people building it. Do they have proven track records? Can you verify that they are truly part of the team, or is the cryptocurrency just using their picture on the website? Read about their roadmap – is it realistic? Do they have connections in the industry they’re trying to overhaul? Do the developers actively communicate with their community? Are they backed or promoted by any investors? Can you verify that the investors or promoters are legitimate? Etcetera, etcetera.

Ponzi Schemes

Another criticism is that cryptocurrencies are ponzi schemes: they only work if you get more people to opt in.

Getting people to “opt in” is a fundamental part of creating a currency. For a currency to be valuable, it has to be accepted within a community of people. People had to “opt in” to using gold. They also had to “opt in” to using the US Dollar.

Another thing to mention is that you can sell your cryptocurrencies any time you want. You will, however, incur taxes from your government on any profits.

Environmental Concerns

There’s a big debate surrounding the environmental concerns of Bitcoin and many other cryptocurrencies.

To create a Bitcoin, for instance, it must be “mined”: you must have a computer which performs a complex algorithm over and over and over, millions of times, and then it may finally be rewarded with cryptocurrency. This is how the system was designed to operate.

It takes a lot of electrical energy to power this mining process, and now that millions of computers are doing it, many people believe this is contributing to global warming.

Others turn the argument on its head and say that the traditional banking system uses much more energy than Bitcoin (electricity, ATMs, mints, etc.), and that there will be a “balancing out” as some scale down and others scale up.

Some people say that cryptocurrencies will eventually be good for the environment as they force people to turn to more cost-effective, renewable sources such as wind and solar (in order to maximize their own profits from mining).

Finally, some coins are “green”: they don’t require computers to perform any mining operations. However, none of these are as big as Bitcoin yet.

Why do some people like cryptocurrencies?

Some people see cryptocurrencies as political insurance – a way to hedge in case of war, inflation, or political unrest.

Political unrest in a country may lead to more people diversifying their cash into universal value stores such as cryptocurrencies and gold.

Remember that crypto isn’t isolated to only your country – cryptocurrencies are global, so political unrest/inflation/war in any country can increase the price.

And, as I said earlier, there are some key benefits:

Conclusion

So there you have it. You now know about cryptocurrencies, blockchain technology, the pros, and cons, and how it all relates to the world at large. If you liked this post, I’d appreciate you getting a tattoo of my face on your arm. Alternatively, you could share it on social media.

  1. I believe there are two ways to hack a blockchain. The first is via quantum computing, which is a computer using subatomic particles to store information. (Many years away.) The second is by owning 51% of the processing power on the network. This would take billions of dollars, and even if you did own that much of the network, you wouldn’t want to destroy it – that would mean throwing away billions! ↩︎

Get the articles and announcements that I never post publicly: