December 12th, 2017

You can’t read the news, search the internet, or scroll through social media without hearing about “bitcoin.” Cryptocurrency and its underlying technology — block-chain, sent ripples through fintech over the last few years. This year, it exploded — and so did its value. The more bitcoin’s price skyrocketed, the more buzz it got. The more buzz it got, the more attention it received from news and social media outlets — which launched bitcoin into notoriety.

At the start, it triggered a niche audience of traders, investors, and techies that were intrigued by the price accumulation and technological innovations. Now, the media mayhem grabbed the attention of everyday people wondering what the heck cryptocurrencies, bitcoin, and blockchain are.

Cryptocurrency

According to Investopedia, cryptocurrency “is a digital or virtual currency that uses cryptography for security.” Its core features include user anonymity and the lack of a central authority or mediator to process transactions. Basically, it’s a private and secure way to pay or exchange money that takes place on a all-digital platform. It’s like a wire transfer, except digital wallets replace account numbers, and digital wallets are anonymous. No third parties exist; cryptocurrencies allow for two parties to transact in a true peer-to-peer (P2P) manner. The decentralization of money is what attracts many enthusiasts. However, the “crypto” in cryptocurrency — the anonymity it provides its transactors —  detracts others because this features draws hackers, cyber criminals, and black market activities.

Bitcoin

Bitcoin is the clear favorite and winner of cryptocurrency. Launched in 2009, bitcoin’s identity mimics its anonymous nature. All that is known is derived from a note, produced by a Satoshi Nakamoto. No one knows his true identity. In the note, Nakamoto explains that a P2P network could replace the need for third parties and financial institutions, solving problems of rising transaction costs, double-spending, and non-reversible transactions. Nakamoto explains that the P2P network replaces third parties by substituting cryptographic proof for trust. Cryptographic proof is created via blockchain technology (although Nakamoto does not use this exact terminology).

Blockchain

Blockchain provides the underlying technology to bitcoin, as well as other cryptocurrencies. Nakamoto explains that blockchain technology functions as the P2P “network timestamps transactions by hashing them into an ongoing chain of hash-based proof-of-work, forming a record that cannot be changed.” This generates “computational proof of the chronological order of transactions.” The system is secure as long as honest nodes collectively control more CPU power than any cooperating group of attacker nodes.

Put simply, blockchain replaces third parties by using a network full of nodes to verify transactions. Verifications exist through a ledger. Transactions process chronologically to create a chain of information. Once a block is added, it is permanent. Then a new block is created as more transactions take place and network nodes verify it. Blockchain is self-sustaining. Network nodes are incentivized to verify transactions for rewards in the form of new bitcoin or transaction fees.

Blockchain’s functionality extends far beyond cryptocurrency and has the potential to disrupt fintech, especially in the payments and transactions spaces. IBM CEO Ginny Rometty says, “What the internet did for communications, blockchain will do for trusted transactions.” In a future blog, we’ll discuss how blockchain might impact fintech.