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What Is Cryptocurrency? How it works?

Advantages and Disadvantages of Cryptocurrency

Cryptocurrencies were introduced with the intent to revolutionize financial infrastructure. As with every revolution, however, there are tradeoffs involved. At the current stage of development for cryptocurrencies, there are many differences between the theoretical ideal of a decentralized system with cryptocurrencies and its practical implementation.

Some advantages and disadvantages of cryptocurrencies are as follows.

Advantages

Cryptocurrencies represent a new, decentralized paradigm for money. In this system, centralized intermediaries, such as banks and monetary institutions, are not necessary to enforce trust and police transactions between two parties. Thus, a system with cryptocurrencies eliminates the possibility of a single point of failure, such as a large bank, setting off a cascade of crises around the world, such as the one that was triggered in 2008 by the failure of institutions in the United States.
Cryptocurrencies promise to make it easier to transfer funds directly between two parties, without the need for a trusted third party like a bank or a credit card company. Such decentralized transfers are secured by the use of public keys and private keys and different forms of incentive systems, such as proof of work or proof of stake.15
Because they do not use third-party intermediaries, cryptocurrency transfers between two transacting parties are faster as compared to standard money transfers. Flash loans in decentralized finance are a good example of such decentralized transfers. These loans, which are processed without backing collateral, can be executed within seconds and are used in trading.16
Cryptocurrency investments can generate profits. Cryptocurrency markets have skyrocketed in value over the past decade, at one point reaching almost $2 trillion. As of May 2022, Bitcoin was valued at more than $550 billion in crypto markets.17
The remittance economy is testing one of cryptocurrency’s most prominent use cases. Currently, cryptocurrencies such as Bitcoin serve as intermediate currencies to streamline money transfers across borders. Thus, a fiat currency is converted to Bitcoin (or another cryptocurrency), transferred across borders, and, subsequently, converted to the destination fiat currency. This method streamlines the money transfer process and makes it cheaper.

Disadvantages

Though they claim to be an anonymous form of transaction, cryptocurrencies are actually pseudonymous. They leave a digital trail that agencies such as the Federal Bureau of Investigation (FBI) can decipher. This opens up possibilities of governments or federal authorities tracking the financial transactions of ordinary citizens.18
Cryptocurrencies have become a popular tool with criminals for nefarious activities such as money laundering and illicit purchases. The case of Dread Pirate Roberts, who ran a marketplace to sell drugs on the dark web, is already well known. Cryptocurrencies have also become a favorite of hackers who use them for ransomware activities.19
In theory, cryptocurrencies are meant to be decentralized, their wealth distributed between many parties on a blockchain. In reality, ownership is highly concentrated. For example, an MIT study found that just 11,000 investors held roughly 45% of Bitcoin’s surging value.20
One of the conceits of cryptocurrencies is that anyone can mine them using a computer with an Internet connection. However, mining popular cryptocurrencies requires considerable energy, sometimes as much energy as entire countries consume. The expensive energy costs coupled with the unpredictability of mining have concentrated mining among large firms whose revenues running into the billions of dollars. According to an MIT study, 10% of miners account for 90% of its mining capacity.20
Though cryptocurrency blockchains are highly secure, other crypto repositories, such as exchanges and wallets, can be hacked. Many cryptocurrency exchanges and wallets have been hacked over the years, sometimes resulting in millions of dollars worth of “coins” stolen.21
Cryptocurrencies traded in public markets suffer from price volatility. Bitcoin has experienced rapid surges and crashes in its value, climbing to as high as $17,738 in December 2017 before dropping to $7,575 in the following months.3 Some economists thus consider cryptocurrencies to be a short-lived fad or speculative bubble.