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Consider Alice and Bob.

In simpler days, if Alice and her tribe wanted to survive together in the wild, the easiest manner by which to do so would be to work together and share the benefits over an evening bonfire. This, though grossly simplified, is an idea propagated by Karl Marx and Communism.

As society developed and means of travel became more sophisticated, communities based in different locations became more interconnected. Bartering evolved as a result for both communities to benefit from their produce at home. Alice, could trade her apples for Bob’s fish, at a mutually agreed exchange rate.

Yet, bartering was an imperfect means of trading. If Alice wanted Bob’s fish in the winter (where Bob would have difficulty with seasonal shortage), or Bob had wanted Alice’s apples in the summer, where the trees were not yet fully grown, neither trade would have been possible. Alice and Bob now had

In economic terms, the problem occurs due to the improbability of two traders wishing to trade their skills or products at a similar time in an economy fuelled only by barter trade.

To deal with this situation, Alice would trade her apples for Charlie’s bushels of wheat at a mutually agreed ratio. With the wheat now acting as an intermediate buffer, Alice is now able to obtain Bob’s fishes in the other seasons, and vice versa. Unknowingly, Alice, Bob, and Charlie contributed to the development of the concept of money. In modern monetary economics definitions,

, because these were the most conveninient choices around. However, oxen could fall ill and die, while produce goes bad eventually. The perishability of these commodity money reduced their function as a storage of value

If you traded in terms of oxen, how do you buy half an oxen worth of items? By measuring the weight of metals, they could be divided accordingly for the purchase of an item. Central authorities started grabbing onto this idea, and forged them into common denominations to further increase their convenience. Coinage can be traced back to roughly 900 B.C. in Sparta or about 600 B.C in Greece.

While coinage was decidedly more suitable as a medium of exchange than oxen and wheat, as society progressed and started producing items and services of a greater value, it became necessary to innovate to avoid having to lug huge amounts of metal for large purchases.

while traditional money worked well for purchases, people started wondering if there was a more convenient system to handle frequent transactions. To fulfil this need,

Instead of having the money swap hands all the time, they started keeping a record of all the transactions. Now, when Dion buys an apple from Alice for 1 dollar, the record will note: ‘Dion pays Alice 1 dollar’. At the end of every month, all of them will come together and review the record. If they have a negative balance, they contribute into the pot. If they have a positive balance, they withdraw from the pot. Due to the zero-sum nature of the record ledger, the system is guaranteed to work, if everybody follows the rules.

policy implementation.

Security measures are in the form of authentication, such as requiring a signature to verify cheques, the CVV (Card Verification Value)/CSC (Card Security Code) on your credit cards, and PIN (Personal Identification Number). These measures serve as a deterrence to potential attackers, and help to ensure that you are in posession of what you have earned and deposited with them.

Central banks are also in charge of

Central Banks, and to a greater extent fiat currency, are as much political constructs as they are economic constructs. They provide an avenue through which policymakers and financial institutions may enact policies to manipulate and regulate expenditure. The details are sufficiently long to warrant an article by themselves, but interested readers can find out more here, here, here, and here.

With Great Power comes Great Responsibility

While they might be awarded with such powers, if the polices put in place are ineffective, then the common population suffers from the repercussions. In the 20th century, this happened in many countries, such as Yugoslavia, Germany, and Hungary, where actions of the central bank was pinned with the blame of causing the episodes.

Referencing the above situations, members of the affected public are growingly dissatisfied with centralisation of power.

through Elliptic Curve Cryptography methods

is 6.23 * 10⁵⁶. As an illustration of how great that number is, the fastest recorded supercomputer, Tianhe-2, is theoretically capable of running 55 * 10¹⁵ calculations per second. Assuming everyone in the world has a Tianhe-2, and were simultaneously attempting to crack your key pair, it would take about 10²³ years, which is still orders of magnitude higher than the estimated age of the universe. This means that the system

Due to the complexity of the key pair, it is almost impossible to regain your key pair with no information whatsoever. If you happen to lose the key pair (e.g. due to transferring from one desktop to another), then all the currency in it is lost. A staggering 2.77 million Bitcoins are lost and permanently out of circulation. This is an important figure to note, because the Bitcoin algorithm only generates 21 million Bitcoins in its lifetime, so the above-mentioned amount accounts for more than 10% of the entire future Bitcoin economy.

Authentication over the digital realm is an interesting question. In an arena where all data can be represented by bits of ‘1’ and ‘0’s, how might we provide authentication in a meaningful manner without the risk of attackers stealing it?

Cryptography comes to the rescue. In the study of cryptography we are exposed to functions which are easy to compute in one direction but not the other. An example is the computation of square roots. While it is easy to verify if the answer is correct (by multiplying it by itself), it is much harder to obtain the square root.

Bitcoin uses an algorithm known as the Elliptic Curve Digital Signature Algorithm (ECDSA). Through this algorithm, the user is able to generate a 'digital signature' with his private key and the transaction details. This 'digital signature' can be easily authenticated by other users with only knowledge of the transaction details and the public key, while it is computationally intensive for another user to figure out what the secret key is.

To do this, we draw inspiration from the days of commodity money.

As previously mentioned, early commodity money was in the form of livestock and produce. Why was it that we were perfectly fine with people rearing more livestock or harvesting more produce but not when people tried to counterfeit notes?

While it requires a lot of work from the user to rear livestock or plant more produce, counterfeiting money as a task possesses relatively less barriers. We were happy to award the farmers accordingly by letting them use the livestock or produce as money.

To emulate that in a Cryptocurrency, we make computers solve computationally intensive tasks to show a 'proof of work'. This idea was used since 1997, although back then it was known as Hashcash , and it was created to counter spammers by asking for

B-money failed to establish how agreement on the digital ledger could be achieved, while RPOW relied on a trusted server to verify the transactions.

, a string to append to the end of the block that allows the SHA-256 hash of the block to fulfil a partial hash collision (i.e. the starting characters of the hash are '0's).

It is worth noting for Bitcoin that modifications will be made

every 2016 blocks (roughly two weeks) by increasing the difficulty of the partial hash collision such that it takes approximately 10 minutes for each block to be found. This is an important feature because of Moore’s Law suggesting that computing power doubles every two years, and Bitcoin is structured such that new Bitcoins enter the system in a orderly, predictable manner unperturbed by external factors

This linking is done by appending the 'solution' of the previous 'block' to the header of the next 'block'. As SHA algorithms produce an unpredictable output if the input is altered even slightly, this means that no attacker can easily alter the ledger, or history of transactions, without having to re-compute all the 'solutions' again.

As of writing, the Bitcoin community has decided on 6 as this magic number, meaning that a transaction is really only considered through if it is in the current blockchain, and there are 6 blocks after it.

However, the above assumes that Ephraem is working alone. In reality, miners usually work together in a group, known as a ‘mining guild’. Each miner contributes computing power, and any Bitcoin earned is shared amongst everyone in the guild, which allows for more reliable returns on mining. BTC Guild, currently the largest Bitcoin mining guild, has obtained 6 consecutive blocks in a row multiple times. While BTC Guild conducts its mining operations legitimately, the fact that this situation has occurred shows us that the potential that a determined group of people may spoil the Bitcoin market is present.

, if both users run the same code and adhere to the same protocol. The lack of a middleman in such a scenario therefore reduces transaction fees, and its digital implementation increases the mobility of money

In Argentina, Bitcoin was portrayed to “ offer a safe haven” from rapidly depreciating government peso. Research has shown that micro-credit provides a repeatedly proven method to help families escape the poverty cycle. Venezuelan citizens have also turned to using cryptocurrency mining as a means of combating hyperinflation.

Silk Road, a darknet market for illegal drugs, conducts all its transactions via Bitcoin, offering its users privacy to escape the long arm of the law. Nearly 300,000 Bitcoins (approximately 3.12 trillion USD) were seized, and Bitcoin experienced a drop of nearly 25% in terms of USD/Bitcoin exchange rates when the news was announced.

With the widespread adoption of Cryptocurrencies at the present, and the peer-to-peer nature of implementation, it is almost impossible to impose a blanket ban. Consider as analogy the laws against content piracy via torrents. Legal authorities face huge difficulties in tracking down users torrenting copyrighted materials, and are therefore unable to execute the laws in a meaningful manner. Like Cryptocurrencies, the act of torrenting itself is not illegal, but the potential for abuse is present and should be discouraged.

A 2017 research concluded that various strategies were capable of identifying up to 60% of Bitcoin users of the MyBitcoin service. Vulnerabilities exist both in the network (through identifying and tracing transactions) and out of the network (posting public keys on forums, IP addresses, geographical information, etc) which when combined would offer the potential of unmasking the identity of a user.

- when trades happened behind the veil of cryptography, the government has a harder time imposing the appropriate taxes. Cryptocurrency thus provides a tax haven

, with one of the more well-known works being Mundell’s theory on Optimum Currency Areas , further developed by Kenen and McKinnon . Optimum Currency Areas analyse the potential of geographical neighbours forming an economic or monetary union through adoption of a common currency. It argues that a successful currency union requires four criteria: Labour mobility, Capital mobility, Risk-sharing system, and Common business cycles.

The 2009 European Sovereign Debt Crisis highlighted the importance of some of these criteria. Originally, the European Monetary Union enacted a clause that called for a no-bailout policy, intended to ensure that the growth of countries in the union will not be dragged down by other countries. In 2010, however, the European committee realised that this was unfeasible and unsustainable. Without any means to help the Euro pull through shocks together, the currency union bears no meaning in crises. To attest to this, the stability of the US Dollar is commonly attributed to the mechanisms which are in place to allow the Federal Government of the United States to provide fiscal transfers to states as a stabilising measure, allowing for shock absorption and greater sustainability

. In jail cells it is common to see cigarettes or ramen used as money for other objects; Tide detergent bottles were noted to have been used by drug dealers. These currencies see localised usage as a method

virtual currencies. These monetary systems are constructs meant to facilitate the game’s economy, as another ends for players to work towards. Yet, in recent times it has been noted that these virtual currencies could also be treated as an alternate currency. While often small in impact, Second Life (which was registered to have a million active users per month) and its in-game currency Linden Dollars have came under scrutiny. A 2012 European Central Bank report was published to analyse the potential price and financial stability impacts virtual currencies had on real currencies. Conclusions were drawn that at the point in time of writing,

this was provided that the scope and adoption continued to be limited. Optimistically, the report even predicted that such schemes would increase financial innovation and provide users with greater convenience. In 2015 another report was published, finding that risks are entailed when dealing with these systems, but otherwise sees no need to provide modifications to the current legal framework.

In contrast to Linden Dollars, QQ-coins were introduced as an acceptable payment method for auctions on Taobao.com, and were noted to have been involved in cases where gamblers attempted to circumvent the country’s strict anti-gambling laws.

With their adoption becoming more commonplace, the currency substitution effect of Cryptocurrencies can not be neglected. An increasing lean towards such payment methods will see a reduction in central banks’ ability to influence short-term interest rates, which limits measures to encourage or discourage growth based on a country’s position.