5 December 2017

Blockchain technology: Cryptocurrencies explained

by Daniel Evans

Blockchain technology promises a means for a completely independent, state-ignoring, state-resistant, unalterable financial and property system.

How could any free trader not be intrigued?

Simply put, it’s like email for money (and many other things) which anyone can access, no central authority controls, and is practically impossible to censor.

Blockchains are already beginning to transform everything in our financial system, from commerce to capital markets. It is still early days but blockchains will be as transformative as the printing press, the internal combustion engine, or even the internet itself.

Anyone interested in free trade must take the time to become familiar with the basics of the technology.

The best place to start is a cryptocurrency such as Bitcoin.

Bitcoin is an open source, peer-to-peer system for transactions over the internet. There is no central authority and anybody can participate. Transactions are publically visible, unalterable, and can’t be censored.

“Bitcoin” also refers to the cryptocurrency of the system. It is divisible to the hundred millionth. The smallest unit is known as a “satoshi”. The cryptocurrency is what a person “spends” in a transaction. The balance of what you can spend is kept in a “wallet”. A wallet consists of your address and private key. The address is where people can send you bitcoins. The private key is like a password which allows you to spend your balance. Anyone can get a wallet and it’s possible to remain completely anonymous.

All transactions are confirmed and recorded on a distributed public ledger called a blockchain. All that’s recorded is how much bitcoin transfers from one wallet to another. It’s possible to remain anonymous unless you know who owns which wallet. Transactions are grouped into “blocks” which are added one after the other, in a chain, and created in the system by “nodes” and “miners”. Nodes ensure that transactions don’t contradict the existing record on the blockchain. Miners solve difficult mathematical calculations which allow new blocks to be added to the blockchain. This process ensures a chronological order of transactions, neutrality, and the integrity and truth of the system.

Bitcoin’s cryptographic security is so high that some (eyebrow-raising) estimates predict that with current technology it would take more energy than the solar system produces to run enough computers to perform the calculations that would crack it. Additionally, the computing power behind maintaining the integrity of the Bitcoin blockchain is now so high that it would also take a considerable amount of resources to take it over. In any case, any takeover would be relatively quickly spotted and participants could easily adapt, not least because participation is not centralised or reliant on permission.

It should be more apparent now why cryptocurrencies are so empowering for free trade. Anyone can participate, privately, without permission, and the most resilient ones can’t be stopped unless the whole internet was shut down and some satellites were destroyed.

Currencies are just the beginning. Smart contracts, the second, perhaps more important application of blockchain technology, make the uses for blockchains extraordinarily more sophisticated.

This is the first of four short pieces explaining blockchain technology: cryptocurrencies explained; smart contracts explained; the role of regulators; rethinking property rights.

Daniel Evans

Daniel Evans is part of the team that started the Gibraltar Stock Exchange (GSX). He has owned bitcoins since 2010. The GSX is starting a crypto-asset market, the Gibraltar Blockchain Exchange. This article does not necessarily reflect the opinion of the Gibraltar Stock Exchange.