Digital money with real effects and risks

Cryptocurrency, also known as “digital currency,” has quickly become an economic and technological phenomenon in recent years. This online form of money is intended to allow for safe and secure, and sometimes private transactions.

“Roughly speaking, it’s much like digital cash,” Sebastian Neumayer, assistant professor in UAA’s computer science and engineering department, said. “If two people are across the country and want to send $20, you could write a check, but you need to write a check and it needs to clear through a bank… With these cryptocurrencies, they allow these cash-like digital payments where these trusted third parties are sort of removed.”

This means cryptocurrencies, such as bitcoin, are decentralized, since there is no bank or intermediate party involved. These transactions are then typically faster and irreversible. Once a transaction has been made, there’s no easy way to go back. While mistaken money transfers or purchases can be handled by a phone call to the bank, it’s not the same case for using cryptocurrency.

“The purpose is just to make the payments sort of more censorship-resistant and trust-less,” Neumayer said.

Visa had suspended donations to WikiLeaks when the latter was accepting them online.

“One of the first uses of bitcoin came from WikiLeaks,” Neumayer said. “They wanted to accept donations to the site; however, Visa decided to stop processing payments for WikiLeaks donations.”

Visa, along with other major financial companies like MasterCard and PayPal, had blocked these transactions in 2012 due to uncertainty about how the website obtained U.S. State Department documents. WikiLeaks ultimately turned to gathering donations via a public bitcoin address, thus bypassing the banking blockade.

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Bitcoin is one of the most widely-known types of cryptocurrencies and was created in 2009. On the first day of January 2017, it was valued at about $980, according to coinmarketcap.com. This value steadily increased over the coming months until it reached a significant high of $19,758.20 in mid-December 2017.

In spite of this large difference in value within 12 months, cryptocurrency values are not exempt from fluctuating prices in the growing market. Bitcoin’s price dropped on Dec. 22, 2017 to $12,239.70. Since then, it has been rising and falling by thousands of dollars.

John Nofsinger, a UAA finance professor and William H. Seward Endowed Chair in International Finance, says that the popularity surrounding cryptocurrency is “worrisome.”

“I personally don’t think that cryptocurrency is based on anything of value. The only thing of value that it is, is that we trust that it has value,” Nofsinger said. “The big question is: is it useful or is it fad?”

For Neumayer, people may have a “fear of missing out.”

“Why [has bitcoin] been blowing up in the last year or two? I don’t know because it’s been around for nine years now,” Neumayer said. “I almost think it’s a self-fulfilling prophecy in a way that people see the price rise.”

Results for people investing in cryptocurrency have varied. Eddy Zillan of Ohio was only 15 years old when he’d decided to invest about $12,000 in bitcoin and another digital currency called ether. He had taken this money from previous jobs and turned it into over $500,000 as of November 2017.

Others have not been as lucky.

Confido, a cryptocurrency start-up, vanished from the internet after acquiring $375,000 through an initial coin offering. An ICO posits that “a percentage of the cryptocurrency is sold to early backers of the project in exchange for legal tender or other cryptocurrencies,” as defined by Investopedia. This means the start-up can avoid the hassle of regulations brought on by intermediate parties and investors depend on the ICO to meet funding requirements, thus giving their cryptocurrency a higher value.

All websites and social media accounts associated with Confido have been deleted and the currency given to investors plummeted in price shortly afterward.

In China and South Korea, ICOs are banned.

Cryptocurrencies may have opened doors for other types of scams, fraud and criminal activities. Neumayer is concerned that people could use digital currency, specifically the more private ones, as a tool in ransomware.

“These privacy coins are very interesting, although it’s not clear to me how much good they’re going to do because I think they’ll be very popular among criminals,” Neumayer said.

In some cases, law enforcement would be able to trace the ransomware back to the person who initiated the exchange. Now that there are more “privacy-focused” types of cryptocurrencies, Neumayer says, that would not be the case.

Though the craze in the cryptocurrency market is still new, Nofsinger says he wants to see it become legitimized and easier to use.

“I want to see that cryptocurrency becomes a more legitimate currency in the sense that it becomes far easier to use it,” Nofsinger said. “You know, can I pay my taxes with it?”

Nofsinger also mentions how the exchange rate for the U.S. dollar and Japanese yen still remains consistent, unlike the volatile prices of cryptocurrencies.

“It’s really almost impossible to use [bitcoin] if it can cost $15,000 one day and $18,000 the next day. That utility makes it unusable for business,” Nofsinger said.

Neumayer is unsure about the future of cryptocurrency since they may be at their limit sooner than later, and the idea of replacing official currency is unlikely.

“Bitcoin is limited to three transactions per second globally, so we’re already up against that wall. That’s why transaction fees are so high; people are bidding to get their transaction on the network,” Neumayer said. “It’s not clear to me that these cryptocurrencies could scale to widespread use.”