Cryptocurrencies, stablecoins and central bank digital currencies are all the rage. We describe what they are and what you need to know about them | Currency News | Financial and business news
- Cryptocurrencies and stablecoins exploded in 2021, attracting investors.
- Central banks around the world are increasingly looking to create their own digital currencies.
- Insider removes the jargon and explains the main differences and what they are used for.
- See more stories on the Insider business page.
Cryptocurrencies and stablecoins exploded in 2021. And central banks around the world are increasingly interested in their own digital currencies. But how do they all work and what are they used for?
Cryptocurrencies are essentially digital currencies that are neither controlled nor issued by a centralized authority, such as commercial or central banks.
These coins are sent back and forth over huge peer-to-peer networks – basically groups of computers sharing data.
The innovation of cryptocurrencies is that the “ledger” that keeps track of transactions – known as the blockchain – is supervised and verified by network users called “miners.” Miners collectively do the work of a central authority, checking that people don’t try to spend coins twice and in return earning newly created bitcoins.
“What we are aiming for with blockchain is to make it ‘trustless’ so that no one has overall control,” said Ben Edgington, software developer for the Ethereum network. “It’s totally democratic [and] it’s fully accessible. “
Bitcoiners say it’s ‘digital gold’
When bitcoin was first started by the anonymous person or group Satoshi Nakamoto in 2008, many believed it could be used for payments. In reality, it is far too volatile.
Now, many bitcoiners say its scarcity – only 21 million coins can be mined – means it will hold its value and protect investors from inflation. Others say it’s purely speculative.
Other cryptocurrencies have different uses. The ethereum network, for example, can be used to create applications such as collectible “non-fungible tokens”.
Cryptocurrencies are very risky
In Bitcoin and other networks that follow its model, miners verify transactions using large amounts of computing power to solve complex mathematical problems. Bitcoin’s mining system uses as much electricity per year as medium-sized country. Other cryptocurrencies are less energy.
Cryptocurrencies are largely unregulated and are among the riskiest investments. Bitcoin has plunged about 50% from its April high of nearly $ 65,000.
Wild volatility has been a huge deterrent for some investors as it can make crypto more difficult to use. This is where stable coins come in. Stable coins retain a “stable” value with a peg to other assets, such as the dollar.
Traders love stablecoins
Interest in stable coins has also increased. They are at the heart of cryptocurrency trading, making it easy for investors to enter and exit more volatile assets like bitcoin.
Stablecoins are also commonly used in the world of decentralized finance – a thriving ecosystem that allows people to create financial products without needing central authorities.
Regulators are concerned
But they are under scrutiny. In May, Lael Brainard of the Federal Reserve raised concerns stable coins could fail and destabilize the financial system. New York too prohibits the trade of Tether after an investigation found he overestimated his support in US dollars.
As with the rest of the cryptocurrency world, a lack of regulation means investors have almost no protection if their stablecoin suddenly crashes.
Central bank digital currencies
Countries are trying to find ways to make it easier to spend and send money – and to keep control over increasingly private payment systems (think PayPal or Visa). A digital currency issued by central banks directly to consumers might be the answer.
Today, private banks and payment companies are the most important players in the day-to-day use of money. But a central bank digital currency (or CBDC) would be a digital version of banknotes and coins, allowing people to hold and make payments in central bank money.
CBDCs could make payments more secure
CBDCs could speed up transactions for individuals and large institutions, Chris Giancarlo, founder of a nonprofit Digital dollar project, Insider said. The DDP plans to test the CBDCs in real situations.
âIf you can send a photo to Japan in a second, why can’t you send money in a second? ” he said.
Central bankers also believe that CBDCs can make the financial system more secure. Although unlikely, even a large global payments system could collapse.
Some bankers are worried
One of the concerns is confidentiality. Some governments may design CBDCs so that transactions are anonymized, such as cash, but others may not. Privacy issues have arisen over China trial digital yuan.
âWith a CBDC, the government would have direct access to all of your spending habits,â said Bobby Ong, co-founder of data company CoinGecko.
Some bankers fear that CBDCs will take them away from key parts of the financial system. CBDCs could reduce demand for commercial bank accounts and exclude banks from transaction verification, although central banks are working on the details.