The Blockchain For Dummies Guide — Part 7
RECAP: In Part 6, we discussed what cryptocurrencies are, how they work, and some of their advantages over fiat currency. In this post, we’re going to dive into some of the most popular cryptocurrencies today as well as some of their proposed use cases going forward.
Bitcoin
You can’t have a discussion about cryptocurrencies without talking about the mother of all cryptocurrencies, Bitcoin.
Bitcoin is the brainchild of an anonymous man or group known as Satoshi Nakamoto. Bitcoin’s origin dates back to the early 2000’s when a group known as the Cypherpunks made various attempts to create digital cash.
The problem with every attempt seemed to always come back to the double-spend problem which we alluded to in a previous post (remember how users should not be able to spend the same digital coin more than once?).
It wasn’t until October of 2008 that Satoshi Nakamoto submitted his manifesto to the Cypherpunks mailing list, Bitcoin: A Peer To Peer Electronic Cash System, which proposed a method for solving the double-spend problem. By January of 2009, the first block of the Bitcoin blockchain was mined and the age of blockchain and viable cryptocurrencies officially began.
Because of Bitcoin’s clout and popularity, Bitcoin more or less serves as the Dow Jones of the cryptocurrencies markets. Movement in Bitcoin prices have a noticeable affect on other cryptocurrency prices, but that may change in the future.
Bitcoin originally was devised as a peer-to-peer payment system, however its popularity has caused various technical problems in the protocol, specifically related to transaction times.
As it stands right now, Bitcoin can handle only about seven (7) transactions per second (TPS), which is paltry compared to Visa or Mastercard levels of 23,000–24,000 TPS. So as a payment system, Bitcoin isn’t anywhere near the needs of global commerce to be considered a viable payment system for everyday purchases.
However, since Bitcoin is open source software, the Bitcoin community has been working on 2nd layer implementations to help take some transactions off the blockchain into payment channels with Lightning Network. The theory is that by taking transaction off chain into payment channels, it will free up bandwidth on the blockchain. As an engineer, I’m a little dubious as to Lightning Network’s ability to solve the scaling problem in a workable manner, but I’ll save that for a future post.
Regardless as to whether the Bitcoin community is successful at scaling the cryptocurrency into a usable everyday payment system, there’s no question that Bitcoin will have a relevant future as a digital asset.
Bitcoin has often been referred to as “e-gold” which I feel would be an accurate moniker going forward since it mimics many of the inherent properties of gold: a great store of value, but a poor medium of exchange.
Ethereum
Ethereum is the brainchild of a group of developers lead by Vitalik Buterin, who while an avid Bitcoin enthusiast, saw the need for the expansion of the scripting layer on the Bitcoin blockchain to allow for software development.
Ethereum came about as a fork from Bitcoin. A fork in programming means to take the initial codebase of an open source software and use it as a starting point to build off of.
Ethereum utilizes a scripting layer and programming language called Soliditythat allows developers to create smart contracts (which we discussed in Part 6). If you recall from the previous post, a smart contract allows for the creation, control, and minting of cryptocurrencies or tokens which developers can utilize for various purposes.
Essentially, Ethereum allows developers to create their own cryptocurrencies without having to worry about building a whole new blockchain protocol. Instead, they can use the Ethereum blockchain to handle the transaction data and consensus, while the smart contract layer handles the token economics.
Because Ethereum is a Bitcoin fork, its currently plagued with the same scaling problems as Bitcoin. There have been various proposals to solve the scaling problem, from changing the consensus mechanism to sharding the blockchain database, however nothing has been released as of yet.
Currently, Ethereum can only handle upwards of about 15 TPS, so it’s also a long ways away from being a viable payment protocol. Even more concerning for Ethereum is that because smart contracts are publicly viewable code, poorly programmed smart contracts carry a huge security risk which in aggregate has resulted in millions of dollars of loss from hacked smart contracts.
Regardless of Ethereum’s scaling and security issues, the protocol has a loyal following containing some of the smartest minds in the world. It also currently stands as the most popular protocol for entrepreneurs and new blockchain-based companies for building applications.
Ripple
Ripple stands out as one of the most unique cryptocurrencies in my opinion, specifically because it was built with the end goal of a becoming a viable global payment system.
Ripple started as an idea between Jed McCaleb (now the founder of Stellar) and Chris Larsen (acting chairman of Ripple), however the protocol itself is the brainchild of former NSA cryptographer, David Schwartz. McCaleb approached Schwartz to discuss working together on a different way to solve the double-spend problem in a more scalable way than Bitcoin, and Ripple was the result.
Without getting too technical, Ripple solves the double-spend problem in a different manner than Bitcoin. Instead of utilizing miners to expend computing power to reach consensus on transactions, Ripple utilizes a super-majority consensus process known as the Ripple Consensus Protocol (RCP).
RCP uses an avalanche mechanism, meaning that as validators on the network agree towards the validity of transaction sets, other validators begin to agree towards the transaction set at a faster rate until a super-majority is reached, which adds the transaction set to the ledger.
The end result is that Ripple is able to achieve transaction speeds upwards of 50,000 TPS, almost twice that of Visa or Mastercard processing speeds. This means that as of right now, Ripple truly is the only distributed ledger technology that has immediate potential as a viable payment system.
While an everyday payment system may be more into the future for Ripple, the immediate use case for Ripple is for cross-border transfers. Currently, the banking sector utilizes the SWIFT system, a network of interconnected banks that transfer funds along to an end destination.
The SWIFT system has been around for years — its antiquated, slow, and carries high fees for international transfers. Therefore, Ripple is in a fantastic position to disrupt the way financial institutions make cross-border payments by providing near real-time fund settlement for fractions of a penny, versus high fees and 5-day transit times via SWIFT.
Also, Ripple’s native currency, XRP, can provide financial institutions with real-time liquidity for currency exchanges by providing an immediate pool of liquidity without having to hold foreign accounts in various destinations and currencies. This lowers banks’ currency exchange exposure and reduces their amount of dormant capital in foreign accounts.
Emerging Cryptocurrencies
In addition to the above currencies, there’re various other emerging currencies for different use cases, ranging from anonymous transactions to application specific usage.
Hedge funds and other alternative asset based funds are also looking to cryptocurrencies as a way of tokenizing their funds to provide immediate liquidity for investors in what would otherwise be non-liquid positions.
In Part 8, we’ll wrap up our series by talking about some of the other use cases for blockchain and cryptocurrencies, ranging from virtualizing real world assets, to federating personal identity, through verifying digital documents to prevent against forgery and non-repudiation.
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