One of the hardest things for people to understand is why and how does cryptocurrency have value?
You cannot touch it, feel it, or see it, and it is not backed by any physical assets. It is not represented or backed by any country or government, yet cryptocurrency can revolutionize our financial and monetary systems.
Many things can be used as money, and to understand why and how cryptocurrency can have value, it is very important to understand the history of money. The definition of money, from Merriam-Webster dictionary, is something generally accepted as a medium of exchange, a measure of value, or a means of payment, such as officially coined or stamped metal currency, paper money issued by a bank, government, or other financial entity, gold, or other assets.
Some form of exchange of value has existed since the early days of man. Some of the earliest writings and inscriptions on caves are those of a ledger of account of some kind. To understand how money is evolving, it is important to understand its history. Below we will look at the evolution of money and exchange over time.
Before official forms of money were created, barter was the first means of exchange. Barter was not limited to one specific kind of item, but instead, it was more of a trade of goods, livestock, produce, or other things of need. A farmer who raises cattle may trade a cow for an agreed-upon amount of a crop that both farmers feel are an equal value in the trade. For the exchange to take place, both parties must agree to the trade.
There were two major problems with this form of exchange is it is not very portable. You could only barter with those within a short distance due to travel and transport limitations. The other problem is sometimes the trade was not able to divide some items to barter. For instance, if I want to trade a few chickens and need a cow, you cannot divide the cow into pieces equal to your chickens, unless others are willing to barter for other pieces of the cow. And all of that doesn’t work if you need a cow for milk and not for the meat.
The next evolution of money and exchange was in the form of seashells. Seashells were considered rare due to limited means of travel, and the further inland you were, the more rare those seashells were. This perceived scarcity led to them being used as a medium of exchange to pay for goods and services. The portability of these shells allowed them to be more widely used than the barter system. The issue with this is that those living near beaches and oceans were able to be the wealthiest, and once travel means improved, many realized that these were not as scarce as once believed, which drastically impeded their purchasing power.
This eventually led to precious metals being used as the earliest forms of organized money. The value in gold, silver, and other metals lies in two parts. Their scarcity and the amount of work that is required to mine for these metals. Gold and silver initially started as chunks of varying sizes, but as more early governments wanted a uniform measure, gold was melted and formed into bars. Bars were easy to make uniform in size and weight, but not very portable. A good money source needs to be portable as well.
That was when gold and silver began to be melted down and formed into round coins of equal size and weight. Some of these coins were then stamped with a ruler figure or other reference on them and a value was established for them. This allowed economies to flourish much more than they had under the barter system. Most goods and services were then exchanged for coins, and the ability to circulate across broader areas due to the ease to transport them, allowed economies to grow and flourish.
This form of money eventually became corrupted over time, even though we still use coins and precious metals in a limited capacity today. The corruption happened over time as fake coins were being minted and instead of being solid gold, they were just gold plated. Also, many people when dealing with real gold coins would clip a small piece off the edge of a gold coin. The idea was people would save clippings over time and melt them into more gold coins.
This was done by both people and governments. As time went on, many coins were only a fraction of the size they should have been. Also as economies grew, they were limited to the amount of gold and silver that could be found in that area, even though as populations grew, there was a growing demand for more of a supply of money. Also, the ability to transport large amounts of coins still presented a problem for many.
Paper money was the next evolution of money. The earliest paper money is dated back to the Tang dynasty around the year 600 AD. Merchants who did not want to carry heavy amounts of coins would leave them with a trustworthy agent who would make a record of how much money each merchant had deposited on a piece of paper. The paper was a form of promissory note that could be traded for goods and services, and the recipient of the paper could go to the agent and redeem the paper for coins. Counterfeit paper bills have plagued paper money since its creation. This eventually led to governments licensing these agents and issuing the world’s first government-issued paper money beginning around the 11th Century.
This led to the formal creation of banks. Banks began with the intention of protecting their clients and their wealth. As banks evolved and the money to be made by banks was realized, money again began to be corrupted. Early paper money was backed by physical assets held in reserves. It could be in the form of formal coins, or even in property or gold. Reserves were initially intended to exactly match the value of the paper money bills in circulation.
Over the years, banks and governments, many times working together, reduced the requirements for the reserves to match the bills in circulation. This leads to a practice known as fractional reserve banking, where only a small percentage of assets are held in reserves. Repeatedly in history, this led to the transition to fiat currency. What is fiat currency, you may ask?
Fiat currency is when money is printed that is not backed by value to match it. Throughout history, attempts to use fiat currency as a monetary system have all failed, and will continue to fail. Poor monetary policies, coupled with reckless printing of new currency to bail out those policies devalue fiat currencies purchasing power over time and eventually collapse. As Voltaire said, “Paper money eventually returns to its intrinsic value: zero.”
Without going too deep in history, you can see instances of fiat money collapsing starting in China in the 12th century, France experienced it 3 times, Germany after World War I, and many more examples if you study history.
A simple search of the history of hyperinflation will bring up a long list throughout history and even in recent times. Most recently we saw this collapse from images in Venezuela, where their fiat currency was so overprinted that it became worthless and lined the streets because it was not even worth the effort to pick it up. We live in a global economy today and when there is a consensus in lack of trust of a fiat currency, we will quickly see it devalue.
You may be thinking that this is in the past and your government’s current fiat currency is either too strong to fail or has great policies to prevent hyperinflation. History will continue to repeat itself as it is inherent in human nature that as a whole, these practices of issuing and continuing to print fiat currencies eventually corrupt its value. Many will say that the US dollar is the exception. But as you can see from this graphic, the US dollar has seen its purchasing power fall by over 90% over the years.
There was an attempt to save the failing paper currency in the early 1900’s by backing it with gold. The Federal Reserve appeared, keeping the control of money in the hands of the government. In 1933 President Roosevelt made it illegal to own gold. Citizens were urged to turn it in, in exchange for gold and silver certificates. The dollars printed in that day stated silver or gold certificate on the top. The dollars printed today say Federal Reserve Note, as depicted here. This policy was eventually corrupted, but not before the US formed a deal with most of the world to make the US dollar the world reserve currency.
This was known as the Bretton Woods agreement of 1944. This allowed the US to export most of its inflation as long as the other countries continued to trust the US dollar and that it would continue to be backed by gold and silver. In 1971, President Nixon announced the end of the gold standard, meaning it was returning to a true fiat currency backed by nothing. Nixon promised in his address to the nation that the dollar would retain its full value. His promises were quickly broken as we have seen the US dollar lose over 90% of the purchasing power it had in 1971. Over the years, in the USA and other countries, we have seen central banks fail and governments print money without regard for inflation to bail out those banks time and time again.
As stated by William Gouge, one of the most well-known economists of the 19th century, “The bank was saved but the money was ruined.” A quick study of history will show this statement can be universally used. He was referencing the panic of 1819, but it could easily have been used in 2008, and dozens of times in between. The technology behind money has not evolved much over the last couple of centuries. We have seen the development of the credit card and digital payments by phone or another device, but the infrastructure behind it is the same flawed system mentioned above. The world was in need of something better.
Enter Digital currency. You may think that Bitcoin was the first digital currency, but that is not the case. Since the rise of the internet in the late 1990s, several entities and people have tried to create a digital currency for the internet. Early forms of digital currency failed in two aspects.
They were centrally controlled which meant one point of failure, but also one point of corruption, the same type of corruption that plagued money over many centuries. The other problem was what is known as a double spend. Double spending is a flaw in digital cash in which the same digital token can be spent more than once, in many cases by sending multiple transactions at the same time. Bitcoin solved this in 2009, when anonymous figure Satoshi Nakamoto released the Bitcoin Whitepaper and subsequently rolled out the network several months later.
Bitcoin was the first decentralized cryptocurrency that solved the issues above. Without having to understand the core code of Bitcoin and how blockchains work, to keep it simple, Bitcoin is decentralized in the fact that it is not controlled by one central server like banks and other entities use. Bitcoin is run by thousands and thousands of nodes and miners securing the network by distributing power which creates trust as all nodes verify the network and each other. Each finalized set of transactions is then stored in a block of information and then a new block is created, making the prior block locked in the ledger.
Bitcoin’s core code also has a set supply of 21 million Bitcoin which are released in each block in a set timeframe that decreases every 4 years. The last Bitcoin is not set to be mined until around the year 2140. Cryptocurrency is free from control as it is a true peer to peer system and you have true ownership of your cryptocurrency in your wallet.
Since the rise of Bitcoin, we have seen thousands of cryptocurrency projects roll out. Most projects will fail to innovate or gain adoption, but it is very promising as a small percentage of cryptocurrencies will revolutionize our global monetary uses and our financial processes.
Cryptocurrency allows you to do business with people all over the world and instantly send or receive payments without the need or the fees of third party banks or other payment providers that only exist to drain fees from those transactions. To navigate the long list of cryptocurrencies today, make sure to reference our blog post about DYOR, How To Do Your Own Research.
Cryptocurrency has the potential to not only replace global monetary systems that have been corrupted time and time again but also to include many who have never been able to participate in financial markets prior. We live in a world of over 7 billion people, but only about 1.5 billion have had the luxury of being able to access financial tools and markets.
This is reflected in the common cryptocurrency rally cry of banking the unbanked. One day we will think of how barbaric it was that based on what side of a border someone was born determined their access to financial markets. It is also a chance to un bank the underbanked and the banked. This means that those who had limited access to financial markets can now flourish by having access to what cryptocurrency has to offer.
Also, those who have had access to banks and financial markets can escape the control and manipulation that history has shown us time and time again. Cryptocurrency will be the evolution of technology needed to match and compliment all the other technology developments we have seen in recent years. To continue to learn more about cryptocurrency and all its potential, be sure to visit our school section in the Newscrypto platform.
Written by Blockchain Wayne and NewsCrypto Analyst team