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The world of money and finance is transforming before our eyes. Digitized assets and innovative financial channels, instruments, and systems are creating new paradigms for a financial transaction and forging alternative payment systems. The advent of cryptocurrency has sparked many new business platforms with sizable valuations of their own, along with new forms of peer to peer economic activity. It is a digital asset designed to work as a medium of exchange using cryptography to secure the transactions and to control the creation of additional units of currency. As of 2017, it has been used as a decentralized alternative to traditional fiat currencies (which are usually backed by some central government) such as the USD. Cryptocurrencies are taking on an ever more important role in the lives of a growing number of people around the world.

The first decentralized digital cryptocurrency can be traced back to “Bit Gold”, which was worked on by Nick Szabo between 1998 and 2005. This was followed by the creation of Bitcoin by pseudonymous developer Satoshi Nakamoto in 2009. Since then, numerous cryptocurrencies have been created. Jordon Kelley, the founder of Robocoin, launched the first Bitcoin ATM in the United States on February 20, 2014. The other cryptocurrencies besides Bitcoin are frequently called altcoins, as a blend of “Bitcoin alternative‟. The following cryptocurrencies are the largest in terms of market capitalization – Bitcoin, Ethereum, Bitcoin Cash, Ripple, and Litecoin. Cryptocurrencies have evolved from being mere units of transactions to attractive investment options. The market capitalization of cryptocurrencies currently stands at $162.3 billion, which is an 850% increase from their value of $17.7 billion at the start of this year, and is expected, to $200 billion by the end of 2017.

Ronnie Moas, the founder of Standpoint Research, believes that cryptocurrencies will emerge as one of the frontrunners in the global investment world in the near future and emerge as more lucrative compared to stocks, cash, gold, and bonds. He compares the current state of cryptocurrencies market to that of Silicon Valley during the 1990s. Moas firmly believes that cryptocurrencies will command a market capitalization of $2 trillion in the coming decade.

However, the question that is being popped in everyone’s brain is that “Is cryptocurrency the future of money?” Bitcoin forms the major chunk of the cryptocurrency universe, around 47%. The interesting part about Bitcoins is that it’s unregulated. No government or organization can claim authority over Bitcoin. Unfortunately, that also makes Bitcoin the “mafia currency”. Most of the illegal payments like ransom are paid through the mode of Bitcoin. In light of all this, the status of cryptocurrency as the future of currency becomes highly debatable.

BITCOIN- The Undisputed King

“Bitcoin is the beginning of something great; a currency without a government, something necessary and imperative.” – Nassim Taleb, author of Black Swan.

Bitcoin is a worldwide cryptocurrency and digital payment system and is called the first decentralized digital currency since the system works without a central repository or single administrator. Hailed as the brand ambassador of the cryptocurrency world, it was invented by an unknown programmer or a group of programmers, under the name “Satoshi Nakamoto” and released as open source software in 2009. The system is peer to peer, and transactions take place between users directly, without an intermediary. These transactions are verified by network nodes and recorded in a public distributed ledger called a Blockchain. It uses a cryptographic hash function as its proof of work scheme.

Electronic Frontiers Foundation and Wikileaks were one of the first organizations which started accepting Bitcoin as a source of payment in 2011. Starting with the price of $0.003, Bitcoin has risen tremendously with its price touching an all-time high of $19000 in December 2017. Bitcoin can either be purchased in the market or can be “mined”. Bitcoin mining is the method by which Bitcoins are created. Mining

Mining is the complex process through which new Bitcoins are created. The mining process involves compiling recent transactions into blocks and trying to solve a computationally difficult puzzle. The first participant who solves the puzzle gets to place the next block on the blockchain and claim the rewards. The rewards incentivize mining and include both the transaction fees (paid to the miner in the form of Bitcoin) as well as the newly released Bitcoin. However, as the supply of Bitcoin increases, the reward starts decreasing. Current reward includes 12.5 Bitcoins for each block created.

A cheap and popular way of mining Bitcoin or different cryptocurrencies is cloud mining, in which an individual doesn’t have to own a mining rig. Numerous companies have set up large mining farms spread across several square feet to collectively mine cryptocurrencies for individuals unable to assemble their own mining rig, for a fee. An individual can visit their website and put money to start mining.

Blockchain- The Oxygen

The Blockchain is a public ledger that records Bitcoin transactions. The maintenance of the blockchain is performed by a network of communicating nodes running Bitcoin software. Network nodes can validate transactions, add them to their copy of the ledger, and then broadcast these ledger additions to other nodes. In simple words, word of the transaction is sent through the Bitcoin network to “miners” with powerful computers. Blockchain acts as a public ledger showing all transactions, though the identities of the participants are obscured. Each block has a cryptographic link to the previous one. Every addition of a new, linked block to the chain makes it harder for a rogue miner to steal someone‟s Bitcoin by rewriting the sequence of transactions.

Ethereum- The Heir Apparent?

Ethereum is a decentralized platform that runs smart contracts: applications that run exactly as programmed without any possibility of downtime, censorship, fraud or third-party interference. It provides a decentralized Turing-complete virtual machine, the Ethereum Virtual Machine (EVM), which can execute scripts using an international network of public nodes. Ethereum also provides a cryptocurrency token called “ether”, which can be transferred between accounts and used to compensate participant nodes for computations performed. Gas, an internal transaction pricing mechanism, is used to mitigate spam and allocate resources on the network. Unlike Bitcoin, Ethereum‟s founder is known to the world. Ethereum was proposed in late 2013 by Vitalik Buterin, a cryptocurrency researcher and programmer. Development was funded by an online crowd sale during July–August 2014. The system went live on 30 July 2015.

Is Cryptocurrency the future of the money?

Cryptocurrency is, undoubtedly, one of the biggest revolutions of the 21st century. Many people and in some cases, even large organization, are in dark about cryptocurrency. Many savant personalities believe that cryptocurrency will emerge as one of the most important asset classes in the coming future. But the question still persists, “Is it the future of money?”

For starters, cryptocurrency has its advantages. It is fast, global, secure, permissionless and pseudonymous. Unlike the fiat currency, which is controlled by the central bank of the country, Cryptocurrencies are internationally unregulated, their fate resting in the hands of “miners”, who verify the transactions and mine the blocks to increase the supply. But then this also makes cryptocurrencies perfect for illegal trade. These attributes give the virtual currency appeal to a broad spectrum of speculators and investors, entrepreneurs and the criminal underworld including drug traffickers, terrorists and anyone wanting to circumvent currency or tax regulations. Recently, the WannaCry ransomware attack gripped everyone from Russia to China. The amount of ransom was to be paid in Bitcoin. Transactions made through cryptocurrencies are irreversible, once it’s done, it’s done. No one can reverse it. Some people consider cryptocurrencies to be digital gold. Sound money that is secure from political influence, money that promises to preserve and increase its value over time.

However, there are several reasons as to why cryptocurrency cannot be considered as the future of money and cannot replace the current monetary system. As they gain popularity, volatility, and spikes in value, it means that some speculators may earn quick returns. Of course, the nature of transactions means that others may lose just as much. Although the idea may be innovative and disruptive, central banks will not simply relinquish control over money.

Untraceable and without any physical existence, it is the ideal means to buy drugs, move illegal cash across borders, fund terrorism without any government interference. Without government backing, cryptocurrency would be subject to wild swings in valuation based on speculation and greed. Cryptocurrency as a mathematical concept is scalable but the infrastructure is not currently in place to make that scale possible.

Until the time there is no central authority responsible for cryptocurrencies, it is hard to consider them as the future of money.

What if cryptocurrencies replace the existing paper currency?

Cryptocurrencies are borderless. This means that their usefulness is derived from a set of agreements struck by the participants who are not confined to any one state. This might be useful only when it could facilitate greater trade and capital inflows, but from a monetary policy perspective, the Bitcoin area is not likely to be an optimal currency area. Without a state or an authority directing fiscal transfers to make up for the inability to adjust exchange rates within that area, the result is going to be a monetary policy which is either too tight or too loose for different groups at different times. Further, a partial adjustment by one set of users in the world will have spillovers to everyone else. The more amplified boom and bust that a gold standard like Crypto-monetary Policy would imply for its users would disturb the business cycles of its neighbours. One would need an agreement somehow that the verification rewards for miners depended on the state of the economy in the same way that central bank interest rates are flexible according to the conditions, and this could not be hard coded any more than central banks could hard code interest rate policies. The latest difficulties with Bitcoin make the prospect of a cryptocurrency takeover seem fanciful at the moment. But if solutions to these problems were found, or a new currency is devised with better protocols, central banks will have to resolve these dilemmas one way or another.

Effect on the economy – Consider a situation where the world has only one currency i.e. Bitcoin and no other cryptocurrency or fiat currency. The main idea of cryptocurrencies is that they are decentralized and this is also the biggest difference to fiat currencies. Fiat currencies get regulated by some central institution. This institution decides if and how much new money should be printed and how to distribute it. Many economists are of the opinion that a low inflation is good for the economy to encourage company investments and therefore the central institution prints money to hold a small inflation. Furthermore, they can use the newly printed money to support governments and banks. In the Bitcoin world, we would not have inflation, since no new money would be printed. On the contrary, if we assume that the world population further increases this would mean that more people need to share the same amount of Bitcoins which would lead to a deflation. People would instead be motivated to hoard Bitcoin as its value is guaranteed to increase over time. This would drastically affect demand, which in turn would affect. This would lead to the fact, that companies save their Bitcoins (since their value will increase in future) instead of investing them which would be bad for the economy. Unless a definitive solution to the above problem is found, Bitcoin or cryptocurrencies should not be adopted as the “official” mode of exchange.

Bitcoin Futures – the weapon to curb the volatility

CME, the world’s largest futures exchange, on 10th December 2017, launched for the first time Bitcoin Futures under the ticker name BTC. A Futures contract is a type of hedging instrument wherein parties contract in present the transaction going to take place at a specified time in future at a pre-determined price. Like all hedging instrument, Futures contracts serve two purposes:

1. It helps in price discovery of the asset/underlying.

2. It helps in hedging the risk associated with the underlying.

Similarly, Bitcoin Futures would ensure a fair price discovery mechanism for the crypt-currency, which had been missing till now, and would curb the volatility associated with the Bitcoin and restrict the windfall gains of 1000% or so which had become quite famous with the Bitcoin.

Is Bitcoin a Bubble?

Bitcoin’s price has surged from $1000 at the start of the year to $19000 in December 2017, with the price rising from $11000 to $13000 in less than 2 days. This uncontrolled rise has attracted the whole world. While many people are flocking to Bitcoin to park their money in hopes of 1000% return, a few experts have termed the Bitcoin as a bubble. The hype around the Bitcoin is getting bigger and bigger. The supply of Bitcoin is limited to 21 million, so the simple Law of Demand and Supply, tell us that the rising demand will lead to rising prices.

Bitcoin’s price rise has matched that of Tulip Mania, another bubble which burst in 1637. Status quo, Bitcoin shows all the signs of a bubble:

1. Rapid pace of movements

2. Speculation

3. Non-investors jumping in

While many government officials and central bank governors across the world have cautioned the public against investing in Bitcoin citing its high volatility and speculative nature. There are many others who think that the Bitcoin rally would continue, foremost among them: Ronnie Moas, the analyst who predicted Bitcoin’s rise. He put a price target of $5000 for Bitcoin for the year ending 2018. And now after revision, Mr Moas of Standpoint Research predicts that Bitcoin could rise to almost $300,000-400,000. Even though many central banks have flagged concerns over Bitcoin, this hasn’t stopped from launching their own crypto-currencies. For instance, Venezuela is launching Petro, its crypto-currency based on oil to finance its doomed economy and Crypto-Rubble by Russia. According to sources, even RBI was mulling of a crypto-currency of its own, the Laxmi Coin.

Bitcoin will burst sooner or later, that is confirmed. Because unlike the traditional asset classes, Bitcoin has no underlying, its price rise is purely on the hype and excitement around it. And as mentioned in The Intelligent Investor, “Enthusiasm may be necessary for great accomplishments elsewhere; on Wall Street, it almost invariably leads to disaster.”

However, one thing is certain, crypto-currency and blockchain technology is here to stay for long term.

Going beyond the problems of Bitcoin Bitcoin has dominated the headlines in the financial world in recent months with a return of over 18000% so far this year. Although the outlook for Bitcoin is fairly uncertain at this stage, the technology behind it has a much wider appeal and could be used in a number of areas. Blockchain has the potential to end property related litigation in a country like India. The government can have a blockchain where the ownership and transactions can be tracked easily. Blockchain can make government spending more efficient in areas such as the social sector, as it will increase transparency. This could also help reduce costs for financial institutions and the working capital requirement for other firms. The distributed ledger can have other uses such as smart contracts. Even though the future of cryptocurrencies is uncertain at this stage, it is the idea of blockchain that deserves more attention as it could potentially transform the way transactions are settled.

FUN FACT: You have to pay taxes on gains from Bitcoins

On 13 December, the income tax department conducted surveys at Bitcoin exchanges across the country including exchanges in Mumbai, Pune, Bengaluru, Delhi, Hyderabad and Gurugram. If the gains from Bitcoins are arising due to trading, it will be treated as business income. In case the gains arise due to increase in prices while you hold it as an investment, the gains will be treated as income from other sources. In case you hold Bitcoins for longer duration and then sell it, the profit will attract capital gains tax. In case of short-term capital gains, the gains from the sale of Bitcoins would be taxable at your applicable slab rates plus surcharge and Education Cess and long-term capital gain will be taxable at 20% plus applicable surcharge and Education Cess, with the benefit of indexation.

By Siddharth Bapna And Sargam Gupta


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