Cryptocurrency in all Aspects

List of Contributors

Kaan Masatci and Assoc. Prof. Hasan Murat Ertugrul

History of Money and Cryptocurrencies

Abstract: Nowadays, cryptocurrencies are being seen as one of the strongest alternatives to the current monetary and payment system. Technological developments enable us to transfer money from one to another very quickly through the banking system in which all transaction records are kept.

Blockchain technology, however, challenges the current monetary and payment system in two aspects: states do not need to be the only authorized entity to create money and we do not need a banking system as a third trusted party in our transactions. Supporters of this idea believe that bitcoin and blockchain can make this happen. By means of blockchain, everyone can create their money and transfer to each other without needing of a third trusted party. Banks or even central banks are not needed anymore!

When we think that if the world is in need of a new monetary system, the answer is “yes”. But when asked whether cryptocurrencies can meet the necessary conditions to build a new monetary system, then the answer will be a bit more complicated. Although blockchain technology is quite persuasive that the transactions can be carried out without a third trusted party, still it is not clear how cryptocurrencies will be generated enough to make international trade possible, while the reason of fiat money is still there; ‘precious metal supply was not enough to meet the magnitude of international trade’. Bearing this in mind, this study aims to explain briefly how and why monetary system evolved, and discuss the idea that the cryptocurrencies are the remedy for our need of a new monetary system.

Keywords: Money, Cryptocurrencies, Monetary System

JEL Codes: E42, E44, E52, G21

1 Introduction

It is really difficult to tell the history of something that does not go back a long way. As French novelist Jean-Paul Sartre said in his essay titled “What is Literature?”, the narrator reflects the flow of events to the reader in such a way that you think the story actually has a beginning and an end while you are reading it. Actually, the fact is: The author chose a beginning and an end from many events that took place in his own life, started his story, and ended it at a certain point. However, there is neither a beginning nor an end that can be determined for sure in a universe where everything is connected with each other with strong or weak ties. But you must start and finish at a point and this “gap” accepted highly comfortably by the readers is the window of the author. The actual difficulty for the author is to depict and convey this window accurately.

In this sense, at the first glance, the beginning of a story about cryptocurrency is the article that was published by Satoshi Nakamoto in October 2008, explaining in detail the cryptocurrency called bitcoin and the underlying blockchain registry system. This notion suggested with this article in late 2008 was realized on January 3, 2009 and bitcoin emerged. This new generation money that can be translated into Turkish as bitpara, or, more precisely as bitsikke, consists of bits entirely instead of being a coin. More clearly, there was no paper, copper or silver, just thirty-one thousand lines of code and an announcement on the Internet (Davis, 2011). Financial crises that took place in the last ten years not only caused many banks to go bankrupt but also made it necessary for nations to mobilize in order to save those banks. Those rescue attempts were too costly for each country and they were aimed at saving big central currencies only (Bornholdt & Sneppen, 2014). The reason why Nakamoto (2008) made such an attempt is that he saw the effects of the financial crisis in 2008 and held unpredictable money policies and the destructive effect of banking responsible for that. The author suggests that processing an electronic payment between two parties is possible only through the guarantee of a third party, and this need for trust is abused by banks providing the guarantee. In this framework, bitcoin and all following cryptocurrencies purport to found a trustless system eliminating the need to trust a third party.

But the history of the idea to create an electronic currency dates back a little further than 2008, to an article titled “Blind Signatures for Untraceable Payments” in 1982 by a computer scientist named David Chaum (1983). He outlined the idea of e-cash in that study and this shows that the idea of making payments in the form of cryptocurrency started to get off the ground way before 2008.

In the light of these explanations, 1983 seems like a very suitable date for starting to explain e-cash application and its most widespread and popular type, namely Bitcoin. That is because no theoretical or practical attempts were made on this subject before that date. But nothing on earth is eternal. Cryptocurrencies must have a predecessor as well. It is necessary to explain how such a need emerged in order to tell why such a payment system was needed or what (existing or future) need it will satisfy. In this sense, if bitcoin or other cryptocurrencies are claimed to be the money of the future (Many reasons can be shown why this will or will not happen. However, it is assumed in this study that bitcoin brought forward a new understanding of money and will be the money of the future), understanding today’s money, i.e. the money we use today, is a prerequisite for understanding cryptocurrencies.

In this case, it is clear that the beginning of the story must go back before 1983. At this point, it will be useful to look at what cryptocurrency claims to ←12 | 13→change. Today, there are two payment methods: cash payment and electronic payment. Cash payment takes place as a direct exchange of cash between parties performing a trade. In this sense, cash transactions are payments that are known only by the parties, do not have any intermediaries and cannot be traced while electronic payments are payments that are made mostly by banks and central banks and are monitored and registered. In other words, electronic payment is a payment for honor and based on the reliability of intermediaries. Reliability of intermediaries depends on accurate registration of transactions. Let us assume that person A makes a payment to person B through bank X. For the payment to take place, bank X needs to verify that the payment amount has been deducted from person A’s account and the account of person B has increased in the same amount. Today the time of this verification has been reduced to seconds and banks are highly reliable institutions as the banking sector is a highly well-organized sector.