Bitcoin Encryption and Technology
Introduction
Digital currency/digital money, also known as electronic money/currency, is a type of currency that is made available in digital form, which is unlike the physical form of currency, notes, and coins. It is similar to physical currencies since one can use it to perform instant transactions like the purchase of goods and services. Examples of digital currencies include cryptocurrencies, central bank digital currency, and virtual currencies. Digital currencies are recorded electronically on a stored-value card. Network money is another form of electronic payment that allows the transfer of through a computer network, precisely the internet. Digital money is categorized into centralized or decentralized control. Centralized is where the power of money is done from a central point, whereas decentralized is where the money supply is controlled from various sources.
Virtual currency is an example of an unregulated digital currency that can only be available in electronic form. This type of money can only be stored through mobile and computer applications, digital wallets, or through designated software. Virtual currencies are held within the blockchain network and do not have a centralized banking authority controlling it. They are a representation that may be issued, handles, and regulated by the founding organization or private developers. Virtual currencies are represented in the form of tokens, and they lack a legal tender. Due to the lack of a specific centralized regulatory authority, virtual currencies are bound to have fluctuating price movements as well as a full swing in their valuation.
They are also only influenced by the consumers’ sentiments as well as psychological trading (Shin, 2018). Virtual currencies rely on a trust system for them to work effectively. Circulation of a virtual currency can only be used up to a specific limit. They may also be circulated among a few members who belong to one particular virtual group or online community.
Bitcoin Encryption and Technology
Bitcoins are simply digital cash. It is a monetary system that gives users anonymity of money with freedom, convenience using the internet (Reid, & Harrigan, 2013). It allows people to send and receive funds globally without a central authority like a government or a bank. The power of bitcoins is enabled by blockchains. A blockchain is a distributed ledger that uses the combination of computers’ ability (Priem, 2020). Many concepts make up a blockchain. They include a distributed database and decentralized governance. However, cryptography is the building block for the blockchain. Cryptography is an ancient study that has existed for a long time. It was invented as a way of concealing information that is carried in a message from any person it was not intended. It is the discipline concerned with the security of communication. It involves integrity and confidentiality of messages, sender authentication and non -repudiation of messages. In other words, it is the study of codes which requires writing, solving and manipulating codes. It is impossible to secure data and ensure communication without cryptography. Private keys are the mechanisms that prove ownership of bitcoin; they are the most important to the bitcoin system. It allows users to perform transactions on the network. For every private key, there exists a public key. Private keys are not to be shared with anyone, but the public can be shared. Therefore public keys can be viewed as a username that people can identify someone with, whereas private keys are considered as passwords. However, unlike standard passwords, private keys can never be reset or recovered if lost. Cryptography ensures security by using vast numbers. One could try guessing a key over and over again all the possible means for an extended period of years, but they will never be able to figure it out. Cryptography’s main aim in Bitcoin is to generate a lot of addresses to make available for use and to confirm that an individual owns a particular account. Once a key is created, it can be used to prove ownership, and one does not need to identify themselves. This promotes anonymity to a higher degree.
Private keys give a user full control over their finances. However, this could be frightening since losing the key means that an individual has completely lost control over their finances for good. A user could create a private backup key so that they could guard the key very well. However, this key must never be transmitted through internet communication or backed up on a cloud server. Storing them on a cell phone or computer is also not advisable. Since bitcoins generates hundreds and sometimes thousands of keys for a single user, which is hard to store, they came up with a hierarchal deterministic wallet (HD wallets) that helps people save their keys. Hierarchal is arranging in order whereas deterministic is simply cause and effect meaning that there is an outcome for every event in any system. A wallet is an interface that allows an individual to access, receive and send bitcoins. Therefore, an HD wallet is a Bitcoin wallet that comes up with a sequence of private keys where a previous or a parent key in the series determines each private key.
A Hashcash is a method that was invented to prevent distributed denial of service (DDoS) and to deter email spam. They act as a bottleneck for activities carried out by a computer using proof-of-work (POW). Hashcash is used to make cheap computer processes more expensive by forcing a specific amount of additional computation to be performed before being allowed to complete. Bitcoins are created in such a way that users are allowed only ten minutes block time. This means that the software attempts to permit other transactions to be added to the network no more or less every ten minutes. Bitcoins work because transactions are processed and bundled into blocks by its network participants (miners). The processors must complete a significant amount of POW for the blocks to be added to a blockchain. Hashcash is then used to prove this work. Since Hashcash is challenging to adjust, it allows Bitcoin to adapt to changes in time and will enable it to remain stable with a growing network.
Bitcoin is not only used for sending money. It is made up various features that can be used in different ways by the community. Some of the technologies being used as products and services include the following; global accessibility, the use of Bitcoin has allowed payments to be interoperable. This means that any business, an individual or a bank can send and receive payment with or without a bank account, at any place and time as longs as they are using Bitcoin. It is available in many countries, but some are yet to recognize them as a system of payment. Automated service is another technological feature that deals with limitations of credit card payments and cash. Bitcoin in future can be used to pay for digital services like vending and soda machines among others. Bitcoin creates a type of network with an increased level of redundancy and resilience. Millions of dollars can be handles can be handled without the need for protection. Its systems cannot be attacked because they lack a central point of data storage.
Bitcoins give people a solution to their trust issues with banks. They can be used to restore trust and agreement because of its unique features like digital contracts, irreversible transactions and digital contracts, among others. The use of innovative dispute mediation services using multiple signatures makes it possible for a third party to deny or approve a transaction when there is a disagreement between the two parties involved. Bitcoin has been a solution for tips and donations made by people. Sending a payment is secure, and contributions are made visible for the public, thus increasing transparency for non-profit making organizations.
On the other hand, when there is an occurrence of emergencies and natural disaster, Bitcoin donation is a faster means to contribute donations globally. The use of cryptography reduces the costs of middlemen, making it cheaper than its alternatives. Bitcoin could also reduce poverty by eliminating transaction fees.
Limitations and Issues of Blockchain Technology
Innovations in technology spread at a very high pace among consumers and different communities that they pay very little attention to the flaws accompanying these technological advancements. The introduction of blockchains is being embraced by many, but there are limitations relating to them. Firstly, blockchain technology is represented by an extensive vocabulary of highly specialized terms and a lot of complexities. Were it not for the online indexes and glossaries most people would still not understand blockchains.
Where there is the involvement of the human factor, there must always be the risk of an error occurring. Incoming data has to be of high quality in case a blockchain serves as a database. If the events are not accurately registered, the credibility of the stored data could be in doubt. Feeding the blockchain with unreliable data will also lead to the production of incorrect data.
Another limitation of blockchain technology is the speed and cost of transactions. These costs are notable as opposed to the beginning when deals on digital currency were almost free. Currently, only seven transactions can be processed per second. If Bitcoin keeps growing at the rate at which they are at the moment, then blockchains of a few terabytes can only be processed.
Blockchains experience security flaws from time to time. Flaws may come about when a group of a miner may manage to take control of more than half of the blockchain network’s computer network. If miners manage to acquire sufficient computational power, then there will be no centralized authority to prevent them from influencing the entire network. This might give the miners an ability to create new coins as well as modify completed blocks.
Another limitation is related to the enormous growth of the blockchain network. This facilitates a more robust response to attacks. The full benefits of technology may not be achieved if the blockchain does not have a robust network with well-distributed networks.
Problems Affecting Blockchain
The application of blockchain technology to primarily record transaction carried out in cryptocurrencies. The scopes of blockchain applications are very broad; for example, organizations may decide to use blockchains to track deliveries across complex supply chains. For people to understand the necessity of decentralization and anonymity on the blockchain, they have to be educated on it. Traditional centralized intermediaries have an incentive not to commit fraud because they stand to make losses. Fork competition is another problem experienced by blockchains.
Blockchain Technology Budget and Resource Tradeoffs
When it comes to budget planning, blockchain technology is becoming a priority. Most businesses agree with the fact that they might lose their competitive advantage in the market. In a survey conducted by Deloitte revealed that the worst mistakes organizations could make with regard to blockchains is to do nothing. Those who do not have strong business cases should keep an eye on blockchains so that they could take advantage of the opportunities that may arise in future. There is a well-established smart contract concerning the value of blockchains. In the near future, every business across the different market sectors will need a smart contract; thus, they will end up adopting and implementing blockchains eventually. The technology required is still in its early stages, and so are the applications for using this technology. However, the properties of the distributed ledger are well known, and a lot of companies have benefited from this technology. The introduction of smart contracts in businesses will facilitate direct communication with the reliance of a third party. The aspects of errors are avoided with the help of this technology. The agreed terms are verified and executed accordingly, and transactions are also completed based on events. On the other hand, the speed and automation in the supply chain are improved when operations are carried out using smart contracts. This reduces the need for agents as well as eliminating the traditional methods of keeping records.
There are several hidden tradeoffs behind blockchains. There are two major categories that show the differences between centralized databases and blockchains include confidentiality and disintermediation.
Blockchains users can see all the transactions carried out, even when cryptography is used to hide some features of the transactions; there is always leakage of information compared to a centralized database. Blockchains also allows multiple people who only trust each other to some degree to directly and safely share the database without requiring the assistance of a trusted third party. The traditional database has a single entity which controls what is written and what can be read. Blockchains are the best option for sharing information whereby all the users are able to access and read everything, but no one can control what can be written. Therefore, blockchains are a representation of the tradeoff in which transparency is gained at the cost of confidentiality.
There is also a tradeoff between energy consumption/costs and efficiency. Sharing of information to enhance transparency for users requires a lot of time and a significant amount of computation skills to completely finish. This is time and energy-consuming. The costs of computation power and the profit margin are charged to the users as transaction fees. Therefore for the customers to get efficiency in the services provided, they have to pay transaction fees that compensate for the time and energy consumed in computation. Another tradeoff is between speed and trust. The use of blockchains with its transparency in information sharing helps to generate trust. This is, however, at the cost of rate. Private blockchains are however much faster, but a group of trusted parties need to be relied upon. Any proof of work has to be worked on properly to provide the majority of honest miners a chance to compete with a minority of dishonest ones. This, therefore, lowers the time limit for a person trying to conceiving.
Probabilistic versus deterministic is another tradeoff that has to be considered. When blockchains are used for asset transfer, the time when the transactions are final and irrevocable have to be determined. In a centralized system, rules and clear guidelines are set to determine the legal finality of transactions. These rules might be complicated or straightforward, but at the end of the day, there is certainty in relation to the legal finality of transactions. However, in blockchains, majority of the nodes decide when sales are over, according to Bitcoin wiki, the secure against double-spending, transactions are not to be confirmed until a specific number of blocks deep.
Risk Implications of Virtual Currencies
There are several risk implications of virtual currencies; one of them is the risk of cyber fraud. Just as the physical currencies are prone to theft, virtual currencies (which are as crucial as physical currencies) also attract many criminals. They can hack their way into crypto exchanges and drain all the currencies in a targeted wallet. They may also decide to infect different computers with malware that will lead to the theft of these currencies. As transactions are conducted via the internet, hackers are always on the lookout to hack these computers. It is, therefore, advisable for investors to depend on third parties to help them protect their computers and their currencies from people with ill intentions. The software needs regular updating to protect the system from theft. There is no turning back from transactions once they are transferred from one account to another. This means that transactions are irreversible after confirmation. Therefore getting the stolen currencies back is not possible. They are gone for good. On the other hand, a thief might decide to take the key to a wallet and impersonate the owner of the account, thus granting him/her full access to the monies in that wallet.
Another risk associated with virtual currencies is only traded when demand/need arises. These currencies are also infinite, meaning that there liquidity concerns. The fact that there can be no limit to what an individual can own makes it more likely to be manipulated by market variations.
The currency, therefore, appears volatile compared to physical currency due to its limited acceptance. Another risk implication is regulatory risk. While other countries are more accepting of virtual currencies, others prevent their usage, claiming that these transactions break anti-money laundering regulations. A specific anti-money laundering regulation is hard to impose on virtual currencies as they are involved, they have a lot of participants, including senders, processors and the recipients, and they also lack a centralized control (Peters, Chapelle & Panayi, 2… Virtual currencies are too faced by operational risks when there is a centralized system controlling operations; transactions usually are validated so that when there is an error, they could be reversed in an organized manner. However, this is not the case for virtual currencies. Virtual accounts usually are secured cryptographically; this means that to access these currencies, kept in a statement, one needs to use a specific key. When the keys belonging to an account are stolen or lost or when the account has been deleted from the owner, they no longer have the ability to access their monies.
Virtual Currency and Risk Mitigation Strategy
People should be willing to accept that virtual currencies are here to stay. Even though it comes with several risks, people have to be smart in coming up with ways of managing the risks accordingly. Therefore, policies and strategies must be developed to reduce, avoid or eliminate these risks. The different methods of dealing with these risks are widely spread, and if they are fully applied, they will encourage people to readily accept them as part of their daily lives. The first step that could be taken is educating people on the nature of virtual currencies. Training will help in mitigating the risk by instilling confidence in the people. Since people on social media and other platforms always spread scar stories about virtual currencies (including crypto-jacking, hacking of accounts, and spoofing of payment information), people still lose confidence in the system. Educating them about the different ways in which they can secure their accounts will help reduce the spread of these misconceptions. Among the methods that could be used to ensure security include having backups, installing anti-malware, strong passwords, regular software updates and cold storage.
Structural mitigations is another method that could be useful in reducing risks associated with these currencies. Improvement of the ecosystem could include strengthening the virtual currency exchange. These are organizations that assist individuals in virtual trading currencies. They help in trade; they also act as a broker-dealer and custodian of the currencies. Allowing these exchanges to hold a specific amount of reserves will provide protection when there are volatility and uncertainty in the market. Another kind of structural mitigation is the provision of insurance products. If they could manage to set aside funds that could offer their investors protection, they could help mitigate the risks. Incorporating this policy and supplementing it with a personal insurance cover as part of the account package will help make terms lucrative for investors.
Since the usage of virtual currencies has increased, the customers’ ability to continued use of technology has also increased. Mobile phones have made it easy to access informative knowledge about virtual currencies as well as facilitating transferability. Internet banking was the most common method of mobile payment. Still, nowadays, people have embraced other alternative payment methods like PayPal, Google Wallet, Amazon gift cards, and Apple Pay, among others. Acceptance of virtual currencies has paved the way in allowing mobile payment technology to work together in providing these services. Growth and maturity of virtual currencies market have increased liquidity, and this will, in turn, lead to a reduced exchange fee. It would also lead to reduced price volatility and eventually decrease the exchange rate risks. This would help customers to convert virtual currencies into fiat money at a faster rate. An increase in liquidity would help the virtual currencies to possess features that are likely to increase acceptance of flat currency and eventually, cash-settled virtual currencies may be introduced unto the market.
Most of the risks associated with virtual currencies are brought about by inadequate regulations governing it (Tu, & Meredith, 2015). Therefore, seeking regulatory approval will help reduce inherent risks. Getting this approval is challenging since most the control of virtual currencies is decentralized in nature, and there is no specific regulatory framework. If permission is achieved to a certain level, it could help improve the credibility and acceptance of virtual currencies in society. First, they have to be listed as a reserve currency. If they are accepted by the diverse regulatory framework, it will help in gaining trust and credibility.
Another risk mitigation policy is to come up with a risk management framework. A primary risk management framework includes procedures relating to fraud, operational credit, physical security assets, IT security and data, third-party vendor, antimony laundering and cover policies. The risks relating to virtual currencies are related to one another, and therefore the framework needs to be widely considerate of them all. To effectively implement these policies, real-time information needs to be collected to facilitate planning. Keen attention has to be put on software upgrade because technology is highly depended on to carry out transactions. The participants have to be risk assessed to ensure that the implementation of the policies reduces risks as well as increasing the people’s confidence.
Another way of reducing the risks associated with virtual currencies is to form alliances by major, trusted global organizations. Technology is advanced daily, and many institutions embrace it. If these institutions support the digital currency by providing support services, it will help improve how customers view virtual currencies. There would be an increase in accountability towards customers that will enable them to provide better knowledge and portray an enhancement in enhanced reliability and availability of cash exchange. Giving consumer access to digital technology services will improve acceptance since they will be not only easy to utilize but also cost-effective for them. Strategically partnering with other companies will help drive acceptance and enable customers to increase their trust in
Conclusion
It is correct to say that virtual currencies are a part of people’s lives now. Even though it is going to take a while before the public accepts and develop confidence in these currencies, the risks affecting virtual currencies might be similar shortly; others may be solved with policy implementations whereas others might be more elevated compared to the way they are now. The tradeoffs have to be clearly understood so that appropriate distribution ledger can be adopted for application. Advancements in technology should also not be the reason why people misuse virtual currencies without focusing on its effects on society. Traditional ledgers are managed by a centralized authority making it more credible and trustworthy; however, blockchains eliminate rents extracted by intermediaries through completion. Even though decentralization comes with the cost of efficiency, it is a better choice. When the government is involved in regulating virtual currencies, the idea of decentralization is unattainable. Decentralization is the main feature of blockchains that makes it accessible and lucrative to invest and facilitate proper functioning.