7 misunderstood principles of cryptocurrency

1 December, 2018

The proliferation of cryptocurrency as a topic of discussion within financial circles hasn't done much to dispel most of the misunderstandings that exist in the minds of consumers. Certain experts in the sector may thoroughly understand everything there is to know about bitcoin, etc., but your average consumer is still largely clueless.

Take gambling with cryptocurrency, for example. Many of our readers know how to use bitcoin to make a deposit in order to play MegaMoolah.com or some other jackpot game. But if you ask them to explain how cryptocurrency actually functions as a financial instrument, they have no idea.

We are big fans of bitcoin here at Coinbet.com. In fact, we love all things cryptocurrency. So we thought it might be helpful to readers if we could clear up some of the most misunderstood principles of cryptocurrency. Here we go...

1. Cryptocurrency is not tangible

As surprising as it is to people who are well-versed in cryptocurrency, there are many people who believe bitcoin is a tangible form of money. The same goes for bitcoin's competitors. People actually believe there is some central entity printing coins and paper bills bearing the BTC symbol. They believe that buying with bitcoin is identical to buying with fiat coins and bills.

The truth is that cryptocurrencies do not exist in any tangible form. All those pictures of actual coins with the BTC symbol are not real. They are computer representations. When you buy cryptocurrency, you are buying a digital currency that exists only as data in a blockchain ledger. There are no bills or coins to stick in your pocket.

2. Bitcoin's value is not in its blockchain

This next misunderstood principle is a view commonly held by people who consider themselves experts in crypto. It suggests that bitcoin's value lies in its blockchain. It does not.

Blockchain is the technology behind bitcoin and all other cryptocurrencies. In its simplest form, blockchain is a distributed ledger to keep track of all bitcoin transactions in a digital document that gets longer with every new transaction conducted. Transactions are divided into blocks and blocks are added to the chain.

It is not clear why so many people believe that the value of bitcoin is contained in its blockchain. The blockchain is just a tool for recording and storing transactions. It has no value beyond being a permanent record. As such, it has no inherent monetary value.

So how is bitcoin's value derived? By supply and demand. If the price of your favorite crypto climbs 10% over the next 24 hours, it will not be because someone suddenly discovered the value of the blockchain. It will be the direct result people buying the currency in larger volumes. The more people buy, the higher the price goes.

Bitcoin has been in a flunk recently, losing almost half its value over the last four weeks. Once again, blockchain has nothing to do with it. Bitcoin's blockchain is structurally the same today as it was a year ago. What is causing the price to fall is the fact that coin holders are selling. Lower demand equals lower price.

3. Decentralization does not mean lack of control

A fundamental principle of cryptocurrency is decentralization. Decentralization is a principal that excludes centralized authorities from the mix so that a cryptocurrency cannot be controlled by them. In simple terms, decentralization dictates that bitcoin is not controlled by a central bank or government authority.

However, decentralization does not mean a total lack of control. Bitcoin is controlled by two groups of people:

  • Privileged Owners - A small number of privileged owners who have been with bitcoin from the start control it in the sense that they make decisions regarding the blockchain. They are the ones making decisions about how the blockchain can be improved, made more secure, etc.
  • General Owners - Any owner who is not a privileged owner is a general owner. Simply by owning bitcoin and using it to transact business allows general owners to exercise some measure of control. Bitcoin will ultimately fail or succeed based on market forces as influenced by general owners.

Do not make the mistake of believing cryptocurrency is a wild frontier subject to all sorts of chaotic activity. It is not. Every cryptocurrency out there is kept in check by groups of people willing to guide and direct it.

4. Cryptocurrencies are not legal tender

Despite the fact that you can gamble using Bitcoin and a few other cryptocurrencies, crypto itself is not considered legal tender except in Venezuela. And in the case of Venezuela, it's not bitcoin that is legal, it's the Petro.

Not being legal tender raises some questions as to what cryptocurrencies actually are. And unfortunately, that depends on government interpretation. Most developed countries classify cryptocurrencies as securities. That means they are similar in principle to stocks, bonds, and other kinds of investments.

Their status as securities subjects cryptocurrencies to some degree of regulation. For example, consider taxation. In both the US and UK, any profit made from investing in cryptocurrency is taxable as capital gains. If you were to buy bitcoin at a price of $3,000 per coin and sell it at $6,000, your profit would be $3,000 per coin. The profit would be taxed as capital gains both in the UK and the US.

Furthermore, the US considers that profit taxable even if you do not cash in your excess bitcoin. It is just like investing in the stock market. Bitcoin doesn't have to be liquidated to be taxed in that jurisdiction.

5. Cryptocurrencies are not legal everywhere

Hand-in-hand with the legal tender issue is the persistent misunderstanding that cryptocurrencies are legal around the world. They are not. At least half a dozen countries have banned cryptocurrencies altogether. They include Bangladesh, Bolivia, Ecuador, Kyrgyzstan, Morocco, and Nepal.

Even while countries like the US, UK, and Canada are actively working on developing national cryptocurrencies to replace fiat, other countries are exploring ways to prevent crypto from gaining any further strength. Russia is among them.

The truth is that not everyone thinks crypto is a good idea. Bitcoin and its competitors receive plenty of criticism among people who consider them nothing more than digital fraud. Yet the legitimacy of alt coins ultimately lies with buyers and sellers.

6. Cryptocurrencies are extremely risky

A lot of money has been lost in cryptocurrency due to buyers not understanding just how risky crypto purchases are. Bitcoin and its thousands of cousins are incredibly volatile. Their volatility lies in several different factors.

First of all, face value is determined almost entirely by supply and demand. We discussed that principle already, so there's no need to bring it up again here. Just note that the supply and demand nature of cryptocurrency means volatility can be quite significant even within a single trading session.

Volatility is also influenced by the fact that cryptocurrencies are not backed by the good-faith of any government entity. Contrast that to something like British sterling. Though the pound is no longer backed up by any tangible assets, it is backed up by the UK government. It will always be worth something as long as the government recognizes it as legal tender.

Decentralized cryptocurrencies are not backed by any government authority. That means they have no intrinsic value. Bitcoin is only worth what it's worth because buyers and sellers agree to that value. If every bitcoin owner in the world suddenly decided that the alt coin had no value, such a decision would become a self-fulfilling prophecy. The bottom would fall out and tens of millions of dollars in value would evaporate instantly.

7. Cryptocurrency is a workaround - for now

One final misunderstanding is the idea that cryptocurrency can never be touched by government. Nothing could be further from the truth. Cryptocurrency is considered a workaround of some government regulations, but regulators are not naive enough to just sit back and allow their regulations to be thwarted.

A good example is online gambling. Gambling with bitcoin is viewed as a way to get around government restrictions in jurisdictions where gambling with fiat currency is illegal. Because cryptocurrency is not considered legal tender, governments find it very difficult to prosecute people who gamble with it. That is not to say that they are okay with that.

It is highly unlikely that the cryptocurrency market will completely collapse as a result of government interference. There is too much money in it now. But it is likely that world governments will soon begin regulating how crypto can be used. When that day comes, it may no longer be a workaround for certain restricted activities.

There is a lot more about cryptocurrency that people just don't know. Perhaps we will use another blog post to talk about those things. For the time being, we hope you will educate yourself about bitcoin and crypto in general. - especially if you plan to purchase one of them for gambling purposes.