After the goldrush: what next for cryptocurrencies

There’s a sense of the goldrush about cryptocurrency. Or perhaps tulip bubble.

Established financial services leaders disagree about the value of bitcoins and its rivals. JP Morgan CEO, Jamie Dimon calls them a “fraud”, while IMF Managing Director, Christine Lagarde says “it’s a lot more than that.”

Media reports question their long-term future, even while successful Wall Street futures markets launch. Fintech researchers at Autonomous NEXT claim the existence of over 110 crypto hedge funds handling about $2.2 billion in assets altogether. At time of writing, Bitcoin’s market cap stands at around $278 billion – more than Citigroup or Visa – although this a rather meaningless valuation. Bitcoin has also outperformed all traditional currencies every year since 2011, (except for 2014), a recent Reuters report claimed.

Bubble, or bonanza, cryptocurrency is shaking up the status quo.

Legendary tech industry figure Marc Andreessen notes that the value of cryptocurrencies is tied to the number of people using them, a classic “network effect”. What’s missing are standard ways to spend that money outside the virtual world.

However, in the real world only a few firms accept Bitcoin payments, including big names like Overstock, Expedia or Subway, and a smattering of trendy restaurants and bars.

Andreessen’s response is to invest in payment systems to bridge the gap between Bitcoin and real-world transactions. He believes that as payment frameworks do emerge, it will deliver real value to business and consumer users by obviating mitigate credit card fraud and reducing transaction fees.  If he’s right, then any enterprise that takes or makes any kind of payment should be thinking about making at least some use of cryptocurrency in future.

Unlocking developing markets

An estimated two billion people around the world have no bank accounts yet they still spend money. The World Bank estimates that 250 million migrants spent $583 billion in 2014. What many lack is any form of record, which limits access to financial services. The UN is working with blockchain to develop forms of identity records for stateless people, cryptocurrencies can provide these same people with trustless, verifiable financial exchange tools. The provision of such financial instruments is an essential step toward enabling access to credit and savings facilities.

Melinda Gates of the Gates Foundation says: “Financial tools for savings, insurance, payments, and credit are a vital need for poor people, especially women, and can help families and whole communities lift themselves out of poverty.”

In 2014, the Global Findex Index found that in some developing economies more adults held mobile money accounts than accounts with traditional banks.

Cryptocurrency assets both exist outside of the conventional banking structure and have consensus value as a form of investment. These virtual assets are easily traded, exchanged, and transferred into cash using mobile devices, even as new financial services appear to bridge the gap between cryptocurrency and more conventional payment and cash withdrawal services. They are also resistant to any local currency fluctuation. Bitcoin is the leading parallel currency in both Venezuela and Zimbabwe, enabling the local population to purchase goods and services even while their state currencies collapse. Enterprises seeking to build business in developing or unstable economies may want to consider the implications of stateless cryptocurrency as an alternative to locally unstable fiat on this basis alone.

Behind the blockchain

Blockchain technology is powerful, but the motivation to develop and improve it is in part driven by the existence of cryptocurrencies, which give miners and developers a reason to work on them. CNBC analyst and cryptocurrency investor Brian Kelly says that without this incentive blockchain becomes centralized, undermining its potential: “There may be some efficiency gains through sharing private distributed ledgers, but blockchain without Bitcoin is not one of the most important innovations in the history of finance.”

The importance of some form of incentive will only increase as enterprises develop their own blockchain-based solutions. These aren’t nickel and dime solutions, either: the Australian Securities Exchange (ASX) has announced plans to become first big financial market to adopt blockchain technology next year. Like many enterprise proponents, the ASX is attracted by the fact that the decentralized system makes it impossible for anyone to tamper with the ledger. At a time when banks are not trusted, blockchain represents a much more transparent solution with trust at its core – motivating developers to maintain the chain will become ever more essential as it is deployed widely across the enterprise.

International trade

Enterprises may want to consider using cryptocurrency to quickly shift financial assets between business units in different countries. The biggest challenges they will encounter will be the volatility of these currencies and the matter of transfer costs. At present, the cost of moving and switching cryptocurrencies into local currency can be higher than currency trading commissions, that’s even assuming the process is permitted in any particular nation. This will change as new currencies, technologies and financial services like Revult or TransferWise develop commission free currency exchanges, around cryptocurrency.

When it comes to technology, the Lightning Network promises to make it easier (and cheaper) to use both Bitcoin and Litecoin for small transactions without high costs. Enterprise users who regularly pay high annual forex fees will certainly be interested in watching this evolution. Some argue that cryptocurrencies will eventually challenge the Visa and Mastercard payments systems, though we’re a long way from that place yet.

Attack of the regulators, and other risks

Ministry of Justice officials in South Korea recently threatened to outlaw cryptocurrency trading there. Some countries (Russia and China) also forbid trading. Elsewhere, regulators are looking at cryptocurrency with a view to regulate trade, both to protect consumers and to prevent these digital currencies from being used for money laundering or tax evasion. With Bitcoin market value climbing rapidly, it seems inevitable that some form of regulatory activity will follow. Given the uncertainty surrounding that, most enterprise leaders will likely take a wait-and-see approach before committing to use.

Stability, scale and security are three other major inhibitors to rapid cryptocurrency deployments across the enterprise. The stability problem surrounds the nature of the exchanges used to handle cryptocurrency trading. These systems are (for the most part, with the honourable exception of Coinbase) uninsured and unregulated. Interest in cryptocurrency has boomed, and exchanges have buckled under the weight of handling more exchanges than they were built to sustain. At one point during a November 2017 Bitcoin revaluation, three of the world’s biggest bitcoin exchanges ceased trading. The capacity to scale to handle and process growing demand is a problem for many cryptocurrency networks.

There have been numerous successful attacks against elements within the Bitcoin value chain, hackers recently stole $64 million in value of coins from Bitcoin exchange site, NiceHash. While conceding the inherent security of the distributed blockchain ledger, analysts from Forrester do warn that quantum computing systems may in future prove powerful enough to undermine the security of the blockchain itself.

Learn about the fundamentals of blockchain and its applications beyond banking

Jon Evans

Jon Evans is a highly experienced technology journalist and editor. He has been writing for a living since 1994. These days you might read his daily regular Computerworld AppleHolic and opinion columns. Jon is also technology editor for men's interest magazine, Calibre Quarterly, and news editor for MacFormat magazine, which is the biggest UK Mac title. He's really interested in the impact of technology on the creative spark at the heart of the human experience. In 2010 he won an American Society of Business Publication Editors (Azbee) Award for his work at Computerworld.