Blockchain, regulations, and beyond: Exploring the Post-Crash Cryptocurrency Market
Even while many investors continue to have a strong level of interest in digital assets, the 2022 cryptocurrency market meltdown has reinforced persistent worries about the future of crypto. Anyone thinking about investing in the sector should ensure they have a firm understanding of both the risks and opportunities associated with cryptocurrencies.
The difficulties are great: Over the years, hype, bubble mentalities, and fraud have periodically driven up the value of digital currencies. The industry still lacks control, regulation, and fiduciary responsibility. Consumers and governments are both alarmed by the environmental cost of crypto’s energy-intensive computation requirements.
Despite these worries, enthusiasm among enthusiasts is still high. By May 2023, the value of all cryptocurrencies traded globally had surpassed $1 trillion. The blockchain technology that underpins the coins also has powerful non-crypto uses in a number of industries, including supply chain management, journalism, and healthcare.
I go over a few of the debates and crises that have recently plagued the cryptocurrency market in this essay. I also give a more comprehensive review of the nature of cryptocurrency, how it is treated in terms of regulation and accounting, and what prospective investors should know before considering this risky industry.
Problems Currently Facing the Cryptocurrency Market
Approximately half of Americans do not believe that cryptocurrencies are secure and reliable, according to a 2023 Pew Research Foundation poll. There are a number of things that could be keeping crypto fans up at night, even.
The Crypto Crash and Volatility
Even those touted as solid and purportedly backed by assets to assure their value have fallen, making many crypto tokens unstable and susceptible to scams.
The algorithmic stablecoin LUNA and the digital stablecoin TerraUSD both failed in May 2022, wrecking the cryptocurrency economy and costing investors more than $400 billion. The value of its token, FTT, as well as that of many other cryptocurrencies, including Bitcoin and Ethereum, was depressed when the crypto exchange FTX fell in November of the same year as a result of inadequate liquidity, improper money management, and excessive withdrawals from uneasy investors.
The collapse of FTX has had an impact on other significant exchanges as well. BlockFi and Genesis Global Capital, a third-party lending partner of Gemini, both halted withdrawals. The stablecoins USDC and Tether (USDT), whose values are based on the US dollar, were also blocked from withdrawal on Crypto.com. Nearly 1,000 employees were let go by Coinbase as a result of the crash’s aftermath.
The NFT market was also destroyed by the cryptocurrency crash. In August 2022, the prices of the most well-known NFTs, including Bored Ape Yacht Club and CryptoPunks, were cut by more than half. While the collapse coincided with a drop in bitcoin values, other elements like well-publicized frauds and market saturation were also very important.
The crypto market had previously had multiple crashes well before these ones, including in 2021, 2020, 2018, and earlier, mostly as a result of investor speculation and media excitement. This indicates that there is inherent instability in cryptocurrencies, but it also exhibits the toughness of the technology and the currencies.
Criminal activity and deceit
Sam Bankman-Fried of FTX, Do Kwon, the CEO of Terraform Labs, the parent company of TerraUSD and LUNA, Su Zhu, and Kyle Davies of Three Arrows Capital are just a few of the most renowned figures charged with crimes like fraud in 2022.
Criminals created 117,000 fake tokens in 2022 as well, defrauding investors of billions of dollars. Many initial coin offers (ICOs) are also suspicious and have received a lot of flak for being frauds, especially for cryptocurrencies with speculative business ideas.
When transactions need to be contested, the anonymous and unregulated nature of blockchain and Bitcoin transactions also poses questions. In a typical centralized transaction, the buyer has the option to cancel the purchase and receive their money back if the product or service is subpar. To facilitate remedies against the seller, there isn’t a central body in the cryptocurrency ecosystem.
Privacy and Security Issues
While it is exceedingly difficult to hack the blockchain itself, same cannot be said of the exchanges where cryptocurrencies are traded. Since over ten years ago, the market has been plagued by computer theft and hacking. In 2015, the first significant exchange breach occurred when thieves stole up to 850,000 Bitcoin from the Tokyo-based Mt. Gox. When FTX filed for bankruptcy in November 2022, hackers broke into the exchange and stole $600 million. Hackers took $570 million from Binance in the preceding month. In early 2022, there were more attacks, totaling more over $1 billion in stolen money.
Smart contract code itself is vulnerable to hacking. In 2021, Poly Network was the victim of one of the “largest digital heists in history,” in which a hacker stole $613 million. Peer-to-peer (P2P) transactions, or the direct exchange of tokens across blockchains, were made possible by this decentralized finance (DeFi) technology. A flaw in the smart contract that handled the automated token transfer made the theft possible. The hacker eventually returned the money, saying he only intended to “expose the vulnerability,” but the incident made clear the serious dangers that these networks and their customers confront.
Ransomware attacks, in which hackers access users’ accounts, encrypt their targets’ personal data to render it unavailable, and then extort them by requesting payment in cryptocurrency, are also common.
Impact on the Environment
Bitcoin and other coins that employ proof-of-work to verify consensus consume a tremendous amount of energy. Proof-of-stake coins, such as Ethereum following its transition in 2022, need a lot less energy. Ethereum claims that its energy consumption has decreased by 99.9% from the time of the merger, however Cambridge University’s Centre for Alternative Finance claims that doing so would be like comparing the London Eye observation wheel to a raspberry.
A US government information sheet states that as of August 2022, crypto is anticipated to use between 120 and 240 billion kilowatt-hours annually, which is more than certain nations use in a year. Although it’s not at the top of the list, it does contribute to global climate change.
Furthermore, crypto mining has harmed other countries’ electrical infrastructures, including Iran and Kosovo, resulting in massive electricity disruptions.
Responsibilities, Rules, and Inspection
National regulators’ sway is limited since cryptocurrency technology crosses political boundaries. The Financial Stability Board and the International Monetary Fund, two major international regulators, have teamed up to develop new regulations that are anticipated to take effect by September 2023.
However, other nations have made the decision not to wait. Several countries, including China, Egypt, Iraq, Morocco, Algeria, and Tunisia, have banned the issuance or possession of the tokens due to concerns about the environment or crime, while 42 more have enacted regulations that forbid crypto exchanges or place restrictions on how banks can deal with the currencies. However, some nations have made an effort to persuade businesses to develop markets for these assets.
Between September 2022 and January 2023, laws were altered or new ones were enacted in Japan, Switzerland, and the United Arab Emirates. According to PwC, the Swiss framework is one of the most developed to date, while the UAE has established the first global authority completely focused on virtual currencies. While the EU is almost ready to impose these restrictions, other countries including Canada, the UK, and Australia are still developing legislation.
Congress in the US has recently started keeping a closer eye on cryptocurrencies, and incidents like the collapse of FTX will probably prompt more attention.
Regulating cryptocurrencies, though, may not be successful given that they were designed to operate outside of state oversight.
Why Do Investors Select Bitcoin?
Despite the numerous issues surrounding cryptocurrencies, some investors find them to be quite appealing for a variety of reasons. The speculative nature of crypto’s fluctuating pricing attracts many investors trying to profit on shifts in market value.
Other investors favor cryptocurrencies because they give special benefits that conventional currencies do not, such as decentralization, security, and anonymity. These alleged benefits are primarily hypothetical at the moment, but cryptocurrency supporters think quicker and less expensive transactions, enhanced security and privacy, and more widespread financial inclusion are on the way and will increase adoption.
Avoidance of Political Crises
As a geopolitical hedge, many people invest in cryptocurrencies. The cost of these currencies tends to rise when there is political unrest. Brazil’s political and economic unpredictability worsened in 2015, as evidenced by the 322% increase in exchange trade and the 461% increase in wallet adoption. In response to unsettling political events like Brexit, bitcoin prices have also risen.
Near-anonymity with a pseudonym
Cryptocurrencies are frequently misunderstood to ensure completely anonymous transactions. Not at all. Instead, they provide pseudonymity, a state of near anonymity that enables customers to make transactions without giving retailers their personal information. These transactions might still be governed by anti-money laundering (AML) laws, and the trading platform might ask users to present identification documents as identification (a practice known as “know your customer” or KYC). Law enforcement may utilize AML and KYC data to track transactions back to a specific person or company.
Customizable “Smart” Features
A blockchain or cryptocurrency protocol with smart capabilities offers some degree of programmability or additional functionality. Other advantages that some cryptocurrencies may offer its owners include restricted ownership and “stockholder” voting privileges in the source code.
Non-fungible tokens (NFTs) are one prominent illustration of this. These digital assets use blockchain technology for authentication and provenance to reflect ownership of a particular object or piece of digital content, such as artwork, collectibles, or virtual real estate. Digital tokens could also represent a portion of ownership in tangible goods like art or real estate.
A transaction or account can also be locked out until a specific time period or condition is met via various procedures. Advanced “smart” privacy measures are used by some cryptocurrencies, including stealth addresses, ring signatures, and zero-knowledge proofs. By hiding transaction information such the sender, receiver, and amount, they enable users to conduct transactions in private.
However, smart contracts, self-executing agreements with the contract terms contained in the code, are the most widely used applications of this feature. Without the use of middlemen, these contracts automatically enforce the terms of the agreement.
Consider supply chain management as an illustration. Let’s imagine that a clothing company signs a smart contract with its cotton supplier that details the cotton’s specifications for pricing, quantity, and delivery date. Without requiring user intervention or outside verification, the smart contract automatically transfers the payment to the supplier after the supplier satisfies these requirements. The cotton is then delivered to the factory, and the smart contract keeps track of when the raw materials were received. The smart contract keeps track of all phases of production, including dyeing, weaving, and cutting, as they happen. This ensures traceability and quality control by providing an exact and impenetrable record of the whole manufacturing process.
The fact that cryptocurrencies support peer-to-peer transactions is one of their most important advantages. P2P transactions don’t require users to store their bitcoin in the exchange’s exclusive wallet or gather user and transaction information, which lowers the danger of hacking or regulatory shutdowns that affect trades on centralized exchanges. P2P transactions provide better privacy, fewer fees, and a wider range of payment methods than traditional transactions routed through centralized authority, so long as users keep their information private.
What You Should Know About Cryptocurrency Before Investing
Since cryptocurrency is more complicated than simple digital money, it can be challenging to comprehend. As many NFT owners discovered the hard way in 2021 when they realized how little control they still had over the usage of the art they had purchased, this can expose investors to a variety of risks. Therefore, it’s crucial to completely comprehend what you’re purchasing if you want to avoid any costly shocks in the future.
Cryptocurrency: What Is It?
Cryptography, or encryption, is the security method used by cryptocurrencies, which are digital assets. While some cryptocurrencies offer additional intelligent features, most are used to buy and trade products and services. The majority of cryptocurrencies are not commonly regarded as legal cash because they are not backed by another asset, like gold. They are typically distributed by private companies as well.
This isn’t always the case, though. In recent years, digital currencies have been issued by the central banks of a few nations, including Nigeria and the Bahamas, as well as stablecoins, or coins backed by another asset like the dollar, gold, or another cryptocurrency.
Through ICOs, businesses might occasionally raise funds to create novel blockchain and cryptocurrency technologies. They provide digital tokens rather than ownership shares. Gaining early access to the coin and any related smart features is advantageous to investors. ICOs have raised billions of dollars for blockchain-related projects.
According to projections, 420 million individuals will possess cryptocurrencies worldwide by 2023.
Different Cryptocurrency Types
The two main types of cryptocurrencies are tokens like Ethereum and coin-only currencies like Bitcoin, which are used to pay for goods and services. Other digital records, including as NFTs and smart contracts, are also supported by tokens.
The most widely used cryptocurrency, with a market share of around 45%, is Bitcoin, which was introduced in 2009 by a person using the identity Satoshi Nakamoto. Both the buyer and the seller in a transaction use mobile wallets to send and receive payments. The number of businesses that take Bitcoin has grown recently, however some, like Microsoft and Twitch, have occasionally ceased accepting it due to its extreme volatility.
Bitcoin has some drawbacks. For instance, Visa can process thousands of transactions per second, whereas it can only process seven per second. The currency’s capabilities are also restricted: It doesn’t support smart contracts and decentralized applications because it was designed primarily as a tradeable coin. Over the years, the price of bitcoin has changed significantly, and in 2018 it crashed in response to events including stricter regulation from China and India, the SEC’s announcement of a crackdown on cryptocurrency exchanges, and the alleged hacking of the Binance cryptocurrency exchange. As institutional investors started to take bitcoin more seriously in 2021, it bounced back and saw a brief boom before crashing again in 2022 as a result of the FTX fraud investigation.
Bitcoin and Ethereum
Ether is a token used to conduct transactions on the Ethereum blockchain. Ethereum is a blockchain that makes it very simple to create smart contracts. A growing number of people are using ether and other digital currencies that run on the Ethereum network. The market value of Ethereum was over $218 billion as of May 2023. The currency has experienced some fluctuation over the last several years, in part because of technological problems, but its market share of roughly 19% is slightly larger than it was two years ago.
Although Bitcoin and Ethereum dominate the market, several new digital coins and tokens have emerged and grown rapidly over the past few years, including Litecoin, Zcash, Dash, and Dogecoin. Today, there are around 23,000 distinct cryptocurrencies.
What Is the Process of Cryptocurrency?
Bitcoin and the majority of other cryptocurrencies are built on blockchain technology. It is dependent on constantly updated public or private ledgers that keep track of all transactions. The blockchain is decentralized; it processes and verifies transactions without the involvement of a bank, government, or other type of central authority. A trustless system is what this is (called).
Proof-of-work is used by many cryptocurrencies, including the dominant Bitcoin. For proof-of-work systems, mining is the process of validating transactions and creating new coins. A very challenging cryptographic puzzle must be solved by miners in order to validate the transaction. The first person to solve it will receive a bitcoin award.
In a proof-of-work system, anyone with enough processing power can mine, but the overhead can be significant because one machine can’t mine bitcoins profitably. Instead, miners frequently use numerous computers and join pools to improve the overall computing capacity. These pools then compete with one another to verify pending transactions and earn the rewards.
But their revenues are dwindling. The profitability of mining has drastically decreased, falling by 70% between October 2021 and May 2023 as Bitcoin miners’ overhead costs soar. In the same time frame, the cost of Bitcoin dropped by 63%. Due to the burden mining puts on electrical infrastructures, many nations have prohibited it. And some cryptocurrencies, notably Ethereum, the second-most popular cryptocurrency, are completely abandoning the anyone-can-mine model.
Ethereum migrated to proof-of-stake, a consensus method that uses less energy, in September 2022. Users risk a portion of their own coins in a proof-of-stake system in exchange for the right to approve transactions. These validators must accurately confirm the transaction in order to receive their staked coins back. The transaction charge is subsequently given to the validator as payment for their services. Proof-of-stake avoids the competition between numerous miners—or mining farms—to validate first since only one validator is selected at random by an algorithm. This greatly cuts expenses and emissions while also drastically reducing the amount of electricity needed to validate a transaction.
What Is the Use of Cryptocurrency?
The majority of bitcoin transactions happen online through exchanges and wallets, even if you may have seen ATMs for cryptocurrencies in public settings like shopping malls.
Websites known as cryptocurrency exchanges allow users to purchase, sell, or swap cryptocurrencies for conventional or digital currencies. The websites allow users to exchange one crypto token for another or convert coins into significant government-backed currencies. Each day, more than $10 billion can be traded on some of the biggest exchanges, including Binance, Coinbase Exchange, Kraken, and KuCoin. The majority of exchanges that are functioning legally abide by government AML and KYC regulations. There are, however, a few decentralized exchanges that do not demand KYC data from users. However, increasing anonymity also increases risk, so individuals who are interested in trading on those platforms should proceed with caution.
Holding your assets in a cryptocurrency wallet rather on an exchange is one strategy to reduce risk. Through the creation and storage of private and public keys, cryptocurrency wallets allow users to communicate with blockchain networks. The private key is used for signing transactions and approving the transfer of assets, while the public key acts as the wallet’s address for receiving payments. The key to a user’s coins, which are kept on open blockchain networks, is kept in a wallet rather than the user’s actual currency. A crypto wallet can protect your assets from lockups, suspension of withdrawals, and cyberattacks, but it won’t make your money immune to price declines. Hardware or software can be used to create wallets, while hardware is typically thought to be more secure. For instance, the Ledger wallet is similar to its connect to a computer through a USB drive.
Virtual software wallets are riskier than their hardware equivalents because they are hosted online and could thus be accessed by hackers, but they also provide reduced costs, can be readily installed on many devices, and generally have better usability.
Cryptocurrency Price Influencers
Traditional government-backed currencies’ value is often influenced by a number of factors, such as the difference in interest rates between two countries, inflation, capital flows, and money supply. The value of cryptocurrency coins is nevertheless influenced by various factors:
Demand and Supply
With almost 19 million Bitcoin already mined and the blockchain code limiting the supply of Bitcoin to a maximum of 21 million, analysts predict that miners will achieve this amount by the year 2140. If adoption rates increase, the price will probably rise as a result of the token supply’s slowing growth. But not every cryptocurrency operates in this manner. The total supply and issuance models of many have their own distinctive tokenomics, which characterize them.
The use of cryptocurrencies as a medium of trade has value. They can broaden their appeal by improving on the Bitcoin paradigm or, like Ether, by adding other features that provide value, such smart contracts.
Permanent Regulatory Changes
Future expectations have a significant impact on the value of cryptocurrencies, and further regulation is certain to have an effect on both. Contrary to much of the rest of the world, Japan already has a robust regulatory framework that is expanding, heavily influenced by the Mt. Gox and other hacks. As early as July 2024, new restrictions will be put into effect across Europe. However, US President Joe Biden signed an executive order in 2022 permitting tighter oversight and regulation of cryptocurrencies in reaction to their “dramatic growth.” It is uncertain how the US would govern digital assets.
Technology advancements frequently have an impact on cryptocurrency values. For instance, the price of Bitcoin fell in 2017 amid a debate over changing the core technology to speed up transactions. But two weeks after the adjustment was made, the price skyrocketed to a record-breaking $1,600. Likewise, when the currency transitioned from proof-of-work to proof-of-stake, the price of Ethereum fell by more than 20%. Price declines are frequently accompanied by news stories regarding cryptocurrency exchange hacks.
Investor Conduct (and Misconduct)
Cryptocurrency values can rise due to bubble mentalities. The holders of these currencies raise the value of them by limiting the number of trading tokens available and boosting demand through publicity and speculative speculation. Fraud is a significant factor that contributes to exaggerated value. Con artists take advantage of the euphoria around cryptocurrencies by using strategies including grift, pump-and-dump schemes, and exit scams to increase their wealth before the crash.
What Taxes Apply to Cryptocurrency?
Since cryptocurrencies lack the liquidity of cash and the stability of cash equivalents, they are not regarded as cash or cash equivalents under existing accounting standards. The accounting handling of cryptocurrencies is still unclear, though, as neither the American Institute of CPAs nor the International Finance Reporting Standards have released definitive guidelines.
Holders of digital assets in the US are required by the IRS to treat them as personal property and to be subject to the same tax responsibilities as real estate transactions. The fair market value at the time of acquisition is used to determine the worth of cryptocurrency assets on a balance sheet.
The accounting treatment varies outside of the US. The European Court of Justice declared in 2015 that holders of cryptocurrencies should not be subject to sales or purchase taxes and should be treated similarly to currencies backed by the government. However, a recent proposal from the European Parliament includes taxes on mining, transactions, and capital gains for investors.
Similarly, cryptocurrencies were categorized as “means of settlement” of transactions in Japan in 2017 and were thus exempt from the country’s 8% consumption tax.
The Greatest Challenge Facing Cryptocurrency
Although bitcoin has come a long way from its peak in 2017 and 2018, there are still many skeptics, like Warren Buffet, who has termed Bitcoin clever but ultimately “a delusion.” Bill Miller and other financial gurus, though, continue to be optimistic.
Cryptocurrency can be described as a fintech phenomenon or, on a more complex level, as a revolutionary technology that challenges the social, political, and economic foundations of society.
Even if the fortunes of cryptocurrencies continue to decline, the blockchain technology that resulted from them has the potential to revolutionize how we conduct business. The blockchain has the potential to fundamentally alter a variety of systems, including banking, cybersecurity, voting, academics, and supply chain management, according to technology consulting firm CB Insights. According to financial analysts, the global blockchain technology market will generate up to $1.24 trillion in revenue by 2030, up from $5.85 billion in 2021.
Developing technology to its maximum potential while increasing public trust in the cryptocurrency market sufficiently to gain widespread acceptance is the challenge that crypto enthusiasts must overcome.