Introduction
This Quick view outlines what cryptocurrency is, how it is valued and created.
This Quick view covers:
- The definition and history of cryptocurrency
- How is cryptocurrency valued and how does it work?
- Cryptocurrency creation
- Cryptocurrency oversight
This Quick view can be used in conjunction with the following Quick views: Cryptocurrency regulation and enforcement, Understanding data privacy challenges in blockchain and cryptocurrency and Cryptocurrency and US tax laws.
1. The definition and history of cryptocurrency
Cryptocurrency is defined under the Digital Assets section of the US Internal Revenue Service (IRS) webpage as ‘an example of a convertible virtual currency that can be used as payment for goods and services digitally traded between users and exchanged for or into real currencies or digital assets.’
The idea of creating ‘anonymous electronic money’ dates back to the 1980s but the first successful form of cryptocurrency did not emerge until 2009. Satoshi Nakamoto, whose identity has not been established and whose name may refer to a group of people, introduced Bitcoin in a white paper in late 2008. Satoshi envisaged a new type of money that could be sent anywhere in the world for free with no person or institution in charge. Bitcoin was made available to the public soon thereafter.
Bitcoin’s value fluctuated dramatically during its first few years and it continues to do so. From 2011, as Bitcoin gained broader attention and popularity, alternative cryptocurrencies became available. The number of trading platforms and decentralized and centralized exchanges also grew making it easier for people with limited technical knowledge to buy and sell cryptocurrencies. The centralized exchanges involved third parties that control transactions between buyers and sellers, much like central banks do in traditional finance. However, decentralized exchanges have no specific authority in charge of controlling transactions. Records from the digital ledger are stored on a network of computers globally and controlled by many different people.
In recent years, cryptocurrency usage has increased in the United States. According to crypto analyst Fabio Duarte, there are 17,134 cryptocurrencies; however, not all cryptocurrencies are active. Discounting ‘dead’ cryptocurrencies, only around 10,385 are active cryptocurrencies, as of April 2025. The total market cap is $1.32 trillion and a daily trading volume of $172 billion. Bitcoin retains the largest market share and the greatest total value of coins in circulation. Other major players include Ethereum, Tether, Binance Coin, USD Coin, and Cardano. Bitcoin's market cap is ~$650 billion, 3x larger than Ethereum's. Tether and USDC, the two top 10 cryptocurrencies, are USD-pegged (ie, tied to the USD exchange rate). About 8% of the US population trades crypto. Asia has over 4x more crypto users than any other continent.
2. How is cryptocurrency valued and how does it work?
Unlike traditional currencies, such as the US dollar, cryptocurrency is not issued or regulated by a central authority such as a bank. It has no intrinsic value and is not backed by any underlying asset. Cryptocurrencies also lack the protection of being issued by a central monetary authority like a central bank and unlike deposits of cash in a bank, stored cryptocurrency is not insured. This means you do not have the same legal protections when investing in cryptocurrency as you would when investing in other markets. Cryptocurrency is a high-risk and complex investment.
The value of cryptocurrency is determined by supply and demand rather than by any centralized authority. As the supply diminishes, demand for cryptocurrency increases. Cryptocurrency gains value when the demand is greater than supply. It is therefore difficult to value cryptocurrency in a reliable way as it is constantly changing. The market for cryptocurrency is speculative and volatile – it can show dramatic gains and equally dramatic losses in value. It follows that trading and investing in cryptocurrency carries significant risk for investors.
As cryptocurrency markets are decentralized, instead of bills or coins, units of cryptocurrency consist of encoded electronic data strings that denote a unit of currency. When buying and selling cryptocurrency, investors are buying ‘digital units’ of that cryptocurrency either made up of ‘tokens’ or ‘coins.’
3. Cryptocurrency creation
3.1 Blockchain
Creating cryptocurrency is complex; however, cryptocurrency can be created by anyone on decentralized peer-to-peer systems using blockchain technology to issue units and record transactions. This means units of cryptocurrency can be exchanged directly between two parties using only digital identities, which grants some degree of anonymity. Real names and physical addresses are not necessary.
Blockchain is the generic name to describe the key technology used by Bitcoin and other digital currencies to record and secure transactions, data, and other assets. Since blockchain is decentralized, there is no single accountable individual or entity.
A blockchain is a shared digital register of data that is maintained across a computer network in which all transactions and transfers of ‘digital units’ that have occurred with respect to a particular cryptocurrency are logged. This charts the transaction history for every unit of cryptocurrency and shows how ownership has changed over time. For example, if you buy and sell Bitcoin, transaction details such as dates, times, and sales amounts will be recorded and encrypted in this Bitcoin blockchain.
The blockchain technology works by collecting information together into units known as ‘blocks.’ The block is the current part of the chain. Each time a transaction occurs, it is given an exact time stamp and forms part of a new block that is added to the chain. The stored data is always encrypted making it more difficult to corrupt or counterfeit. This records all transactions in chronological order and each transaction block is connected to the ones before and after it, creating a ledger of transactions known as the ‘blockchain.’
In essence, blockchain is a network of computers that multiple participants can access and modify anywhere in the world. A blockchain is encrypted to maintain virtual security to prevent anyone tampering with the information previously recorded on it.
3.2 Cryptocurrency transactions
Cryptocurrency can generally be purchased from a broker or a crypto exchange and once investors go through the standard verification processes and pay any fees (if applicable), they can generally deposit money into a cryptocurrency account. Once the money is cleared in the account, they are ready to place their first cryptocurrency order.
When a person first buys a cryptocurrency unit, they are given two keys, one public and one private. The keys act like a set of passwords to access or add data to the blockchain database. The public key works like an email address and can safely be shared with others, allowing the key holder to send or receive funds into a wallet. The private key is typically a string of letters and numbers and is not to be shared with anyone. The public key is used to send cryptocurrency, while the private key is an unique personal key used to verify transactions and prove ownership of a blockchain address. Without access to the private key, owners of cryptocurrency will not have any control over the cryptocurrency held on the blockchain. Only those who have access to the requisite private key can access the corresponding public address in the blockchain or transfer or sell cryptocurrency to it. If a party loses the private key, the Bitcoin is inaccessible and therefore worthless.
In essence, cryptocurrency transactions are messages sent between the parties to the transaction that constitute an exchange of value. The messages are sent to a publicly accessible network for recording and verification on the blockchain. Cryptocurrency differs from the usual wire transfer transaction in that the measure of the value of the transaction is not a currency established by a government or a central bank but a currency established by agreement between private parties. No physical cash or check changes hands but payment is noted and recorded.
Transactions are initiated between holders of cryptocurrency and a business or individual who agrees to accept it as payment. The payment is made by opening the virtual ‘wallet’ (which is either in the cloud or on your computer) that contains the cryptocurrency and directing it to be sent to the other party. The cryptocurrency wallet functions as a holder for an individual’s cryptocurrency. It stores each of the keys used to sign in for cryptocurrency transactions and provides the interface which lets users access their cryptocurrency.
Once a transaction is made using a cryptocurrency, that transaction is sent out to all users hosting a copy of the blockchain. The users then confirm the transaction and the transaction is recorded as complete. Records cannot be altered or deleted without the agreement of all parties involved. New transactions trigger the creation of a new ‘block’ documenting those transactions. These blocks are verified by miners and then chained together, creating an ever-growing blockchain.
3.3 Mining
The process by which cryptocurrency transactions are verified and new units of cryptocurrency are created is called ‘mining.’ ‘Miners’ are individuals or companies running special software to verify the next block to build on to the blockchain.
Blockchain mining involves a community of people running special blockchain-mining software to enable their computers to communicate securely with each other. Once a computer joins the network and begins mining Bitcoins, it is known as a ‘node’ in the network. Mining is the term used for the computational work that nodes in the network undertake in validating transactions.
Verification of Bitcoins involves sending the new block to the various nodes that make up a specific network. Such networks are typically decentralized peer-to-peer networks of computers. Bitcoins are issued every time a node adds a new block, all the users must validate the block and agree on each new ledger transaction request using a common protocol known as a ‘proof of work process’. Once confirmed, the new block is added to the blockchain, and the updated, longer version of the blockchain is distributed to the network. With no validated blocks ever removed, the blockchain sets out the currency’s entire transactional history.
Blockchains are updated only after transactions have been verified and validated. This process involves solving immensely complex computing puzzles. The miners’ race each other to solve the equation to verify new blocks of transactions to the chain. Once the block has been decrypted and validated as being authentic, the block is added to the blockchain. To incentivize miners and in return for their services, rewards are usually given to the computer which finds the next block, and solving the puzzle is generally rewarded with new units of the cryptocurrency. For example, if a miner chooses to validate a Bitcoin block, they will be paid in Bitcoin.
Solving the puzzles requires a large amount of computer power, which in turn uses vast amounts of energy. Participants invest significantly in equipment and electricity in order to mine cryptocurrency. This excessive energy consumption has raised environmental concerns (see here for guidance from Earthjustice and Sierra Club on cryptocurrency mining and environmental impact), and prompted President Biden to propose an excise tax on cryptocurrency-mining electricity usage in the United States.
4. Cryptocurrency oversight
4.1 Consensus algorithms
4.1.1 Proof-of-Work
Since the decentralized networks used in blockchains lack governing authority, many users use a technique known as ‘proof-of-work’ to ensure the accuracy of each new blockchain transaction. Proof of work is a software algorithm used by blockchains to ensure blocks are only regarded as valid if they require a certain amount of computational power to produce. It works as a consensus mechanism which allows these decentralized and unknown networks to preserve some form of trust in each other.
4.1.2 Proof-of-Stake
Instead of miners solving equations to validate transactions, ‘proof-of-stake’ validators are chosen in proportion to the number of units of currency invested in the blockchain. Validators must hold and stake tokens for the privilege of earning transaction fees as rewards. However, since the validators are linked to the proportion of their investment, many worry that this form of monitoring could lead to a small number of validators controlling a significant portion of the blockchain network, making it more vulnerable to network attacks.
4.2 Regulatory oversight
Cryptocurrency oversight is the process by which regulatory bodies monitor and control the activities within the cryptocurrency market. Oversight bodies often work to provide clear guidelines on how existing financial regulations apply to cryptocurrencies and related activities. This helps businesses understand their obligations and fosters innovation by reducing uncertainty. President Trump's recent executive order in the US aims to provide ‘regulatory clarity and certainty’ for the cryptocurrency industry by establishing a working group to review and potentially modify existing regulations.
The cryptocurrency regulatory landscape is constantly evolving. In early 2025, the Trump administration signalled a move towards a potentially more relaxed regulatory approach. The Securities and Exchange Commission (SEC) has also been re-evaluating its approach to digital assets through its new Crypto Task Force. Regulatory bodies worldwide are grappling with how to best manage the risks and opportunities presented by digital assets while fostering innovation and ensuring the stability of the financial system. The trend appears to be towards greater regulation and standardization, both domestically and internationally.
In the United States, various federal agencies play a role in cryptocurrency oversight:
- Securities and Exchange Commission (SEC): focuses on whether cryptocurrencies are securities and regulates their offering and trading accordingly, with the aim of protecting investors. The SEC has also formed a ‘Crypto 2.0’ task force to create a clear regulatory framework.
- Commodity Futures Trading Commission (CFTC): regulates cryptocurrencies as commodities, particularly in the context of derivatives markets like futures.
- Financial Crimes Enforcement Network (FinCEN): addresses money laundering and terrorist financing risks associated with cryptocurrencies, classifying virtual currency businesses as Money Services Businesses.
- Internal Revenue Service (IRS): provides guidance on the tax treatment of cryptocurrencies.
- Office of the Comptroller of the Currency (OCC): clarifies the authority of national banks and federal savings associations to engage in certain cryptocurrency activities.
- Federal Deposit Insurance Corporation (FDIC): provides guidance to FDIC-supervised institutions engaging in crypto-related activities, focusing on risk management.
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