How Does Cryptocurrency Work? A Beginner's Guide

Cryptocurrency is digital money that doesn’t require a bank or financial institution to verify transactions. You can use it to make purchases or as an investment. The system then verifies transactions and records them on a blockchain, an unchangeable ledger that tracks and records assets and trades.   

Explore how cryptocurrency works and what you need to know before buying a digital currency to better understand what you can potentially do with it.

What is cryptocurrency?

Cryptocurrency, or crypto, is a digital payment platform that eliminates the need to carry physical money. It exists only in digital form, and although people mainly use it for online transactions, you can make some physical purchases. Unlike traditional money printed only by the government, several companies sell cryptocurrency. 

Cryptocurrencies are fungible, meaning the value remains the same when bought, sold, or traded. Cryptocurrency isn’t the same as non-fungible tokens (NFTs) with variable values. For example, one dollar in crypto will always be one dollar, whereas the value of one NFT dollar depends on the digital asset it’s attached to.

Although government regulations are absent from the cryptocurrency market, it is a taxable asset. You’ll need to file any profit or loss with HM Revenue and Customs.

How are cryptocurrencies created?

Mining is the term used to describe the process of creating cryptocurrency. Transactions made with cryptocurrency require validation, a process provided by mining, which validates and creates new cryptocurrency. Mining uses specialised hardware and software to add transactions to the blockchain. 

Not all cryptocurrency comes from mining. For example, developers don’t mine crypto that you can’t spend. Instead, they create the new currency through a hard fork. A hard fork creates a new chain in the blockchain. One fork follows the new path, and the other follows the old. Crypto you can’t mine is typically used for investments rather than purchases.

Cryptocurrency vs. traditional currency

The government produces traditional currency in paper notes and coins you can carry with you or put in a bank. You can use it for purchases and other transactions that require cash. The government backs traditional currency, while cryptocurrency has no government, bank, or financial institution controls.

While you can hold traditional currency in a bank or financial institution, you store cryptocurrencies in a digital wallet. Banks insure money kept in bank accounts against loss, while crypto has no recourse in the event of a loss. 

What are the advantages of cryptocurrency?

Cryptocurrency offers several benefits compared to traditional currency, including increased privacy. When you make a purchase with cryptocurrency, you don’t need to provide any personal information. This anonymity protects you from potential identity theft and other fraudulent activities. Additionally, your investment is secure no matter what happens to the government. 

Another advantage of cryptocurrency is that it’s global, eliminating the need to figure out or pay foreign exchange rates. Although cryptocurrency isn’t legal in some countries, you also don’t need to worry about bank account restrictions, such as ATM withdrawal limits. 

Types of cryptocurrency 

Cryptocurrency is available as coins or tokens. The difference between them is that tokens are assets that exist on a blockchain, while coins can be virtual, digital, or tangible. Coins are more like traditional money; a digital coin has its own blockchain. Conversely, a token is created on an existing blockchain, allowing you to use it as currency or as a representation of asset ownership.

The first cryptocurrency introduced was Bitcoin, the most commonly traded one. Ethereum is the second most valuable cryptocurrency, and you can use it for complex transactions. Other more common cryptocurrencies, called altcoins, include Cardano, Solana, Dogecoin, and XRP. 

How to get started with cryptocurrencies

To start with cryptocurrency, you’ll need to choose a broker or crypto exchange. An exchange is an online platform where you can trade cryptocurrencies. Brokers use interfaces that interact with exchanges. 

An exchange allows you to trade without a third party. Should you decide to use an exchange, you’ll need to find buyers for your cryptocurrency. A broker can do that for you. The following steps can help you as you begin trading cryptocurrencies. 

1. Create and fund your account.

When you’ve selected a broker or exchange, the next step is to open an account. You’ll want to keep a form of identification nearby since some platforms require it. Once you verify your identity, you can fund your account. Depending on your funding method, you may need to wait a few days for it to clear into your crypto account.

2. Buy crypto.

You can make your first cryptocurrency purchase when your account is set up and verified. You’ll find many options. You can purchase as much or as little as you’d like. When you’ve selected the one you want to start with, you’ll need to enter the ticker symbol and the amount you wish to purchase. Some of India’s more traded cryptocurrencies and their symbols are:

• Bitcoin (BTC)

• Ethereum (ETH)

• Binance Coin (BNB)

• Solana (SOL)

• Ripple (XRP)

• Dogecoin (DOGE) 

3. Select a storage method.

You typically store cryptocurrency in a wallet. When you purchase from a broker, you might have limitations in how you store your crypto. However, you can choose between a hot or cold wallet when purchasing through an exchange.

Hot wallets

A hot wallet offers online storage that you can access from a computer, phone, or tablet. A hot wallet has a security risk because it’s stored on the internet and is more susceptible to cyber-attacks. 

Cold wallets

A cold wallet doesn’t connect to the internet. You can store your cryptocurrency in an external drive, such as a USB device. You’ll receive a keycode to keep in a safe place. Should you lose the keycode, you may lose your cryptocurrency. 

Get started in cryptocurrency with Coursera

Cryptocurrency offers opportunities for investing, trading, and employment. Global adoption and regulations continue evolving, making it critical to remain up-to-date on the latest changes and emerging trends. Before getting started, consider learning more about crypto technology and how it works on Coursera. 

For example, Princeton University offers Bitcoin and Cryptocurrency Technologies, an online course that explains how Bitcoin works and what makes it different. The course also explains what determines the price and the future of crypto. Blockchain and Cryptocurrency Explained from the University of Michigan is a beginner-level certificate course that explains how blockchain works and the strengths and weaknesses of cryptocurrency.