For anyone interested in the topic of cryptocurrency, the news of Bitcoin’s price surge in the past week has not eluded you. One week ago, Bitcoin’s value was $4,200 USD and at the time of writing (August 30) currently has a value of over $4,600 USD. Other currencies such as Ethereum and Litecoin have seen similar price surges in the last week.
Cryptocurrency is an online currency that is created by anonymous groups of individuals not connected to banks or governments. It is used to protect the identity of those exchanging it and, because of this, it is often used on dark web black market sites, such as the Silk Road. Because the currency is virtual and has no physical worth, its value is determined by the price people are willing to pay for it and the demand there of. Cryptocurrency is viewed by many as a potentially more stable and decentralized alternative to paper money, whose value is determined by governmental policies and world events.
Not everyone believes Bitcoin is stable, however, with good reason. Prices have been known to fluctuate hundreds of dollars on any given day and, because of this, professional investors caution before purchasing. While stocks in physical companies, such as Walmart, have a physical evaluation of worth, stocks in online entities, such as Facebook or Bitcoin, have little to no physical worth. The value of the latter could crash with little warning.
Cryptocurrency does have protocols to prevent the complete devaluation, such as limiting supply, yet if everyone woke up tomorrow and decided that bitcoin had no value it would, in fact, have no value. The recent price surge has been almost entirely due to speculation after an announced software upgrade that would increase the maximum number of transactions per second.
There are over 900 cryptocurrencies available to use with varying levels of anonymity and value. Bitcoin, being the first and more popular, is the most expensive. There is distrust in the system because of the anonymity. No one really knows who created the currency or even who physically owns the coins as a means of money.
Earlier this year in May, banks and investment firms, most notably Goldman Sachs and Charles Schwab warned of the bubble being created and warning clients not to invest. The concept of cryptocurrency is dangerous to big banks as it could one day put them out of business and any warning from them should be taken under that light. It is telling how people are more willing to put their money in online cryptocurrencies than in paper bills in investment banks after the financial collapse of 2008.
The concept of cryptocurrency posts further complications when it comes to taxes. In a memo by the IRS on March 25, 2014, cryptocurrency is not considered currency but rather property and as such is imposed with “extensive record-keeping rules and significant taxes on its use” writes Forbes.
The question of how transaction records will become known to the IRS for tax purposes remains. Theoretically the encryptions should protect the user and the IRS would have to depend on the public to report any Bitcoin transactions. As this seems unlikely, the alternative is that the government can and will track Bitcoin transactions, which eliminates one of the largest benefits of cryptocurrency.
If, for instance, it was leaked that the government possessed the ability to track cryptocurrency transactions, the price of coin would plummet and, as it is estimated that about $80 billion USD are currently invested in cryptocurrency, billions of dollars would be lost.
Potential investors should be wary before investing in any cryptocurrencies. The volatility presents great gain but equal risk. One approach could be to invest in cheaper currencies, such as Ripple which currently is priced at 22 cents USD, or to invest in a more expensive alternative, such as Ethereum which currently is priced at $377 USD. Either way, the concept of cryptocurrency is fascinating and will be around for the foreseeable future.