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Cryptocurrency 101: navigating the digital goldrush

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Andreas Park

There is still a lot of confusion around terms like cryptocurrency and blockchain. Can you provide a quick primer?

A cryptocurrency is a digital or virtual currency that is secured by cryptography — which makes it nearly impossible to counterfeit. Cryptos allow for secure online payments that are denominated in terms of virtual tokens, holding the promise of making it easy to transfer funds directly between two parties without the need for a trusted third party like a bank or credit card company. Unlike traditional currency, cryptos are generally not issued by any central authority, rendering them theoretically immune to government interference or manipulation.

Blockchains are an essential component of many cryptocurrencies. These are cryptographically protected distributed ledgers made up of ‘blocks’ that contain transaction history. As the blockchain grows longer and longer, it becomes increasingly difficult to alter older transactions, ensuring the integrity of transactional data.

There are two main types of cryptocurrencies. The first are essentially tokens or ‘digital stickers’ that run on a platform. The only thing that can be done with them is to shift them around. Examples include Bitcoin, Dogecoin and Litecoin. The second type of cryptocurrency is used as a built-in payment and rewards system for blockchain networks. In return for using these tokens, you receive a computational service. An example of this is Ethereum, which is a decentralized, opensource blockchain. Ether is the native cryptocurrency of this platform, and after Bitcoin, it is the second-largest cryptocurrency by market capitalization.

Not everyone is a fan of cryptocurrency. Many believe that its value is merely based on the opinion of others. How do you react to this view?

I’m not a fan of Bitcoin or the other digital stickers, either. No one can truthfully say that they have any intrinsic value other than what people are willing to pay for them. However, you can make a much stronger case for the cryptocurrency that is used in Ethereum, because it can be used to obtain computational services. And in the future, when you move to the so-called Proof of Stake system, you can potentially receive rewards based on your holdings. So down the road, cash flows could emanate from some of these tokens.

How are Bitcoin and other cryptocurrencies used?

A cryptocurrency wallet stores private and public keys, which are necessary to send and receive coins. There are hardware, software and paper wallets. Hardware and paper wallets are typically considered more secure than software wallets, although there are pros and cons associated with each.

Some merchants accept Bitcoin and other cryptocurrencies directly from a user’s wallet. Even though some of them have very high prices, they are divisible into very small fractions. Bitcoin, for example, is divisible down to a ‘satoshi’, which represents 0.00000001 of one Bitcoin. Some companies have created ATMs where you can use U.S. dollars and other traditional currencies to buy Bitcoin and sell them to get cash. There are also companies that have created debit and credit cards where you can convert Bitcoin or other cryptocurrencies into dollars and use them just like you would any other payment card. But in all honesty, Bitcoin itself is used mainly for speculation. The set of use cases is limited. Blockchain networks like Ethereum and others, however, provide a host of functionality that many companies — particularly start-ups — are embracing.

Tesla has invested US$1.5 billion in Bitcoin. It recently ditched Bitcoin payments, but at press time, remains its second-largest corporate holder. Is this a smart move?

If I was a shareholder of Tesla, I would be very annoyed, because I bought shares of an electric car manufacturer, and now it is making investments on my behalf. If I wanted exposure to Bitcoin, I would buy Bitcoin. I don’t need the car company that I invested in doing that. Of course, it’s good for Bitcoin, because over the last year we’ve seen a lot of institutional money flow into it, which makes people believe that it’s not going to drop to zero overnight. In my mind, Elon Musk should be focusing on his business and not on playing with his investors’ money.

Huge companies like Microsoft and Coca-Cola are also embracing cryptocurrencies. Should all businesses be doing this?

I think businesses should definitely consider what services and benefits they can obtain from blockchain technology. The way to think about a blockchain is that it is a common resource for value transfers. What that means is, you can use blockchains to conduct transactions, foreign exchange operations, escrow, trading, or bidding for contracts. There are many things you can organize using these joint networks. And clearly, massive value can come from working on common platforms — as we have seen with the Internet.

The Internet is really a large open infrastructure, and it’s obviously very valuable for the exchange of information. Blockchain networks are essentially trying to be the same thing for value transfers. If you can organize major portions of your supply chain or your accounting system with these open networks, that could potentially be very valuable, because you could save costs and make payments more efficient and transparent. In my view, the most valuable aspect of all of this is the common network and its functionality.

Your Rotman colleague, finance professor Lisa Kramer, recently said that it’s unwise for businesses to accept cryptocurrencies in exchange for goods and services. Do you agree?

If you think about it, Canadian businesses have accepted U.S. dollars for a long time, even though U.S. currency is not legal tender in Canada. So if you can find a way to accept cryptocurrencies and make a deal happen where otherwise it wouldn’t happen, why not? Having said that, Lisa is absolutely right in saying that businesses, especially small ones, should not hold cryptocurrencies. So there is a smart way to do it and a not-so-smart way. 
I think it’s unwise for any business not to accept a proposed means of payment, because in doing so, a deal could fall through. At the same time, if you do decide to accept cryptocurrencies in some form, you should do it smartly. For instance, Paypal offers a service for people to pay with cryptocurrencies, but the merchant actually receives fiat currencies, so it is not exposed to the crypto risk.

What about the big banks? Do you foresee a day when cryptocurrency is integrated into our financial system?

There are certainly big questions around the banks, with different entities offering different services nipping at their heels. As indicated, I see Blockchain networks as a common infrastructure that allow value transfers across a wide spectrum. At the moment, our financial infrastructure is extremely siloed. The payment network is prohibitively slow: If you send money from a savings account at CIBC to an investment account at TD, it takes at least two days for the funds to arrive. That makes no sense in the modern world, when everything else is instantaneous.

Clearly, massive value can come from working on common platforms — as we have seen with the Internet.

With a blockchain, you could trade assets on different platforms. Say you want to buy some options on the Montreal Exchange and stocks on the Toronto Stock Exchange. They all live on different ledgers, so it’s a really complicated process to reconcile all of that. And God forbid if you want to do anything across borders. If a common resource was available for all of these transactions, it would be very valuable. Imagine if all securities could live on a common platform and be pooled. That would be extremely valuable for the functioning of markets. Conceptually, there are huge potential efficiency gains and cost savings if this is deployed properly.

The big question is, If the world moves to an open platform, what will be the role of banks? Bank leaders need to think carefully about this. It’s not so much a question of how they can integrate blockchain into their current processes; it’s more about what role banks will play if and when the world moves in this direction.What new products can they offer and what would become redundant? How can they ensure their relevance and survival?

Will we start to see large enterprises hiring talent that specializes in this area?

Yes. First of all, because new services will emerge. If we move to decentralized platforms — which I hope we will, because there is value in doing that — then new service providers will emerge to help firms navigate the system. And of course, you will need people in your finance or accounting department who are able to interface with these service providers and understand what is going on. There are significant opportunities on the horizon that will require lots of learning and re-learning for the organizations that embrace these opportunities.

It has been said that China is currently developing its own digital currency. What are the implications of this? 

Central-bank-issued digital currencies are an emerging issue and a completely different beast from cryptocurrencies. Central-bankissued currencies are digital representations of fiat currencies — government money — and we will definitely see them proliferate in the future. China is basically developing a digital representation of the yuan that lives on a particular network.

Remember, China is light years ahead of the West in terms of digital payments with Alipay and WeChat Pay. Those two apps alone make up 90 per cent of its payments market. They are extremely efficient and user friendly, which will make it difficult for the digital yuan to compete directly with them. As a result, China will likely apply some form of pressure for people to use it or for Tencent and Ant Group to include it in their services. Personally, I am concerned about the power that Tencent and Ant Group can amass with the payments data that they collect. Currency and Banking Databases also raise a lot of questions about privacy of information and the stability of banks when people move deposits into central bank digital currencies. At the same time, existing electronic bank payments are also very expensive for consumers and merchants. There is a very strong case that people should have an option to participate in the digital economy. All of this is a huge area of interest these days.


This article first appeared in the Fall 2021 issue of Rotman Management magazine. Published in January, May and September, each issue features thought-provoking insights and problem-solving tools from leading global researchers and management practitioners. Subscribe Today.

Andreas Park is a professor of finance at the University of Toronto, appointed to the Rotman School and the department of management at UTM. He is the research director at FinHub, Rotman’s Financial Innovation Lab, the co-founder of the LedgerHub, the University’s blockchain research lab, a lab economist for blockchain at the Creative Destruction Lab, the economic advisor to Conflux Network, and a consultant to the OSC and IIROC. He recently co-authored a design proposal for a central-bank issued digital currency, commissioned by the Bank of Canada.