Lifecycle of cryptocurrencies – From creation to trade and destruction

At the core of Bitcoin is a cryptographically secured blockchain – a ledger of all transactions made – which is decentralised and can be verified by any participating computer on the Bitcoin network. These participants are given mathematical challenges to solve, to help in verifying existing transactions and add ‘blocks’ of new transactions onto the existing ‘chain’. In return, the most helpful participants – the most powerful computers or groups of computers, but not always – are automatically awarded Bitcoin.There can be two ways of ‘mining’ for coins. Those who verified transactions are awarded fewer but existing coins as transaction fees. Those who ‘discovered’ a new block are awarded more but in new coins. In fact, this is how new coins are born — with the help of miners. After discovery, they then begin circulating.The limited supply of Bitcoin means that eventually, there would be no ‘new’ coins to mine for. At that point, miners would still be needed but they will be limited to earning only transaction fees, which are obtained by by processing transactions made by others. This is also why mining is sometimes seen as a necessary evil, despite the excess power consumption and chip shortages it is perceived to cause.By itself, mining for cryptocurrency is legal in most countries around the world. The Reserve Bank of India’s former Governor, Raghuram Rajan had even implied that India need not fear a foreign-exchange issue if more Bitcoin is being mined than bought in India. The problem, however, has been miners who guzzle electricity without paying for it, as seen in Malaysia, Iran, and Kazakhstan. The only major country to ban mining has been China. India has been looking at regulating cryptocurrency transactions, but mining with a computer is currently treated no different from using it to play a game.This unchecked legality is claimed to be a reason for chip shortages and overpriced computing components, as miners who can earn a monetary return are more willing to pay high prices, while home users are more likely to postpone purchases. However, the cost of banning mining entirely may be too high.For experts, mining for cryptocurrencies and keeping holdings anonymous in a private wallet is possible. But that is as far as anonymity takes you.If you ever intend to use the mined coin in any way — whether it’s for payments or to cash it in for fiat currency like the dollar or the rupee — you will need to reveal who you are due to ‘Know Your Customer’ (KYC) and Anti Money Laundering (AML) laws that are in place globally. While there is no official crypto bill in India, most crypto exchanges do have their own self-regulatory guidelines, which entail KYC and AML verification.Even transactions made via wallets of anonymous users can be tracked, it’s just a little harder to do.Having mined coins alone, or fractions of a coin as part of a group, one could either keep it idle as an investment for the future, or trade it for real-world money.It would be great to personally know the buyer, directly send coins to their wallet, and have assurances that they would send money in a predictable time period. That isn’t always possible though. Thus an intermediary to match sellers with buyers – crypto exchanges – are indispensable for trade. There are different types of exchanges, and the largest ones include additional services to cater to their base of users.Once upon a time, mining used to be relatively profitable to people with a single powerful desktop computer. That, however, is no longer the case. Only the expensive and large ‘mining farms’ consisting of hundreds of computers yield reliable profit margins these days. There are many reasons for this change, ranging from electricity cost and improved hardware, to overall network hash rate of the cryptocurrency. Hash rate is a measure of the computational power required to mine a coin, making it possible to compare the mining efficiency of dissimilar computers. Another set of reasons are related to the increasing cost of transacting on exchanges – fees may be payable to the crypto network, the exchange, foreign exchange conversions and bank charges when withdrawing into an account. Moreover, crypto regulations in some countries do not allow classifying these profits as business income, leaving taxpayers open to higher income tax rates.If cryptocurrency can be brought into existence, the digital asset can be winked out of existence as well. ‘Burning’ tokens works differently for various cryptocurrencies.Bitcoin has a limited supply built into it, so the ‘lost wallets’ and inactive wallets of early users serve the purpose of drawing some of the supply out of circulation. Ethereum on the other hand, does not have a supply limit.Hence Ethereum deals with the growing production from miners, by having a way to slowly ‘burn’ some of the existing supply over a long time period. Such a mechanism of ‘intentional burns’, may be adopted by a cryptocurrency creator on principle alone, or to regulate the coin's price at a preferred level, again performed over a long time period.At the other end of the scale, some coins do not ‘mine’ in the traditional sense, and intervene actively in the market with burns or additions. For instance, Tether and LUNA may drastically vary supply based on their internal parameters such as liquidity, treasury reserves or stablecoin interventions.

Cookies on the Business Insider India website

Lifecycle of cryptocurrencies – From creation to trade and destruction

Crypto ‘mining’ or discovery

Is mining for cryptocurrencies legal?

Anonymity – 404

What’s the role of a crypto exchange?

Profitability of crypto mining

Slash and burn