Cryptocurrency, Bitcoin And Blockchain
April 18, 2018
This article is the first of many that will explore the confusion that surrounds the digital world of cryptocurrency, of which Bitcoin is one type – and the many uses of blockchain technology.
Topics Covered:
A crypto, or virtual currency, is a type of money that is completely digital and allows for instantaneous transactions and borderless transfer-of-ownership. Digital currencies allow people to transfer value over the Internet, but they are not legal tender. Because they don't require third-party intermediaries such as credit card companies or PayPal, merchants and consumers can avoid the fees typically associated with traditional payment systems. Advocates of virtual currencies also say that because personal information is not tied to transactions, digital currencies are less prone to identity theft.
There are two types of technologies used for digital currencies:
·Virtual currency is a type of unregulated, digital money, issued and usually controlled by its developers. This type of currency is accepted for use only among the members of a specific virtual community.
·Cryptocurrency is a type of digital token that relies on cryptography to function. Cryptography chains together digital signatures of token transfers, peer-to-peer networking and decentralization. Cryptocurrency is not backed by tangible assets and has no physical form.
Cryptocurrencies are not insured, and there is no control by a central bank or other governmental authority, cannot always be exchanged for other commodities, and are subject to little or no regulation.
The top cryptocurrencies are Bitcoin and Ethereum, the worth of which fluctuate wildly. The Bitcoin took the world of money by shock when its worth increased by 15,000 percent within four years, as the price of each Bitcoin rose from $0.08 to $1,200. While the value fell to devastating lows in 2018 after a dramatic start to the year, the currency is now bouncing back. At the time of this writing, each Bitcoin is worth $10,270. The most well-known type of cryptocurrency is Bitcoin. Bitcoin is like digital gold in that there is a finite supply that can be 'mined' every year using sophisticated software. The term for this software mining process is blockchain technology.
The idea for bitcoin emerged on a cryptography mailing list in 2008-2009 from someone using the name Satoshi Nakamoto. While Satoshi is credited with bringing Bitcoin into existence, he is a mysterious unknown. Throughout the years, his identity has remained secretive and while there are bits and pieces of information he has released in a P2P (Peer to Peer Foundation) profile, there is no factual information on exactly who he is, if he is in fact one person or a group of people, or where he was born or is located. In the P2P profile, he claimed to be a man living in Japan, born on April 5, 1975. Other than that, much of what is publicly obtainable on his identity is based on speculation and educated guesswork.
In his posts, Nakamoto used an untraceable email address and website. Through 2009-2010, he wrote hundreds of posts in flawless English, and though he corresponded with other software developers and invited them to help him improve the code, he never revealed any personal details. In April 2011, he sent a note to a developer saying that he had "moved on to other things", and has not been heard from since.
Nakamoto claimed that he spent over a year developing the software that launched the bitcoin network and the first units of the bitcoin cryptocurrency. His driving force was decentralization – no banking control, no intermediary, no set group of people making decisions that would affect the currency. The bitcoin would belong to anyone who used it, and the people who used it would direct its function and viability.
In October 2008, just a few months after the collapse of the global banking sector, Nakamoto published a paper on the cryptography mailing list describing the bitcoin digital currency, titled "Bitcoin: A Peer-to-Peer Electronic Cash System". In early January 2009, Nakamoto created the bitcoin cryptocurrency, which consisted of 31,000 lines of code and an announcement on the Internet. Nakamoto's invention was controlled entirely by software, using cryptography to create new coins.
Without delving into a lot of technical information, cryptocurrency is, simply put, lines of code that has monetary value. Computer engineers set up computers that process the codes that create the bitcoin. This process is called 'mining' the bitcoin. Consumers can receive bitcoins in exchange for goods or services, purchase them through exchanges, or earn them through using computer power to process transactions in the bitcoin system in exchange for bitcoins, a process known as "mining". This process of mining and transferring/exchanging bitcoins takes place repeatedly, and as it does so, it continuously changes the price of bitcoin. Consumers use "wallet" applications on the computer or on a smartphone to store their bitcoins and send them to other people. The digital currency can be converted to cash when deposited into special accounts. A wallet can be a "hot wallet", meaning that the cryptographic secrets needed to spend the coins are trusted to an online exchange such as Coincheck, making the coins easier to use; or a "cold wallet", where the coins are kept offline, such as being kept backed up on various encrypted USB devices in more than one location.
The bitcoin software encrypts each transaction so that only a string of numbers (code) identifies the seller and the purchaser; however, a public record of each bitcoin's movement is published across the entire bitcoin network. Buyers and sellers remain anonymous, but everyone can see that a bitcoin has moved from seller A to buyer B, and the code can prevent seller A from selling the bitcoin a second time.
Bitcoin purchases are not like credit card purchases; once a bitcoin is sent to a person, only that person can return it. Therefore, it is important to check the accuracy of the "wallet" address before the bitcoins are sent, and bitcoins should only be sent to trustworthy people.
|Blockchain Technology Explained
Every single bitcoin transaction is held in a decentralized public database, which serves as a transaction ledger where bitcoin transactions can be viewed in real time, recording and verifying who spent or transferred which coins. The transaction ledger is in a network made up of all of the computers running the bitcoin software. Therefore, all of the users build the network, and each user has a financial interest to protect the network and keep it secure.
When a transaction is initiated, it is combined in a group with other transactions in a "block". This "block" is cryptographically protected, and sent out to the entire network. In the network, the "miners" will confirm and process the transactions. They can add additional transactions to a "block", and they connect each "block" to all the previous "blocks". These connected "blocks" comprise the "blockchain".
Each "block" contains:
·a reference to the previous block in the chain;
·all of the transactions in the block;
·a time stamp; and
·the Proof of Work data showing how the new block was created.
The "miners" create a new block and add it to the blockchain. The new block verifies, transfers and records the transactions in the public database. The blockchain exists on computers that solve cryptographic problems as they log transactions to help combat fraud. Once added to the blockchain, that "block" is recorded on every computer in the network. Critically, these digital 'blocks' can only be updated by consensus of all participants, with data interception, modification and deletion near impossible. In their Internet Infographic, IBM describes an unalterable blockchain as a shared ledger for recording the history of transactions.
Owners of bitcoins typically keep their currency in digital wallets and by using a bitcoin address, they can anonymously transfer payments to other wallets, without a bank or broker being involved. A bitcoin address is a specific string of characters that identify a bitcoin "wallet", and a single wallet can have multiple addresses, or even a separate address for each transaction. The string of characters must be precise – otherwise, the funds will not transfer.
For consumers, bitcoins allow faster, cheaper and perhaps more secure payments to people around the world, although the volatility of the bitcoins is still a reality. For retailers and other merchants, bitcoins add directly to the bottom line because transactions bypass fees charged by credit cards or other services.
Some states have regulations requiring bitcoin exchanges and companies that receive, store, transmit or issue virtual currencies be licensed by the state, known as "BitLicenses." Customers and merchants that simply accept bitcoin as payment do not have to obtain licenses. The Internal Revenue Service (IRS) treats bitcoins as property, rather than as a currency, for federal taxing purposes.
Many countries heavily regulate digital currencies. However, in the U.S., they are not regulated; therefore, digital currency is not insured by the Federal Deposit Insurance Corporation (FDIC), nor by the National Credit Union Association (NCUA). Some states have laws requiring that require digital currency exchanges be licensed.
Financial technology businesses working with digital currency have to manage their enterprises accordingly, abiding by strict laws and heavy regulation. Most bitcoin businesses that buy and sell the digital currency must follow the rules enforced by their country's government. This includes the collection of certain data from marketing IPO's and securities, Know Your Customer (KYC), and Anti-Money Laundering (AML) regulations.
KYC requires financial businesses to report the identity of its customer base. This means digital currency exchanges have to require their users to verify who they are with a legitimate form of legal identification.
AML is another process of regulation for profits made from illegal proceeds. Money laundering is the act of using capital made from a crime and turning it into legitimate assets or currencies. Bitcoin companies who are buying and selling also have to comply with this policy. For example, if a person was operating in this fashion and trying to "clean" their money, the law would require the service to report this act.
However, certain bitcoin businesses use what is called Zero Knowledge and collect no data from its customer base.
At the federal level, regulation of digital currency is by the Financial Crimes Enforcement Network (FinCEN). In its first guidance on virtual currency, FinCEN defined the parties in virtual currency transactions and identified those considered money services businesses (MSB). A money service business must register with FinCEN and is subject to reporting and recordkeeping requirements. Parties defined as administrators and exchangers are MSBs under this guidance while users are not.
For businesses that buy and sell products or services, using bitcoins could solve a number of problems.
Fraud
As soon as a bitcoin transaction is initiated, it is sent out to the entire blockchain, and everyone in the world on the Internet can see that the transaction was initiated and completed. Once a transaction is confirmed, it cannot be reversed or canceled. A customer cannot initiate a refund on their own, which eliminates chargebacks and their associated fees. It also ensures that once a customer has confirmed, they cannot stop payment.
Credit card acceptance carries with it hefty fees for purchases under a certain dollar threshold, which can make it very difficult for small businesses to compete. Bitcoin offers options such as Coinbase and BitPay with low to no fees.
Large Purchases
Large or international transactions can sometimes take a long time to complete, possibly requiring wire transfer confirmations that hold up funds. With bitcoin, the payment receives rapid confirmation, regardless of the size of the order, or where payment is originated.
Recordkeeping
With bitcoin, all transactions are recorded, verified and can be viewed in real time. The specific identities of those making the transactions remain private by using the wallet address that holds the bitcoin.
Stores
If a store is using any type of point-of-service (POS) system, they can add bitcoin to this system. Older POS systems may require upgrades. Therefore, bitcoin opens the door for any size business to integrate a bitcoin payment option to their online store.
In the bitcoin network, there are electronic devices such as mobile devices, desktop computers, or other, that are running the bitcoin client and participating in the network, but they don't have the ability to transfer bitcoins or act as a wallet. These electronic devices are "nodes" and like any computer running the bitcoin client, these will hold the entire history of bitcoin transactions dating back to 2009. These nodes are effectively a backup of the entire blockchain.
Since bitcoin addresses do not contain the identity of the owner, when transactions originate, the data transmits to a random set of nodes that forwards the information on to another set of nodes. This makes it difficult to trace bitcoins at each step of the transaction, even if someone knows where it is coming from. The security concern that arises is when someone has control of the multiple nodes receiving the data. The combined data could give them some information on where the data came from. It is noted that if someone has your public address, then they could monitor it using the Blockchain.info website. Due to the transparency of all blockchain transactions, if they know the address then they could view not only current transactions but also all past transactions made with that specific address.
Because the bitcoin network is decentralized, there is no way to hack it; however, this doesn't mean the technology cannot be hacked. Services that use the bitcoin network can sometimes fall victim to hackers since they typically rely on a more centralized system to maintain their data. However, even if a service is hacked, the decentralized bitcoin network will remain safe and secure since there is no direct connection between the centralized system and the bitcoin network system. The transactions, exchanges, wallets and blockchain are decentralized, and the centralized services that use bitcoin have no secure connection to the decentralized bitcoin network.
While there have been some publicized cases of people losing bitcoins, none of those cases had a problem with the bitcoin network itself. The problems were the fault of services built on the network, such as exchanges. In addition, hackers have created malware disguised as cryptocurrency apps; tricking users into believing they are entering a secure network.
More recently, there have been cases of hijacking computer servers for mining cryptocurrencies, an attack termed cryptojacking. This form of hacking does not intrude into computers to steal data, but rather to gain access to the computer's processing power to mine coins. This can be done by installing software on other people's computers, or by injecting script code into WiFi networks, web browsers, video streaming services, websites, or servers. Crypto mining requires a lot of electricity and heavy-duty hardware. Large cryptocurrency mining companies for bitcoin use high-functioning computers typically in countries where green energy is abundant and electricity is cheap. Miners are rewarded for solving the complex mathematical codes that validate the cryptocurrency transactions by unlocking coins as they successfully solve the codes. Through cryptojacking, hackers gain access to powerful servers where they set up remote mining operations and mine coins without the owners of the servers even being aware that the mining is taking place. What the owners or users generally notice is a slow-down of their computer services and large electricity bills as resources are expended by the cryptojacking. Unlike Bitcoin, Monero (another cryptocurrency), does not depend upon heavily specialized, application specific integrated circuits, but can be mined with any CPU or GPU. Therefore, Monero can easily be mined on home computers without any specialized hardware. Just recently, security researchers have discovered that malicious actors can compromise a Microsoft Word feature to use the owner's computer power to mine Monero. A Word user pastes an iframe embed code to add an internet video into a Word document. The next time a user opens the Word document, the video pops up ready for playing. The attacker has added cryptojacking script in with the video code, which when played tricks the victim into performing Monero mining for the hacker.
A number of companies, including Starbucks and Tesla, and even government websites in the UK, the U.S. and others have been victims of cryptojacking. Some upstanding sites may ask for a trade-off or explicitly inform users that in exchange for ad blocking, their computers may be used to donate processing power.
If using bitcoin or a wallet, you should always have a secure backup. In the worst-case scenario, you would always want to be able to retrieve all of your information.
Things are rapidly changing with bitcoin, so it is important to keep up with current news on the subject.
The blockchain technology used for bitcoin transactions has come to the attention of the insurance industry, as it shows how individuals or companies can exchange information and value as a network group using a decentralized platform.
For example, just as a bitcoin blockchain is created, underwriters, insurers, MGAs, producers and affiliates would each contribute a "block" of information into a public network database. A reference would be added to each block in the chain, and then all of the information will be added to the blockchain with a timestamp and some sort of proof data showing how the new block was created. In this example, the "block" contributors would act as "miners" by creating the new block. The new block would verify the data, transfer the information and record the transfer of information into the public database. The entire blockchain would exist on the network of computers. This blockchain network could be limited to specific groups or be available to the entire insurance industry. A blockchain can be established to require or not require permissions, or to be a hybrid of the two.
Blockchain technology, more accurately referred to as distributed ledger technology (DLT), can be created with different protocols than those used with cryptocurrencies. A distributed ledger is defined as a peer-to-peer network, which uses a defined, agreed-upon mechanism to prevent modification of an ordered series of time-stamped records. In this article, the terms blockchain and distributed ledger systems are used interchangeably.
DLT removes the need for a centralized authority to control the information, and it validates the exchanges of value between the contributing parties. In this manner, the entire ledger of records and transactions is stored on the network for every participant to view.
For the insurance industry, blockchain technology could be used to track assets, improve efficiencies in transactional processes, simplify contractual agreements, develop new products or coverages, as a perpetual file storage, or in numerous other ways related to the Internet of Things (IoT).
In 2013, a company called Ethereum outlined an idea that promised to make it easier for coders to create their own blockchain-based software without having to start from scratch and without relying on the original bitcoin software. In 2015, Ethereum released its platform for building "smart contracts", software applications that can enforce an agreement without human intervention. It is possible to create these type of smart contracts for multiple applications in the insurance industry, from the initial application through the quote process, to issue binders and policies, to handle funds transfers and even some claims processes. Potential use exists for the technology in underwriting and risk management areas, and reinsurance.
As long as the software is written correctly, there would be no need to trust any person to handle these transactions. However, the importance of writing the software correctly is a vital component. In 2016, a coding error allowed an unknown person to hack into Ethereum's currency, making off with almost $50 million in virtual currency. Only those computers that are included in the specific network's blockchain would be able to view all of the recorded transactions. Smart contracts need not be limited to one company, but could be created for the entire industry, allowing companies to pool their statistics or collaborate on other beneficial ventures.
Already there are companies offering decentralized products such as insurance applications, file storage services, and smart contracts.
Storj is a file-storage service that relies on the idea that distributing files across a decentralized network is safer than putting all of your files in one cabinet. Further, storing records in an immutable digital ledger that is unchangeable is a good way to assure auditors that those records haven't been tampered with.
Asset tracking – any type of asset could be tracked and digitally traded, with detailed information about its ownership, identification, credentials and rights all stored securely and transparently. On most blockchains, the transparency is on a platform level, so it is publicly auditable for analyzing by third parties. Having digital assets on blockchains could create opportunities to structure exposure to insurance products.
Customer relations – Customers become frustrated when they have to provide their personal data multiple times for various data entries (applications, claims, loss control, etc.). The data entry processes could be addressed by a customer-controlled blockchain for identity verifications. The customer could store and grant access to their identity data, for verification on the blockchain. The identity would not need to be stored on the blockchain; it could remain on the user's personal device. The blockchain would register only the verification, and those parties involved in the blockchain could view the data.
Claims – On most blockchains, transparency is a platform-level feature. As with asset tracking, all data in a smart contract based system is publicly auditable available to be analyzed by third parties. Smart contracts could automate and enforce specific rules. For example, in the case of an auto accident, a smart contract could ensure that the claim is only paid out if an auto is repaired in a preferred garage as defined by the insurer; or a smart contract could be created to reject multiple claims from the same accident, reducing the potential for fraud.
While bitcoin and other cryptocurrencies are volatile and may not last, the blockchain technology has the potential to improve efficiencies in many areas and industries.
Healthcare
While blockchain current use is only for payment transactions in the healthcare industry, blockchain is being considered for data storage, interoperability, and security. Blockchain has potential use as a means of data storage to retrieve information such as medications, lab results, and other patient information, possibly collected by another department or outside specialist. With personal data and personal identity information (PII) a major concern, more sensitive data processing requires more stringent requirements. However, if privacy issues are overcome, healthcare blockchain could enhance PII and PHI (protected health information) protection. The design of blockchain, how it handles data exchange, and its encryption methods could provide a more secure environment. Using blockchain to enhance other technology to overcome challenges is another potential benefit. Interoperability is the most common chronic health IT infrastructure challenge currently in development for blockchain. Hyperledger is working on developing blockchain to enhance interoperability. Healthcare blockchain needs time to develop, but proponents of its use believe there are many promising use cases for it within health IT infrastructure.
Voting
In March 2018, the blockchain startup Agora oversaw the results of Sierra Leone's presidential election using blockchain technology. For voters, the process was no different from previous elections – they arrived at the polling center, showed election officials their IDs, and then cast their votes on a paper ballot. Agora then manually recorded the votes on a permissioned blockchain. With a permissioned blockchain, only those persons authorized can validate transactions on the blockchain; however, like public blockchains, anyone can view the recorded transactions. Therefore, once the groups managing the blockchain verified the Sierra Leone voters, all voters, candidates or any interested third party could view the election results. According to Agora, the results on the blockchain were shown two hours sooner than election officials. Agora eventually hopes to eliminate the use of the paper ballots altogether, allowing voters to cast their votes via personal electronic devices, which would cut down election costs, increase voter accessibility, and eliminate a potential avenue for voter corruption. The state of WV is currently testing a secure mobile voting application powered by Blockchain. The application is in pilot stage by military voters and their families registered to vote in the May primary election in Harrison and Monongalia counties. If the pilot proves successful, the state plans to expand the program throughout the state.
Real Estate
Another example of using blockchain technology is taking place in South Burlington, VT where the Ethereum blockchain is being piloted to record real estate transactions as part of a pilot program with Propy, a real estate platform. Propy allows anyone to buy or sell real estate, anywhere, completely online. The Propy Registry uses the blockchain to become a decentralized application that allows each party involved — including the broker, buyer, seller and title agent/notary — to sign off on a real estate transaction. It allows Propy to verify property ownership via third parties (like the Escrow/title agents) as established by the smart contracts. The real estate deals will be all cash, alleviating the need to use banks. On February 20, 2018, the first home was sold in VT using the Propy blockchain.
Secure Registries
Coca-Cola and the U.S. State Department are teaming up to launch a project using blockchain's digital ledger technology to create a secure registry for workers that will help fight the use of forced labor worldwide. Nearly 25 million people work in forced labor conditions, with 47 percent of them in the Asia-Pacific region. Coca-Cola has committed to conduct 28 country level studies by 2020 on child labor, forced labor, and land rights for its sugar supply chains. The company is partnering with the U.S. state department with the aid of Blockchain Trust Accelerator (BTA), a non-profit organization, to create a secure registry for workers and their contracts using blockchain's validation and digital notary capabilities. While blockchain cannot compel companies or those in authority to abide by U.S. labor contracts, it can create a validated chain of evidence that will encourage compliance with those contracts. The Bitfury Group, a U.S. tech company, will build the blockchain platform and Emercoin will provide blockchain services.
An explosion of real-world blockchain rollouts is expected for 2018, with exponential growth from companies finding uses from data integration to connecting IoT devices. The Everest Group Research envisions blockchain projects in the accounting, banking and financial services, healthcare and insurance industries. Everest created a blockchain prioritization framework highlighting four broad areas of business-specific and corporate function use cases best suited for blockchain, and in this framework they prioritized property and casualty claims processing as an opportunistic framework for blockchain. Further, insurance companies are interested in using blockchain-distributed ledgers to keep track of merchant goods in cargo containers shipped from one country to another.
It is suggested that agents and brokers become familiar with blockchain technology and understand its potential applications to insurance processes and distribution. It is possible that in the future, carriers will approach them to implement some portion of this technology.
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