Welcome to another edition of my short series “Crypto Jargon”. In these series, I break down the complex terminology we use in reference to cryptocurrencies and blockchain technology.
In this article, I am going to explain the difference between Fiat Currencies and Blockchain-based Currencies. As well as, what is censorship resistance, double spend and Byzantine Fault Tolerance which are terms referring to cryptocurrencies.
As you probably know I also post these definitions on my YouTube channel, here’s my episode with today’s terms:
So, let’s get started with Fiat Money or Fiat Currencies, which is a term used a lot lately, especially in comparison to cryptocurrencies. The term “fiat” derives from Latin which means “let it be done” used in the sense of an order, decree or resolution.
This is not a term that we see used in general conversation when referring to the paper money we use but it is in fact how most of the paper issued currencies are classified as. Fiat money is used to describe those currencies that are government-issued and used as a legal tender but are not backed by any tangible assets or commodities like gold or silver for instance.
There are some currencies that are backed by such commodities and these are known as commodity currencies but the majority of governments today are issuing fiat currencies which is easier since they can print as much as they need without having to own any physical assets to back up the value of these currencies.
The value of fiat money is derived from the relationship between supply and demand and the stability of the issuing government. They are mostly backed by taxation and other government means of creating value but should there be a political or economic crisis, these currencies would devaluate enormously, which most recently happened in Turkey, this year it also happened to Venezuela, Argentina, Zimbabwe, Sudan, Iran, and the list goes on and on and on… this happens all the time around the world.
So, this is what fiat money is: currencies printed by a central authority and declared a legal tender and trusted by the citizens purely based on their trust in the government.
In 2008, at the peak of the US and UK financial crisis, Satoshi Nakamoto published the Bitcoin White Paper which was born as a response to the ever-growing danger of further financial collapse and against the control of the central banks. It introduced the idea of a decentralized model for a monetary system through a publicly shared, distributed ledger (in other words the blockchain) where records are being agreed on and shared between all the participants of the network. This new model is more than a currency, it is, in fact, digital data, information, code, etc. Which in many cases, causes confusion as to how can it be called money but in its use cases, it is not too different from the already growing digital payment networks that most of us have been using over the past decade.
Except, if it is encrypted, not controlled by any central authority and thus, it is censorship-resistant, unlike the fiat money which we hold in banks and other government-controlled institutions who are able to freeze or block accounts if they choose to. So, here lies the key difference between fiat money the decentralized model of blockchain-based crypto.
Now let me explain why Bitcoin, in particular, the game-changer is here and what it did right. or different from any other attempt of creating digital currencies before it. And yes, there have been many attempts before, even as early as the 90s, but none were successful.
In one sentence: Bitcoin was the first digital currency to solve the double-spend problem of its predecessors.
So, what does that mean? Double-spend is referring to sending the same transaction to two different recipients and with digital data, it is very easy to just copy and paste the same thing and send it to multiple recipients.
What Bitcoin did, or Satoshi, in this case, is to introduce the data mining process and the blockchain in order to create a consensus on the network about which of the two transactions will be confirmed and be considered valid, which is how double-spending is obstructed. This is what we mean by Byzantine Fault Tolerance (BFT): A method for computing systems to reach consensus through a certain mechanism. The term is taken from a paper named “The Byzantine Generals Problem” published in 1982 by Leslie Lamport, Robert Shostak, and Marshall Pease.
The Byzantine Generals’ Problem can be illustrated as a hypothetical historical situation in the times of the Byzantine empire which was in the distant past, way before modern telecommunication was invented, where multiple generals and their individual armies situated in various locations out of reach of each-other must communicate the rules and time to carry out a coordinated attack on a city. Communication in those days was shared by messengers who had to travel long distances and could easily be compromised. When some of the armies receive communication that is deceptive the operation ends in a major failure. Such cases were not rare in those days. In the cryptocurrency world, the Byzantine Generals Problem is the situation where network participants issue incorrect information to others about transactions taking place that have not really taken place. This could lead to network failure if it hadn’t been for the Byzantine Fault Tolerance.
As I said, Bitcoin was the first digital currency to successfully resolve this issue by implementing the independent confirmations required for each transaction before it is considered complete. This is why Bitcoin is a perfect example of a Byzantine Fault Tolerant cryptocurrency. Each transaction is confirmed at least by three independent participants of the network, these are the miners, and once a transaction is recorded on a block, each consecutive block is adding more confirmations to it, so the older a transaction is, the less possible it is for it to be tampered with.
All the full nodes have a copy of the complete history of the blockchain with all the transactions, these are not being stored in just one or two databases but on all the hundreds of thousands if not millions of computers worldwide who operate full nodes on the blockchain and this is how decentralization and security of that data is achieved.
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