Cryptocurrency exchange (digital currency exchange)

Cryptocurrency exchanges are specialized online marketplaces that allow individuals and businesses to trade cryptocurrencies for traditional government-backed currencies or other types of digital currencies. Before the popularization of cryptocurrency exchanges, people who wished to invest in cryptocurrency were required to mine their own currency using specialized computer software, or directly purchase cryptocurrency from other individuals. Many investors believed that establishing dedicated exchanges would both stabilize the value of cryptocurrencies and help more people add cryptocurrency to their investment portfolios. Cryptocurrency exchanges have also played a role in normalizing the use of cryptocurrency across the Internet. Providing a simple, easy process for individuals to exchange their cryptocurrency helped convince many larger firms to adopt cryptocurrency as an accepted method of payment.

Though cryptocurrency exchanges have provided many benefits, they are not without risks. Many cryptocurrency exchanges have been the target of hackers, and the anonymous nature of cryptocurrency makes it easy for these persons to steal. Combined with the developing nature of regulations in the cryptocurrency industry, this has led to significant volatility for many exchange businesses. For example, Mt. Gox was the world's largest cryptocurrency exchange in 2014 when it suddenly shut down amid investigation of years of theft, while the collapse of the exchange FTX in 2022 led to fraud charges. Such upheaval often intertwines with the volatility of cryptocurrency itself, contributing to massive price crashes.

Background

Cryptocurrency traces its roots back to the American cryptographer David Chaum’s developments in encryption in the early 1980s. About fifteen years later, software engineer Wei Dai published a paper on a theoretical virtual currency architecture. This architecture included strong anonymity for users and an independence from single political government control. These features would later become hallmarks of the first successful cryptocurrency, Bitcoin.

Bitcoin was first proposed in 2008 in a document authored by the pseudonym Satoshi Nakamoto. In 2009 Bitcoin was officially launched, and soon, people began using decrypting software to “mine” Bitcoins. “Mining” is the process of introducing new cryptocurrency into circulation. Once mined, the currency could be traded online. The currency was quickly successful, though it was concerning to many authorities. Some governments were wary of the existence of a decentralized currency that was difficult to trace, and worried Bitcoin would primarily be used for illegal transactions.

Despite these concerns, Bitcoin quickly rose in value and gradually earned more mainstream acceptance. In 2012 the content management system WordPress became the first major merchant to accept the cryptocurrency. Other merchants soon followed, allowing consumers to directly spend Bitcoin to purchase their goods instead of first exchanging it for a more traditional currency. Other cryptocurrencies were rapidly developed, and though none experienced the explosive growth of Bitcoin, some achieved a considerable economic impact. These cryptocurrencies were not commonly accepted at major markets, but they were sometimes utilized by investors. The tendency for even the most popular cryptocurrencies to experience significant spikes and crashes in value made them popular among speculators but also drew intense criticism and warnings from many financial experts.

In 2021 the government of China changed its stance on cryptocurrencies, turning against the anonymous method for making online purchases. They instituted a blanket ban on all cryptocurrency transactions and mining. This temporarily reduced the value of Bitcoin and other cryptocurrencies, as China had previously been a major hub for Bitcoin miners. Some activists in other countries continued to oppose cryptocurrencies, arguing that the complex computing process required for mining cryptocurrencies was negatively affecting the environment. Others worried that major world governments would continue to restrict access to cryptocurrencies and any anonymous online currencies. Despite these concerns, the United States and Europe remained major hubs for cryptocurrency transactions.

Overview

A cryptocurrency exchange, also called a digital currency exchange, refers to any business that allows customers to convert cryptocurrency to other types of assets, such as traditional government-backed currencies, other digital currencies, or even physical goods. Many cryptocurrency exchanges allow users to directly purchase cryptocurrencies instead of using computing software to mine them. This allows the rapid purchase of large quantities of cryptocurrencies by speculative investors. In many ways a cryptocurrency exchange can be thought of as simply a broker of cryptocurrencies.

The first cryptocurrency exchange was developed in 2009, though at the time cryptocurrency held very little value. This exchange was created as a test to ensure the viability of future exchanges. Before the development of reliable cryptocurrency exchanges, the only way to acquire cryptocurrency was through mining or peer-to-peer transactions. These transactions involved directly sending cryptocurrency from one person to another. These trades were risky, as they primarily happened online and there was no guarantee that both sides would uphold their end of the agreement. However, at the time, cryptocurrency was worth far less than it would be by the end of the decade. This tended to offset the risk for early investors. In 2010, a single Bitcoin was valued at thirty-nine cents. In October 2021, a single Bitcoin was valued at over than fifty thousand dollars, with occasional fluctuations over sixty thousand dollars.

Bitcoin Market, the first major cryptocurrency exchange, launched in 2010. The business was intended to provide users with a safe, reliable method for purchasing Bitcoin. Users would make payments to the company via the digital money transfer service PayPal, and the business would hold the users’ currency in escrow until the funds had been received in full. Bitcoin Market also featured a floating exchange rate for users, allowing users to judge the most profitable times to purchase cryptocurrency.

Many other cryptocurrency exchanges were founded across the Internet. One of these, known as Mt. Gox, became the largest single Bitcoin exchange by 2014. However, it faced a series of security challenges, including a major hacking attack in 2011. In February 2014 Mt. Gox suddenly suspended all withdrawals, which it initially blamed on technical issues. Soon after, it announced that as many as 850,000 Bitcoins held by the exchange had been lost. The news caused a major crash in the value of the currency and ultimately led Mt. Gox to file for bankruptcy. About 200,000 of the missing Bitcoin were reportedly eventually retrieved, but the rest remained missing. The Mt. Gox collapse was seen as a major moment in the history of cryptocurrency exchanges, highlighting the volatile nature of both the exchange business and cryptocurrency in general. Many cryptocurrency investors subsequently adopted policies against giving exchanges access to their cryptocurrency, worrying that their money would be seized or stolen.

Over time, security at many cryptocurrency exchanges improved. Most later popular exchanges sought to provide investors with a simple and reasonably safe user experience. By the 2020s cryptocurrencies, and the exchanges that fuel many cryptocurrency transactions, were a steadily growing part of the world economy. However, financial experts continued to note that cryptocurrencies presented considerable risk due to their ongoing volatility, and that exchanges themselves remained subject to their potential pitfalls. While some exchanges earned generally positive reputations and relative business stability, the online nature of the industry allowed many exchanges to proliferate with little oversight or consumer protections in place. Experts warned of rampant fraud and scams, especially if an exchange provided little transparency behind their operations.

In 2018, the country of Venezuela, wracked by hyperinflation, resorted to cryptocurrency as a way to buffer its national financial deposits against chronic depreciation. President Nicolas Maduro authorized the Petro cryptocurrency as legal tender and backed it with the nation’s immense oil deposits. The Petro was also intended to help shield Venezuela from economic sanctions issued by countries such as the United States. The cryptocurrency never gained widespread legitimacy or adoption. The Petro was terminated in early 2024.

Even well-known and popular exchanges proved susceptible to catastrophic failure. In 2022, for example, the exchange FTX—then one of the largest in the world by trade volume—abruptly collapsed and filed for bankruptcy. The crisis contributed to another cryptocurrency price crash and also led to high-profile fraud charges against FTX founder Sam Bankman-Fried.

On March 28, 2024, Bankman-Fried was convicted of theft and was sentenced to twenty-five years in prison. Factoring into the length of his sentence were the approximately $8 billion stolen from customer savings and of the lies told while under testimony.

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