Financial Markets and Institutions: Cryptocurrency

Financial Markets and Institutions Name Institution Affiliation Financial Markets and Institutions Introduction Cryptocurrency is a type of digital currency transferred between users and all transactions confirmed by a public ledger thereafter. It is a decentralized currency system that is not regulated by any governmental organization, including central banks. Subsequently, the transactions are conducted free of charge or at a nominal fee that is mutually beneficial to consumers and retailers HYPERLINK "/agenda/authors/dirk-niepelt"  (Niepelt, 2016). The digital method of payment used in transaction applies a cryptographic algorithm and works to make sure there is a high level of anonymity among users, integrity of payment systems and high levels of security of transactions. Unlike the traditional transaction systems which essentially depend on trust, cryptocurrency mainly depend on cryptographic algorithm to authenticate transactions (Financial Times, 2017). While this system may be seen to disrupt the traditional financial and banking institutions, it has gained substantial traction for the past ten years. The first universally accepted cryptocurrency was created in 2009 by anonymous person called Satoshi Nakamoto. Most corporates have embraced cryptocurrency since the discovery of bitcoin and there are more than 969 cryptocurrencies across the world, representing a total capitalization value of approximately $167 billion (Murphy, 2017). As indicated above, bitcoin will involve transfer of coins from one user to another without involvement of a third party as an intermediary and peer-reviewed cryptographic algorithms to protect the system  HYPERLINK "/agenda/authors/dirk-niepelt"  (Niepelt, 2016). Moreover, unlike traditional modes of transactions that are affected by factors such as inflation, bitcoin is only affected by supply and demand amongst the individuals willing to accept and use this payment method. Although a considerable number of people do not have a full understanding of how cryptocurrency works, banks and governments are now more aware of its benefits and limitations (Financial Times, 2018). While bitcoin and other digital money such as Ripple, Litecoin and Dash have for the last couple of years been highly hyped, it will be crucial for investors and businesses to understand the risks posed by cryptocurrencies. It is important for companies to be cautious about currency exchange mediums that do not involve government and physical goods. One of such mediums is cryptocurrency, which is strictly a digital asset where the records of transactions are kept in public ledger using block-chain technology (Financial Times, 2017). The following paragraphs will mainly focus on the market risks associated with cryptocurrencies and how such risks impact value of financial securities and bonds. In addition, the paper will look at the central bank concerns posed by cryptocurrencies to the financial system of the United States of America. Market Risks A significant number of national regulators have issued warnings to investors about the risks surrounding cryptocurrency market, which up to today has not been regulated. It is prone to huge swings in price that may seriously limit its use as the transaction currency and is still illiquid (Murphy, 2017). Even if cryptocurrencies have a number of benefits such as cost-effectiveness, an alternative form of fiat currency, high level of privacy and protection, low restrictions and easy accessibility, they are linked to a number of risks. Some of the risks associated with this medium of currency exchange include cryptocurrency does not qualify to be money because of its high volatility nature. For instance, it is easier to make huge amount of money or lose everything within a very short time. Volatility risk is the product of the volatility of an asset and the time it takes for such an asset to settle. The volatility risk expression plays a crucial role in helping economists to distinguish between holding an asset with low volatility for a longer amount of time and holding an asset with high volati...