Module 38: Crypto

Bitcoin miners do not verify transactions out of altruism. They compete for a block reward — currently 3.125 BTC per block after the April 2024 halving, plus transaction fees. This game-theoretic incentive makes honest behaviour more profitable than attacking the network: a miner controlling 51% of hash power would earn more by mining honestly than by attempting a reorg that would likely crash the price of the coins they hold. In Ethereum's proof-of-stake model, validators lock up 32 ETH as collateral. Dishonest validators are "slashed" — a portion of their stake is destroyed. The capital-at-risk creates skin in the game without burning energy.

A Bitcoin wallet does not hold coins. It holds a private key — a 256-bit random number — from which a public key is derived using elliptic curve cryptography, and from which a public address is derived by hashing. Coins are on the blockchain, associated with an address; the private key proves ownership and authorises spending. Lose the private key, lose access permanently. The 12-or-24-word "seed phrase" is simply a human-readable encoding of the private key. "Not your keys, not your coins" became a mantra after the FTX collapse — about $8 billion of customer coins vanished because users had entrusted their keys to Sam Bankman-Fried's exchange rather than holding them directly.

Bitcoin's maximum supply is hardcoded at 21 million coins, of which approximately 19.7 million have already been mined. New coins are issued roughly every 10 minutes as a block reward, but that reward halves every 210,000 blocks (roughly four years). The 2024 halving cut it to 3.125 BTC; around 2140, new issuance will stop entirely. The inflation hedge argument holds that because central banks can expand fiat money supply at will (the Fed doubled M2 between 2020 and 2022), a provably scarce asset should hold value over long timeframes. The counterargument: Bitcoin's 30-day volatility has frequently exceeded 80% annualised, making it a poor store of value in any short or medium timeframe — it correlates more with risk appetite than with inflation.

Bitcoin was originally titled "A Peer-to-Peer Electronic Cash System" — but it has largely failed at the cash part. Bitcoin's base layer processes about 7 transactions per second, compared to Visa's 24,000. Block confirmation takes 10 minutes on average, and fees spiked to $60 per transaction during the 2021 bull market. The Lightning Network is a layer-2 payment protocol that routes payments through off-chain state channels, settling only occasionally on-chain. El Salvador made Bitcoin legal tender in 2021, but adoption was limited, and the IMF pressured them to scale back the mandate as a condition of a $1.4 billion loan in 2024. The main practical use case for Bitcoin today is as a speculative asset and cross-border settlement rail, not everyday spending.

Vitalik Buterin published the Ethereum whitepaper in 2013, at age 19. His insight: Bitcoin's scripting language was deliberately limited to simple payment logic. What if the blockchain were a general-purpose computer? Ethereum added the Ethereum Virtual Machine (EVM) — a sandboxed computing environment that runs on every node simultaneously. Smart contracts are programs stored on this computer. Once deployed, they run exactly as coded, without any possibility of downtime, censorship, or third-party interference. Gas fees are the payment for computation: every operation costs a specific amount of gas, preventing infinite loops from stalling the network. The Merge in September 2022 switched Ethereum from proof-of-work to proof-of-stake, reducing its energy consumption by an estimated 99.95%.

The ERC-20 token standard, introduced in 2015, enabled anyone to issue a fungible token on Ethereum in minutes. This spawned the 2017 ICO boom (and subsequent crash), the 2020 DeFi summer, and thousands of essentially worthless tokens. ERC-721 is the non-fungible token standard: each token is unique and not interchangeable with any other. The 2021 NFT boom peaked when Beeple's digital artwork "Everydays: The First 5000 Days" sold at Christie's for $69 million. The critical misconception: owning an NFT does not mean owning the underlying image file — it means owning a blockchain record pointing to a URL, which may or may not still exist. Most NFT projects lost 90-99% of their peak value by 2023.

Traditional finance requires permission: to open a bank account, to get a loan, to trade an asset. DeFi protocols are open to anyone with an Ethereum address. At its 2021 peak, DeFi held over $180 billion in total value locked (TVL). By 2023, that had collapsed to around $40 billion — primarily because DeFi's yields depend on token inflation and speculative activity that cannot be sustained. The "composability" of DeFi — the fact that protocols can be stacked like building blocks — is real and powerful. It is also a risk amplifier: one failing protocol can trigger cascading liquidations across everything built on top of it.

Uniswap's x*y=k formula means the product of the two token quantities in a pool must remain constant. If a pool holds 100 ETH and 300,000 USDC, the implied price is ~$3,000 per ETH. A buyer pushing the ETH balance down to 95 must push USDC up to 315,789 — paying ~$3,158 per ETH. Arbitrageurs keep pools near external market prices, which means liquidity providers are effectively selling what rises and buying what falls. This is automated price discovery without an order book, but it introduces impermanent loss for liquidity providers.

Aave and Compound do not lend like banks. They require overcollateralised loans: a borrower might deposit $10,000 of ETH to borrow $6,000 of USDC. If the collateral value falls below a liquidation threshold, automated liquidators repay the debt and seize the collateral at a discount. There is no personal credit scoring and no relationship with a lender — the code enforces the rules. This makes DeFi lending capital-inefficient but also means it cannot easily fail the way a bank can through fractional reserves.

Stablecoins are the workhorse of DeFi because they remove volatility while keeping blockchain settlement. USDT and USDC are fiat-backed promises; DAI is crypto-collateralised and overcollateralised. TerraUSD was algorithmic and relied on an arbitrage relationship with LUNA to maintain its peg — a mechanism that is only as stable as confidence in the system itself. In May 2022, confidence broke, redemptions accelerated, LUNA supply hyperinflated, and $60 billion of market cap vanished in 72 hours. The lesson: a stablecoin is only as good as its collateral, redemption mechanism, and behaviour under stress.

A DAO is an organisation governed by on-chain votes, with rules encoded in smart contracts. Token holders vote on proposals — treasury spending, protocol changes, or personnel decisions. MakerDAO governs the DAI stablecoin system; Uniswap DAO controls a $3 billion treasury. The reality check: voter turnout in most DAOs is below 5%, and governance token ownership is heavily concentrated — the top 10 addresses in many DAOs control over 50% of voting power. The 2016 "The DAO" hack remains instructive: a vulnerability allowed an attacker to drain $60 million of Ether, and the Ethereum community controversially hard-forked the blockchain to reverse the theft, demonstrating that "code is law" has limits when the code contains bugs.

Web1 (1990s) was read-only: static pages. Web2 (2004-present) is read-write but centralised: your content lives on platform servers under platform terms. Web3 promises read-write-own: digital assets, identity, and data controlled by users through cryptographic keys. The critique, articulated by Moxie Marlinspike (Signal founder): users do not want to run servers. In practice, "decentralised" Web3 apps still rely on centralised infrastructure — Alchemy and Infura provide the API nodes most DApps use; a 2022 Cloudflare outage took down large portions of the DeFi ecosystem. The decentralisation is often a frontend illusion over centralised backends.

A permissionless global settlement layer for value. Remittances at a fraction of Western Union's 8% average fee. A credible alternative to inflation-ravaged local currencies (Argentina, Turkey). Programmable money enabling financial instruments without counterparty credit risk. Ethereum's smart contract model inspired a genuine computer science innovation. A stress-test of monetary theory that forced central banks to think seriously about digital currencies. Stablecoin settlement, Bitcoin custody, and Ethereum smart contracts are not imaginary achievements.

Everyday payments: crypto is rarely used to buy things. Banking the unbanked: most DeFi requires significant capital and technical literacy — and can become "selling volatile risk to people with fewer protections." Truly decentralised governance: most protocols are controlled by a small group of insiders and VCs. Privacy: Bitcoin is pseudonymous, not anonymous — blockchain analysis firms routinely trace transactions. Web3 applications that non-technical people want to use at scale, beyond speculation.

Every crypto design has a loss allocation rule. In a bank failure, deposit insurance, regulators, shareholders, creditors, and courts fight over loss over months or years. In crypto, loss may fall instantly and irrevocably on key holders, liquidity providers, token buyers, bridge users, or governance voters. The absence of an intermediary does not mean the absence of trust. It means trust moved — from institutions to code, to auditors, to token distributions, to anonymous developers. Understanding where trust actually lives is the most important question before using any crypto product.