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Whether in the world of finance, banking, or cryptocurrency, it is of paramount importance that individuals and companies maintain the highest levels of security. After all, money makes the world go round….or at least keeps food on our tables and roofs over our heads.
Security is perhaps even more important in the context of cryptocurrency. Blockchains are some of the most secure networks in existence. They are often protected by tens of thousands of computers or users and are, ideally, built on top of rock solid software code. And cryptocurrency transactions are infamous for being irreversible. In that sense, the impressive security inherent to cryptocurrencies can be a double-edged sword.
Relentless in their pursuit of increased security and usability for all cryptocurrency users, Jack Dorsey and friends over at Square Inc. recently announced their intent to produce a Bitcoin hardware wallet, pitting themselves against longtime experts in the space like Ledger and Trezor:
This announcement has a variety of benefits for both Bitcoin and Square. Bitcoin will benefit by being further exposed to the large number of users whose attention Square commands on a regular basis. Square’s Cash App alone has over 30 million monthly active users, many of whom already actively trade Bitcoin and other cryptocurrencies within the app. Square itself will benefit by further solidifying the crypto-forward mindset that the company has instilled within itself and its brand over the past several years.
In order to better understand the true impact of Square’s announcement, it’s important to understand two pillars of cryptocurrency and blockchain usage: private keys and cryptocurrency wallets.
Keep Your Keys Close
Although the focus in the context of cryptocurrency wallets is primarily on private keys, it is helpful to know that every private key is attached to a public key (aka, public address). Public keys correspond to a location on a blockchain where a user can send and receive money or information, similar to an email address on the internet. In that sense, a private key can best be thought of as similar to the password you would use to access your email account. That said, a private key is far more secure than even the best password.
A private key is actually created before the public key. Once the private key has been generated, the corresponding public key is generated through use of a complicated mathematical algorithm. A private key is typically a long string of letters and numbers, but can also be represented by a recovery phrase, which is a group of random words that must be entered in a specific order and spelled correctly.
Private keys can be extremely secure, but they are the only thing standing in between a thief and the cryptocurrency you hold in your wallet. If your private key is stolen, your cryptocurrency can disappear in as little time as it takes for the thief to initiate a transaction on the blockchain. Similarly, if you lose your private key or recovery phrase rather than have it stolen, your chances of getting it back are slim to none because a public key cannot be reverse engineered to reveal the corresponding private key.
What’s In Your Wallet?
The term “wallet” actually may be a misnomer when used in conjunction with cryptocurrency. When you pull a physical wallet out of your pocket or purse, you’ll find your money inside, along with perhaps credit, debit, or gift cards. When you open up your cryptocurrency wallet however, you won’t find your crypto holdings inside. Your cryptocurrency resides on the blockchain itself and never leaves it. Your cryptocurrency wallet instead is used to safeguard the private key you need to access your crypto on the blockchain.
There are a variety of different cryptocurrency wallet types and each has its own benefits and drawbacks. All wallets fall into two primary categories: hot wallets and cold wallets.
Hot Wallet
The term “hot” in this case is a reference to the amount of transactions that typically take place with this type of wallet. Hot wallets maintain a constant connection to the internet and to the blockchain so that your private key and the crypto funds it protects can be accessed quickly and at any time. If a user intends to access their cryptocurrency frequently for trading or spending purposes, a hot wallet is likely the way to go.
There are large drawbacks with hot wallets though. They are extremely susceptible to hacking and theft since they are always online. Additionally, many hot wallets are “non-custodial” which means the entity providing the wallet to you maintains your private key and does not share it with you. It can be particularly disastrous in the context of cryptocurrency because, as we discussed above, if your cryptocurrency gets stolen or sent to the wrong public address, neither you nor the company custodying your private key can get it back.
The most common type of hot wallets are software-based. In other words, they typically grant access to private keys through use of a software program, a website, or an app on a phone.
Cold Wallet
The reference to “cold” is again in relation to the number of transactions that will likely take place using the wallet. Cold wallets are only ever connected to the internet and blockchain when a user actually wants to transfer cryptocurrency away from the public address. Cold wallets make it more difficult to quickly transfer cryptocurrency, but also provide a huge amount of security because your private key can only be hacked during the small window when the wallet is online.
The amount of extra security afforded by cold wallets is so great that the vast majority of private keys securing funds on blockchains are tied to cold rather than hard wallets. If you use a cryptocurrency exchange, cryptobank, or other similar entity, it’s extremely likely that only a small amount of the cryptocurrency deposited with the company is maintained within a hot wallet.
There are two types of cold wallets that are widely used: hardware wallets and paper wallets.
A hardware wallet is an accessory that is often similar in appearance to a usb or hard drive and resident private keys can be easier to access since the drive can be plugged into a computer. However, hardware wallets are also extremely portable and likely easier for a thief to carry off.
Creating a paper wallet consists of writing your private key down on some type of physical medium. A user could actually write it down on a piece of paper, but that’s not typically recommended because paper is easily lost or destroyed, taking one’s cryptocurrency with it. As a result, it’s much more common for a private key to be etched into a more sturdy material, like metal or wood, and then kept in a secure place where it won't be at risk of destruction by fire, flooding, and the like.
Whatever you decide to do to protect your private keys and your cryptocurrency, it is imperative that you research the most appropriate methods before deciding on a wallet type. After all, both the short- and long-term security of your cryptocurrency holdings will be determined by your choice.
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It's great that Jack Dorsey is doing these kind of stuff to grow the Bitcoin ecosystem, he is also partnered with a entity to build a solar energy power Bitcoin mining facility. Damn cool is it not!!