Ripple is a financial technology company that provides cryptocurrency-based solutions to its clients, primarily using the digital asset XRP. This private entity aims to enhance the speed and reduce the cost of global financial transactions. Its services have successfully powered cross-border payments and remittances, leading many to view it as an alternative—or even a competitor—to the SWIFT payment network used by traditional financial institutions since 1977. Ripple also promotes its ability to offer crypto liquidity solutions to institutions and to help build central bank digital currencies (CBDCs).
Ripple's technology is largely built on the XRP Ledger (XRPL), an independent distributed ledger technology (DLT) that records and verifies transactions. The XRPL uses XRP as its medium of exchange and relies on a pre-approved set of validators to process transactions. Unlike cryptocurrencies such as Bitcoin and Ethereum, the XRPL does not depend on mining or staking. In fact, there is some debate over whether the XRPL constitutes "blockchain" technology, as it is constructed differently from most other digital asset protocols.
Although XRP is a digital asset not controlled by any single party, Ripple has orchestrated sales of its own holdings to fund company operations. It is also a major contributor to the XRPL's open-source development and operates some of the XRPL validators. This has created an impression of centralized control over the currency and attracted scrutiny from regulatory bodies like the U.S. Securities and Exchange Commission (SEC). Following the SEC's litigation against Ripple, the company has become a focal point in setting standards for the crypto community.
History of Ripple
In 2004, software developer Ryan Fugger created RipplePay, a service that allowed users to "be their own banker." It started as a way to extend lines of credit to friends and family, promising that credit would become "a fully functional currency." However, it was not based on any cryptocurrency at the time.
That changed in 2012 when Mt. Gox founder Jed McCaleb and entrepreneur Chris Larsen took over RipplePay. McCaleb had been working with programmers Arthur Britto and David Schwartz (now Ripple's CTO) in 2011 to build a new cryptocurrency architecture similar to Bitcoin but with faster, cheaper, and more energy-conscious transactions. McCaleb referred to it as "Bitcoin without mining" in a forum post in May 2011.
XRP was formally launched in 2012, at which time it was called "ripples." The company behind it went through multiple name changes (NewCoin, OpenCoin) before finally settling on Ripple.
Legal Challenges
Ripple's success has been marked by legal challenges. In 2015, the company was fined $700,000 by the U.S. Financial Crimes Enforcement Network (FinCEN) for violations of the Bank Secrecy Act. In 2018, a class-action lawsuit was filed against Ripple for selling XRP in an "never-ending initial coin offering," thereby violating securities laws. Still, these suits were only a prelude to larger legal action.
The SEC sued Ripple, co-founder Larsen, and CEO Bradley Garlinghouse in 2020 for $1.3 billion, alleging the sale of unregistered securities (XRP). After a prolonged legal battle, a New York court ruled that the sale of XRP was a security in cases where Ripple sold the coin to institutional investors, but XRP was not a security when sold on exchanges and via trading algorithms. This partial victory excited the crypto community, as it was the first time the U.S. judicial system provided guidance or clarity on whether cryptocurrencies are securities, commodities, or otherwise.
How Do Ripple and the XRP Ledger Work?
Although Ripple originally created the XRP Ledger, the latter is open-source and can be used independently of the company. Therefore, it is important to explore both the company's services and the underlying architecture that powers them.
The XRP Ledger
The XRP Ledger (XRPL) is a type of distributed ledger technology (DLT). DLTs validate and record transactions on a network, allowing digital assets to be stored and tracked accurately. This is especially useful for storing and transferring value, making it a suitable technology for digitizing the financial world. A familiar type of DLT is blockchain, used by protocols like Bitcoin and Ethereum.
However, the XRPL does not use a consensus mechanism (e.g., Proof of Work or Proof of Stake) to build blocks of transactions into a digital chain. In this way, its DLT differs from other more common cryptocurrency protocols. Instead, the XRPL uses its own novel consensus mechanism to record transactions on its decentralized ledger.
XRPL Consensus Mechanism
A network's consensus mechanism is necessary to ensure that proposed transactions are valid. Briefly, consensus refers to the parties on the network (called nodes or validators) agreeing on a transaction. The XRPL consensus algorithm works in rounds consisting of multiple steps:
- A node (or "server") receives transactions, makes them public, and then communicates them to the Unique Node List (UNL), which is a trusted subset of other nodes on the network.
- Nodes in the UNL then vote on the validity of the transactions in that round. Those that receive the minimum number of "yes" votes proceed to the next round.
- All transactions that receive 80% "yes" votes are finalized and applied to the ledger.
Ripple maintains a system where, as long as 80% of the nodes in the UNL are honest, fraudulent transactions cannot be validated. Additionally, there is an overlap of nodes between UNLs, intended to help maintain agreement across the network.
Through this process, Ripple claims that transactions can be processed quickly (with consensus every 3–5 seconds) with minimal energy and computing resource usage.
RippleNet
Ripple uses the XRPL to operate RippleNet, a peer-to-peer application that provides services such as transaction messaging and settlement. These operations are necessary for financial institutions to facilitate value transfers. By using the XRPL and the digital currency XRP, RippleNet aims to make this process instantaneous and economical.
RippleNet also uses a solution called On-Demand Liquidity (ODL), which enables improvements in payment functionality, including real-time payment settlement and access to global fund disbursement methods. This eliminates the need for "nostro" bank accounts (which hold foreign currency for a bank in another country) for cross-border transactions.
Together, these services have attracted partnerships with institutions like MoneyGram and have also encouraged Ripple to work with governments to develop central bank digital currencies (CBDCs).
How Is the XRP Token Used?
XRP is the currency of the XRP Ledger (XRPL) and is used to exchange value across the network.
A very small amount of XRP is also burned as part of the transaction cost to discourage spam transactions. As of August 2023, approximately 11.5 million XRP had been burned (destroyed) through transactions on the XRP Ledger.
Token Distribution
XRP is also used by Ripple to fund its operations. There is a maximum supply of 100 billion XRP, of which 20 billion were allocated to the company's co-founders, and the remaining 80 billion could theoretically be sold by the company to fund its operations.
However, of all the XRP that will ever exist, only a portion is circulating in the market through these sales. This is because Ripple placed 55 billion XRP that it held into an escrow account on the XRP Ledger in 2017. The company took this action due to growing concerns about its ability to flood the market with its large XRP holdings.
The escrow system was designed to release 1 billion XRP from Ripple's cryptocurrency holdings for use each month. Since Ripple does not use all the monthly allocated XRP, some is recycled back into escrow to be released later. Therefore, although the company has historically controlled a relatively low percentage of the circulating XRP—at least since 2017—chunks of the currency are consistently released for use.
Key Takeaways About Ripple
- Ripple is the company that originated the cryptocurrency XRP and its underlying distributed ledger technology (DLT) called the XRP Ledger.
- The XRP Ledger's consensus mechanism is not based on the same principles as more familiar Proof of Work and Proof of Stake blockchain cryptocurrencies. It uses subsets of nodes with shared trust to validate transactions before finalizing them.
- XRP is primarily used as a store of value and a method for transferring digital assets, including those that facilitate cross-border payments; Ripple also uses its XRP holdings to raise funds for operational costs.
Frequently Asked Questions
What is the main purpose of Ripple and XRP?
Ripple aims to improve the efficiency of global financial transactions, particularly cross-border payments, using its digital asset XRP and the underlying XRP Ledger technology. XRP serves as a bridge currency to facilitate fast and low-cost transfers.
How does the XRP Ledger achieve consensus without mining?
The XRP Ledger uses a unique consensus mechanism where trusted validators vote on transaction validity. It doesn't rely on energy-intensive mining or staking, allowing for faster settlement times and lower resource consumption.
Is XRP considered a security?
The classification of XRP has been subject to legal debate. A U.S. court ruling determined that XRP is not a security when sold on exchanges but may be considered a security in institutional sales. This partial clarity has significant implications for the broader crypto industry.
What is the difference between Ripple the company and XRP the cryptocurrency?
Ripple is a private technology company that develops payment solutions and contributes to the XRP Ledger's development. XRP is the native digital asset of the XRP Ledger network, which operates independently of the company.
How does RippleNet improve cross-border payments?
RippleNet utilizes the XRP Ledger and On-Demand Liquidity (ODL) to enable real-time settlement, eliminate the need for pre-funded nostro accounts, and reduce both the cost and time required for international money transfers.
What is the significance of Ripple's escrow system for XRP?
The escrow system controls the release of XRP into the market, addressing concerns about potential oversupply. It monthly releases 1 billion XRP for operational use, with unused portions returned to escrow, ensuring predictable and managed distribution.
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