The Bitcoin exchange Mt. Gox appeared to be undergoing more convulsions Tuesday [February 25], as its website became unavailable and trading there appeared to have stopped, signaling a new stage in troubles that have dented the image of the virtual currency. . . .
Investors have been unable to withdraw funds from Mt. Gox since the beginning of this month. The exchange has said that a flaw in the bitcoin software allowed transaction records to be altered, potentially making possible fraudulent withdrawals. No allegations have been made of wrongdoing by the exchange, but the potential for theft has raised concern that the exchange wouldn't be able to meet its obligations.
The apparent collapse of Mt. Gox is just the latest shock to hit Bitcoin, the price of which is now off more than 50% from its December 2013 peak:
For those better acquainted with the dead-tree/dead-president variety of money, Bitcoin is a virtual currency not backed by any government. Rather than being printed or minted by a central bank, Bitcoins are created by a computer algorithm in a process known as "mining" and are stored online or on your computer. They are bought and sold on various exchanges, including until recently Mt. Gox (whose troubles have been reported for a few weeks now).
There are many reasons, some of them even lawful. Bitcoins can be regarded as a medium of exchange, an investment, a political statement...or a way of avoiding capital controls and other pesky laws like bans on drug trafficking and human smuggling.
But the criminal potential of Bitcoin is probably overstated. The Chinese have gotten wise to its use for avoiding capital controls. Using Bitcoin for criminal or fraudulent activity would be difficult at scale (PDF). The Walter White method is still far and away the best way to ensure your criminal proceeds retain their value and anonymity.
I don't share the utopian fervor for Bitcoin expressed in tech and libertarian circles (see, e.g., this supposedly non-utopian cri de coeur), but it may have some positive potential as a decentralized and lower-cost electronic payments system. We'll see if that ever gets off the ground.
In the meantime, the Mt. Gox collapse is pretty huge news for Bitcoinland. Unlike the NYSE (the failure of which would be hard even to imagine), Mt. Gox does not benefit from any systemic significance and thus is unlikely to receive a lot of official-sector help. The situation has some early adopters running for the Bitcoin exits, like this leading Bitcoin evangelist.
Despite (because of?) my agnosticism on the currency, I'll be writing more about Bitcoin soon. (Mainly, I wanted to stake a claim to being the first to write about Bitcoin on The Conglomerate.) If your Palo Alto cocktail party can't wait, however, this explainer (PDF) from the ever-impressive Chicago Fed should tide you over.
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1. Posted by Matthew Bruckner on February 25, 2014 @ 10:50 | Permalink
Do you have any thoughts on what this might mean for substitute "cryptocurrencies"?
As I understand it, there are several competitors to Bitcoin. Although problems with Bitcoin could spill over to these substitute cryptocurrencies, there is clearly a market for these un-traditional non-state-backed currencies. What is bad for Bitcoin could be good for competitors, no? Or do you think cryptocurrencies will rise and fall en mass?
2. Posted by Greg Shill on February 25, 2014 @ 15:44 | Permalink
Thank you, Matt, for your thoughtful comment and questions. Although I linked to Tyler Cowen's argument (the second "here" just above the fold) for why there is no meaningful floor underneath Bitcoin's price, I think there's a stronger case for network effects favoring Bitcoin than he acknowledges. So, even if there's some other virtual currency out there that's just as good or better in principle, in practice Bitcoin could become the standard. Cf. VHS vs. Beta.
Of course, a herd mentality could just as easily hurt Bitcoin. This area is very much a moving target, but JP Morgan, for example, has announced it's coming out with its own digital payments system. To me that sounds a lot safer than Bitcoin (if a bit different). In the future, events like the Mt. Gox collapse could spark a stampede into the arms of JPM's new system or another virtual currency - or could trigger a loss of confidence in virtual currencies altogether.
Care to place any bets? Plenty of Bitcoin exchanges are still open...