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With Dread Pirate Roberts arrested, and Silk Road shut down, what next for Bitcoin?
With recent major news events covering the FBI’s arrest of Dread Pirate Roberts (Ross Ulbricht), the accused owner and mastermind behind the dark web’s primary illegal online marketplace Silk Road, Bitcoin has once again found itself in the spotlight. With the FBI seizing approximately $3.2m in Bitcoins, and the subsequent drop in value on the digital currency’s exchanges, Bitcoin once again finds itself in a difficult situation. First of all what is Bitcoin?
Bitcoin is a form of crypto-currency with its origins dating back to 2008. It utilizes cryptography, a method of encrypting and decrypting data, in its creation, transactions and security. Bitcoin was designed to remove fiscal responsibility and trust from governments, central banks and other third parties, removing the threat of inflationary whims and other economic tools employed by said central banks and governments. It is possible to purchase Bitcoins through online exchanges, however many people choose to mine for them. With a maximum of 21 million Bitcoins available, the mining of Bitcoins follows standard supply and demand economics when its value in real world currency is decided, and parallels the behavior of gold.
Bitcoin is often criticized for its ‘bubble’ behavior, with one of the first bubbles occurring from June 2011 to October 2011. Following a period of sustained negative publicity, primarily centered on security issues and hacking incidents, Bitcoin’s value plummeted 90%. In April 2013, Bitcoin suffered a second burst bubble, with its value plummeting from a peak of around $260 to $130 in just six hours.
It is believed that the Cypriot financial crisis was the main catalyst for the April 2013 price crash of Bitcoin, with new investors registering with Bitcoin exchanges in an attempt to protect their investments previously tied up in Cyprus and other related securities. Spotting the spike in prices, experienced users are thought to have cashed out to take advantage of the all-time peak value, causing the rapid crash. This is far from the only example of Bitcoin being used as a refuge currency as evidenced by its use in Argentina. Since 2011 the Argentine government has restricted the purchase of US dollars by its citizens in an attempt to improve the Central Bank’s international reserves. Faced with accelerated inflation, some Argentinians have sought refuge in Bitcoin as a store of value.
In August 2013, Germany became the first country to officially recognize Bitcoin, classifying it as private money. This resulted in the German government being able to tax commercial transactions of the currency, with users also potentially liable for capital gains tax. Official recognition, in one capacity or another, is not solely restricted to Germany as US law enforcement authorities compiled a report in April 2012 which recommended that third-party exchanges of Bitcoins should be forced to adhere to the same anti-money laundering laws and regulations that banks are subject to.
In a boon to its recognition as a viable currency, Bitcoin received the backing of influential entrepreneurs the Winklevoss twins, who plan to establish a Bitcoin Trust which would float on a stock exchange. One of the main attractions of Bitcoin was its perceived anonymity; as a result it is used extensively to purchase products and services through illicit vendors where users can purchase illegal narcotics, weapons and other contraband, such as Silk Road and Atlantis. However, popular Bitcoin currency exchange Mt.Gox changed its requirements in May 2013, and now requires users to verify their accounts with government issued ID and a utility bill when withdrawing or depositing funds in real currency in exchange for BTC. Bitcoins can be spent legally; however choice is very limited on where it can be spent. This is just one of the barriers to entry, although attempts have been made to remove one entry barrier through the currently available physical Bitcoin coin, and Bitcoin ATMs.
With Dread Pirate Roberts’ arrest, Bitcoin once again finds its legitimacy as a viable alternative currency being questioned, however its resilience has been proven in the past and it has recovered swiftly from previous price crashes. With increased interest from institutional investors, governments and law enforcement agencies Bitcoin’s time as an unofficial peripheral currency could be drawing to a close.
For a more in-depth analysis, check out my MarketLine business case study “Bitcoin: Pseudo currency or the future?.