Virtual Trading: The Bitcoin Phenomenon

The thrill around Bitcoin has certainly done wonders for traders. Speculation on Bitcoin has soared, rising as much as 107 percent in a week to $750.

Bitcoin

Bitcoins are accepted in stadscafé De Waag in Delft as of 2013. Credit: Wikipedia

Cutting out the middle man. Cutting costs. Having no issues regarding storage.

These are some of the observations about the virtual currency called Bitcoin, invented in 2008 as a peer-to-peer digital currency, to be used in the absence of any central regulatory authority and banks.

Then come the fears: that this digital currency has been instrumental behind black markets on the net. The most famous of these have been Silk Road and Black Market Reloaded.

By the same token, the designation of a black market is always complicated: there is only ever one market, whether it is deemed legal or otherwise. Currency always finds a way.

Last month, US federal agents shut down Silk Road, a virtual black market operated on the Tor system that enabled the sale of forged documents, guns and drugs, among an assortment of other illicit delights. Its alleged operator, Ross Ulbricht, was also arrested.

With all this excitement, the US Congress has been having its first hearings on virtual currency. It is telling that these hearings should be held before the Senate Homeland Security Committee. Patrick Murck, general counsel for the Bitcoin Foundation, has urged that Congress “chart a safe and sane regulatory course,” which is, to say the least, a curious suggestion.

Congress has, in fact, shown aptitude in being unable to control markets, and shows little willingness in doing so. The Obama Administration’s response to the subprime mortgage crisis was atypical. Bitcoin, being in some ways the spawn of the financial jungle, can expect a degree of freedom. Politicians don’t want to be disrupting that great ideal of American civilization: making business and doing business.

Support was therefore forthcoming, from the chairman of the Federal Reserve to financial regulators and law enforcement officials themselves. Venture capitalists, and a few prospective cyber-criminals, will be relieved.

Murck had another selling point

Bitcoin can facilitate private and anonymous transactions, which are resistant to oversight and control.” This has been seen to provide a brave new frontier – removing identities from Bitcoin donations to political parties, for instance, might actually defang the vice of corruption. Such assumptions are misguided, for the reason that Bitcoin does not eliminate all traces of an identity. The discovery of Silk Road transactions was a case in point. Then come the usual utopian flam that a new currency will somehow change an old system, when it is the old system that will simply adapt to the new currency.

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The thrill around Bitcoin has certainly done wonders for traders. Speculation on Bitcoin has soared, rising as much as 107 percent in a week to $750. For that reason, it retains the allure of nervous and opportunistic speculation while also being a form of transaction.

Any virtual currency involving cryptographic peer-to-peer currency is bound to have its fair share of problems. Lacking any tangible presence, but possessing a virtual presence, leads to the prospect of hacking. Cybercriminals, as opposed to the standard street muggers, are making their presence felt. “And if your bitcoins are taken,” writes Cadie Thompson of CNBC, “well, you’re just plain out of luck.”

This stands to reason: the absence of insurance, the pioneering nature of such digital currency, means that the law has been left behind. In the event of fraud, a bank would cover it. Thus, $5 million vanished when the Chinese bitcoin exchange Global Bond Limited (GBL) disappeared on October 26.

This also makes verification problematic, at least in the conventional sense

In the virtual world, what is authentic? Government, at least at the moment, has little role to play in the role of security regarding the currency. That said, each Bitcoin possesses an address with a matching encrypted key, one that unlocks the Bitcoin enabling the owner to make payments. Its creation, as Karl Whelan of Forbes notes, is due to a special algorithm that limits the total number of Bitcoins to 21 million. The result is that payments can be made irreversible and anonymous.

Such algorithmic bliss is bound to be replaced by another. “If all you have going for you is a cool algorithm,” poses Whelan, “then at some point there will be someone else out there with an even cooler algorithm.”

Enter, then, the world of Litecoin, similar to Bitcoin except that it provides confirmations of the transaction with greater speed, using, as the site says, “a memory-hard, script-based mining proof-of-work algorithm to target the regular computers and GPUs most people already have.” Or Peercoin, or Primecoin. The dams of crypto-currency have been breached and are flooding the market with a range of possibilities.

Such a virtual world produces other intangibles. Storage of Bitcoins can be made on computer by way of encrypted wallets, which are “copied” to a computer that might be offline. The virtual world is the limit – as are its attendant risks. Bitcoin’s durability will depend on its ability, as with any other currency, to reflect the trade it was created to facilitate.

Dr. Binoy Kampmark was a Commonwealth Scholar at Selwyn College, Cambridge. He lectures at RMIT University, Melbourne. Email: bkampmark@gmail.com. Read other articles by Binoy.