Friday, May 10, 2013

Bitcoin On The PayPal Network

By Jon Matonis
Forbes
Saturday, May 4, 2013

http://www.forbes.com/sites/jonmatonis/2013/05/04/bitcoin-on-the-paypal-network/

PayPal has recently entertained the notion of accepting and clearing the bitcoin unit on its pervasive platform. It’s a bit like the prince joining the revolution. Is this a good thing?

Naturally, some bitcoin businesses will see this as PayPal moving in to usurp bitcoin’s popularity and momentum in the marketplace. But, depending on your outlook, it may not be all negative and it raises the identical issues that a bank would face if embracing bitcoin, especially since PayPal is now viewed as part of the legacy apparatus.

Speaking as if PayPal represented some sort of global payments umbrella, CEO John Donahoe told the Wall Street Journal, “It’s a new disruptive technology, so, yeah, we’re looking at Bitcoin closely. There may be ways to enable it inside PayPal.” I find this statement funny, particularly in light of the fact that WordPress’ reason for accepting bitcoin was that PayPal disabled certain parts of the globe for them.

Let’s examine what it could mean when something like Bitcoin, that is both platform and unit, is absorbed into something like PayPal that is just platform. Phil Archer writing at The Genesis Block categorized the four areas of likely impact — online wallets, escrow services, merchant processing, and exchange services. PayPal account funding alone is not exactly bitcoin sitting on the PayPal payments network, so that use case is not included in the analysis. Archer concludes that PayPal’s immediate advantage would be in the first two areas with eventual game-changing impact probable in the latter two.

While I tend to agree with the category choices, the analysis overlooks what the PayPal-Bitcoin world would not be getting (or, what it would be losing).

Firstly for the consumers, the new PayPal paradigm would look like a Coinbase on steroids with massive connectivity into your bank accounts and even more intrusive data collection. As a fully-regulated money services business (MSB) and licensed money transmitter, PayPal would be the undisputed gorilla in the U.S. marketplace with online wallets and fast exchange services. Of course, escrow services would be welcomed because this model is almost always needed in a free market and banks could look to provide this functionality as well.

However, what would consumers not be getting in this bitcoin nirvana? Not a huge fan of transactional privacy, PayPal would have to link your identity to your account and eliminate the user-defined privacy aspects of bitcoin. This has the effect of reducing bitcoin’s important cash-like qualities. While it may be convenient for exchange services to be an integrated part of your personal online wallet, it is fundamentally unnecessary.

Furthermore, it’s unlikely that PayPal would reach into many new countries that it doesn’t serve today because it would need the banking infrastructure to do so. By the way, that is the same situation for Coinbase too. So consumers would not gain anything in terms of worldwide access. Also, consumers would not get unimpeded access to their funds because it’s doubtful that PayPal will modify any of their current policies on account suspension.

Secondly for the merchants, the new PayPal paradigm would offer merchant processing services similar to BitPay with exchange rate guarantees for conversion into national currencies. As BitPay is more nimble with first-mover advantage and low-cost pricing, they are considered a likely acquisition target. PayPal’s distinct advantage in this area comes from leveraging its installed merchant base, however it is unclear how fee savings with bitcoin could be passed on to merchants due to the potential cannibalization of PayPal’s other revenue streams.

Larger merchants maintaining their balances in bitcoin and managing currency risk internally seems like the most efficient practice, but it’s unlikely that PayPal would offer that option for free. As part of the PayPal network, merchants would not enjoy the attractive bitcoin benefit of “no account freezing,” because without segregated bitcoin balances, a merchant’s overall funds could be ensnared in an account suspension.

Also, when it comes to specific merchant categories being restricted like online casinos or prescription drug sites, a PayPal-Bitcoin world is unlikely to remove the blocks on those merchants. It is a symptom of having one foot in the old banking and credit card world and one foot in the new decentralized and nonpolitical currency world. Perhaps, the PayPal executives view bitcoin as creative destruction but somehow I don’t think so.

My advice to PayPal and other conglomerates “looking into” Bitcoin with a shoehorn approach is to understand how authorization, clearing, and settlement occur nearly simultaneously within the Bitcoin distributed transaction network. Enhancing, rather than diminishing, that feature is the key to success. Bitcoin doesn’t need PayPal to be mobile, but PayPal probably needs Bitcoin to become seamlessly mobile.

About the best that could be said of any potential arrangement between PayPal and bitcoin is that it would bestow public credibility on bitcoin as a “unit of account” or new currency code. However, squeezing only the monetary unit portion into a legacy payments platform inserts an intermediary into a decentralized system and dilutes the value of the whole. Not to mention that Bitcoin will simply outlast PayPal.

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