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.

Bitcoin Pros to Talk Merchant Acquisition, Banking Opportunities

By Jon Matonis
PaymentsSource
Monday, April 22, 2013

http://www.paymentssource.com/news/bitcoin-pros-to-talk-merchant-acquisition-banking-opportunities-3013882-1.html

With bitcoin in the media spotlight, everyone seems to have an opinion on the price. Few recognize the profound implications of decentralized money for the monetary system, society and government – not to mention the emerging business opportunities.

The timing could not be better for the inaugural conference of the newly-formed Bitcoin Foundation. Next month, several hundred people from around the world will converge on the San Jose Convention Center (in Silicon Valley, naturally). Billed as "The Future of Payments," the conference is attracting technologists, venture capitalists, bankers, traders, payments specialists, and financial regulators.

Launched in January 2009, bitcoin achieved all-time highs in transaction volume and new entrants into the currency last week – milestones overshadowed by the price volatility. The nonprofit foundation was established in September 2012 to standardize and promote the core bitcoin protocol. (I have a seat on the foundation’s board.) Two of its early accomplishments were to recruit lead bitcoin developer Gavin Andresen (whose informal role in the Bitcoin community mirrors Linus Torvalds’ position in the Linux world) as chief scientist and to launch a quarterly grant program for funding various initiatives that advance the bitcoin protocol. Next, the foundation intends to encourage best practices for bitcoin businesses and exchanges, to facilitate the formation of local foundation chapters in foreign countries, and to educate global regulators about what can and cannot be regulated feasibly with a distributed peer-to-peer system such as bitcoin.

Although the conference features excellent technical tracks, the agenda will be particularly interesting to those in the banking and payments fields.

For example, many people understandably ask why merchants would want to accept payments in Bitcoin given the volatility of the exchange rate with the dollar. After all, even if you believe the digital currency will appreciate over time, you probably can’t use it to pay the electric bill or the rent.

Part of the answer is the service provided by firms like BitPay, whose cofounder and CEO, Anthony Gallippi, will explain how he’s been driving business adoption of Bitcoin. BitPay functions as a merchant payment processor, somewhat akin to the acquiring banks in the Visa/MasterCard space. The startup provides foreign exchange conversion services for merchants desiring immediate settlement in local national currencies. Thus Tony’s customers reap the benefits of Bitcoin – no chargebacks, since bitcoin transactions are irreversible, and lower fees than they’d pay for credit card transactions – while BitPay takes the currency risk. Tony recently landed one of the best-known merchants to accept Bitcoin: WordPress, the blogging platform.

Another startup is Paymium, whose Bitcoin-central exchange has shown it is possible to seamlessly integrate bitcoin and the traditional regulated banking infrastructure. The French company’s co-founder and chief operating officer, Pierre Noizat, will talk about bridging that gap. If his name rings a bell for some financial services professionals, it may be because Pierre comes from the traditional payments world, having served as managing director of the French Mobile Contactless Association.

Would-be disruptors eyeing this space but worried about legal uncertainties will have a chance to hear from Patrick Murck, the general counsel of the Bitcoin Foundation. His expertise extends across the legal and regulatory issues governing the use of Bitcoin, virtual economies, gamification, alternative payment systems, and social loyalty and reward programs. Immediately after the Financial Crimes Enforcement Network issued the March 18 regulatory guidance on centralized and decentralized virtual currencies, Patrick published an analysis.

Bitcoin’s user-defined anonymity protects personal privacy, and this combined with the decentralized structure arguably thwarts censorship – for example by allowing people who want to donate to WikiLeaks to circumvent the political blockade that forced the major payment processors to cut off that organization. Rainey Reitman, the activism director of the Electronic Frontier Foundation, a nonprofit civil liberties law firm and advocacy center, will hold forth on these liberating aspects of Bitcoin. She is particularly interested in the intersection between personal privacy and technology, and has spent significant time investigating the role of financial intermediaries as censors. Reitman is also the chief operating officer and co-founder of the Freedom of the Press Foundation, a nonprofit organization that crowd-sources funding to supporting independent, nonprofit journalistic institutions – and recently started accepting bitcoin.

Most of the attention paid to Bitcoin in the mainstream media has focused on its merits and drawbacks as a store of value. The smarter commentators have paid greater attention to its potential as a means of exchange. But what about the third key role of money, as a unit of account? Bitcoins, after all, are divisible to the eighth decimal place, and this is another disruptive component. Erik Voorhees, a bitcoin early adopter involved in several leading bitcoin-related companies, such as BitInstant, SatoshiDice and Coinapult, will encourage thinking on this as he discusses the economics of Bitcoin and its role as money.

Ever since the bitcoin cryptocurrency launched and achieved initial success, institutional investors and hedge fund managers have secretly sought a regulated investment vehicle for bitcoin placements. Malta-based Exante Ltd. has a solution with its new Bitcoin Fund. There remains a case for Bitcoin as a store of value, even after the recent whipsawing. Tuur Demeester, author of the financial newsletter MacroTrends, added bitcoin as part of his recommended currency basket in January 2012, and he’ll talk about bitcoin's emerging role as a separate asset class alongside precious metals, equities, and bonds.

Last month, my column featured a conversation with software developer and online payments industry veteran Peter Šurda about how nonpolitical cryptocurrencies like bitcoin could alter the future of fractional reserve banking. If you were as fascinated as I was by the discussion, he’ll be on the “Economics of Bitcoin” panel with Voorhees and Demester.

Bitcoin and the Rebirth of Financial Safe Havens

By Jon Matonis
American Banker
Thursday, April 11, 2013

http://www.americanbanker.com/bankthink/bitcoin-and-the-rebirth-of-financial-safe-havens-1058216-1.html

Like never before, financial privacy and safe havens are under attack the world over.

Banks and even entire jurisdictions are feverishly responding to increased government scrutiny from the world's monetary power centers in the name of exposing political corruption, combating terrorism, and preventing tax evasion.

Full financial transparency is the new mantra and it's being invoked in the name of social justice. The International Consortium of Investigative Journalists recently released "Secrecy for Sale: Inside the Global Offshore Money Maze," a report that focuses on "exposing hidden dealings of politicians, con men and the mega-rich."

But why are private individuals lumped together with politicians who choose to be public figures representing the interests of their constituencies? Should private individuals and political figures be treated in the same manner regarding financial privacy?

Attorney Jenice Malecki of Malecki Law told me: "No, they should not. When you become a political figure, you agree to give up some of your privacy rights. You also need to be more transparent, so people know who you really are, whether they should believe what you say."

Politicians who do not voluntarily submit to monitoring of their financial activities will not be trusted.

"Private individuals should have more privacy, as they have not placed themselves into the political arena. They have not agreed to give up their privacy," adds Malecki. However, she also concedes that when it comes to offshore numbered accounts, "it does seem that banking secrecy is eroding. Slowly, but surely, banks are releasing information for governmental investigations."

Violations of everything from know-your-customer rules to the Foreign Account Tax Compliance Act  can all be loosely categorized as the politically incorrect crime of money laundering. But as the investor and author Doug Casey says, "it's a completely artificial crime. It wasn’t even heard of 20 years ago, because the 'crime' didn’t exist." Moving money around was simply called banking. Furthermore, Casey says, "The war on drugs may be where 'money laundering' originated as a crime, but today it has a lot more to do with something infinitely more important to the state: the War on Tax Evasion."

Almost simultaneously with the recent jihad against tax dodgers, decentralized cryptocurrencies such as bitcoin arrived on the scene in early 2009 and now provide an outlet for personal wealth that is beyond restriction and confiscation. The exchange rate for government fiat currencies may be volatile now, but as the market price eventually finds equilibrium and stabilizes, bitcoin will become an important store of value.

Think of bitcoin as your own personal financial safe haven or offshore bank. Previously, you had to board a jet or hire an attorney to set up legal entities and open bank accounts in private banking jurisdictions like Liechtenstein, Luxembourg, the Cayman Islands or the Cook Islands.

Simply by leveraging the distributed bitcoin block chain, which records all transactions in the system and prevents double-spending without identifying the parties by name or location, individuals can protect their wealth from privacy violations and indiscriminate confiscation without leaving the keyboard. This represents a powerful new development that the world has not seen before and it will have a profound impact on the global asset management industry specifically.

Today's best tax havens combine a no-tax jurisdiction with extreme banking secrecy enshrined in law where bank employees could face imprisonment for disclosing bank customer details to third parties or parties outside of the bank. Unsanctioned disclosure of bank account information in most tax havens is considered a criminal offense punishable by incarceration and monetary fines.

Sanctioned disclosure usually requires a recognized court order and typically hinges on the distinction between legal tax avoidance and tax evasion. Offshore jurisdictions have been feeling the pressure for several years to remove that distinction and open the banking records regardless.

The global trend persists toward cleaning up the high-risk and uncooperative countries on the intergovernmental Financial Action Task Force’s blacklist. Ultimately, no jurisdiction will be exempt. On the complementary Organisation for Economic Co-operation and Development gray list, the tiny alpine principality of Liechtenstein has been amending tax laws in a move to anti-secrecy compliance. Similarly, as the small haven of Cyprus had built up a burgeoning financial center for the free flow of capital within the eurozone, it too had to be restrained, even if that meant egregious depositor "haircuts" of up to 60%.

Future regulatory and confiscatory attacks on safe havens and banking secrecy will become irrelevant, because bitcoin provides for a personal "offshore center" under direct and sole control of the individual. However, Malecki cautions, "If [the] bitcoin currency's respect and security grows, the governments will also find a way to keep on top of bitcoin monitoring and enforcement.

"I think that determining 'legitimacy' is difficult," she says, "but as with political asylum, perhaps the financial world needs some financial asylum – which has very specific criteria, review and oversight. Without that, there is bound to be abuse" by governments.

Legitimacy is a politically charged term. One person's legitimacy may be another person's aggressive and unjustifiable overreach. Also, what a certain government sees as legitimate may be viewed in other parts of the world as a violation of fundamental human rights. This is clearest in authoritarian regimes that impoverish and imprison their political opponents for so-called crimes against the state.

It all depends of who is performing the oversight. I am not quite sure how any political oversight could function effectively while still protecting the financial privacy rights of individuals. Thankfully, it doesn't matter anymore.

Bitcoin Obliterates "The State Theory Of Money"

By Jon Matonis
Forbes
Wednesday, April 3, 2013

http://www.forbes.com/sites/jonmatonis/2013/04/03/bitcoin-obliterates-the-state-theory-of-money/

Once you get past the childish title, the recent bitcoin piece from Karl Denninger raises some issues that warrant consideration from bitcoin economists. Denninger is an intelligent student of the capital markets and his essay deserves a serious reply.

The economic contribution of his essay is that it represents the thesis advanced by German economist Georg Friedrich Knapp in The State Theory of Money (1924), an expose advocating the Chartalist approach to monetary theory claiming that money must have no intrinsic value and strictly be used as tokens issued by the government, or fiat money. Today, modern-day chartalists are from the school of thought known as Modern Monetary Theory (MMT).

Without getting into the intrinsic value debate, this is where I strongly depart from Denninger, because if we accept the thesis that all money is a universal mass illusion, then a market-based illusion can be just as valid or more valid than a State-controlled illusion. What Denninger and Greenbackers and MMT supporters reject is the notion that monetary illusions themselves are a competitive marketplace, falsely believing that only the State is in a ‘special’ position to confer legitimacy in monetary matters.

Regarding this issue of State-sanctioned legitimacy, bitcoin as a cryptographic unit seeks and gains legitimacy through the free and open marketplace. It is not a governmental instrument of legal tender that requires regulatory legitimacy and coercion by law in order to gain acceptance.

Therefore, the path to widespread adoption of bitcoin hinges on three primary market-based developments: (a) robust and liquid global exchanges similar to national currencies that can offer risk management via futures and options, (b) more user-friendly applications that mask the complexities of cryptography from users and merchants, and (c) a paradigm shift towards “closing the loop” such as receiving source payments and wages in bitcoin to eliminate the need for conversion from or to national fiat.

Even after graciously accepting Denninger’s definition of what the ideal currency would be (which I don’t) and searching for any economic nuggets of value, his arguments can be distilled into four main criticisms of bitcoin as a monetary instrument. First, bitcoin does not provide cash-like anonymity. Second, bitcoin transactions take too long for confirmations to be useful in everyday transactions. Third, bitcoin exhibits irreversible entropy.  Fourth, the decoupling of the stateless bitcoin from the obligation of monetary sovereigns is considered a fatal weakness.

Now that we identified the objections, let’s take these in order.

On the first point surrounding bitcoin anonymity, Denninger only embarrasses himself with this criticism. By default, bitcoin may not offer anonymity and untraceability like our paper cash today, but it is better described as user-defined anonymity because the decision to reveal identity and usage patterns resides solely with the bitcoin user. This is far superior to a situation where users of a currency are relegated to seeking permission for their financial privacy which is typically denied by the monetary and financial overlords. Also, his capital gains tax issue is a non-starter because it’s a byproduct of a monopoly over money.

His second criticism of a lack of utility in the ‘goods and service preference’ due to timing of sufficient block chain confirmations has some merit. However, advances have been made in the use of green addressing techniques that solve the confirmation delay problem by utilizing special-purpose bitcoin addresses from parties trusted not to double spend.

Denniger’s third criticism that bitcoin exhibits irreversible entropy is confusing. Typically, entropy refers to a measure of the unavailable energy in a closed thermodynamic system that is also usually considered to be a measure of the system’s disorder. In the case of bitcoin, I suspect Denninger is taking it to mean the degradation of the matter in the universe because of his explicit comparison to gold. While it is true that bitcoins lost or forgotten are ultimately irretrievable, I view that as a feature not a bug because it is the prevailing trait of a digital bearer instrument. Two bitcoin digital attributes that make it superior to physical gold are its ability to create backups and its difficulty of confiscation. Furthermore, the number of spaces to the right of the decimal point (currently eight) is immaterial to bitcoin’s suitability as a monetary unit.

Now for the big and final one. Denninger asserts that monetary sovereign issuers possess not only the privilege, but the obligation, of seigniorage, which Denninger refers to as bi-directional since sovereigns have the responsibility of maintaining a stable price level during times of both economic expansion and economic contraction. As a product of Hayekian free choice in currency, market-based bitcoin is decentralized by nature and poses a false comparison to the century-old practice of central bank monetary manipulation. Fear not deflation.

Governments have appropriated the monetary unit for their own benefit by declaring it the only preferred monetary unit for payment of taxes to the State. Believing that governments have sincere and good intentions in administering the monetary system is akin to believing in fairy tales. Control of the monetary system serves one and only one interest — the unlimited expansion of the sovereign’s spending activity to the detriment of the unfortunate users of that monetary unit. Decentralized Bitcoin obliterates this sad state of affairs.

Denninger’s biased and establishment preference for a monetary sovereign serves only to harm his analysis because it undeniably closes him off from alternative, and usually superior, free-market monetary arrangements. More damaging, however, is the fact that it places him outside of the mainstream in free banking circles and squanders his remaining quasi-libertarian credibility as a champion of markets.

BitPay, Reaching a $2M Milestone in March, Cuts Fees

By Jon Matonis
PaymentsSource
Monday, March 25, 2013

http://www.paymentssource.com/news/bitpay-reaching-2m-milestone-in-march-cuts-fees-3013622-1.html

CEO Tony Gallippi

Bitcoin payment processor BitPay Inc. today announced its global processing volume for the month of March will exceed $2 million, a milestone for the company.

BitPay is also reducing its fees. The company will now process Bitcoin transactions and support settlement into 11 local currencies at a rate of 0.99% for all merchants. Previously, there were separate conversion fees on top of the 0.99% processing fee, so the company has essentially waived the currency conversion charges.

Bitcoin payments are designed to resemble cash transactions more than credit-card transactions. Bitcoin payments have no disallowed merchant category codes (MCCs), no selective payment embargoes, no chargebacks and near immediacy of final transaction confirmation.

Accepting the digital Bitcoin currency as a payment method allows merchants to reach customers in over 60 countries not supported by PayPal. It also allows merchants to reach various countries that are restricted by Visa and MasterCard for high fraud or lack of infrastructure. A consumer transacting in bitcoins needs only a mobile phone application or an Internet connection.

"We chose to celebrate this milestone by rewarding all merchants, large and small, with an across-the-board fee reduction, instead of offering tiered pricing which rewards only the largest merchants," says BitPay CEO Tony Gallippi, in a press release. "We want our merchants to use this fee reduction to offer discounts and incentives to their customers for paying with Bitcoin."

Settlements to local currencies are made with a guaranteed exchange rate locked in at the point of sale for no additional fee. This protects the merchant from potential volatility of the bitcoin exchange rate.

Supported currencies for settlement include the U.S. dollar, Canadian dollar, Australian dollar, New Zealand dollar, euro, Pound sterling, Danish krone, Mexican peso, Norwegian krone, Swedish krona and South African rand. Currently, BitPay provides one-day settlement for the U.S. and settlement in 2-3 days for other countries. Euro settlement is currently available in Belgium, Finland, France, Germany, Italy, Spain and the Netherlands.

BitPay has over 4,000 merchants on its payments platform and is acquiring new merchants at a rate of 1,000 per month, the company says. It also recently announced that it has integrated its payment platform with Amazon’s fulfillment services, enabling merchants to combine frictionless international payments with international shipping in a fully-automated system.

The Amazon deal alone is a massive win for BitPay as it fits perfectly with Amazon's expansion strategy and showcases the qualities of the bitcoin payment method. Gallippi said in an interview that "the Amazon partnership has the potential to catapult the company to an entirely new level."

Bitcoin Foundation Reacts To FinCEN Guidance

By Patrick Murck
Bitcoin Foundation
Tuesday, March 19, 2013

https://bitcoinfoundation.org/today-we-are-all-money-transmitters-no-really/

FinCEN shook us all from our Monday afternoon stupor by dropping some provocative “guidance” for those involved in the business and use of digital currencies and, in particular those of us involved with the grand experiment that is Bitcoin.

You can and should read what FinCEN had to say for yourself here.

Upon an initial reading two things struck me:

1. FinCEN firmly believes that virtual currency in general, and bitcoin in particular, does not fall under the prepaid access rules.
2. FinCEN seems intent on recreating and expanding the prepaid access rules for virtual currency and bitcoin under the mantle of money transmission.

I was happy to see FinCEN issue some clarity around the overly-broad prepaid access rules and definitively state that they do not apply in the context of bitcoin. This is quite interesting because in my conversations with seasoned payments and digital currency lawyers, prepaid access seemed to be the most likely trigger for FinCEN regulation – closely followed, of course, by money transmission.

That’s about where my happiness ended as the clear guidance quickly devolved into something a little less comprehensible.

In particular, I’m a little disheartened that FinCEN appears to be creating an entirely new regulatory scheme under the guise of “guidance.” Of course, FinCEN cannot rely on this guidance in any enforcement action, as they must readily acknowledge. Simply put, under the Administrative Procedures Act (APA), FinCEN can’t promulgate new rules without going through a notice and comment proceeding whereby the public may have their voices heard. If FinCEN would like to expand its statutory authority over “money transmitters” to include brand new categories such as “administrators” and “exchangers” of digital currency it must do so through proper rule making proceedings and not by fiat. I welcome that conversation.

State Money Transmitter Issues

It should also be noted at the outset, in case there is any confusion, that FinCEN’s rule-making and interpretations have no practical effect on State money transmitter laws (although FinCEN or Congress may preempt such State laws in the future). State MTB laws and enforcement is something that should be discussed, and to some degree worried about, but it’s a separate issue.

FinCEN Overreaches

Read closely FinCEN’s guidance implies that every person who has ever had any virtual currency and has ever exchanged that virtual currency for real currency may now be considered a money transmitter under the Bank Secrecy Act. That is, of course, an untenable position.

FinCEN starts going off the tracks early on, as they carefully define a “User” (not subject to MSB registration) as “a person that obtains virtual currency to purchase goods or services” as opposed to an “Exchanger” who is “a person engaged as a business in the exchange of virtual currency for real currency, funds, or other virtual currency.” Left unsaid are any specifics around the facts and circumstances that would constitute “engaging as a business.”

What is crystal-clear is that once a person sells a single Satoshi for real currency that person is no longer a “User” and therefore not categorically exempted from MSB registration.

Later in the document as FinCEN turns its attention to discussing decentralized virtual currencies we get the money paragraph.

In a bizarre shot across the bow at miners, FinCEN states unequivocally that “a person that creates units of convertible virtual currency and sells those units to another person for real currency or its equivalent is engaged in transmission to another location and is a money transmitter.”

And then, for good measure, FinCEN completely muddies the waters by stating: “In addition, a person is an exchanger and a money transmitter if the person accepts such decentralized convertible virtual currency from one person and transmits it to another person as part of the acceptance and transfer of currency, funds, or other value that substitutes for currency.”

FinCEN’s position as it relates to bitcoin can be summed up as follows:

1. A person may spend money to purchase bitcoin or mine bitcoin and then exchange the currency for goods and/or services without having to register with FinCEN as an MSB.
2. If a person receives real money in exchange for their bitcoin they MAY have to register with FinCEN.
3. If a miner exchanges their mined bitcoin for real money they MUST register with FinCEN.
4. Anyone transacting bitcoin on someone else’s behalf MUST register with FinCEN.

This framework would wildly expand the reach of FinCEN and the BSA, and would be infeasible for many, if not most, members of the bitcoin community to comply with. An individual or micro-business cannot be expected to create a robust AML/KYC program anytime they sell 1 or 100 bitcoin on an exchange or in-person. The BSA was never intended to apply this broadly and reach this far into people’s everyday lives. Perhaps a little more guidance is needed.

Patrick Murck is general counsel at the Bitcoin Foundation. Reprinted with permission.

For further reading:
"The War On Bitcoin—and Anonymity", Eli Dourado, March 20, 2013
"FinCEN sounds death knell for US based Bitcoin businesses", Irdial, March 19, 2013

FinCEN Spying Plan Invites Privacy Workarounds

By Jon Matonis
American Banker
Thursday, March 21, 2013

http://www.americanbanker.com/bankthink/fincen-spying-plan-invites-privacy-workarounds-1057728-1.html

The dangers to financial privacy are monumental. Consider an Obama administration plan to give spy agencies unfettered access to data on American citizens and others who bank in the U.S.

Suspicious Activity Reports, filed by financial institutions that operate in the U.S., are the primary documents that the Financial Crimes Enforcement Network intends to share. The reports cover all personal cash transactions exceeding $10,000, suspected incidents of money laundering, loan fraud, computer hacking and counterfeiting.

The Treasury Department proposal, revealed by Reuters last week, aims to consolidate financial data banks, criminal records and military intelligence. This initiative will put intelligence agencies, such as the Central Intelligence Agency and the National Security Agency, on the same footing as the Federal Bureau of Investigation, which currently does not have to make case-by-case informational requests to Fincen.

Also under the new proposal, Fincen's database would be linked to the Joint Worldwide Intelligence Communications System, which U.S. defense and law enforcement agencies use to share classified information.

Money was never meant to be a method of supranational identity tracking. Its use in that way could signal some level of law enforcement desperation. When all other enforcement tactics fail, surveil the finances.

More than 25,000 financial firms, including banks, securities dealers, casinos, and money transfer agencies, routinely file "suspicious activity reports" to Fincen, according to the Reuters article. Banks and other firms tend to over-report some financial details of ordinary citizens since the requirements for filing are so strict they don't want to be accused of failing to disclose activity that later proves questionable.

Increasing encroachment against financial privacy like this Fincen move "raises concerns as to whether people could find their information in a file as a potential terrorist suspect without having the appropriate predicate for that and find themselves potentially falsely accused," Sharon Bradford Franklin, senior counsel for the Rule of Law Program at the Constitution Project, told Reuters.

One protection from becoming scooped up in a fishing expedition and being falsely accused is the use of virtual or alternative currencies. But this week, Fincen issued guidance on virtual currencies and regulatory responsibilities.

Clarifying circumstances where the "money transmitter" definition applies under the law, Fincen classified de-centralized virtual currency as a convertible virtual currency that has no central repository and no single administrator, and that persons may obtain by their own computing or manufacturing effort. Although bitcoin was not singled out by name, the guidance appears directed at cryptocurrencies that operate in a peer-to-peer, distributed fashion such as Bitcoin.

The primary impact of the likely tighter compliance will be felt by the bitcoin-to-fiat exchanges operating in the U.S. and this will lead to jurisdictional competition, as seen in online casino gambling where the more entrepreneurial jurisdictions rose to dominance by embracing the technology early and not overregulating.

Almost serendipitously, discussions about adding privacy extensions to the Bitcoin cryptographic money protocol have been increasing lately.

Bitcoin is nonpolitical money and it falls outside the scope of reporting financial institutions. Since bitcoin does not provide user and transactional privacy by default, multiple bitcoin wallets and Tor, a client software and volunteer server network that enables online anonymity, can enhance privacy without modification to the core Bitcoin code. Nonetheless, code-modifying proposals for augmenting Bitcoin privacy have been introduced. One idea calls for automatic mixing techniques, which would periodically give all users the opportunity to shuffle coins among one another, making the money harder to trace without implicating individuals. Another concept is "coin control," a method for users to select which of their wallet’s multiple addresses to use as the "from address" (currently picked somewhat randomly by the client software).

Various proposals for improving bitcoin privacy include "Patching The Bitcoin Client" (2011), "Automatic Coin Mixing" (2012), "Coin Control" (2012), and "Yet Another Coin Control Release" (2013).

Also, a recent cryptographic bitcoin privacy extension submitted by researchers from The Johns Hopkins University was accepted for presentation to the IEEE Symposium on Security & Privacy in Oakland, Calif. The paper Zerocoin: Anonymous Distributed E-Cash from Bitcoin will be introduced on day two of the May conference.

Having received a preliminary copy of the academic paper, I interviewed Hopkins research professor Matthew Green about some of the details of Zerocoin.

Operating as a decentralized layer of anonymous cash on top of the existing Bitcoin network, "Zerocoin creates an 'escrow pool' of bitcoins, which users can contribute to and then later redeem from," Green explained. Users receive different coins than they put in (though the same amount) and there is no entity that can trace your transactions or steal your money. "Unlike previous e-cash schemes, this whole process requires no trusted party. As long as all the nodes in the network support the Zerocoin protocol, the system works in a fully distributed fashion," added Green.

Zerocoin developers are working on improved efficiency because implementation is impractical today given the space constraints of the “blocks” that make up the Bitcoin public ledger. "For one thing, the transactions are very large (40kb to spend a coin)," Green said. "While this isn't the end of the world – and bandwidth is always increasing – supporting these would put quite a strain on the block chain."

When I asked Green about the possibility of a "back door" for law enforcement that had been floated recently, he clarified, "The back door isn't part of Zerocoin. There's absolutely no need for it, and building one in would take significant additional effort. In fact, we only mentioned it as a brief note in the conclusion of our paper, mostly to motivate future research work."

If someone did try to build a back door for any reason, the open source Zerocoin would quickly become Zero-adoption.

How Cryptocurrencies Could Upend Banks' Monetary Role

By Jon Matonis
American Banker
Friday, March 15, 2013

http://www.americanbanker.com/bankthink/how-cryptocurrencies-could-upend-banks-monetary-role-1057597-1.html

Peter Šurda

I recently had a fascinating chat with the economist Peter Šurda to discuss how nonpolitical cryptocurrencies like bitcoin could alter the future of fractional reserve banking.

Peter is also a software developer experienced in the online payments industry and will present at the Bitcoin 2013: The Future of Payments conference in San Jose in May. His 2012 master's thesis at Vienna University of Economics and Business was entitled Economics of Bitcoin: Is Bitcoin an Alternative to Fiat Currencies and Gold? He's an abstract thinker, but the implications of his work are tantalizing: that digital money like Bitcoin opens up possibilities for banking without central planners or a lender of last resort, where interest rates and reserve requirements are driven purely by the market.

The debate between the full reserve bankers and the fractional reserve bankers is an old one and it has been explored in depth by the Austrian school of economics. More recently, the debate has been broadened to include the dynamics of introducing the bitcoin cryptocurrency, which is the functional equivalent of digital gold, since its supply is predictable and fixed. (There are currently 10.9 million bitcoins in circulation with a total fixed supply of 21 million expected to be mined before 2140, 99% of them by the year 2032.) The Austrian school economist Michael Suede and the technologist Eli Gothill have speculated that fractional reserve banking can indeed appear within a bitcoin monetary environment. This is where we join up with Peter.

JON MATONIS: I enjoyed your blog post, "Market Forces and Fractional Reserve Banking." Do you consider fractional reserve banking to be compatible with Austrian economics?

PETER ŠURDA: First of all, I would like to separate fractional reserve banking and credit expansion. On one hand, there are ways of increasing the money supply, in the broader sense, which do not require fractional reserve banking or changes in the monetary base such as a system based on the principle of mutual credit like LETS [local exchange trading systems], or a fiat currency that uses bitcoin as reserves (i.e. they are not claims in the sense that Ludwig von Mises uses them, but they act as full substitutes). From the opposite direction, fractional reserve banking does not necessarily lead to credit expansion.

I agree with the full reservists that credit expansion has the effects described by the Austrian Business Cycle Theory. However, I agree with the free bankers that fractional reserve banking is not necessarily a violation of property rights and other ways of increasing the money supply also are not necessarily a violation of property rights.

So I think that the economic and legal analysis are two separate issues and need to be addressed separately. I avoided the legal analysis in my thesis and concentrated on Austrian Business Cycle Theory and policy issues, but in an earlier draft I have several pages about legal aspects too, and I discussed the topic with [the legal theorist] Stephan Kinsella.

JON MATONIS: How does a nonpolitical cryptocurrency like bitcoin alter the landscape in the "full reserve" versus "fractional reserve" banking debate?

PETER ŠURDA: Austrians have made arguments in the past that lead to the conclusion that fractional reserve banking does not necessarily lead to credit expansion, even though they never explicitly formulated it this way and might not have realized the connection. The reason is that if credit instruments do not decrease transaction costs over the monetary base, they are unlikely to act as a part of the money supply. Bitcoin shows that this is not only a hypothetical but empirically possible to implement. With Bitcoin, it is much less likely that credit expansion will occur.

In other words, we need to separate two things. Why do people want to hold fractional reserve banking instruments, which may include the interest payments as one of the reasons, and why do people want to use fractional reserve banking instruments as a medium of exchange which, I argue, requires that the fractional reserve banking instruments decrease transaction costs. That they historically manifested themselves through a common instrument is an empirical quirk and not an economic rule. The ability to loan money is beneficial. Contrary to many Austrians, I agree that maturity transformation can be beneficial, and if the loan ends up being a liquid instrument, it also can be beneficial. But if it is so liquid that it becomes a part of the money supply, that's when it has a detrimental effect on the economy.

For full reservists, Bitcoin shows that the question of fractional reserve banking is less important than they thought. Fractional reservists, on the other hand, need to think about the nature of the mechanisms equilibrating the money supply. I tried to explain the issue to [the economists] George Selgin and David Glasner in comments on their websites, but I wasn't successful in getting my point through.

JON MATONIS: If bitcoin is digital gold, does that portend a future where a bitcoin standard (akin to the gold standard) can emerge or partial bitcoin backing for other currencies?

PETER ŠURDA: They probably can emerge, but the more important question is whether they would be preferred to bitcoin. Only something that provides a significant improvement would be preferred. I only know two potential candidates for that: Ripple and OpenTransactions.

JON MATONIS: In a bitcoin world, is fractional reserve banking only possible with offline substitutes (such as physical coins or cards, which can be traded hand-to-hand, containing the private key to a bitcoin address) or an intentional "fork" in the block chain ledger?

PETER ŠURDA: Hypothetically, the reserves can be offline and the substitute can be a clearing system like Ripple, so there are other possibilities too. But if I understand your point correctly, offline "substitutes" might have a higher chance of actually becoming full substitutes because they might have more obvious advantages.

JON MATONIS: As the recent block chain fork episode demonstrates, there is a need for offline bitcoin transactions to continue. Is this demand sufficient for a money substitute to evolve, such as offline substitutes with full or partial bitcoin backing?

PETER ŠURDA: This is primarily an empirical question, so we can't be completely sure about that. I think the probability for this is significantly lower than with the currencies that we've known historically. The end result is also path-dependent; for instance, it depends on how quickly bitcoin matures and/or adapts to changes compared to the potential substitute.

Fractional reserve banking does not come into existence magically. It must follow economic rules. With gold and similar commodities, fractional reserve banking comes into existence for these reasons: On the demand side, there is a demand for money substitutes, because they provide something that money proper does not; and on the supply side, money substitutes carry maintenance costs for the issuer (e.g. storage of gold) and these need to be offset somehow. The issuer can charge on holding (e.g. demurrage of bank notes), transacting (e.g. check clearing), or, obviously, externalize the costs through fractional reserves. From the point of view of an individual user, fractional reserve banking appears to be the least costly alternative. So obviously fractional reserve banking wins.

Putting it together: If there is a general demand for money substitutes, this leads to fractional reserve banking. Unless it's illegal. Then it might not. Solution: Have money which does not lead to the creation of money substitutes. Bitcoin shows that at least hypothetically, this is possible. I might even go a bit further and make this statement: If on a free market money substitutes do not develop even though there is no legal or technical obstacle for them, it means that the choice of money is Pareto-optimal since no change in the monetary system leads to an increase in utility.

JON MATONIS: Does a demand for positive return on bitcoin balances lead to an environment of competitive bank lending with risk-adjusted interest rates? And will this lead to an environment of fractional reserve banking with depositors offered higher interest rates in exchange for the additional risk premium of running a fractional portfolio?

PETER ŠURDA: Yes, I would say it does, but until there are industry niches that primarily use bitcoin, it is probably not much different from gambling.

This might lead to negotiable credit instruments with maturity-mismatching or maturity transformation, depending on which economic school you use for terminology. However, I don't think this feature alone is sufficient for these instruments to be accepted as full substitutes whereas George Selgin appears to think it is. Now, whether to call such a situation "fractional reserve banking" even though no credit expansion occurs is unclear. I lean towards yes, but there could be other interpretations.

JON MATONIS: How do you see bitcoin changing interest rate structures and lending practices?

PETER ŠURDA: Using Bitcoin for loans only makes sense for those businesses that use bitcoin as a unit of account, unless, of course, you're just speculating on the market but don't actually sell any goods or services. I think this will only occur at much higher levels of liquidity or until we can be quite sure that it deserves the label "money." Until these higher levels of liquidity are reached, the price of bitcoin will probably be quite volatile, which reduces the likelihood that people use it as a unit of account.

However, there could be niche market segments that use bitcoin as a primary medium of exchange and [bitcoin] mining is the most obvious candidate. For these, the unit of account function would make sense even if the global market penetration is lower.

Assuming one of these thresholds is crossed and the money supply remains inelastic (i.e. no significant credit expansion), the interest rate of bitcoin should be a good reflection of the time preference of those market participants that use it as a unit of account. Bitcoin also makes it much easier for lending to occur in a decentralized manner, I think. Rather than a small number of "too big to fail" institutions, we should see smaller specialized teams that act as facilitators without owning the liabilities or being liable themselves.

JON MATONIS: Can a free market fractional reserve system (as opposed to a central banking fractional reserve system) coexist with full reserve banking? Or will one drive out the other?

PETER ŠURDA: I think that if money substitutes emerge, fractional reserve banking will out-compete 100% reserve banking in the market. I deal with this a bit in an earlier draft of the thesis. If they don't emerge, on the other hand, we'll have a money supply equivalent to the monetary base and debt will not cause changes in the money supply. It would be viewed as merely highly liquid credit. I don't think they can coexist for a long time assuming the same underlying money in the narrower sense, of course.

WinPoker Becomes First Major Gambling Operator To Adopt Bitcoin

By Jon Matonis
Forbes
Wednesday, March 13, 2013

http://www.forbes.com/sites/jonmatonis/2013/03/13/winpoker-becomes-first-major-gambling-operator-to-adopt-bitcoin/

WinPoker in Curaçao announced that it will now begin accepting bitcoin as a deposit and withdrawal method to their WinPoker accounts which are on the iPoker network.

Consisting of over 30 different brands, including large European bookmakers like Paddy Power, Bet365, Betfair and William Hill, iPoker is the largest network of online poker rooms operating internationally. According to Pokerfuse, iPoker sits behind only the independent rooms PokerStars, Full Tilt Poker and PartyPoker in terms of cash game action.

The attraction of bitcoin to the online gaming community is obvious. Funds clearance is near immediate and the transactions are irreversible. Payment processing fees are a fraction of what they are compared to other payment methods.

James Lewis, Head of Poker Games for WinPoker, says, “We can take very small or very large deposits quickly, with little or no risk of fraud. As a result, players can access our games from areas of poor financial infrastructure, or can play exciting high stakes games quickly without waiting for a bank wire transfer to be processed.”

WinPoker has structured the process so that players choosing to utilize the bitcoin payment method do not also assume currency risk along with the inherent risk of casino gambling. Therefore, all bitcoin deposits convert into the user’s account currency (USD, EUR, or GBP) at the current market rate without currency conversion fees and then funds are credited to the player account within minutes. When processing a withdrawal, funds are converted back into bitcoin is credited to players’ bitcoin e‐wallets. No currency conversion fees are charged at any point in the process.

Although bitcoin has optional anonymity properties that would protect the identity and country of the player, those properties are not leveraged by WinPoker. As a licensed and regulated gaming operator, WinPoker must adhere to the regulations of the jurisdiction that they operate within. Lucas explains:

"Due to regulatory requirements, and to prevent fraud, collusion, money laundering, and ensure a safe and honest gaming environment for our players, we are required to adhere to strict KYC and AML policy. Players are required to produce documents to verify their identity, address, and source of funds where relevant, before they are able to withdraw any funds."

Of course player identification would be required when a real-money, licensed casino mingles bitcoin with other online payment methods that include legal tender.

The jurisdiction-less SealsWithClubs, which competes in the poker space as a bitcoin-only site, is not concerned about the news from WinPoker. “The bitcoin poker space will explode in 2013, so it’s something that is totally expected when I see other online poker rooms and casinos transitioning to bitcoin,” says Bryan Micon of SealsWithClubs.

Micon adds, “In this particular case, it doesn’t excite me all that much because first off no U.S. players are allowed and secondly WinPoker is only using bitcoin as a deposit option, not as a currency to gamble for.” When bitcoin is the currency of record and unit of account for gaming, it is less likely that funds could be frozen or confiscated through the actions of one of the casino operator’s bank accounts.

Another significant but less noticed advantage of using bitcoin ‘tokens’ directly as the gaming unit is that before a game can be declared gambling for regulatory purposes, there has to be real money involved. In the case of bitcoin, a strong case can be made that, even with secondary markets, certain virtual currencies lack the legal elements of material value and property.

When I asked Micon about future regulation of his play money bitcoin poker room, he said “I’m confident there will be other U.S.-facing, bitcoin-accepting poker sites in the near future and SealsWithClubs is growing extremely fast. As for licensing and regulation, it is something we are always exploring.”

Tabletop Bitcoin ATM Is Huge for Payment Privacy

By Jon Matonis
American Banker
Wednesday, February 27, 2013

http://www.americanbanker.com/bankthink/tabletop-bitcoin-atm-is-huge-for-payment-privacy-1057110-1.html

It looks like a high school science project, but this countertop machine may be a bulwark of financial privacy in the age of digital money.

Last weekend at the Free State Project's annual Liberty Forum in New Hampshire, entrepreneurs Zach Harvey and Matt Whitlock advanced the anonymous purchasing of bitcoin with their new Bitcoin ATM. The little machine, about 24"H x 12"W x 12"D, exchanged and dispensed over $5,500 worth of bitcoin in one weekend.

Similar to the way a vending machine operates, the orange prototype accepts cash bills and reads a QR code containing the depositor's Bitcoin address. After subtracting a 1% transaction fee, it delivers bitcoin to the address in about five seconds. The Bitcoin Machine can accommodate paper note denominations up to $100.

Previously, individuals who wanted to purchase bitcoin privately without revealing personal details had to arrange face-to-face meetings through LocalBitcoins.com; make use of bitcoin-otc, an online marketplace where participants take counterparty risk and rely on user reputations measured by an e-Bay-like ratings system; or make a cash deposit at a bank or retail location, under the watchful eye of security cameras.

Now, with a device that directly converts paper cash to bitcoin anonymously, the interaction is between human and machine. The value of that subtle difference should not be underestimated. No longer does the buyer of bitcoins have to show his or her face, or trust counterparties to make good on their end of a deal. Depending on how many bills each bitcoin ATM can hold and how much bitcoin it can digitally store, users can now enter the bitcoin blockchain in a very significant and private way.

The New Hampshire-based startup, Lamassu Bitcoin Ventures, hopes to commercialize the technology and get the countertop ATMs placed in restaurants, bars and other retail businesses. Harvey told CNET's Declan McCullagh. "If we made these machines somewhere around $1,000 to $1,500 each, depending on the commission, they could be able to buy [the machine] and make it back within a reasonable period of time."

This could prove to be very profitable for the establishments hosting the machines if their bitcoin inventory gains dollar value prior to sale. Additionally, Lamassu Bitcoin Ventures could be the exclusive provider of bitcoin for the ATMs or partner with an existing exchange to provide greater risk management.

Even people who have been in the Bitcoin world for a while and have used every type of exchange are blown away by the simplicity of this machine," Harvey said. "I'm just putting in a dollar. Before they really know what's going on, their phone tells them, 'You have Bitcoin.'"

Despite media reports claiming this to be the world's first Bitcoin ATM, that notable distinction belongs to Todd Bethall of BitcoinATM.com, which dispenses plastic BitBills and sends bitcoin to a Bitcoin address.

Launched in 2011, Bethall's beta ATM comes equipped with a Genmega GK1000 Kiosk running Windows XP Pro with ActiveX drivers for the bill acceptor, printer and card reader. The California corporation that owns the original Bitcoin ATM was recently put up for for sale at the price of 1,500 bitcoin, but that was before bitcoin's recent price appreciation. At the current exchange levels, the asking price now works out to about $45,000.

Bitcoin: Financial Deepening and Currency Internationalization

By JP Koning
Moneyness
Thursday, February 21, 2013

http://jpkoning.blogspot.com/2013/02/financial-deepening-and-currency.html

Much of the conversation about bitcoin adoption focuses on its use in goods and services transactions. Breaking bitcoin news, for instance, draws attention to the fact that the Internet Archive will be giving employees the option to be paid in bitcoin. This focus on brick & mortar transactions means that the role that bitcoin financial instruments—stocks, bonds, and derivatives—have to play in promoting bitcoin adoption often gets overshadowed.

I'm currently reading Barry Eichengreen's Exorbitant Privilege which goes into the mechanics of what it takes to create a truly international currency. Eichengreen points out that prior to World War I the dollar played a negligible role relative to the pound sterling in world markets, but by the mid 1920s it was the dominant unit for invoicing payments and denominating bonds. Eichengreen's theory is that the US dollar became the world's go-to currency because of the emergence of a very specific financial instrument—the banker's acceptance.

An acceptance is much like a bill of exchange, a financial instrument I explained in my last post. Say a merchant decides to pay for a shipment of goods with a personal IOU, or bill. If a bank first "accepts" the bill i.e. if it agrees to vouch for the IOU, then this gives the bill more credibility. It is now a banker's acceptance.

According to Eichengreen, around 1908 or 1909, a concerted effort to foster the growth of the US acceptance market began. Up till then, US banks had been prohibited from dealing in acceptances and branching abroad—both these limitations would be removed by new legislation. To promote liquidity and backstop the acceptance market, the Federal Reserve, established in 1914, was given authority to buy and sell acceptances via open market operations. Furthermore, these acceptances could legally "back", or collateralize, the Fed's note issue. This feature was particularly helpful. Although the Fed was also legally permitted to purchase government securities, government securities could not "back" the note issue. Acceptances, therefore, became the more flexible and preferred asset for Fed open market operations, at least until 1932 when the limitations on government collateral were removed. According to Eichengreen, the Fed was the largest investor in the acceptance market and sometimes held the majority of outstanding issues on its balance sheet.

By the mid-1920s foreign acceptances denominated in dollars exceeded those denominated in sterling by a factor of 2:1 and more central banks held US forex reserves than sterling. London was on the way out, and New York on the way in. By 1929, the amount of outstanding foreign public bonds denominated in dollars (excluding the Commonwealth) exceeded sterling bonds. The lesson here is that a key step in the sequence of internationalizing a currency is getting it to be used in financial markets. This involves the development of deep, liquid, and accessible markets in securities denominated in that currency.

What sort of financial deepening do we see in the bitcoin universe, and how might we compare it to the dollar's emergence in the 1910s and 20s?

There are a number of healthy signs of financial deepening. I count five competing bitcoin securities exchanges that provide a forum for trading bitcoin-denominated stocks and bonds. These include Cryptostocks, BTCT, MPEx, Havelock, and Picostocks. A sixth, LTC-Global, provides a market in litecoin securities, a competing altchain. Holders of bitcoin needn't cash out of the bitcoin universe in order to get a better return. Instead, they can buy a bond or a stock listed on any of these exchanges.

The largest publicly-traded company in the bitcoin universe is SatoshiDice, a bitcoin gambling website listed on MPEx. With 100 million shares outstanding and a price of 0.006 BTC, SatoshiDice's market cap is ~600,000 BTC which comes out to around $17 million. SatoshiDice IPOed last year at 0.0032 BTC. With bitcoin only trading at $12 back then (it is now worth $29), the entire company would have been worth $4 million. Given today's $17 million valuation, SatoshiDice shareholders have seen a nice return over a short amount of time—much of it provided by bitcoin appreciation.

While SatoshiDice certainly provides some depth to bitcoin financial markets it has the potential to shallow them out too. Because MPEx charges large fees to trade on its exchange, a few of the competing exchanges have created what are called SatoshiDice "passthroughs". Much like an ETF, a passthrough holds an underlying asset—in this case SatoshiDice shares on MPEx—and flows through all dividends earned to passthrough owners. As a result, investors can get exposure to SatoshiDice without having to pay MPEx's expensive fees. BTCT, for instance, lists two different SatoshiDice passthroughs (GSDPT and S.DICE-PT) which together account for more trading volume than all other stocks and bonds listed on BTCT.

SatoshiDice's sheer size is to some extent problematic since Bitcoin financial markets are not as deep as they might appear. Should something ever happen to SatoshiDice, a big part of the bitcoin financial universe's liquidity will be wiped out, and this would ripple out across the entire field of bitcoin securities. The same might have happened to banker's acceptances in their day, except for one difference—the Fed was willing to back the acceptance market up. In the bitcoin universe, there's no buyer of of last resort to provide liquidity support to SatoshiDice shareholders.

Another impediment to deeper bitcoin markets is the hazy legality of the bitcoin securities exchanges. The first major bitcoin securities exchange, GLBSE, was closed in October 2012 with no prior warning. According to this article, potential regulatory and tax liabilities convinced GLBSE's founder to shut it down on his own behest. If any of the existing bitcoin exchanges were to grow too noticeable, one could imagine the SEC (or its equivalent) knocking on their door and forcing the exchange-owner to pull the plug. This sort of regulatory uncertainty can only dampen the liquidity and depth of bitcoin financial markets.

US authorities, on the other hand, didn't need to heed the rules when they built the banker's acceptance market. They created the rules. If financial deepening in the Bitcoin universe is to proceed it will happen despite regulations and not because of them.

The last headwind to bitcoin financial deepening is bitcoin's volatility. Eichengreen writes that the seesawing of the pound sterling during the war period encouraged financial markets to search for a more stable unit in which to express debts. The pound had always been anchored to gold (or silver), but it was unpegged from its century's long gold tether when the war broke out. Although it was repegged in January 1916, this time to the dollar, this did not secure confidence in the sterling's value since the peg was dependent on American support. When this support was withdrawn at war's end, sterling fell by a third within a year. Through all of this, the dollar continued to be defined in terms of gold, a feature which no doubt attracted issuers.

Bitcoin, on the other hand, has more than doubled in just two months. Back in June 2011, it fell by 50% in just two days. Like pound sterling during the war, bitcoin's lack of stability will do little to promote deeper financial markets.

Although I've stressed the difficulties that bitcoin markets face in developing more depth, the sheer amount of financial innovation I'm seeing from those involved in the various bitcoin securities exchanges is impressive. I wish them the best. The more they build up bitcoin securities markets, the better an alternative bitcoin presents to competing currency units.

[Disclaimer: I am long SatoshiDice and several bitcoin mining stocks.]

Reprinted with permission. 

France Plans To Prohibit Cash Payments Over €1,000

By Jon Matonis
Forbes
Thursday, February 14, 2013

http://www.forbes.com/sites/jonmatonis/2013/02/14/france-plans-to-prohibit-cash-payments-over-e1000/

One of the best things about covering payments news is that you never run out of stories where various myopic governments attempt to restrict the flow of cash in a squeeze for revenue.

France becomes the latest as Prime Minister Jean-Marc Ayrault plans to erect new controls on cash transactions in order to tighten up tax collection and meet the country's optimistic budget deficit target of 3% of GDP. The government needs euros and they need some fast.

In the government plan labeled "Fight against fraud," France's fiscal residents would see the cash transaction limit decrease from €3,000 to €1,000 per purchase. However, in a nod to the exiled wealthy and what Wolf Richter calls the "Depardieu exception," those fiscal residents of a country other than France would have their cash transaction limits reduced from €15,000 to €10,000 per purchase. Legislative measures could be finalized by the end of 2013.

Richter illustrates the ban's impact with an example of purchasing a used car: "two crisp 500-euro bills and a single coin -- voilà, an illegal transaction." Used cars could easily cost more than €1,000 and accepting cash protects the seller, but the larger problem may be finding those 500-euro bills in the first place. While the southern coast of Spain was once believed to have the highest concentration of 500-euro notes in circulation, the distinctive purple bill has become more like the unicorn of Europe because they are rarely seen. The UK banned the sale of 500-euro notes at exchange offices in 2010.

"It has long been the dream of collectivists and technocratic elites to eliminate the semi-unregulated cash economy and black markets in order to maximise taxation and to fully control markets," writes Patrick Henningsen at the Centre for Research on Globalization. "If the cashless society is ushered in, they will have near complete control over the lives of individual people."

The anti-cashists have escalated this sad drama to a point where it has become like boiling a frog. The limits are incrementally lowered and lowered until one day, people wake up and realize that only fully traceable transactions are permitted in the new cashless society.

In many regions around the world, a strong and vibrant cash economy is actually underpinning the faltering national economies that no longer offer sufficient mainstream opportunities for their citizens. By some estimates, the global off-the-grid economy represents $10 trillion worth of economic activity per year. People will produce, consume, and trade in order to survive and bearer cash plays a critical role in that process.

The futuristic cashless society is marketed as being ultra-modern and at the forefront of technology. However, it is more like the last gasp of a dying behemoth and it is the poor that will suffer the most.

In responding to Simon's Black's description of Emperor Diocletian's 3rd-century tax reforms in All Transactions To Be Conducted In The Presence Of A Tax Collector, a reader commented that "Tax evasion always increases along with the tax burden." He continued, "In fact, it acts as a safety-valve against rebellion.  Since the rich will always have means to escape heavy taxation, the burden of bloated government bureaucracy will eventually fall the heaviest on those of lesser means."

Is there anywhere left to go if you don't welcome the fully-traceable cashless society? Spain recently banned cash transactions above 2,500 euros and Italy banned cash transactions above 1,000 euros.

France and other anti-cashist countries could quickly become nations of smurfs, referring to the practice of smurfing, which is a method of structuring cash transactions into smaller deposits of money to avoid cash reporting requirements.

Finance Without Fingerprints

American Banker aired this encouraging financial privacy video on Friday, February 15, 2013:
 

Physical cash is on its way out and won't be missed, but even in an all-digital future the option of anonymous, untraceable consumer payments must remain, Executive Editor Marc Hochstein argues. Bitcoin and past digital cash schemes show it is technically feasible and that banks can play a role. But regulations and the industry's conservatism augur poorly for payment privacy, and a frank and open debate will be required.

Related Articles:
A Dystopian Vision of Banking from the 'Mad Men' Era
Why Some Payments Should Remain Anonymous 

Will Banks Ever Be Digital Privacy 'Heroes'?

Government Ban On Bitcoin Would Fail Miserably

By Jon Matonis
Forbes
Monday, January 28, 2013

http://www.forbes.com/sites/jonmatonis/2013/01/28/government-ban-on-bitcoin-would-fail-miserably/

In a blog post last week at Unqualified Reservations, the author described a fictitious account of how bitcoin dies because a "DOJ indictment is unsealed" naming any and all BTC exchange operators as criminal defendants and the "BTC/USD price falls to zero and remains there."

While this U.S.-centric plot would seem more plausible in a cryptographic flaw scenario, it does bring to light some interesting game theory strategies for both regulators and free market monetary proponents. Aside from the impact on price, would a government ban on bitcoin, including a direct ban for law-abiding merchants, shrink the available size of the so-called bitcoin market? Is an officially "illegitimate" bitcoin a useless thing?

I maintain that a government ban on bitcoin would be about as effective as alcohol prohibition was in the 1920s. Government prohibition doesn't even do a good job of keeping drugs out of prisons. The demand for an item, in this case digital cash with user-defined levels of privacy, does not simply evaporate in the face of a jurisdictional ban. One could even make the case that it becomes stronger because an official recognition that Bitcoin is not only a "renegade" currency but a "so-effective-it-had-to-be-banned" currency would imbue the cryptographic money with larger than life qualities.

Ironically, the ban would create something like the Streisand effect for Bitcoin generating an awareness for entire new demographic groups and new classes of society. Unlike alcohol, bitcoin itself might not be considered a consumption good but it certainly makes it easier to acquire and sell certain consumption goods.

The under-banked people of System D would awaken to using bitcoin for eliminating onerous fees or the risk of handling cash. The individuals seeking drugs without violence or prescriptions would understand the imperviousness of sites like the agorist Silk Road. The anti-banking crowd would race to get their hands on some bitcoin as a symbolic gesture to weaken bankers' firm grip on payments. The pro-gambling casino people would all of a sudden realize how play money bitcoin bypasses the ridiculous and religious anti-gambling laws. The asset protection wealth managers would start to become fascinated with esoteric things like deterministic brainwallets and Tor.

Which brings us to the giddy, pro-banking-integration spokespeople for Bitcoin that tend towards full compliance because it's required or, worse, preemptive compliance because they believe it to be safe. What happens to their rosy world when bitcoin exchanges can no longer operate in the open without fear of State retaliation? After all, they were patiently counting on 'railroad tracks' and connected links with existing financial institutions to grant Bitcoin a legitimacy mandate.

Now with burgeoning covert and in-person exchange opportunities plus a variety of reliable exchanges operating outside of the U.S., the Bitcoin of our fictional story is far from fading into obscurity. Conversely, it is the ambitious opportunities for crony capitalism that fade into obscurity because a closed-loop bitcoin economy not requiring meatspace exchanges would emerge and accelerate.

One doesn't drive Bitcoin underground. A free Bitcoin was designed to be 'underground' for its own survival otherwise it wouldn't need such an inefficient, decentralized block chain. The low-cost and non-reversible bitcoin transactions that appeal to mainstream commerce are merely byproducts of a mutinous system that doesn't rely on trusted third parties. Joel Bowman writing at The Daily Reckoning clearly recognizes that bitcoin's future doesn't depend on State legitimacy let alone low-cost sanctioned transactions:

"In the end, bitcoin is a bet on the other side of The State’s coin; the free market side. It’s a bet that voluntary trade will, in the end, overcome neanderthalic force and coercion. It’s a wager that the conversation currently underway in the shadowy 'black' market is far more intriguing, far more complex, far more nuanced and exceedingly more interesting than the yip-yapping that distracts the undead, mainstream TV-consumer for an hour or so around feeding time every evening."

I would add that it's also a bet on income and consumption privacy becoming the norm over 'reportable earnings' and invasive transaction tracking. It's a bet that career mobility and independent contractor businesses will eventually outstrip the growth of the corporate wage-slave population. It's a bet that the degree of an individual's financial privacy is selected solely by the individual and not by what the State reluctantly permits.

Prohibiting bitcoin is the opposite of what a rational game theorist would conclude. But are our regulatory overlords smart enough to advocate a hands-off policy? If the State cannot plausibly ban bitcoin, why would they want to give it the additional power to grow and propagate? Bitcoin challenges the State as monetary sovereign and that has grave implications for their monetary authority and quasi-peaceful taxing authority. A savvy and smart regulator would seek to avoid the confrontation that "Old Bitcoin Radical" foresees.

Their best response to Bitcoin is irrelevancy, or failing that, extreme gold-like market manipulation for as long as possible. The end game for the State is perpetuating the fiat myth -- their fiat myth not the populace's cryptographic Bitcoin myth. They have always known that faith in money is a mass illusion, however they never considered that they wouldn't be in charge of the illusion.

In the meantime, just enjoy the spectacle and relax people for mining bitcoin, holding bitcoin, sending bitcoin, and receiving bitcoin is not against the law in any country in the world.