Bitcoin: What Is It?
If you use your debit or credit card to pay for things, you are a step closer to using so-called cyber currency -- but you're not there yet. There is a form of money that exists only on the internet and that's not created by a central bank. In fact, there's more than one form of that kind of currency; but one called bitcoin has become the biggest, and now, the most scrutinized.
In a world of virtual reality, it was only a matter of time before virtual money came along. It's called the bitcoin and it is being used as currency. But obtaining it and even understanding it takes quite a bit of work.
“It's kind of esoteric and it's sort of hard to wrap your head around,” said David Adler, intellectual property lawyer. “It's based on cryptography, and bitcoins are basically generated out of nothing by running very complex algorithms that use a fair amount of computer processing power to calculate and verify transactions.”
Bitcoins exist only digitally. They're used the same way as cash, but mostly among techies like Carl Arriaza. He runs his own business providing IT services to small businesses. And he was quick to jump on the bitcoin bandwagon.
“Right now, in this stage, it's a form of bartering,” said Arriaza. “I've bought computer stuff, computer equipment from individuals, used equipment that I needed for my job. I would send them coins and pay that way, and that was with other techie people. Also, when I sell stuff on Craigslist, I do accept bitcoin and I've used that as a way, as a medium of exchange.”
That’s where bitcoin differs from currency backed by a central bank. Here is how a bitcoin-promoting website describes it:
“Bitcoins are transferred directly from person to person via the net without going through a bank or clearing house. This means that the fees are much lower, you can use them in every country, your account cannot be frozen, and there are no prerequisites or arbitrary limits,” the video says.
It sounds simple, but it gets complicated. Getting your cyberhands on a bitcoin takes some advanced computing skills.
“Bitcoins are generated all over the internet by anybody running a free application called a bitcoin miner. Mining requires a certain amount of work for each block of coins. This amount is automatically adjusted by the network such that bitcoins are always created at a predictable and limited rate,” according to the video.
To some observers, Bitcoin is the wild west of currency.
“What bitcoin gives people is high degree of fluidity. They're very easily exchanged amongst people on the system. There's really no oversight, nobody who knows, or who’s tracking these transactions,” said Adler. “There are no regulations that govern how bitcoins are minted or created, or how they're exchanged, or any control to the people involved with distributing them or storing them, much the way there is with other forms of currency.”
And that's why governments around the world are starting to take notice of bitcoin. The Central Bank of Thailand recently outlawed the cybercurrency until it files paperwork registering with that country's financial system. Germany, on the other hand, has formally recognized it, subjecting bitcoin transactions to the country's high tax rates.
The United States meanwhile is taking bitcoin very seriously. Over the last several months, the U.S. Department of Homeland Security has seized more than $5 million from a company called Mt. Gox, which calls itself the world's largest bitcoin exchange. Officials say the Tokyo-based exchange failed to register in the U.S. as a money-transmitting company.
In a speech earlier this summer, Jennifer Shasky Calvery, the director of the Financial Crimes Enforcement Network of the U.S. Treasury Department, told an audience that while officials recognize "the innovation...virtual currencies provide" and "the financial inclusion they might offer society," she also said that virtual currencies "have registration requirements...record keeping and reporting responsibilities…And if they do so, they have nothing to fear from the Treasury."
What the U.S. Treasury and international governments fear is that bitcoin, and any other virtual currencies that come along, can very easily go rogue.
At a bitcoin conference in California earlier this year, former federal prosecutor Brian Klein laid out why governments are increasing their monitoring of cybercurrencies.
“I think the worry from law enforcement, if I were still a federal prosecutor, would be bitcoins being used by drug lords. It’s being used to launder money. It’s being used by terrorist organizations. And we can’t trace this, we can’t follow this, we’re suspicious,” said Klein.
Randall Kroszner is a former governor of the Federal Reserve System and is now professor at the University of Chicago. He says it may be just a matter of time before bitcoin and any other cybercurrencies become federally regulated.
“The key is making sure that this doesn't have any potential to destabilize the payment system, or destabilize the markets,” said Kroszner. “And so, much like many other wire transfer systems, they have to register, they have to make sure that customer accounts are properly monitored. I think it'd be very important to have those same kind of safeguards here.”
Bitcoin started early in 2009 when the complex computer program was quietly and anonymously unleashed on the world wide web. Its creator went by the name of Satoshi Nakamoto.
But earlier this year, the Chicago-born tech genius Ted Nelson posted a YouTube video where he says he used his best Sherlock Holmes detective work to solve the mystery of Nakamoto.
“I declare that the true identity of Satoshi Nakamoto, the great economist, the great social engineer, the great computer scientist and the dance away genius is none other than Shinichi Mochizuki, research professor of mathematics at Kyoto University,” Nelson said in his video.
The famed and reclusive Japanese mathematician has neither confirmed nor denied Nelson's hypothesis. In the meantime, some other big names are jumping onto the bitcoin bandwagon. The Winklevoss twins, best known for being on the losing end of Facebook, have reportedly invested $11 million into the cybercurrency.
The value of the coin itself has fluctuated wildly since its introduction from being nearly worthless a year and half ago, to reaching its all-time high earlier this year of nearly$ 270 per coin. It is currently trading at around $130 per coin. It's led to more wannabe virtual currencies, such as one called Litecoin, trying to get a foothold in the cybercurrency movement. Which begs the question: is this the future of money?
“We are, you know, every day marching closer and closer toward a true global economy where transactions are borderless and timeless,” said Adler.
But for the foreseeable future, don't give up on your dollars and cents.
The oversight of bitcoin is heating up. In New York, officials this month issued subpoenas to 22 businesses that use bitcoin asking for information about how they prevent money laundering and ensure consumer protection.
Meanwhile, Federal Reserve, FBI and Treasury Department officials met with bitcoin lobbyists this week to hear how the cybercurrency is complying with federal law.