Bitcoin in government crosshairs

Lobbyists for the virtual currency are cozying up to the government —€“ and purists hate it

Patrick Murck, general counsel with the Bitcoin Foundation, testifies at a U.S. Senate hearing Monday.
Andrew Harrer/Bloomberg/Getty Images

Bitcoin's roller-coaster dips and spikes and much-publicized association with black markets have put the virtual currency in the crosshairs of government. While Bitcoin's most polished public advocates, including top programmers, have advocated closer cooperation with regulators as the only path forward, a vocal branch of purists has begun fighting back.

On Monday the top lawyer for the Bitcoin Foundation — the currency's de facto lobbying arm — appeared before the Senate Committee on Homeland Security to argue that Bitcoin was "not a unique or unsolvable threat." Patrick Murck, the foundation's general counsel, studiously avoided mentioning the words that dominated the first half of the afternoon hearing: Silk Road. The multibillion-dollar online market — which relied on the near anonymity of using bitcoins to sell guns, drugs and other merchandise and was shut down on Oct. 1 — has become Bitcoin advocates' biggest bugbear. It has spawned a slew of negative press, poisoning the atmosphere around enthusiasts' efforts to make the currency a new and improved PayPal.

"Rather than belabor the overwrought headlines," said Murck, "we should be congratulating the law-enforcement community."

Silk Road's demise coincided with accelerated federal and state efforts to regulate virtual currencies. In March, the Treasury Department's Financial Crimes Enforcement Network instructed exchanges where bitcoins are bought and sold to register as "money services businesses," putting them in the same category as Western Union and mandating independent audits and suspicious-activity reports. In May and June, the government seized roughly $5 million from the world's biggest Bitcoin exchange, Mt. Gox, which had opened U.S. bank accounts with Wells Fargo without registering under the new guidelines.

On Thursday, the New York Department of Financial Services announced that it would hold a hearing to discuss regulating virtual currencies, possibly by issuing BitLicenses specially tailored for them. Department chief Benjamin Lawsky, citing the Silk Road case, said that while Bitcoin and other virtual currencies could have legitimate uses, evidence showed that "the cloak of anonymity … has helped support dangerous criminal activity."

According to government prosecutors, Silk Road generated more than 9.5 million bitcoins in sales, or roughly $5 billion. The site earned more than 600,000 bitcoins in commissions — amounting to about 5 percent of all the bitcoins in existence — which flowed into addresses controlled by its creator, the pseudonymous Dread Pirate Roberts, a man the government has alleged to be 29-year-old San Francisco resident Ross William Ulbricht. (Ulbricht's lawyer, Joshua Dratel, has said Ulbricht is not Dread Pirate Roberts.)

The government regulators and law-enforcement officials who testified at the hearing on Monday said they did not consider Bitcoin inherently illegal and downplayed the usefulness of decentralized, virtual currencies to criminals.

"High-level international cybercriminals have by and large not gravitated toward the peer-to-peer virtual currencies like Bitcoin," said Edward Lowery, chief of the Secret Service's Criminal Investigation Division. The biggest criminals seemed to prefer using normal currencies and operating in countries with lax enforcement, he said.

But federal investigators have tiptoed toward a more negative view. In a Sept. 27 affidavit for Ulbricht's arrest, FBI special agent Christopher Tarbell wrote that Silk Road's use of Bitcoin and "tumblers," which route each purchase through a maze of dummy transactions, amounted to money laundering and that the "only function" of tumblers was to "launder criminal proceeds." The Electronic Frontier Foundation (EFF), an advocate for Internet freedom, has called such a stance "incredibly dangerous" for personal privacy.

"It's essential that the use of encryption, anonymization techniques and other privacy practices is not deemed a suspicious activity," EFF activist Parker Higgins wrote.

Federal investigators have so far managed to seize only about 174,000 of Silk Road's Bitcoin commissions, and some Bitcoin enthusiasts have interpreted the seizures as an endorsement of the currency. In any case, it is unlikely that the Justice Department has ever confiscated such volatile contraband: From Saturday to Sunday, the value of its Bitcoin holdings increased by $11 million, and with the market often gaining or losing half its value in the span of days, they could be worth next to nothing tomorrow.

Philosophical divide

For years, Bitcoin's ambassadors have said they need to work with government to thaw a widespread attitude of distrust. Even today, Murck testified, businesses that include Bitcoin in their name or registration documents often find themselves denied by banks. The lobbying has begun to pay off, and already some regulators have embraced the currency: Earlier this month, lawyers for the Federal Election Commission recommended that bitcoins be allowed as in-kind donations to political campaigns, which would have to convert the electronic funds to dollars before using them.

But prominent pro-regulation figures on the Bitcoin Foundation's board, who are elected by dues-paying members, have run into objections from an indignant wing of Bitcoin enthusiasts fronted by Cody Wilson, best known as the leading proponent of a project to build 3-D-printable open-source guns, and Amir Taaki, a self-identified "crypto-anarchist" computer programmer. The two have announced plans to develop software called Dark Wallet, a tool they hope will make the service easier for users and make Bitcoin transactions even more anonymous.

Wilson, Taaki and like-minded Bitcoin backers tend to view the foundation with suspicion, and they have accused its members of betraying the principles of independence and anonymity they see as at the heart of the vision for the currency laid out by its pseudonymous creator, Satoshi Nakamoto, in 2008. Murck's testimony on Monday was ambivalent: He said that future editions of Bitcoin software might allow for better identity verification but said Bitcoin users already faced problems maintaining their anonymity.

Nevertheless, Wilson and others disapprove of the way in which members of the foundation have agreed to meetings with federal officials, including a presentation that Gavin Andresen, the foundation's chief scientist, gave to the Central Intelligence Agency in 2011. Some were also disappointed in October when Mike Hearn, a Google programmer and foundation member, cheered the fall of Silk Road as "fantastic news."

Peter Vessenes, the foundation's chairman and a founder of a start-up called CoinLab, which aims to incubate new Bitcoin businesses, came under fire when CoinLab sued Mt. Gox in May for breach of contract, demanding $75 million in damages.

Mt. Gox had failed, CoinLab said, to transfer all its U.S.- and Canada-based exchange capabilities as part of a deal that would have made CoinLab the largest bitcoin exchange in North America. A court victory could prove fatal to Mt. Gox, and the Japan-based company has claimed in a countersuit that CoinLab holds $5 million worth of Mt. Gox users' money and failed to register as a money services business, rendering their contract void. To critics, Vessenes' lawsuit — and CoinLab's ongoing legal troubles — are evidence of a malicious mind-set and dishonest business practices among Bitcoin's most influential figures.

Andresen, the leading developer of Bitcoin's programming, removed Taaki from an email list that discussed security issues among Bitcoin programmers after a British trading platform Taaki had worked for, Bitcoinica, lost roughly 62,000 bitcoins to thieves over three months in 2012. The two have feuded publicly on, the main message board for the currency's followers and users.

"I think the treatment from you, Mike, et al. has been downright cu--ish at times," Taaki wrote earlier this month, in a thread advertising Dark Wallet. He asked Andresen why he hadn't been placed back on the email list.

"Bottom line is I don't trust you," Andresen responded.

Hearn, who recently has received press coverage for his public outrage over revelations that the National Security Agency secretly tapped into Google's private data-center links, derided Wilson and Taaki's programming skills and their effort to promote themselves as rebels with a website that reads, in part, "We will launder our money. We will buy drugs online."

"A big chunk of the Dark Wallet website is not even about technical matters but is just a giant conspiracy theory about the foundation, Gavin and me," Hearn wrote on the thread. "Apparently we serve 'wealthy business interests' or some s---."

He also outlined a strategy that he thought could help Bitcoin survive upcoming government scrutiny. The currency's leaders, he wrote, needed to learn from the experience of PayPal, which came under "severe government assault" in the 2000s but survived by signing up a huge number of users and being bought by eBay in 2002 for $1.5 billion.

"Ultimately the only way to avoid shutdown and jail (in the United States) is a combination of finding ways to work within the rules and building up a large enough user base, quickly enough, to give political cover," Hearn wrote.

Bitcoin's objective, Andresen wrote in 2011, should be to "create a more competitive and efficient international payment system and give people more direct control over their finances." Such a goal was not incompatible with the government's purposes, he wrote.

If Bitcoin needs anything, it needs 100 Silk Roads.

The outcome of Bitcoin's internal philosophical struggle is not inconsequential. Andresen, Hearn, Vessenes and other programmers already act, according to analysts, as de facto governors of Bitcoin.

"The lead developers of this software are respected in the community, and their opinions tend to carry weight," three Princeton University researchers wrote in a June paper on the economics of Bitcoin mining. "Because putting into practice any rule changes requires changing the reference software … the lead developers have their hands on the levers of power, such as they exist. They seem to be the natural leaders of the community."

The importance of such leadership was evident when Bitcoin's volunteer programmers tried to upgrade the currency's software in March. For a brief period, users were operating with two different and incompatible versions of Bitcoin, a split that, by the nature of its programming, could have turned Bitcoin into two different currencies. Andresen and others helped convince users to switch back to the previous version, preventing a crisis, and it's likely that they will continue to make such key programming decisions.

For Wilson, Andresen's justifications are the milquetoast rationalizations of a libertarian in name only who won't challenge what the government tells him.

Wilson has a history as a libertarian firebrand: His support for easily distributable firearms and anonymous currencies dovetails with his earlier calls for "dismantlement of the state," and by seeking to make Dark Wallet the most widely available way to hide Bitcoin transactions and make them anonymous, he intends to challenge what he told Al Jazeera was the foundation's desire to "turn Bitcoin into PayPal Plus."

The foundation's willingness to work with the government represented "the ultimate Stockholm syndrome," he said. "If Bitcoin needs anything, it needs 100 Silk Roads."

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