Bad Guys, BitCoins, and the Black Market


Fear of a Black Market

Several days ago, my colleagues misters Onies and Daniele and myself were heavily debating whether the professed societal benefits of BitCoins actually outweighed the probable negative social costs. It  was my position that the opportunity one to reverse the trend of income polarization greatly outweighed the negative externalities. However, I was greatly enlightened by our subsequent discussion. One thing that we only as of late realized is that BitCoins, in the same manner it opens markets and lowers barriers to trade, also enables to construction of parallel markets, colloquially  known as “black markets”.

Now, the potential for the rise of these parallel, and usually illegal markets is serious threat that we believe all must consider. This slightly paradoxical since BitCoins are meant to free transactions from the grip of state power and domestic monetary policies. However, although one client might wish to operate outside the traditional market boundaries, it is highly unlikely that he would similarly wish to reside outside of the societal boundaries he enjoys within his domicile. Let us highlight one aspects of the parallel market economy that would be greatly catalyzed by the widespread adoption of BitCoins:

The illegal drug trade:

The mass production of illegal drugs is widely recognized as devastating plague to all peoples of all cultures. A study administered by the United Nations found that in 2005, the global drug market generated approximately $321.6 billion United States dollars., representing almost 1% of  worldwide commerce. Now, as my erudite colleague so lucidly described,  BitCoins easily lends itself to money laundering and the general obfuscation of transactions. Unsurprisingly, one the most significant bottlenecks in the drug trade is the laundering of money from first-world markets to their final destination, generally in clandestine territories far from the reach of the law. A simple internet connection and some capital investment could completely eliminate the most signification obstacles to the flow of currency. Given their savvy and unrelenting determination, it is clearly of the essence that technology such as BitCoins be safeguarded from these depraved men.

Seized weapons and drugs. Hopefully they aren't worth their weight in BitCoins.

It is apparent that there are many issues regarding the illegal drug trade and the viability of BitCoins. However, as you probably already know, it is only one of the many dastardly industries that would broadly benefit from BitCoins. For example, those who run prostitution rings would greatly benefit as it would eliminate all tangible evidence of their perverse pimpery. Amanda Kloer, an abolitionist and author out of Washington, D.C., importantly notes that many of our greatest criminals were only convicted of money-based crimes such as tax evasion. If we let a pivotal tool of law enforcement be squandered by a potentially inviable product, the only appropriate emotion would be shame.

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Bitcoins and the Potential to Uplift Millions

I recently posted about the possible advantages of BitCoins from a financial perspective, and mostly on the level of macroscopic institutions , nation-states, and corporations. However, let me not remind you of the fruits it can bear to individual people.  While the myriad economic boons and pitfalls of BitCoins are apparent, we cannot forget the implications it holds for the future of society and its potential to empower individuals. For example, one of the most serious obstacles to mitigating the stark income inequality we see between countries would be the universal implementation of BitCoins. It would necessarily establish a common market with which individuals, not corporations nor nation-states, could do international business, and possibly thrive. If a man in Namibia, a country with the second highest level of income inequality in the world, could sell his wares or services at an equitable price to someone in Germany, it would lead to an astounding increase in one’s quality of life.

Wouldn't you love to give this hard working laborer some of your BitCoins?

Furthermore, we previously mentioned that BitCoins as a global reality would greatly diminish, if not entirely eliminate, the nation-state’s ability to conduct monetary policy. This arguably may diminish their purchasing power, but from another perspective, it would simply level the international playing field because essentially, raising ones purchasing power with respect to all others is identical to simply lowering everyone else’s, as purchasing power parity is of course relative. I believe that is only the fallacious modernist view of currency that promotes the status quo, and indeed, provides the constant support for the gold standard. Restricting currency to single nations that can control policy has enormous precedent, and that alone will be a driving force against BitCoin’s adoption. However, unlike previous era’s, I believe we are now quite firmly in a postmodern age where we no longer turn to local powers to effect our desires and in turn, repress the desires of those outside their domain. Rather, I find that BitCoin’s embodies the individualist yet cosmopolitan spirit that lurks within us all. I think it is clear our current level of income inequality is intolerable and unsustainable:

So much of the world's wealth is concentrated in the hands of a few. Maybe a libertarian currency regime can help change that.

BitCoins are a representation of humanity’s desire to broach the confines of history and precedent, and move forward toward a conception in which all barriers to social elevation and self actualization have been eroded. BitCoins might not provide us as much financial security in the short-term, but it would definitely empower us overall.

Bitcoin Laundering

The Problem

The anonymous nature of Bitcoins is a curse and a blessing. It’s a blessing for illegal goods traders and money launderers but a curse for government authorities trying to stop them.

As Bitcoin’s popularity increases, the number of merchants accepting them also increases. This in turn keeps Bitcoin’s valuation high. There are even services to convert Bitcoins into Credit Cards so that they can be used in traditional brick and mortar businesses. This ease of convertibility has introduced a very prevalent problem amongst all anonymous currencies: Money Laundering.

There are sites that already take a small commission to “launder” your coins. Essentially they would send Bitcoin from one address to another (depending on how many times you want it cycled), until it reaches a final destination. Since Bitcoin wallet address are easy to generate, it makes it very easy to send coins from one arbitrary address to another just to make the digital trail a lot more confusing. Since these laundry sites charge only a very small commission, it makes Bitcoins a very lucrative currency to conduct illegal business in. I would like to argue though, that Bitcoins, in fact, help the authorities, and are an aide in tracking down criminals.

To understand my argument, the routine of a criminal needs to be examined: If criminal A wants to transfer money to criminal B for X goods, A would send coins to the laundry and ask it to be cycled a random amount of times before finally delivering to B. Once B receives the Bitcoins, B will cycle it a few more times before sending it to one of the converting sites to convert it into standard currency. But here’s the caveat:  All the transactions that were made are recorded openly in the Bitcoin database.

The Analysis

The Bitcoin system is very transparent, yet secure. Everyone contains at least a partial copy of the transaction history. This means that if the FBI wanted to track down these criminals they would only need to find the origin address. After that, tracking the final address would be trivial. They would have to search the Bitcoin database for all the origin address related transactions, and then trace it down until the final receiving address. The Bitcoin laundering only delayed this process. Now that there is a final address, the FBI needs to tie the address to a name. If the final address is tied to a well known converter, it would be easy to catch criminal B.

There are a few issues here though. The converter could be an anonymous user on the Tor Network. This would mean that they can’t be tracked with their IP, which makes tracing much harder. There is also a chance that the Bitcoins could have been converted by an average Joe who sent the criminal a gift certificate for a certain number of Bitcoins, which also makes tracing harder.

Comparison to the US Dollar

These problems make it a lot more difficult to solve the money laundering problem, but its not so bad when compared to physical US Dollars. When US Dollars change hands, there is no way to track how many times in changed hands. There is no history on each bill. In fact, I would argue, that its much safer to launder Dollars because it cannot be traced back to a single person, unless the initial currency was purposely planted and marked. It’s harder to launder Dollars because they are physical items and require a physical location to store them, but that is rarely a concern for criminals. This is evident by the tons of drugs and money criminals store in their homes.

Money Laundering is a serious problem that needs to be tackled, but Bitcoin is not alone in being a victim of this misuse.  For every physical, anonymous currency this is a problem. It’s just that with Bitcoins, money laundering has moved to a new domain – the internet. To continue hindering launderers, the relevant authorities need to keep up with current trends, and today Bitcoins seems to be the trend.

200,000% Gain in One Year

One year ago today a Bitcoin was worth $.005USD. Yesterday, the value of a Bitcoin peaked at $10.50USD representing a 200,000% gain.

In just the past three months, the Bitcoin to USD exchange rate has skyrocketed from $3USD per Bitcoin (BTC) to over $10USD per BTC. As of May 2011, there are over 6.2 million Bitcoins in existence having a market capitalization of $62,000,000USD by today’s exchange rate of approximately $10USD per BTC. The graph below is a snapshot of BTC to USD exchange rate trends since March 2011.

Bitcoin to USD exchange rate from 03/11 to 06/11 Source: bitcoincharts.com

The increase in Bitcoin value immediately caused a surge in press in mainstream media and in the blogosphere. NPR, The New York TimesTechCrunch, and Gizmodo have all published articles on the phenomenon in just the past few weeks. Bitcoin’s momentum at this time is undeniable, and it does not seem to be going anywhere. The graph below represents the number of Google searches for the word “Bitcoin” per day:

Google trends data illustrates the recent spike in Bitcoin popularity. Source: trends.google.com

While Bitcoin becoming a dominant currency and replacing a currency like the U.S. dollar is extremely unlikely, Bitcoin’s success can be attributed to the currency’s advantages over other means of payments in certain transactions. Bitcoin is arguably the easiest individual-to-individual digital payment method; with no outside oversight or transaction fees, transferring Bitcoin ownership is much like transferring physical notes from individual to individual. In countries with poor payment infrastructure, for example, Bitcoin payments represent a more cost-efficient and safe alternative to services such as Paypal. Thus, as the idea of Bitcoin spreads due to the viral nature of the internet, it would be no surprise to see society’s faith in Bitcoin grow leading to even higher exchange rates in the near future.