Bitcoin: The Heisenberg of Currencies

Highlights:

  • The limit on the total number of Bitcoin that can be produced makes it unlikely that the currency will be able to scale with growing economies over time.
  • Bitcoin’s rise to commercial viability is a gaudy demonstration of the power electronic currencies can exert on global financial institutions.
  • Bitcoin and its successors will continue to challenge the way online payment systems are operated by businesses, institutions and governments over the next decade. 

It has been just over a year since Breaking Bad aired its finale on AMC. The crime drama follows the story of a high school chemistry teacher that adopts a life as a methamphetamine producer after being diagnosed with terminal lung cancer.  As the thousands of fans of Breaking Bad will attest, the above description barely skims the surface of the extraordinarily complex plot the show develops.

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The world was first introduced to the show’s protagonist, Walter White in January 2008. At the same time, US and global economies were beginning to experience the first symptoms of what transformed into a worldwide recession. The recession has been explored and studied in great detail. While there is no single cause that can be attributed to the sharp global economic decline, there is no doubt that the financial institutions responsible for maintaining the integrity of our economy failed to perform as we expected. The collapse of the subprime mortgage industry brought it with it an interbank credit crisis that culminated in a federally authorized bailout of $700 billion in the form of the Troubled Asset Relief Program (TARP). While the program may have succeeded in alleviating the pressure on the economy, it would not be able to undo the more enduring effect of the recession- loss of trust in our financial institutions.

Just 28 days after TARP was signed into law, a paper was published outlining the design of a peer-to-peer electronic cash system, Bitcoin. The system was purported as a way to circumvent financial institutions entirely when processing transactions on the Internet. The paper was published under the pseudonym Satoshi Nakamoto. Nakamoto described what he believed were the “inherent weaknesses of the trust based model” in which financial institutions were trusted to act as third party mediators for online transactions. He suggested, instead, that trust be replaced with cryptographic proof to allow parties to transact with one another without the need for a third party.

Much of the initial traction that Bitcoin gained was due its ability to render online transactions anonymous. This was capitalized upon by various online anonymous marketplaces, such as the Silk Road. The Silk Road, an online black market, operated as a hidden website accessible via Tor, a free browser that enables online anonymity and censorship resistance.

While Walter White’s intentions were pure, the methods he adopted to go about providing for his family crossed ethical and legal boundaries. Similarly, Bitcoin was developed with the idealistic goal of providing an alternative system for online transactions that would reduce dependence on the whims of the financial institutions.  The Silk Road was the first representation of how a pure motive could be manipulated to enable illegal activities.

The Silk Road was shut down by the FBI in October 2013. Its founder, Ross Ulbricht, was arrested on charges of narcotics trafficking and murder-for-hire. A month later, the administrators of the original Silk Road relaunched the site under the name “Silk Road 2.0”. In February 2014, the latest reincarnation of the site became the target of a cyberattack that resulted in hackers making off with nearly $2.7 billion in Bitcoin, the total net worth of the online marketplace’s holdings. The basis of the attack was a weakness of the Bitcoin transaction protocol known as “transaction malleability”. Mt. Gox, a formerly dominant Tokyo-based Bitcoin exchange, was forced to halt all Bitcoin withdrawals in early February due to technical problems caused by the same phenomenon. The same day, Bitcoin prices on the exchange fell to 20% of their original value. The exchange has since suspended trading and announced that around 850,000 Bitcoin belonging to its customers was missing. The total value of the missing Bitcoins was more than $450 million.

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Some have dubbed the issues that Bitcoin has faced over recent months “growing pains”. The greatest strength of Bitcoin, its ability to transfer money without third-party oversight, has also proved to be its greatest weakness.  There are no barriers preventing the creation of new Silk Roads, and nobody to protect the currency from being exploited by hackers. Additionally, Bitcoin is plagued by the absence of an underlying asset. The process through which Bitcoin are earned, “mining”, limits the total number of Bitcoin to 21 million units.

While there is no precedent for a currency that cannot be printed after a certain threshold is reached, it is unlikely that Bitcoin will be able to scale with growing economies over time.. As of September 2014, 13.4 million Bitcoin have been mined. This suggests that the value of Bitcoin over time, as the Bitcoin limit is reached, will continue to rise to astronomical levels.

Walter White’s methamphetamine enterprise had its own series of setbacks over the course of the show’s five seasons. The future of the high school teacher turned criminal mastermind was always uncertain. It is fitting, therefore, that the alias he chose for himself- Heisenberg- was also the name of the scientist that proposed the Uncertainty Principle. The future of Bitcoin as a viable electronic currency is as uncertain as the success of Mr. White’s former empire. The legacy of Bitcoin as the first ever electronic currency that achieved commercial viability, however, is unlikely to fade.

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