US Homeland Security Slaps Bitcoin Exchange

This seems to be the month that government discovered the internet and noticed that it is a big deal. People are doing all kinds of things, like sharing files, inventing new things, distributing stuff to the world, and finding new ways to trade that improve on official systems of the past.

It kind of looks like freedom, even anarchy. Therefore, it must be stopped, and that includes rogue attempts to reinvent money itself.

The US Department of Homeland Security sent a note to a dollar-payment service called Dwolla. This service allows spending and receiving money outside the credit card and banking system — and free of cumbersome banking regulations.

It is a service like PayPal, but more modern because it is faster and more convenient and integrates with social media like Facebook.

But a major reason why people were interested in this service is that the company had an agreement with Mt. Gox, the world’s largest Bitcoin exchange, which resides in Japan.

Because Mt. Gox does not allow you to link directly to your bank account, Dwolla works as an intermediary through which you can acquire and sell Bitcoins. You could get a Mt. Gox account with Dwolla.

This week, the DHS sent a warrant to Dwolla that demanded it stop all money flows to and from the US-based pass-through for Mt. Gox, its service company Mutum Sigillum. The warrant further suggested that it would seize dollar funds from that particular account pending an investigation.

An investigation into what? The warrant revealed what was going on: Mt. Gox had not complied with US regulations that every institution exchanging money needs to be registered with the Treasury Department as an actual money exchange service with the US government. The warrant has alleged that Mt. Gox has failed to do this. In fact, it provided seemingly clear evidence.

Mt. Gox is famously compliant with Japanese law, but it has apparently been neglectful with US regulations. This was something of a revelation to the entire community that watches this industry closely.

Essentially, the warrant sent a warning: Mt. Gox needs to get with it and agree to be overseen by the global imperial masters, and quick. Mt. Gox is probably undertaking efforts right now to comply.

For Dwolla, this is a bad deal, even if temporary. It just received $16.5 million in venture capital money to push out its operations further. How much does its business model depend on its use as a gateway to Bitcoin exchanges? That information is not public, but my own suspicion is that it must be an important part of its business.

Upon the announcement, some American clients of Mt. Gox immediately (naively) started converting Bitcoins back to dollars, contributing to a temporary price dip. But if you think about it, this is an irrational reaction. Dollars can be seized. Bitcoins cannot, because they exist on the blockchain itself and are held by their owners. The exchanges are there just to buy and sell.

More tech-savvy American clients of Bitcoin took an easier path and transferred their Bitcoins from Mt. Gox accounts to accounts in other exchanges and wallets, like CampBX and Coinbase.

Luckily, Bitcoins make it simple. Just bundle up your Bitcoins and send them to a new wallet.

If you choose not to do this, what is the worst that can happen? You might face outages that will slow down your ability to convert in and out of Bitcoins. But again, you lose nothing.

This is part of the beauty of this currency. Government can’t touch it. Not even the DHS can make this money go away, and it highlights one of the greatest features of Bitcoins and a reason for the global interest.

Bitcoin itself is code. And there is nothing that regulators can do to make code go away. No matter how many takedown orders they issue, no matter how many press conferences they hold, no matter how many owners of institutions they harass and hector, the information itself lives — like a song that can be sung by anyone.

In many ways, this incident shores up the sturdiness of Bitcoins, a fact reflected in the seeming firmness of its exchange rate. It started the day at $118, dipped to $103, but then recovered to trade at $112. It has remained there. This is incredible resilience: surviving the biggest attack yet on the emerging currency.

In other words, the existing rate already factors in the possibility of various forms of government intervention.

What does this mean for the future? It’s bad for Mt. Gox. It will become compliant, and Dwolla dealings will probably come back — perhaps in a few months. But it is another blow against this company and people’s confidence in it. It will always have a market share. But its two-thirds monopoly on exchange functions is going to slip further and further.

Even though many people in the Bitcoin community will celebrate the decline of Mt. Gox (it is rather unpopular because of its instability), it is never a good thing for an institution to be subject to regulatory harassment.

This raises the question: is this just the beginning of a widespread attack or an isolated investigation that will subside in a matter of weeks? Opinion runs both directions. But one thing is curious here: Dwolla’s relationship with CampBX has not been targeted. That survives intact, a fact that suggests this intervention really is specific and targeted, not general.

Again, despite the media hype, there is zero evidence that this is an attack on digital currency. This is a regulatory intervention against one sector of one company — a very simple and completely expected demand that it comply with rules everyone else has to obey.

Regardless of these interventions, your Bitcoins are yours, and no one can take them from you.

Regulators are going to be causing problems for Bitcoin for years to come, creating what Robert Higgs calls ‘regime uncertainty’. No one knows for sure what the government is going to do next — and this inhibits the progress of institutions and the development of trading value.

My takeaway from this incident: It makes sense to deal with those exchanges that do comply.

This is a digital age, and the government cannot finally control it.


Jeffrey Tucker
for Markets and Money

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