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3 Big Misconceptions About Bitcoin

3 Big Misconceptions About Bitcoin
Image credit: Antana

Bitcoin is everywhere these days. In China, which now accounts for 50 percent of the daily global trade in bitcoins, its price has skyrocketed. In the U.S., it was the subject Tuesday of the second of two U.S. Senate hearings. Silicon Valley is betting millions on it, and Ben Bernanke, the top central banker in the U.S., said this week that unregulated virtual currencies "may hold long-term promise."

Not long ago, most people were dismissing Bitcoin as merely a passing fad or a hobby for crypto-geeks, if they knew about it at all. Its quixotic nature was taken as a given, as was its ultimate fate: failure to change the status quo, followed by irrelevance. It wasn't until Bitcoin's exchange value topped $200 in April 2013 that most mainstream media outlets first took notice.

But just because there's more information about Bitcoin out there now doesn't mean you should believe everything you read. Read on to get answers to three major misconceptions about Bitcoin, the world's most popular digital currency.

1. Bitcoin is nothing but digital cash for criminals.
Bitcoin first came to public attention in 2011 as the coin of the realm for Silk Road, an online black market for illegal drugs, fake IDs and other illicit goods and services. In early October, the Federal Bureau of Investigation shut down Silk Road and apprehended its alleged creator, Ross William Ulbricht, in San Francisco. The price of Bitcoin dropped sharply but quickly recovered, and has since attained heights that would have been unfathomable only weeks ago. And yet, even since that bust, the media has lost no opportunity to tie Bitcoin to Silk Road in report after report.

Related: SecondMarket Establishes New Bitcoin Trust for Accredited Investors

Meanwhile, however, there is a growing ecosystem of legitimate Bitcoin companies -- many with investment funding -- and businesses accepting Bitcoin as legal tender. Plug and Play Tech Center, an early investor in PayPal, is starting an accelerator program exclusively for Bitcoin-related startups. Between April and June 2013, investors gave a total of $12 million to Bitcoin startups, according to research firm CB Insights. If anything, the pace of funding seems to be accelerating. Lightspeed Venture Partners, working with its Chinese counterpart, just invested $5 million in BTC China, the world's largest Bitcoin exchange.

Even members of the federal government are pulling back from characterizations of Bitcoin as exclusively the preserve of criminals. "Exploitation by malicious actors is a problem faced by all types of financial services, and is not unique to virtual currency systems," Mythili Raman, the acting assistant attorney general of the Justice Department's criminal division, said Monday in testimony for the U.S. Senate Committee on Homeland Security and Governmental Affairs hearing on virtual currencies.

2. Bitcoin transactions are anonymous and untraceable.
From its inception, Bitcoin has been associated with privacy, even anonymity, because you don't have to provide a Social Security number, bank account or other identifying details in order to transact in Bitcoin. But that doesn't mean your use of Bitcoin is a big secret. In fact, every Bitcoin transaction ever is recorded publicly on something called the blockchain. This public log prevents fraudulent activity such as people spending the same bitcoins twice.

And while it's difficult to trace these public transactions back to the real identities of users, it is not impossible. Researchers from the University of California, San Diego and George Mason University recently created a map of the Bitcoin economy that could be used by law enforcement to track the flow of bitcoins from criminal sources to legitimate companies such as Bitstamp and other exchange services. In the U.S., exchanges are required to obtain identifying personal information from their users, so a subpoena could reveal a criminal's real identity.

Related: Bitcoin Startups Get Their Own Silicon Valley Accelerator

The fact that exchanges require users to verify their identities also makes it difficult to cash out one's ill-gotten gains without getting caught. As Bitcoin developer Jeff Garzik has said, "Attempting major illicit transactions with Bitcoin, given existing statistical analysis techniques deployed in the field by law enforcement, is pretty damned dumb."

3. Mt. Gox is the go-to place for the value of Bitcoin.
For a long time, Tokyo-based exchange Mt. Gox was the top Bitcoin trading platform in the world. This fact has led many casual observers and reporters to cite its price as the price of Bitcoin during various swings in the market. There is just one problem with that practice: for months now, the Mt. Gox price has been artificially inflated.

Why the inflation? It has to do with recent difficulties in withdrawing U.S. funds from Mt. Gox. Because users have found themselves unable to pull their dollars out of the exchange, they are forced to buy bitcoins with those dollars and then transfer the coins elsewhere. Those trades have driven the price on Mt. Gox beyond the price found on Bitstamp, Coinbase and most other exchanges. One way to verify this discrepancy is to visit Bitcoin Average and click the button that says "ignore MTGox for USD/EUR/GBP."

BTC China, which now processes more than one-third of the world's daily Bitcoin transactions, and is open only to Chinese customers, is also overheated. It is somewhat misleading to quote the global price of Bitcoin by simply converting the price in yuan on BTC China to U.S. dollars, because that value is elevated beyond what is achievable on exchanges that transact in dollars.

Related: Bitcoin Hits New All-Time High Ahead of Hearings

Brian Patrick Eha is a freelance journalist and former assistant editor at Entrepreneur.com. He is writing a book about the global phenomenon of Bitcoin for Portfolio, an imprint of Penguin Random House. It will be published in 2015.

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