Greed isn’t good: 3 reasons not to bite on bitcoin

Recently, my editor at this intrepid publication told me he was going to start paying me in bitcoins. Like any logical person, I responded by punching him in the face.

“But why, Bob?” he cried — literally. It was embarrassing. “Bitcoin is a virtual currency, Bob. That’s way better than the plain old U.S. dollar,” he whined, holding his bleeding nose. I should’ve known the blubberer and the bubbler would be one and the same.

If you ask me — by default, you are, simply because you’re reading now — bitcoin is an overrated techno-bubble. Bitcoin works fine for now (sort of), but if you’re thinking about retiring on a big bag of bitcoins, you can look forward to living out your golden years in a sparsely furnished refrigerator box on the corner of Broke and Why Me.

Those just returning from seven years of silence in a Tibetan monastery may not be familiar with the financial fad that is bitcoin. I’ll let its Wikipedia entry sum it up:

Bitcoin is an open source peer-to-peer payment network and digital currency introduced in 2009 by pseudonymous developer “Satoshi Nakamoto”. Bitcoin has been called a cryptocurrency because it uses public-key cryptography to secure funds. Users send payments by broadcasting digitally signed messages that transfer ownership of bitcoins, the unit of currency. A decentralized global network of specialized computers verifies and timestamps all transactions using a proof-of-work system. The operators of these computers, known as “miners”, are rewarded with transaction fees and newly minted bitcoins.

Bitcoin has gained a lot of credence since its inception in 2009, especially among techno-hipsters and people who’ve been burned, scorched, or veritably incinerated in recent years by Wall St. Ponzi artists, hyper-greedy investment banks, lend-crazy mortgage companies, gigantic bailouts based on money our kids haven’t even earned yet, and similar hiccups in our meatspace economy. To them, a virtual currency that works without the need to trust greedy middlemen; isn’t subject to government regulation or taxation; is totally secure and anonymous; and seems to be growing exponentially in value — well, what could be better?

That last bit about exponential growth is probably bitcoin’s main attraction. To put it in the coma-inducing vernacular of economists and mathematicians, the original value of a bitcoin is to the current value of a bitcoin as a chocolate chip cookie is to the state of Montana. (Substitute your smaller object in comparison to vastly larger object of your choice for similar effect.)

Reason 1: What goes up must come down

But this remarkable rise in Bitcoin value is actually the first of three reasons that doom it in the long run. According to NewsBTC, a news site that knows all about the bitcoin market but nothing about humor, the value of a bitcoin was $500 at the beginning of this week and could be $1,000 today or more (in fact, bitcoins were valued at $911.77 at the time of this writing late Thursday evening). This is why my editor thought I’d be thrilled with a bitcoin salary. He’d pay me for a column today and I could buy a space vacation from that annoying blond British guy with the same money tomorrow. But he’s dead wrong.

Nothing that fluctuates in value with such volatility (bitcoins have plunged in value in the past, too) can be considered a currency. Rather, it’s a commodity, like pork bellies, orange juice, or moments of lucidity on Fox News. How can I sell a product for the price of a candy bar today and the price of a Volvo next week? This is great for speculators, but not for folks looking to manage their money over the long term and requiring a currency they can reliably turn liquid to afford goods, services, or the greens fees you so desperately need once you retire. No bank or trader is currently willing to bet against bitcoin value growth, so you can’t count on there being a buyer for your coins when you’re finally ready to sell them.

Reason 2: Middlemen will muck it up

Which brings us to the second reason for Bitcoin’s eventual demise: greedy middlemen. Bitcoin was designed as a peer-to-peer currency, which means it’s not subject to governments, banks, or any kind of transaction intermediary. You can buy, sell, or trade bitcoins with anyone, anywhere, instantly as long as they have an Internet connection and you’re not beholden to any authority in that transaction.

But that’s not to say folks out there aren’t trying glom onto bitcoin transactions for no fun but much profit. All the hype has prompted a wave of venture capital funding to startups looking to build exactly the kind of leeching middleman profit model that bitcoin was designed to avoid.

The latest bucket of funding (which, ironically, comes in dollars, not bitcoins) is the record $25 million that went from venture capitalist firm Andreesen Horowitz to startup Coinbase, which provides a bitcoin digital wallet service that “facilitates bitcoin transactions” between consumers and businesses in exchange for a 1 percent fee — the very definition of “middleman.” There are and have been numerous bitcoin-related ventures in the past, including BitPay, Coinlab, MyBitcoin, and Mt.Gox, to name but a few. Their business models vary, but all are shaving some kind of money off an increasing volume of bitcoin transactions, and not with 100 percent security either.

Reason 3: Secure and anonymous — on the Internet?!

Which segues into reason three for bitcoin’s bombing: It’s billed as totally secure and anonymous — but it’s neither. If you’re expecting more security with a virtual currency based on unbreakable cryptography than you’re seeing with our greedy, evil, white-cat-caressing financial institutions here in the meatspace, you’ll soon be bleeding and blubbering just like my poor editor. Bitcoins are every bit as susceptible to evildoers as the U.S. dollar, though in different (and sometimes not so different) ways.

MyBitcoin, for example, turned out to be fraudulent. Bitcoin exchanges like Mt.Gox have been hacked. It seems that a common model for stealing bitcoins is to initiate a massive denial-of-service attack as a smokescreen and make off with bundles of bitcoins in the confusion. Alternatively, crooks may open a bitcoin wallet service, wait till people deposit lots of coins into their accounts, then shut the site down, take the coins, and vanish.

The bitcoin community warns you of these dangers and advises you not to trust online wallet services (there goes Coinbase) and instead store your bitcoins yourself, only keep them encrypted and air-gapped from the Web. Of course, if your computer or USB hard disk or cloud storage site decides to crash, your bitcoin fortune disappears right along with your email inbox and your family photos. That’s the equivalent of taking your retirement savings, stuffing it into your mattress, and tearfully watching your house burn down when junior has an accident with his chemistry set. Sorry, there’s no FDIC insurance for mattress money or bitcoin bits.

Lastly, there’s bitcoin’s inherent anonymity — a myth like Fenris or Justin Bieber’s likability. In a fantastic post that explains how bitcoin transactions work, author Michael Nielsen points out at a level of detail that had me bleeding and blubbering (brush up on public key cryptopgraphy, digital signatures, and crypto-hashing before reading) that bitcoin transactions can be “de-anonymized” and probably already have been, which is one possible reason why criminal sites based on bitcoin economies, like Silk Road, are being brought down. The fact that bitcoin is so often connected to illegal activities because of its purported anonymity, especially money laundering, is also making a lot people wonder if it will even remain legal in the long run.

Do I want the meager ducats I’m paid for my pearly words of little wisdom dished out in bitcoins? Not so much. I’ll stick with the dollars I’ve got and the evil, soulless financial devils I know, thanks. If they become too much, there’s always my mattress.