The Death of Bitcoin or Another MF Global?

The free market is a bitch. Yes I said it–no white washing, no fairytales. Just like real life, the free market is a harsh teacher. Those who grew up having always been told they’re “special” and having received trophies for just showing up may have a hard time accepting the fact that everyone can’t be a winner all of the time.

Today’s coddled society tends to forget that there isn’t always a savior when you get into trouble. The latest victim of a functioning free market is the failure of Bitcoin exchange Mt. Gox.

Mt. Gox was once one of the largest Bitcoin exchanges in the world, but on Friday it filed for bankruptcy. Due to fraud or gross negligence, this failure caught many by surprise and threatens the future adoption of Bitcoin as a currency. The free market has asserted itself, and this time there are no government bailouts that the public has come to expect lately. Free markets do indeed function, but the results are not always positive. There is no room for crybabies, and with the failure of Mt. Gox, there will be rivers of tears from the victims.

Mt. Gox, which is based in Japan, was responsible at one point for about 80% of all of the global trades of this digital currency. A DDoS series of attacks and technical issues appear to have brought one of the best performing speculations over the last five years crashing down in response. Think of it like the New York Stock Exchange having a catastrophic failure and filing for bankruptcy due to counterfeit stock certificates in circulation. Investors are left holding frozen accounts with no idea what the status is of their positions and trades. Utter chaos.

To add insult to injury, as the price of Bitcoin has fallen from over $1,000 just a few months ago to under $150 on Mt. Gox, withdrawals from the Mt. Gox exchange (in both fiat and Bitcoin) were halted a few days ago. With today’s announcement of bankruptcy, the hope of users recovering their holdings looks grim. This turn of events should remind people of the failure of MF Global under former New Jersey Senator and Governor Jon Corzine.

It is not the failure of Bitcoin that is in question here, but rather the failure of one of its main exchanges. Markets rely on the trust of participants in order for there to be adoption of it into the wider populace. Taking a page out of history, the stock market collapse of 1929 resulted in millions of people swearing off ever investing on Wall Street again. It wasn’t until the early 1980s that the masses began to accept the idea of investing personally in stocks and bonds again. Previously, the stock market was dominated by large financial institutions and pension funds. Individual investors, fearing a repeat like 1929, used to keep their stocks in certificate form rather than trust their broker. Bitcoin now faces a similar moment of truth.

The key takeaways are these: Bitcoin wasn’t “hacked,” and its Blockchain ledger actually did work. The problem resulted from the exchange’s failure. And because of its size in the marketplace, the bankruptcy has affected many of the participants in this new digital currency experiment. In essence, though, the exchange (Mt. Gox) wasn’t properly checking and verifying its trades and possibly may have been committing outright fraud.

The existing power structure will no doubt jump on this event swiftly and fiercely but will simultaneously turn a blind eye from their own failures and lies. Nationalizations, debasement, manipulation of interest rates, and currency pegging should all be things to which the public pays attention. Realistically, though, as long as the word “government” is featured somewhere in the title, the average man on the street remains apathetic, while the financial alchemists work their black magic on the public’s currency.

Unfortunately, this exchange’s failure will soon be the topic du jour of every central banker while they go about their own shenanigans. Convenient calls for more government control will soon spring up, as “solutions” to this “problem” should not be too far behind. Do as I say, not as I do–the ever-predictable mantra of compromised leaders.

There is, however, an upside to this exchange’s failure: stronger markets are forged in the furnace of adversity. The painful lesson learned here should actually serve to further strengthen the Bitcoin market in the future. It seems counter intuitive, but it’s true. Airline pre-flight safety checklists are written in the blood of its previous victims, and this is not really that different.

The current Bitcoin holders who have their funds with Mt. Gox are in for months of pain, much like the MF Global account holders endured. The timeframe for any restitution and the exact dollar amount of the losses is still unknown, but best estimates are in the $470 million dollar range. Bitcoin can survive this. In order for this to happen, its users must maintain confidence in Bitcoin as a currency while the other Bitcoin exchanges show they are more fastidious in their verification processes.

The fundamental problem in our modern monetary system is that our mediums of exchange are not backed by anything of tangible value. Most world currencies today are I.O.U.s on highly indebted nations with already strained future social obligations. We have laughed at countries like Argentina, yet we can’t seem to view our own structural shortcomings with the same critical eyes. This is partly due to having grown complacent as a nation by effectively maintaining our standing as the world’s reserve currency since the Bretton Woods Agreement back in 1944. 

Part of the attraction and rise in Bitcoin use has been fueled by the waning power of the U.S. dollar on the world stage. Many people view Bitcoin as an alternative to compromised central banks. As Bitcoin’s value has recently fallen, alternative currencies of the past such as gold and silver have coincidentally surged higher.

Bitcoin is facing its hardest hurdle to date. Acceptance is one thing, but acceptance after events like this failure of Mt. Gox will take some time. Since most of the public has no real understanding of how Bitcoin actually works, recovery from this will entail more education for the public-at-large before they will ever dip their toes in those waters again. As for the speculators, they will not want to hang around for long; they have already learned the hard way that get-rich-quick-schemes usually end up as nightmares.

In the long run, Bitcoin may actually prove to be a better store of value even though it is backed by nothing except faith. As history has shown, using blind faith as collateral hasn’t stopped governments before, why should it stop Bitcoin?

From present day Venezuela to Zimbabwe, to our own loss of purchasing power during the Stagflation of the 1970s, and the 24/7 printing presses operating across the globe today, Bitcoin’s advantage of having a limited supply out of the hands of government meddlers may prove to be its ultimate salvation. Until then, people should always remember that “Black Swans” do occur more often than most people expect, and therefore they should always hedge accordingly.