Bitcoin: Disrupting Banking and Payments

Consumers, especially millennials (ages 18 – 35), are no fans of large banks. In particular, the banks that are Too Big to Fail and Too Big to Jail. In fact, banking was listed as one of the industries that was least liked and most ripe for disruptive innovation. Banking and payments are beyond ready for disruption. Bitcoin, although maligned by banks and economists for failing to meet the criteria of a true currency, posses the potential to lower costs for exchanging money and goods. Lack of transparency and trust as well as the impending threat of ratcheting regulations could imperil the adoption of bitcoin as a mainstream medium of exchange. Yet, financial engineering, technology and service innovation could overcome these roadblocks. Moreover, bitcoin opens up opportunities for new participants in global financial markets, such as miners, market makers, and bankers.

Viacom Media Networks performed a survey of thousands of millennials over several years. The Millennial Disruption Index discovered some key findings including that 71% of millennials would prefer to go to the dentist than visit a bank and the largest banks are least liked brands among this demographic. Moreover, the future is grim for Wall Street. In just five years, a majority (70%) of millennials expect that the way we pay for things will be transformed, the transitive agent will come from outside of banking, and technology companies like Google, Amazon, Apple or Paypal are most likely to bring about this change.  Could the rapid adoption of bitcoin as a medium of exchange be the catalyst for the decline of Wall Street’s stranglehold on Main Street?

Bitcoin is the world’s first digital, decentralized currency. Check below the fold for more information on bitcoin, the blockchain (transfer process), bitcoin mining (transfer confirmation process), and other basic information on the digital currency. Economists have spoken ill of the capability for bitcoin to become a competing currency; however, even its critics have admitted that there is amazing promise in the way that bitcoin enables low-cost payment transfers. The bitcoin blockchain is highly efficient in matching and confirming transactions through the mining process. “Bitcoin was built for the internet” and the value storage and exchange methodology could be extended to standardize the exchange of non-financial assets. Payment transfer fees range from around 3% for Stripe, Paypal, and Square to upwards of 10% for Western Union and domestic international bank wire transfers. However, Coinbase offers payment services for bitcoin transactions with just a 1% transaction fee for merchants. This fee could be lower for innovative pioneers willing to learn how to trade bitcoin.

In my previous posts on bitcoin I focused on the weaknesses of the digital currency as a currency. Yet, it has amazing potential just as a medium of exchange. The threats come from lack of trust and transparency and organizations and governments wanting to tax and regulate the digital currency. How do you know to trust a website? You should look for capital reserves, mature business processes, SSL Certificates (httpS://Secure Socket Layers), masked password inputs, the use of encryption on the server-side, Captcha bot blockers, and two-factor authentication. Moreover, the background, education, experience, and history of the bitcoin exchange and its founders is paramount. The laws of the country the exchange is headquartered in will determine the likelihood of being able to seek legal justice in the event that the firm goes belly up. Albeit, beyond trust and transparency, there are other concerns like taxes and future regulations.

The IRS made a ruling that bitcoin would be treated like a security. If you purchased X bitcoins at $100USD and spent then spent X bitcoins while they were worth $1000USD you would owe taxes on the value the difference ($1000 – $100 = $900). However, companies like Bitreserve to enable you to buy bitcoin, hold US dollars, and then transfer to bitcoin. The simultaneous transfer and holding in US dollars would minimize taxes. One could also use financial engineering to reduce potential tax burdens. For instance, a financial option is the right, but not the right, to buy or sell a security at a certain price. If a bitcoin enthusiast were to purchase Y units of bitcoin, and also purchase a certain number of at-the-money put options (about 2 put options) on bitcoin (put options confer the owner the right to sell a security at a pre-determined price), it would be possible to pay a small amount to reduce or eliminate taxes.

The bitcoin hedging example can be extended a bit further. It may be possible to enable consumers to store or transfer money at no cost. The more exciting possibility is using the blockchain protocol to enable consumers to make money in a world where Wall Street charges for the privilege of letting them hold onto your money. The reality is that Wall Street and the City of London have stood in the way of progress for eons. The global banking cabal has no qualms with manipulating interest rates or laundering money for drug cartels. In fact, whistleblowers continue to expose Wall Street banks’ massive securities fraud during the financial crises. There are market makers that make millions every year buying and selling securities, futures, currencies, and options. The advent of digital currencies give entrepreneurial trader/software developers the opportunity to envision and create new services. They can even become the new market makers for digital banking, mobile payments, and low-cost payment transfers. We should boldly embrace the future of money – millennials are depending on it.


Additional Resources:


What is bitcoin?


Bitcoin Wiki

Paper from Bitcoin Pioneer, Satoshi Nakamoto


Buy or Sell Bitcoin/Create a Wallet






Tip with Bitcoin




Bitcoin Regulation is Inevitable

The cryptocurrency, Bitcoin, is becoming more mainstream. Yesterday, online hotel booking company Expedia announced that it was teaming up with San Francisco-based start-up, Coinbase, to enable customers to book hotels using bitcoins. Digital currencies like bitcoin are quickly becoming an alternative to  traditional currencies because of the process for creating, exchanging, and storing bitcoins with the use of the bitcoin protocol and third-party miners. Bitcoin enthusiasts, economists and politicians have mused over whether bitcoin can actually be considered “money” or “currency”. These initial discussions are just thought exercises, but regulatory action is likely to follow.
All Eyes on Bitcoin
Federal Government agencies including the SEC and the IRS as well as financial regulatory organizations like FINRA have taken a look at bitcoin. The SEC has issued alerts regarding bitcoin-related Ponzi schemes. FINRA also released an Investor Alert that labels Bitcoin as a “More Than a Bit Risky”. The SEC and FINRA’s perspective on the digital currency is mostly cautious and negative. The IRS provided guidance on the tax implications of bitcoin – it would be treated like property. A complicating factor is that bitcoin transactions would be taxed based on the difference on the USD dollar value of each side of the transaction. So, if someone purchased 1 Bitcoin for $633.1 USD today and then aid 1 Bitcoin for, let’s say $1000 USD, for a product or service in the future they would owe the difference ($1000 – $633.1) in taxes.
There is a silver lining. Chicago Fed senior economist, Francois R. Velde, wrote a great primer on Bitcoin. Unlike some economists, Velde considers bitcoin to be a fiduciary currency. He goes into some detail about the genius of bitcoin, mining, and blockchains. However, Velde concludes that it is “unlikely that [bitcoin] will remain free of government intervention”.  Therein lies the rub. The regulators are coming.
Getting Ahead of the Regulatory Wave
What can be done to get ahead of the regulatory wave? This is a case where perception is reality. Bit coin stories about  failed exchanges, online drug-trafficking sites, and Ponzi schemes cast a very negative light on the digital currency. Moreover, in the rare event that we are headed into a bitcoin bubble, dumb money tends to follow smart money. People are predictably irrational. I have previously advocated that bitcoin exchanges come together to develop minimum standards for security, operations, hedging, and capital requirements. Developing a regulatory organization for exchanges (like FINRA) could reduce the potential for regulatory backlash from US states and the Federal Government. This self-regulating entity could also tackle other issues like consumer education, evaluating proposed legislation, and studying best-practices for hedging and tax-planning. These actions could improve the perception of the US bitcoin exchanges and prevent or lessen regulatory overreach. Government intervention in digital currencies is not possible, it’s inevitable.