A few thoughts - Monday, September 15, 2014

[Steve Sokolowski]

Good afternoon! A few thoughts for lunch today:

What's up with dogecoins?

The completely inexplicable news this weekend is a huge dogecoin bubble that suddenly popped up out of nowhere. Dogecoins had been trading around 20 satoshi, and suddenly rose to 84 when I looked at them on Sunday afternoon. Had the pool more than one person wanting to be paid in dogecoins, we would have lost a lot of money this weekend.

At first glance, there wouldn't seem to be any reason for the huge increase. Some have attributed the rise to the adoption of merge mining with litecoins, which will theoretically increase the security of the dogecoin network. The perception that everyone else is buying because of the merge mining might have caused the increase, but the merge mining itself doesn't really solve any actual problem that dogecoin has. The hashrate of the dogecoin network was already pretty high, and while there was some concern that the decreasing block rewards of dogecoins might cause miners to stop securing the network, the risk was in the future.

If I owned any dogecoins, I would be taking my profits now. The core issue with dogecoins, which is that they are based on a meme that has a limited lifespan, didn't change with merge mining. Dogecoins are in a bubble at the moment. The key point to realizing why a 51% attack to dogecoins was not a reason to worry is that in order for it to happen, people would have to lose interest in the coin, sufficient to send its price low enough that people stop mining. But since losing interest is a much more significant threat anyway, the coin would be done long before that. All that the merge mining has done is to allow the dogecoin network to continue operating even if nobody is using it.

There is a significant takeaway from these events. If dogecoins can rally huge like they just did, litecoins, which are much more widely used, can do so as well. That's why I disagree with people who say that there is no money to be made in litecoins.


Coinbase becoming a hinderance to bitcoin adoption

Coinbase continues to make customer service mistakes that threaten to turn it into the next PayPal as soon as some competition comes along. The latest issue involves people who are trying to withdraw bitcoins (not dollars) and are being requested to input address details and to call Coinbase customer service in some instances. Previously, it was not necessary to become stage 2 verified if you just wanted to use Coinbase as a wallet hosting provider. Coinbase's acts come on the heels of last week's news, where the company started asking some customers the reasons they were sending bitcoins.

I used to view Coinbase as a friendly company that, while too expensive, was a positive force in getting people interested in and using bitcoins. My opinion has changed. We even had a bug report open to send pool bitcoin payments through Coinbase to save transaction fees, but I closed the task as "won't fix" because doing so risks their freezing our account on a whim and going bankrupt when we cannot pay out miners. That's the same reason that, every time my brother sells items on eBay, he immediately withdrawals his earnings from PayPal and never leaves any balance in the account.

Using a currency that allows people to bank for themselves, Coinbase is beginning to be as much of a threat as any regulations are. If people have to choose between Coinbase or not using bitcoins at all, then Coinbase's ever-increasing number of questions and amount of paperwork makes it easier for people to not use bitcoins at all.

Localbitcoins volume is skyrocketing and I become convinced more and more every day that, in addition to the increasing demand for the darknet markets, Coinbase's actions are responsible. One needs to be careful when analyzing the localbitcoins volume and assuming that prices need to head up in order to meet the "new" demand. If Coinbase is alienating its own customers and moving demand to localbitcoins, then we are simply seeing the same number of transactions while Coinbase bleeds out its own profits.


What happens if consumer uptake lags? Criminals get rich.

It seems clear that darknet usage is starting to accelerate far beyond what most people anticipated. With consumer demand in the legal markets remaining low, we could see a situation where there is an extended period of increasing regulations and difficulty buying bitcoins. Bitcoins are here to stay, regardless of what regulators do. The darknet markets and localbitcoins are proving that.

The process of buying bitcoins, which became easy for a time, could again revert to being onerous even as price rises. But it's also unlikely that bitcoins themselves will ever become illegal, even if the only usage for them for the next year or two is in a hugely expanded drug trade. If regulations cause businesses to go under due to compliance costs, it could become extremely difficult to get in for a while, which means that people who already have bitcoins from long ago or who can earn them directly for goods and services will be at a huge advantage.

Counterintuitively, there could be two cases where the next bubble causes a price increase. In one case, consumer adoption starts to increase and normal people buy in, as many expect. But in another case, the regulators start to make it difficult to buy bitcoins, which means that drug users need to get the same amount of money from fewer sources. In an epic failure, Lawsky watches as the Silk Road 2 and OpenBazaar expand exponentially, which is going to happen anyway.

This is an example of the law of unintended consequences. If Lawsky succeeds in implementing the strictest version of his proposal, then nobody will be able to operate exchanges in New York that make it possible for normal people to buy in. The only economic activity involving bitcoins in New York will be drug dealing and criminal activity. The price of bitcoins will rise, but the people holding bitcoins will be criminals. An enormous amount of money will have been transferred to organized crime.

In the end, when the regulations are overturned by a lawsuit or people realize that they aren't working, then law-abiding citizens who want to spend bitcoins will be buying them off the criminals, who traded bitcoins for drugs within a closed system during this regulated period.

That could have all been avoided if the regulations were reasonable, and people in legal industries bought up the bitcoins to create the bubble.