Time for Smarter Rules on Digital Money

The collapse of Bitcoin exchange Mt. Gox shows need for regulation
Illustration by 731

Let’s stipulate that Mt. Gox, the Bitcoin exchange that went offline on Feb. 25 and seems to have misplaced about 365 million of its customers’ dollars, might be “the worst-run business in the history of the world,” as one Bitcoin investor recently said. Smart regulation might have made a difference—and as digital currencies proliferate, getting that regulation right will only become more important.

So far, countries have taken three main approaches to regulating Bitcoin and other digital currencies. The first is to outlaw them or severely restrict their use, as Russia and China are doing. This isn’t irrational, but it could prevent needed innovation. The second is to do nothing, as Japan did. Mt. Gox, based in Tokyo, showcases the wisdom of that strategy. A third and better approach: The U.S. and others are seeking to encourage digital currencies as long as they follow the rules.

Therein lies the rub. The rules are manifold and onerous for companies that want to transmit money. They have to follow laws intended to prevent money laundering, terrorism, and tax evasion. In the U.S., they have to appease state regulators and federal overseers. And they have to assure consumers that they are reliable and secure enough to handle their money.

Yet several U.S. regulators have been receptive to rethinking how this regulation should apply in the age of digital currencies. Benjamin Lawsky, New York State’s superintendent of financial services, deserves credit for suggesting a “BitLicense” for digital currency companies. This would offer a much clearer framework for disclosing risks, protecting consumers, and preventing crimes. The goal isn’t to create burdensome requirements just for digital currencies—it’s to think about how to address the same issues the old laws addressed, but in a more modern and flexible way.

Another Mt. Gox might still arise under such a system, but customers would at least have a better idea of the risks involved. Bitcoin may not work in reality, but it is still an idea whose time had come. Paying for things using credit and debit cards is expensive, and moving money from one place to another, especially overseas, is cumbersome. Bitcoin’s developers, in creating a peer-to-peer payment system that records all transactions on a public ledger, took an elegant approach to solving these and other problems.

Unfortunately, Bitcoin’s clever payment system is yoked to a volatile and deflationary pseudo-currency, prone to security flaws, attractive to criminals, and unreliable as a store of value, unit of account, or investment opportunity. Yet in showing the way for other payment innovators and in getting regulators to think creatively and ambitiously about how the money-moving business might be disrupted in the Digital Age, Bitcoin’s designers and backers are performing a valuable service. Sadly, many had to lose their shirts in doing so.

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