More on the Ethics of Bitcoin

By: Seamus Vaughan Lucey

Bitcoin is a digital currency that uses encryption techniques to verify the transfer of funds. Bitcoin transactions take place on a peer-to-peer basis and consequently the currency operates independently of third party payment providers as well as government and banking regulation. Transactions using bitcoin are confirmed by a transaction ledger called the blockchain, which makes all transactions using the currency public to those within the bitcoin network. Bitcoins are created via the process of mining, which involves solving complex mathematically equations using powerful computers, the limit of 21 million bitcoin has been set on the amount that can be mined, after which no further bitcoins will be made available. The bitcoin software is open source, however, it can only be changed with the majority consent of those within the network.

Bitcoin was created between 2008 and 2009 by an individual, or group, acting under the name of Satoshi Nakamoto. Nakamoto has made it clear in blog posts that bitcoin was developed in response to the global financial crisis and the perceived failings of governments and banks in their fiscal policies and handling of events.

During the first four years of its existence, the price of bitcoin saw an overall steady rise with it’s peak value reaching just over $20 dollars per bitcoin. Then in 2013 its value began to rise extremely rapidly, reaching it’s peak in November 2013 at a worth of almost $1000 dollars. However, this peak was quickly followed by a crash and since then the value of bitcoin has been very volatile. This volatility has been the result of high levels of speculation on the currency and several notable events such as the downfall of Mt. Gox, which was the largest bitcoin exchange at the time of its demise, and the Chinese government’s banning of bitcoin.

There has been a great deal of media attention paid to bitcoin in the last few years and as the currency has continued to grow in usage and in understanding of its implications, governments and large financial institutions have started to take note of the currency as well the tech savvy and politically motivated individuals that made up many of its initial users. This attention has led to varying appraisals of bitcoin and the ethical implications of the currency from the positive, to the undecided and the negative.

The Ethics of Bitcoin: The Anonymity Charge

Some individuals have taken a highly negative view on the ethics of bitcoin, with the Nobel Prize winning economist Paul Krugman going so far as to denounce bitcoin as ‘Evil’ in a piece for the New York Times. Such a claim offers a useful starting point for an assessment of the ethics of bitcoin if only for its obvious fallacy. Bitcoin is a mass of code stored on the hardware of computers, it does not operate independently, but can only be used by human individuals. It undoubtedly can be used for unethical means, but to say that this makes it evil is the equivalent of calling any other currency in the world evil because they can be and are at times used for unethical means. Bitcoin in itself is amoral i.e. non-moral as a chair or table is amoral. When considering the ethics of bitcoin it is the use of the currency that should be examined. Thus, we should observe how bitcoin can be used in ethical ways and how it is used in comparison to other currencies.

One of the most frequently made ethical charges against bitcoin is the apparent anonymity of those using the currency allows for criminal activity to be carried out freely in ways other currencies do not.

However, the level of anonymity of those using bitcoin is not total. In the first place all transactions using bitcoin are made public on the blockchain with the parties in these transactions being identifiable by their bitcoin address that acts as a form of pseudonym. Therefore, if an individual can be linked to their address she is no longer anonymous. Linking can be done in various ways including the tracing of IP addresses and analysis of data made available via the blockchain. Furthermore, if an individual wishes to buy bitcoin using another currency, or convert her bitcoin to another currency she will likely have to use a bitcoin exchange which requires her bank account and increasingly formal forms of personal identification to be used for identity validation. This means bitcoin use is not completely anonymous. Although further measures can be taken by an individual to increase the level of anonymity when using bitcoin these methods are not always quick or easy.

The Difficulty in Law Enforcement Charge

Prosecutions of those using bitcoin for illegal activities have occurred after individuals were linked to bitcoin addresses, with one of the most significant being that of Ross Ulbricht. He is the founder of Silk Road, an online market place, dealing in drugs and various other illegal products, that only accepts bitcoin for payment.

Contrary to popular belief, bitcoin does not create absolute online lawlessness where law enforcement authorities are powerless to enforce the law. Instead the currency requires a move from preventive online enforcement to reactive enforcement. When other currencies are used online to make transactions they must do so through third party payment providers such as Paypal or Mastercard. Those using these providers are more easily identifiable than those using bitcoin and the providers can also be regulated by governments. Providers can refuse suspicious payments or payments that are clearly part of illegal transactions. This means that law enforcement exerts a level of prevention in regards to illegal transactions online, which is something it cannot do in the case of bitcoin. Instead, law enforcement must act after a criminal exchange has been committed. In this respect law enforcement becomes powerless to stop the law being broken, but still maintains a level of power to enforce the law after it has been transgressed. This in some respects creates greater levels of individual freedom. However, it also creates definite problems for law enforcement because of the greater ease of carrying out illegal transactions in the first place.

While the use of bitcoin for trading does not necessarily lead to the type of lawless market place some fear, it will take a significant degree of engagement between government law enforcement agencies, bitcoin exchanges and banks to ensure regulation is enforced to minimise the risk of bitcoin being used to fund unethical activity. Even with this being the case bitcoin may never allow for the level of preventive online law enforcement common with other currencies.

This problem is particularly pertinent in the case of child pornography, where there has been an increasing trend to use bitcoin to purchase such material. There have so far been some positive steps by bitcoin exchanges to attempt to prevent this, with several of the largest exchanges currently working with Internet Watch Foundation, a charity with a mission to reduce the presence of child pornography on the internet, to find ways to stop bitcoin being used for such ends.

Circumventing Government Pressure

While the bypassing of a centralised money transferring service means that criminal activities cannot be pre-emptively curtailed, it also means that funds moved for legitimate reasons in totalitarian states or in cases where the government may be compelled to put pressure on third party payment providers not to accept certain transactions cannot be pre-emptively stopped.

A case in point in regards to governments putting pressure on third party payment providers is with the funding of Wikileaks. When this organisation began to publish secret U.S. government documents, many people felt compelled to donate money to the Wikileaks Foundation as they wished to see greater transparency from the U.S. government. Although this was perfectly legal, third party payment providers bowed to the pressure put on them by the U.S. government not to accept payments to the Wikileaks Foundation.

A government is unable to exert such pressure if bitcoin is used for payments. In the case of the Wikileaks Foundation bitcoin payments have been used by U.S. citizens to donate to the foundation and bypass the government imposed, donation blockade. In this way bitcoin helps prevent governments interfering with the actions of their citizens for self-interested or any other purpose. The currency helps strengthen individual freedom and the freedom of organisations that challenge government powers by making it harder for governments to avoid exerting power through formal legal proceedings. This decentralisation of power can help to increase democracy in a society.

Reducing Inflation Risk

Another way in which bitcoin may offer greater levels of personal liberty compared to centrally controlled, government backed currencies, is how the currency acts during inflation. Bitcoin is mined by powerful computers that help to generate new bitcoins and will continue to do so until the limit of 21 million is reached. This means the value of bitcoin will not be able to be artificially inflated by the creation of further currency once this limit is reached. This characteristic differs from fiat currencies that are at times subject to inflation from governments printing money, often to help them work their way out of fiscal trouble. Those with a particularly idealistic vision of bitcoin may further argue that as governments often print money to help manage the heavy financial costs of wars, if bitcoin was to become a major currency it potentially acts as a tool to dissuade governments from entering into armed conflicts.

As well as a direct cap on inflation as a result of the limited number of units that may ever become available, bitcoin also may be able to curb the artificial inflation of other currencies. Friedrich Hayek argues it is beneficial to have a number of privately created currencies available to individuals concurrently, rather than having one centralised government backed currency. According to Hayek this type of currency system creates a level of competition between currencies based on their stability. Over time one or at most a few of these currencies emerges as the most stable for individuals to hold and competition ensures stability is maintained. Given that individuals are likely to use currencies with the lowest levels of inflation, this behaviour in theory keeps the level of currency inflation down. If in future bitcoin becomes a major currency, there is at least the potential it would act as a competitor to other currencies and produce the effect Hayek describes.

Little Trust Required

The establishment of a currency outside of the control of governments and banks was one of Nakamoto’s primary motivations in creating bitcoin, made clear in a in which Nakamoto states that:

“The root problem with conventional currency is all the trust that’s required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust. Banks must be trusted to hold our money and transfer it electronically, but they lend it out in waves of credit bubbles with barely a fraction in reserve.”

What is good about bitcoin, Nakamoto argues, is that, ‘Everything is based on crypto proof instead of trust,’ and this feature is one of the most revolutionary aspects of bitcoin. As a currency it is based on unbreakable contracts between individuals not reliant on, or influenced by, any third party. In this respect bitcoin has clear advantages in terms of personal economic freedom. While the debate about the level of economic freedom that individuals should be able to enjoy is too lengthy to engage with adequately here, given the failure of banks and governments during the financial crisis, greater personal independence and a move towards currencies backed by cryptographic proof rather than trust is, at the very least, an understandable aim.

However, for bitcoin to grow and potentially achieve the originators’ aims it needs to develop into a more effective currency. To do so, requires greater stability to be both an effective medium of exchange and an effective store of value and unit of account. The question of whether bitcoin will or even can reach such a level of stability is debatable.

One of the most significant issues affecting the stability of bitcoin is the level of speculation on the currency in comparison with its use for trading. The rapid rise in the value of bitcoin in 2013 and the media hype surrounding bitcoin in general has led to a significant amount of bitcoin being bought solely as an investment, and while this has helped bitcoin’s value to rise, it has also contributed to some of the price crashes the currency has experienced.

Bitcoin has been criticized for not being backed by anything with inherent value, making the currency unstable. However, the argument fails to account for the fact that a majority of currencies are now fiat currencies, and while state backed fiat currencies can be used to pay taxes, they still derive a large part of their value from the faith shown in them by their users. When an individual uses bitcoin she does so with a level of confidence that the bitcoin will retain a similar value in the future the same way an individual using the USD believes the dollar will retain its value in the future. The level of faith in bitcoin may not currently be as strong as found in other currencies, but there is certainly scope for greater confidence in the future.

Reducing Transaction Costs

Whilst bitcoin may be lacking when compared to traditional currencies in terms of being a store of value and unit of account, it has some clear advantages when considered as a medium of exchange. Bitcoin is exchanged between parties directly on a peer-to-peer basis which means the charges normally incurred via the use of third party payment providers are avoided. Bitcoin transaction charges amount to little or in most cases nothing, which represents a saving for retailers who normally face a 2-3% fee.

Given the huge number of transactions that take place online the savings represent large sums of money being freed for reinvestment in businesses, profits from which are potentially taxable and reduced costs to consumers. Already a number of online electronics stores have opened up that accept only bitcoin and which offer goods at even lower prices than Amazon because of the savings from transaction fees. The removal of these fees would also likely act as a catalyst for products to be sold internationally where currently they are not because of the even higher fees associated with international transactions.

Another benefit of bitcoin use for merchants is the elimination of the risk of credit card fraud. In trying to minimize online credit card fraud, detection systems are made extremely sensitive, to the extent a large volume of legitimate transactions are cancelled for appearing suspicious.

Another area in which the avoidance of transaction fees associated with bitcoin is significant is in international remittance. The World Bank estimates $400 billion is sent to relatives and friends in home countries annually by those working abroad. The fees for such transactions are often high, and considering this is often money going to those in some of the world’s poorest countries, cheaper fees would be beneficial.

The Enduring Legacy of Bitcoin

The enduring legacy of bitcoin may be the blockchain and how blockchain technology can be used for securities and other types of transactions requiring some form of ledger. The blockchain is the truly revolutionary aspect of bitcoin. First the blockchain creates a ledger where information cannot be added more than once (in the case of bitcoin double spending of the same bitcoin). Second the information is totally public to those in its network. This network is outside the control of any central authority and is only open to change through majority decision. This means that it is an effective, transparent ledger that allows for agreements to be made between individuals without the potential corruption and added bureaucracy of large third party institutions.

Blockchain technology can provide an effective public ledger for all kinds of things from proof of copyright records to governmental elections. There are already many organizations working on the various uses of the blockchain and as the technology becomes more public, governments and other large institutions are likely to find further uses. The blockchain has clear potential to decentralize power and bring about a democratization of certain processes, and in the future it may well be these developments that become bitcoin’s greatest legacy.

Bitcoin has a number of current and potential positive uses. However, bitcoin also can be used for unethical purposes in ways regular currencies cannot. If we are to enjoy the benefits of bitcoin while minimizing the negative uses of the currency, then governments and law enforcement agencies need to be proactive in engaging with the technology and the organizations that facilitate the use of bitcoin. If actions taken are effective, then bitcoin may grow into a currency able to deliver improvements in the use and effect of money in our lives.

xxx

Angel, James J. (2014). The Ethics of Payment. Journal of Business Ethics.

Bergstra, Jan A. (2013). Bitcoin and Beyond: Exclusively Informational Money. Informatics Institute, University of Amsterdam. http://arxiv.org/pdf/1304.4758.pdf

Hayek, F. A. (1990). Denationalisation of money—The argument refined. London: The Institute of Economic Affairs.

Trautman, Lawrence. Virtual Currencies Bitcoin & What Now After Liberty Reserve, Silk Road, and Mt. Gox? 20 RICH. J.L. & TECH. 13 (2014), http://jolt.richmond.edu/v20i4/article13.pdf

Image: dilbert.com