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Regulators See Value in Bitcoin, and Investors Hasten to Agree

Nathaniel Popper
Tuesday, 19 Nov 2013 | 6:35 AM ET
Bloomberg/Contributor | Bloomberg | Bloomberg via Getty Images

The virtual currency bitcoin took a big step toward the mainstream on Monday as federal authorities signaled their willingness to accept it as a legitimate payment alternative.

A number of federal officials told a Senate hearing that such financial networks offered real benefits for the financial system even as they acknowledged that new forms of digital money had provided avenues for money laundering and illegal activity.

"There are plenty of opportunities for digital currencies to operate within existing laws and regulations," said Edward Lowery, a special agent with the Secret Service, which is tasked with protecting the integrity of the dollar.

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Signs that the government would not stand in the way of bitcoin's development, even as it has been cracking down on criminal networks that use the digital money, stoked a strong rally in the price of the crypto-currency.

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By Monday evening, the value of a bitcoin unit soared past $700 on some exchanges. The total outstanding pool of bitcoin — which is created by a network of users who solve complex mathematical problems — is now worth more than $7 billion.

The Senate hearing Monday afternoon was the clearest indication yet of the government's desire to grapple with the consequences of this growth, and the recognition that bitcoin and other similar networks could become more lasting and significant parts of the financial landscape.

"The decision to bring virtual currency within the scope of our regulatory framework should be viewed by those who respect and obey the basic rule of law as a positive development for this sector," said Jennifer Shasky Calvery, the director of the Treasury Department's Financial Crimes Enforcement Network. "It recognizes the innovation virtual currencies provide, and the benefits they might offer."

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Ms. Shasky Calvery and the other officials at the hearing did say that basic questions still had to be answered about virtual currencies, including whether they can actually be considered currencies or whether they are more properly categorized as commodities or securities. The distinction will determine which agencies regulate the networks and how they are treated under tax law.

Ms. Shasky Calvery said that the Internal Revenue Service was "actively working" on its own rules for bitcoin.

The hearing followed other less visible steps taken by regulators and lawmakers to bring digital money into the mainstream.

New York State's top financial regulator, Benjamin M. Lawsky, said last week that he would hold a hearing to consider the creation of a BitLicense to provide more oversight for transactions. Earlier, the Federal Election Commission put out an advisory indicating that bitcoin could be legally accepted as political donations.

The general counsel of the Bitcoin Foundation, a nonprofit advocating the currency, said in his testimony on Monday that he was receiving a much more friendly response from both government and the financial industry.

"We have recently perceived a marked improvement in the tone and tenor taken by both state officials and bank executives," the general counsel, Patrick Murck, said.

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Bitcoin has experienced a remarkable ascent since it was created in 2009 by an anonymous programmer or collective known as Satoshi Nakamoto. The money, which is not tied to any national currency, has been popular with technophiles who are skeptical of the world's central banks. Only a finite amount of bitcoin will ever be created — 21 million units. Users have bid up the price on Internet exchanges, betting that the currency will be more widely used in the future.

There are significant questions about the wisdom of the digital money as an investment, given that bitcoin has no intrinsic value and has proved to be vulnerable to hackers. Many money managers have recommended that unsophisticated investors stay away.

Recently, though, bitcoin has been catching fire around the world, with exchanges in China particularly active. A growing number of prominent American investors have also bought stakes, including Michael Novogratz, a principal at the private equity and hedge fund giant Fortress Investment Group, as well as the Winklevoss twins, Cameron and Tyler.

The increasingly widespread ownership of bitcoin has shifted attention away from the criminal enterprises that have used digital money, but it was a focus at the Senate hearing.

Last month, the online marketplace Silk Road, where bitcoin was the primary form of payment, was shut down and its founder arrested after authorities accused it of being used to buy and sell drugs, weapons and pornography. The chairman of the Senate committee, Thomas R. Carper, Democrat of Delaware, said that a few days after the arrest, a similar site sprang up.

It can be harder to track criminals who use bitcoin, law enforcement officials said at the hearing, because they operate across international borders and often do not use established financial institutions that report transactions.

But Mythili Raman, an assistant attorney general at the Justice Department, also said that because every bitcoin transaction was recorded on a public ledger, it was possible for investigators to trace the movement of money between accounts.

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"It is not in fact anonymous. It is not immune from investigation," Ms. Raman said.

All the officials at the hearing said that crime had been an issue during the early days of credit cards and online payment systems like PayPal, and should not be a reason to limit innovation.

"It is our duty as law enforcement to stay vigilant while recognizing that there are many legitimate users of those services," Ms. Raman said.

The bitcoin supporters who testified at the hearing said bitcoin could bring major changes to the financial system by cutting out the middle men needed to move money around the world.

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"I am here to testify because I believe that global digital currency represents one of the most important technical and economic innovations of our time," said Jeremy Allaire, the chief executive of Circle Internet Financial, which is seeking to promote more widespread use of the currency.

Given bitcoin's appeal to skeptics of government, many aficionados have been wary of involvement by Washington. But advocates at the hearing said that the increasing cooperation with regulators could lay the groundwork for further growth.

"As this technology moves from early adopters into mainstream acceptance, it is critical in my view that federal and state governments establish policies surrounding digital currency," Mr. Allaire said.

By Nathaniel Popper of The New York Times

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