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Bitcoin's back to the wall as it fights to survive

A customer holds a placard while protesting outside a building housing the headquarters of Mt.Gox and its parent company Tibanne Co. in Tokyo on Tuesday, Feb. 25, 2014.
Kiyoshi Ota | Bloomberg | Getty Images
A customer holds a placard while protesting outside a building housing the headquarters of Mt.Gox and its parent company Tibanne Co. in Tokyo on Tuesday, Feb. 25, 2014.

Bitcoin suddenly finds itself in a battle for survival, caught in a worst-nightmare scenario of technical snafus that threaten not only billions of investor dollars but also overall integrity.

The struggles raise questions about whether this is the point where the cryptocurrency fades into cybernerd hobbyist oblivion, as many of its detractors have long suggested, or goes forward as a true alternative to global currencies.

Currency experts say this doesn't have to be a death knell, but it will be up to bitcoin's brightest brains to rebuild the infrastructure so confidence can return.

"This is a threat to bitcoin and digital currencies on the whole because it is something that could erode the trust in the overall idea," said Chris Vecchio, currency analyst at DailyFX. "There's no liquidity in the bitcoin market. There's no more trading activity. Quite frankly, it speaks to a problem with this whole idea of bitcoin as a unit of wealth."

Bitcoin's nightmare began a week ago with word that its most prominent exchange, Mt.Gox, which formerly served as a trading platform for playing cards in Magic: The Game, had experienced a technical problem and wasn't allowing customers to cash in their bitcoins.

Since then, negative headlines have piled up, with Tuesday bringing statements from Mt.Gox reaffirming that it wasn't conducting further transactions. The exchange noted negative publicity and "potential repercussions" but offered no further clues as to the nature of the disruption and when or if business would resume. Reports swirled that the exchange was on the brink and couldn't meet its obligations.

(Read more: Mt.Gox: All transactions closed 'for the time being')

At the very least, bitcoin faces a huge credibility gap which it must try to bridge.

Indeed, bitcoin supporters likely were circling the wagons in trying to figure a way out of the crisis.

"Everybody who runs an exchange is huddled in a corner with security people reviewing everything from top to bottom," said Nick Colas, who has watched bitcoin developments closely as chief market strategist for ConverGex. "What happened at Gox is very opaque, and nobody wants to be the next Mt.Gox."

(Read more: Mt.Gox CEO: Bitcoin exchange at 'turning point')

Surprisingly, the cryptocurrency's price held up fairly well considering the circumstances. According to the newly launched Winkdex—an aggregation of prices hosted by bitcoin supporters Cameron and Tyler Winklevoss—the price Tuesday afternoon was $515. That was a nearly 8 percent drop, but fairly typical of the undulations bitcoin has seen since rising to prominence over the past year or so.


Some backers went on the offensive, contending that governments and others in the currency establishment were out to get bitcoin.

"The currency wars are becoming fierce and bloody," Shai Heffetz, managing director at InterTrader, a currency trading platform, said in a statement. "Bitcoin and other alternative currencies are beginning to be perceived as viable alternatives to fiat currencies. As bitcoin cannot be manipulated by any government, global powers are starting to show their concern and beginning a crackdown."

Whether bitcoin can overcome its myriad obstacles, though, became even murkier with the Mt.Gox debacle.

"Eventually, the so-called cryptocurrencies—electronic tokens that pass irretrievably from buyers to seller—will become extinct," said Jessica Einhorn, resident senior advisor at Rock Creek Group, a Washington.-based hedge fund, writing in Tuesday's Financial Times. "But for now they serve a real public purpose as an instrument of reform."

(Read more: Mt.Gox goes offline - Is bankruptcy next?)

That reform could help trigger changes in the vast and expensive system of global payments, but bitcoin will need more to survive.

If it wants to avoid extinction, the system will have to show it can be trusted and is not easily susceptible to the hackers who would love to get their hands on the $6.3 billion or so of dollar wealth tied up in bitcoins.

"The good news is there are still a lot of bitcoin multi-multi-millionaires out there. They understand the need to invest in the system," Colas said. "Now, collectively, the bitcoin community must realize that now is the time to invest to build a robust system. You can't keep having these problems."

—By CNBC's Jeff Cox. Follow him on Twitter @JeffCoxCNBCcom.

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