A few years ago, Bitcoin advocates were touting its potential to transform the financial sector.
"What would happen if you and I could just exchange money without it ever going through a bank?" venture capitalist and early Bitcoin supporter Marc Andreessen asked me in a 2014 interview.
Bitcoin could render banks obsolete much as the internet had rendered newspapers and record stores irrelevant, optimists thought. Eventually, the industry could be rebuilt with Bitcoin as its new foundation. I was one of the people who thought this vision was plausible.
But it's becoming clear that companies like MasterCard and Western Union are in no danger of going the way of Tower Records. Venture capitalists have poured more than a billion dollars into Bitcoin startups, yet we seem to be no closer to making Bitcoin a mainstream technology. To a large extent, Bitcoin today is still used for the same applications — illicit transactions and financial speculation — that it was in 2014 and 2012.
"I think Bitcoin has stalled out," said Nathaniel Popper, a reporter for the New York Times who wrote a book about Bitcoin in 2014.
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What went wrong? The Bitcoin community has been hampered by a dysfunctional culture that has grown increasingly hostile toward experimentation. That has made it difficult for the Bitcoin network to keep up with changing market demands.
But Bitcoin's larger problem may be that it just doesn't solve any problems normal people have. Conventional financial networks are good enough for everyday transactions. And so while Bitcoin is in no danger of disappearing, it continues to be relegated to the margins of the global economy.
Bitcoin was supposed to render financial institutions obsolete
Bitcoin advocates have always liked to draw a parallel to the early internet. The internet democratized publishing, providing a platform that anyone could use to publish an article, song, or movie worldwide. In the process, it disrupted old-fashioned media companies like newspapers and record labels.
Optimists predicted that Bitcoin would do something similar in the financial sector. Before Bitcoin, sending somebody an electronic payment required a bank to act as a trusted intermediary. Bitcoin uses sophisticated mathematics to secure transactions instead, making banks unnecessary.
There was just one problem: Bitcoin was way too difficult for ordinary people to use. The software was complex and cumbersome. The value of the bitcoin currency was volatile. And Bitcoin users faced a constant risk of having their coins stolen by hackers.
But Bitcoin's early backers said not to worry about this. After all, the early internet was also cumbersome and hard to use. But then people invented technologies like web browsers and smartphones — and online services like Amazon and Facebook — that made the internet accessible to everyone. It was only a matter of time, people said, before the same thing happened with Bitcoin.
There's been little to show for $1 billion in venture capital investment
In 2013, venture capitalists started to pour millions of dollars into Bitcoin startups, many of which were trying to build these kinds of mainstream Bitcoin applications. According to atally from Coindesk, venture capitalists poured $95 million into Bitcoin startups in 2013, $362 million in 2014, and then an incredible $866 million in 2015.
But investment has slowed in 2016. Investors put $262 million into Bitcoin startups in the first half of 2016; they've invested only $114 million so far in the second half of the year. And someof the biggest recent investments in the Coindesk list are not Bitcoin companies so much as companies developing spinoff technologies.
What have investors gotten from more than $1 billion in venture capital investment? I talked to several Bitcoin experts for this story, and none of them could point to a breakout hit.
"I think investing in Bitcoin startups has probably gone pretty close to zero," the New York Times's Popper told me. Popper said there's still some interest in borrowing concepts from Bitcoin to build systems that help banks process transactions with one another. But Popper argued that the original vision of Bitcoin as a mass-market consumer technology has become a very hard sell.
Bitcoin never resolved its constitutional crisis
At the same time Bitcoin startups were struggling last year, the community of Bitcoin developers was going through a controversy that I described at the time as a constitutional crisis. Bitcoin's creator Satoshi Nakamoto initially designed the network to only process a few thousand transactions per hour. That was plenty when Bitcoin was in its infancy, but as Bitcoin grew more popular it started to be inadequate.
Increasing the network's capacity isn't difficult from a technical perspective, but proposals to address the problem encountered a lot of resistance from Bitcoin purists. They worried that boosting the network's throughput would increase the amount of computing power required to participate in the peer-to-peer Bitcoin network, consolidating power in the hands of large companies. And, they said, this was exactly the kind of concentration of power Bitcoin was created to prevent.
This esoteric debate became increasingly bitter, splitting the Bitcoin community into two warring camps. Ultimately, neither side really won the argument. But because the Bitcoin network works by consensus, advocates of maintaining the status quo won by default. As a result, there have been only modest, incremental improvements to the network's capacity. Bitcoin users have suffered from longer delays completing payments and higher fees.
At this point, there are no real prospects for making the kinds of significant changes that would be required for Bitcoin to become a mainstream payment network akin to Visa or MasterCard. Defenders of maintaining the limited capacity of the existing network have proposed technical workarounds that, they claim, would allow many more transactions without modifying the core Bitcoin software. But this technology is still in the experimental stages, and critics question whether it will ever work well enough.
Momentum has shifted to Bitcoin competitors
The larger problem, though, is cultural rather than technological. "I think of the Bitcoin community as very political and ideological," said Eli Dourado, a Bitcoin expert at the Mercatus Center at George Mason University. There's now a deep rift in Bitcoin's technical community, and people on one side of the rift are skeptical of making any significant changes to the software. That's going to make it difficult for Bitcoin to evolve to changing circumstances in the coming years.
Luckily, Bitcoin doesn't have a monopoly on the concept of virtual currency. "A lot of the interesting development now is happening in other projects," Dourado says.
The rising star of the cryptocurrency world is Ethereum, a Bitcoin competitor that emerged last year. The Ethereum network has broader capabilities than Bitcoin. It allows people to conduct complex financial transactions known as "smart contracts." But another big advantage of Ethereum, Dourado argues, is the greater pragmatism of Ethereum's developer community.
"The Ethereum community is driven a lot more by an engineering mindset," Dourado said. "People say 'let's try it and see what we can do.'" Ethereum developers are experimenting with a number of different ways to improve the technology, and successful experiments are more likely to be incorporated into the core Ethereum software.
The big question looming over Ethereum and other Bitcoin alternatives is whether they'll ultimately prove any more useful than Bitcoin has. Discord among Bitcoin developers certainly hasn't helped the cryptocurrency's growth. But Bitcoin's most serious problem may have been something more basic: Nobody has figured out how to make the technology useful to ordinary people.
If Bitcoin's fundamental problem is that it isn't very useful, more elegant and sophisticated versions of Bitcoin won't necessarily fare better in the long run.
Is cryptocurrency's killer app the underground economy?
Another way to look at the situation is that people have found Bitcoin's killer app. It's just an application that mainstream members of the Bitcoin community don't like talking about: illegal transactions.
"The real-world uses of Bitcoin are largely things the government doesn't want you to do," Popper told me. "It has proved to be successful and effective for drugs and for black markets."
Bitcoin first attracted mainstream media attention in 2011 when the now-defunct website Gawker discovered Silk Road, an underground website that operated as an eBay for illegal drugs. A site like Silk Road would never be allowed to use mainstream credit card networks. But no one is in charge of Bitcoin, so there's no one to shut a site like Silk Road out.
The Silk Road was shut down by law enforcement in 2013 and its proprietor, Ross Ulbricht, is now serving a long prison sentence. But unsurprisingly, that didn't put a stop to Bitcoin-based online drug dealing.
Popper says that sites called Agora and Evolution soon replaced the Silk Road. Each became dominant in the online drug market and then they too were taken down by the authorities.
"Right now Alpha Bay is the biggest," Popper said. "The fact that these markets keep getting taken down and popping up again speaks to the endurance of it."
There are also some signs that Bitcoin is being used in countries with dysfunctional currencies, like Venezuela right now, to evade laws designed to limit international currency flows.
Still, it's important to note that in both markets, Bitcoin is far less significant than conventional cash. There is more than $1 trillion in $100 bills in circulation, and a large fraction of that cash is used for illicit activities. The Bitcoins in circulation, in contrast, are only worth about $10 billion.
In Venezuela, trading volume on one popular Bitcoin trading site has grown a lot. But it's still only about $200,000 per week — a tiny number in a nation of 30 million people. Venezuela'sblack market for $100 bills is likely to be much bigger.
Indeed, Emin Gun Sirer, a Cornell computer scientist who studies Bitcoin, told me that the use of Bitcoin for illicit purposes is overstated.
The fraction of transactions "going into darknet markets is quite small," Sirer says. "We are also not seeing people use bitcoins to buy coffee."
The main thing people do with Bitcoins, Sirer told me, is buy it and hold onto it.
"Bitcoin was designed to be digital gold," he said. Because the supply of bitcoins is capped at 21 million — most of which have already been distributed — the currency's value is likely to go up over time. Which means that Bitcoin doesn't necessarily need to be widely used as a currency or a payment network in order to be an appealing way to store value.
Bitcoin experimentation hasn't stopped — but it's getting less ambitious
If anyone should be optimistic about Bitcoin's future, it's Jerry Brito, executive director of the Coin Center — a think tank that advocates for Bitcoin and other cryptocurrencies. I asked him where he sees the most promise for Bitcoin's future.
He pointed to a couple of areas where Bitcoin experiments might still bear fruit. One is in remittances. Bitcoin doesn't appear to be in any danger of displacing giants like Western Union from the global money transfer business.
But especially in developing countries with dysfunctional banking systems, there are signs that Bitcoin could provide the foundation for a new generation of services to transfer money overseas. The Philippines has emerged as a region with a lot of startups trying to build viable money-transfer businesses based on Bitcoin.
There are also some startups experimenting with using Bitcoin to make micropayments. Micropayments — the idea that you could fund media by having users make small payments as they consume content — is an old one with a long history of failure. But a new crop of startups, including a web browser called Brave, are hoping to finally make the model work.
"The Bitcoin community has become more boring," Sirer said. "That's a good thing. We used to see a lot of scams. There are not so many scams anymore."
But there's also a lot less talk about Bitcoin's potential to upend the global financial system.