Bitcoin fever gripping the world, part 2: Anonymous money

In my previous post I summarized why Bitcoin can theoretically be used as a means of payment. However, I only mentioned the minimum conditions that it needs to satisfy. That in itself is not sufficient for Bitcoin to replace, if only partially, the tenders currently used. After all, why would anyone switch to Bitcoin, if it does not offer any advantage over money, which is tried and tested? It needs to offer some benefits that traditional money doesn’t. What are those?

In order to answer that question, let me digress a little. It seems at though we are witnessing the opposite of an Orwellian world based on complete surveillance, but in many different ways all at once. First, instead of a central authority uncovering the most minute details of our private sphere by means of surveillance, we, of our own volition, publish such details on all kinds of social networking websites. Second – and this is the interesting phenomenon with regard to the current topic – people who are sensitive about their private sphere are bothered by the fact that a vast amount of information can be retrieved about them by monitoring their online activities (which is relatively easy to do). If authorities today were to carry out such surveillance, then they would know more than Big Brother about our views, opinions, preferences, interests, perversions etc. Hopefully in the West that power is not abused too frequently (though of course I have no illusions). However, the lives of a Chinese dissident, a blogger writing about the Arab Spring, a Russian investigative reporter or even a Pakistani pornography lover, and those of their families, could depend on online communication being untraceable.

A number of projects have taken up the cause of online anonymity. One of those is the Tor project, which is based on software that can be downloaded free of charge. If you surf the net with Tor, it encrypts your outgoing and incoming data traffic, and also forwards and mixes it up with the data traffic of other Tor users. That means that ultimately no information can be gained from external surveillance of your online communication, since only a large, incomprehensible mess will be found. It is not even possible to tell what websites somebody visits.

However, Tor also has another great advantage. It enables websites to be created that others can only access in encrypted form using Tor and that cannot be accessed using traditional browsers. Such websites with .onion domain names are untraceable, and cannot be centrally blocked. Nor is it possible to tell which server their content is stored on or who their operators are. These sites are known collectively as the “Deep Web”, the dark corner of the web.

Unsurprisingly, if something is untraceable, then it will be used by people who want to keep a low profile for other reasons. They offer all kind of illegal wares on the Deep Web, in untraceable online shops. Such sites can be used to purchase drugs, weapons, stolen bank card data, forged documents and child pornography or to find a hitman online. However, the risks for buyers go beyond those typically related to crime: there is no consumer protection authority to protect them from scams or to ensure that, say, a newly purchased Kalashnikov can be exchanged if it turns out to be faulty.

However, even those kinds of risks can be reduced. The largest online marketplace on the Deep Web is Silk Road, where drugs are the main product purveyed. In terms of demand and deliverability, drugs are probably the optimal product: demand is high and only an amount small enough to fit in an envelope needs to be delivered. Silk Road works like a typical retail website. Sellers and buyers can both register. Sellers upload photographs of their wares and provide descriptions. Buyers can send reviews and ratings of the goods purchased. The site even employs an escrow system to filter out scammers. Buyers purchasing solely from reliable vendors with plenty of positive feedback are highly likely to get good-quality goods in exchange for their money.

Gawker, the online American gossip blog, published an article about Silk Road in 2011, just a few months after the marketplace had come on the scene. News of the marketplace spread through America, and senators started banging on the table and demanding that Silk Road be shut down immediately. They wanted to set an example – after all what an impertinence to sell drugs so openly and laugh in the face of the existing legal system in full view of the public. It became a matter of honour. The top investigative authorities of several countries began working on the case with considerable resources, determination and political support. The result after a year and a half: zilch. Or, rather, Silk Road’s business boomed thanks to all the media attention.

How is it possible that, despite launching such a hunt, the investigative authorities are incapable of determining which server a website accessible to anyone on any day (even if only through Tor) is hosted on and who the operators and sellers are?

During the sale and purchase of drugs, the first potential weak point in terms of getting caught is contact between the seller and the buyer (that includes the seller advertising their wares and the buyer placing their order). By means of Tor, online communication through the Deep Web is untraceable in practice and not just in theory, as the case of Silk Road proves. The second potential weak point is the money transfer. This is where Bitcoin comes in: Bitcoin is used as the exclusive currency on these marketplaces. Bitcoin does for financial transactions what Tor does for data traffic: it provides anonymity and untraceability.

Let’s take a look at how Bitcoin transactions work in practice. In many ways, the Bitcoin system works according to the reverse logic of the traditional monetary system. First, traditional bank transfers are performed in secret, or at least they are not performed in display of the world. When a transaction takes place between two accounts, only the account holders and the banks performing the transaction know about it. In the case of Bitcoin, soon after a transaction is launched, the whole world can know the details of the translation, i.e. what amount is being transferred between which virtual wallets (with public keys). Anyone who wants to can follow Bitcoin transactions launched worldwide, for example here.

On the other hand, unlike with a bank account, until the owner of a virtual wallet reveals their identity, nobody apart from them knows who the wallet belongs to. More importantly, no central authority/supervisory authority knows it either. You can download a program that generates wallets from the Internet and command it to generate one, ten or even a hundred wallets, without having to report such an operation to anyone.

And now we’ve come to (or perhaps I should say returned to) what is perhaps the greatest advantage of Bitcoin: anonymity. Although transactions between wallets are public, there is no way of knowing which wallet belongs to whom. Users may own as many wallets as they like; they can keep their Bitcoins spread over several wallets or use different wallets for different transaction types. One key advantage of Bitcoin compared to traditional money on a bank account is that you can own it, pay with it and receive payment anonymously.

Purchasing Bitcoins means, among other things, placing a wager that Bitcoin will increasingly satisfy the undoubtedly massive and growing need for anonymous use of money in the future. If that turns out to be the case, then criminals in movies will pay for nukes abandoned in Soviet successor states not with briefcases stuffed with notes, but with the far more convenient and reliable Bitcoin.

In my next posts I will talk about the further advantages and risks of Bitcoin.

Next in the series: Outside the system

Previous part of the series: What gives Bitcoins value?

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