Categories  new technologies Policy

The Threat of Bitcoin: Worth the Hype?

On November 18th, the Senate Homeland Security & Governmental Affairs Committee in Washington was briefed on the potential threat, risks, and promises that Bitcoin poses to the Federal Government and society as a whole. We submit you an article collected from http://www.defenceiq.com/, written by Calum Jeffray, Research Analyst within the National Security & Resilience studies programme at RUSI

 

Six months ago few people had even heard of Bitcoin, and many of those only knew it through its association with the infamous Silk Road marketplace. Following the publicity it gained through Silk Road it briefly became more valuable than gold in late November. The media has now begun to ask such questions as ‘Is Bitcoin the future of currency?’ ‘Is Bitcoin the new gold?’ and ‘Is Bitcoin about to change the world?’ The growth in the currency’s popularity has been matched by concern over its use by criminals and extremist groups; the leaking of an April 2012 FBI intelligence assessment noting the risks of the currency has been followed by investigations by U.S. Congress, and stern warnings from the European Banking Authority alongside several other national central banks. Given the increased media storm surrounding the potential threats from Bitcoin, how serious should we take any dangers to national security, and how much is simply media hype?

What makes Bitcoin open to exploitation?

Bitcoin is described as a peer-to-peer electronic currency system, first noted in a 2008 paper by Satoshi Nakamoto (a pseudonym – very little on the identity of this ‘creator’ has ever been established). The first Bitcoins were exchanged in January 2009, and a complete record of all Bitcoin transactions since then is publicly available, a measure necessary in order to validate transactions and prevent any double-spending. When one user wants to transfer Bitcoins to another user, the participants of the decentralised network validate the exchange, and append it to the public history of transactions (called the ‘block chain’) in a complicated process requiring significant computational power (known as ‘mining’). The first to achieve the task is rewarded by receiving ‘new’ Bitcoins.

Bitcoin exchanges allow users to save on transaction costs, particularly internationally, but it is the anonymity of the exchange that is seen as its biggest advantage. Although their transactions are public, Bitcoin users are not required to provide any information on their true identities and can own as many Bitcoin ‘wallets’ – or accounts – as they like. According to one study of the peer-to-peer network, “Bitcoin identities are thus pseudoanonymous: while not explicitly tied to real-world individuals or organizations, all transactions are completely transparent” (1).Others see political benefits in the system, eager to use a currency safe from the perceived ‘interference’ of banks and, in particular, government regulation.

The absence of a central authority governing the system has its drawbacks, however, with no administrative body to report illicit activity or oversee the implementation of anti-fraud and anti-money laundering measures. In the words of a leaked unclassified FBI document, “Bitcoin lacks a centralized entity and is incapable of conducting due diligence (e.g. regulatory guidelines), monitoring and reporting suspicious activity, running an anti-money laundering compliance program, or accepting and processing legal requests like subpoenas” (2). No legal protection is available for users in the event of theft, with indications that “thefts are in fact quite common within Bitcoin: almost every major service has been hacked and had bitcoins […] stolen” (3). Finally, the lack of regulation means that the currency is particularly vulnerable to external shocks and susceptible to large fluctuations in value. This was illustrated in late 2013 with its rise in value from $13 in January to around $300 in mid-November and $1,242 on November 29th – higher than the price of gold at the time. It then plummeted to $830 in early December, after China announced it was barring the digital currency from all of China’s financial institutions (about one-third of the world’s Bitcoin transactions are made on the BTC China exchange, only open to Chinese users).

Known Threats from Bitcoin

The biggest threat to national security from Bitcoin thus far stems from criminals and organized criminal groups using the currency to anonymously purchase illegal and potentially dangerous goods and services, and to launder money. Digital currencies are attractive vehicles for money laundering as they allow for fast, anonymous, online transfers, and Bitcoin is certainly no different; the FBI has concluded that the network “provides a venue for individuals to generate, transfer, launder, and steal illicit funds with some anonymity” (4). The degree of this anonymity is what makes Bitcoin so enticing for launderers: “A user can use a different public key to deposit bitcoins into his Silk Road account than to withdraw bitcoins from his Mt. Gox [another Bitcoin exchange] account, and expect that these activities cannot be linked to either his real identity or to each other” (5).

The most notorious use of Bitcoin, however, was through the illicit online marketplace Silk Road, which only accepted Bitcoins as payment for the illegal drugs it sold until shut down by the FBI in October. Silk Road was not the only such illicit online market; out of those that are known (and it is reasonable to believe there are many that are currently unknown), ‘Black Market Reloaded’, the ‘Armory’ (which reportedly sold wares including weapons, ammunition and explosives) and the ‘General Store’ are all thought to have allowed users to purchase illegal material with Bitcoins.

A final known criminal enterprise associated with Bitcoin is the existence of so-called ‘murder-for-hire’ or assassination bidding markets. Most notably, this came to light following the indictment of U.S. citizen Ross William Ulbricht, the now former owner of Silk Road. Ulbricht believed that an arrested Silk Road employee had both siphoned off Bitcoins from Silk Road users and would divulge secrets about the network. He therefore allegedly paid an undercover agent $80,000 worth of Bitcoin to torture the employee until he transferred the Bitcoin money back to their rightful owners, then to kill him (6). Another case involved the illicit website ‘Assassination Market’, where anonymous users contributed Bitcoins toward plans to kill political figures such as US Federal Reserve Chairman Ben Bernanke, who at one point had the equivalent of a $75,000 bounty in Bitcoins on his head (7).

Future Threat Concerns

These cases have far from abated the fears of government and law enforcement agencies over future threats potentially emanating from Bitcoin exchanges, particularly given the recent increase in both users and vendors accepting the currency as payment. “If Bitcoin stabilizes and grows in popularity”, says the FBI, “it will become an increasingly useful tool for various illegal activities beyond the cyber realm” (8).

The most extreme concerns lie over what might be the most serious consequences of anonymous payments – including murder-for-hire, and anonymous purchases of explosives and other equipment that might be used in a terrorist attack – or its use by rogue states to anonymously acquire such material or circumvent sanctions and embargos. However, the most realistic and greatest concern currently lies with its potential for money laundering, since it is reasonable to suspect that Bitcoin will “attract money launderers, human traffickers, terrorists, and other criminals who avoid traditional financial systems by using the Internet to conduct global monetary transfers” (9). At its most complex level this will include faster and more sophisticated exchanges of smaller quantities of Bitcoins, particularly given the ease of opening accounts and recent growth in users. Even if users’ IP addresses can be traced, there is little reason to suspect that Bitcoins are not being stored and moved between locations and across borders on computer hard drives, external hard drives, or even USB sticks, further increasing the ease of transferring large sums of money between jurisdictions.

Mere Paranoia and Media Hype?

While these potential uses of Bitcoin appear alarming, there are reasons to doubt the portrayal of Bitcoin as ‘dangerous’. Firstly, many have remarked that most of the problems associated with Bitcoin are the same as those encountered with cash, with Bitcoin framed as the “electronic analog of cash in the online world” (10). Cash is also anonymous, it is also used in money laundering and illegal transactions, and it is also difficult to recover once stolen or transacted (although unlike cash, Bitcoin does require a certain degree of third party mediation).

The level of anonymity within the Bitcoin network has also been questioned, with one study finding a “growing gap […] between the potential anonymity available in the Bitcoin protocol design and the actual anonymity that is currently achieved by users” (11). Given the public record of transactions, it is thought to be more straightforward than first thought to trace transfers back to users; tech-savvy individuals can, for example, potentially deploy ‘marked’ Bitcoins and collaborate with other users to track the Bitcoins in the system. Law enforcement agencies may even be able to go one step further and use more sophisticated methods; Jeff Garzik, a member of Bitcoin’s development team, is quoted as saying it would be unwise “to attempt major illicit transactions with Bitcoin, given existing statistical analysis techniques deployed in the field by law enforcement” (12).

While the number of outlets accepting Bitcoins is increasing, it nevertheless remains difficult to cash money out at scale, limiting those wanting to use the system to launder money. In other words, while it is easy to purchase Bitcoins using ‘real-world’ money, it is more challenging to withdraw this out of the system again. And while theft may be common, the fact remains that most of the proceeds remain in the system; “if a thief steals thousands of bitcoins, this theft is unavoidably visible within the Bitcoin network” (13). One study, after tracking the flow of stolen Bitcoins from its ‘wallet’, found that after a few months much of the money had not moved at all. “There is massive hoarding in the Bitcoin system and the vast majority of capital does not circulate”, it concluded (14).

A final reason to doubt the widespread use of Bitcoin by the criminal and terrorist underground is simply its complexity. According to one UK law enforcement official, there is little reason to suspect terrorists in particular would use Bitcoin and other online currencies to raise and launder money when simpler alternatives are available. Although the trend may change over time, anecdotal evidence appears to suggest that Bitcoin remains the preferred channel for opportunistic criminals rather than organized groups or extremist organizations. Weapons and ammunition, for instance, used to be available on Silk Road until they were transferred to a sister site called The Armory. In 2012 the Armory closed, reportedly due to lack of business (15).

Conclusion

Bitcoin is not the first online currency to gain notoriety – another being the now defunct e-gold, owned by Douglas Johnson, who in 2007 was indicted for money laundering and operating an unlicensed money transmitting business – and it certainly won’t be the last. But Bitcoin gained more attention than usual during 2013 as its popularity and value both grew exponentially. Given its association with the Silk Road marketplace, many observers feared that, given the apparent anonymity of its users, the currency would be the latest tool in the criminals’ and extremists’ toolbox. While the threat remains subdued, careful attention needs to be kept on its potential use by individuals to purchase illicit equipment (in particular, law enforcement agencies need to be on the look-out for variants of Silk Road), and its use by money-launderers, a challenging task given the difficulty of monitoring suspicious activity.

Some have called for Bitcoin to remove the veil of anonymity it offers, since “almost no one disputes the notion that the right to digital financial privacy does not extend to providing an impenetrable legal shield for the online financial activities of terrorist groups, human traffickers, or drug cartels” (16). Others have gone further and called on the U.S. government to shut down the network, although as Gavin Andresen, Bitcoin Foundation’s Chief Scientist, points out, “that wouldn’t be very effective, because there are people all over the world who would pick it up and re-implement it” (17). Even if the Bitcoin network were to be shut down, it is likely to be replaced by something similar.

There is therefore a need to see Bitcoin as a means to an end rather than a threat in itself, and understand how it can be adapted to fit in with existing regulatory frameworks. “Bad actors will use any medium, whether it be cash, cell phones, social media, the internet or Bitcoin, to achieve their means”, claims Jinyoung Lee Englund, a Director of the Bitcoin Foundation. “So a better understanding of the technology is required in order to understand how to best mitigate the risks within existing regulatory guidelines” (18).

 

Sources

1. Meiklejohn et al. (2013), “A Fistful of Bitcoins: Characterizing Payments Among Men with No Names”, Proceedings of the ACM Internet Measurement Conference, Barcelona, Spain, October 2013, pp.127

2. FBI Intelligence Assessment: “Bitcoin Virtual Currency: Unique Features Present Distinct Challenges for Deterring Illicit Activity”, 24 April 2012, pp.3

3. Meiklejohn et al. (2013), pp.137

4. FBI Intelligence Assessment, pp.1

5. Meiklejohn et al. (2013), pp.128

6. Time Magazine online: “Alleged Black Market Operator Indicted in Murder-for-Hire Scheme”, October 3rd 2013 [available at:http://nation.time.com/2013/10/03/alleged-black-market-operator-indicted-in-new-murder-for-hire-scheme]

7. Aljazeera online: “World powers react to the Bitcoin boom”, December 7th 2013 [available at:www.aljazeera.com/indepth/features/2013/12/world-powers-react-bitcoin-boom-2013127115950323990.html]

8. FBI Intelligence Assessment, pp.9

9. Ibid.

10. Reid & Harrigan (2013), An Analysis of Anonymity in the Bitcoin System in “Security and Privacy in Social Networks” (New York: Springer), pp.2

11. Meiklejohn et al. (2013), pp.138

12. Reid & Harrigan (2013), pp.2

13. Meiklejohn et al. (2013), pp.135

14. Ibid. pp.138

15. Christin (2012), “Traveling the Silk Road: A measurement analysis of a large anonymous online marketplace”, Proceedings of the 22nd international conference on World Wide Web, pp.4

16. Villasenor, Monk & Bronk (2011), “Shadowy Figures: Tracking Illicit Financial Transactions in the Murky World of Digital Currencies, Peer-to-peer Networks, and Mobile Device Payments” (Brookings Institution), pp.5

17. New Yorker online: “The Bitcoin Boom”, April 2nd 2013 [available at:http://www.newyorker.com/online/blogs/elements/2013/04/the-future-of-bitcoin.html]

18. Aljazeera online: “World powers react to the Bitcoin boom”

Contributor:   Calum Jeffray

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