A Night At A Bitcoin Party and Inside the Secret World Of Bitcoin

We sent our reporter Tom McKay to sleuth around a Bitcoin party and uncover the mystery behind the enigmatic crypto currency. Is Bitcoin the next big thing, or one giant Ponzi scheme? Here's a fascinating look at the utopian monetary system taking the internet by storm.
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We sent our reporter Tom McKay to sleuth around a Bitcoin party and uncover the mystery behind the enigmatic crypto currency. Is Bitcoin the next big thing, or one giant Ponzi scheme? Here's a fascinating look at the utopian monetary system taking the internet by storm.
Bitcoin

It's 10 P.M. on a Saturday night in early May, and the Bitcoin Center NYC is throwing something you don't normally see on Wall Street: an EDM festival. DJs spin beats while an odd mixture of club kids, off-work suits, and libertarians line up for a keg (Yuengling) and wine (variety pack). Vendors are hawking glow-art just a few steps away from displays advertising Bitcoin ATMs with a taped-over price mark of $6,599. A security guard at a nearby building scowls at the crowd, which is making far more of a ruckus than the neighborhood's usual patronage of lost tourists and hurried brokers.

An intern is all smiles and confidence. "We're gonna take over Wall Street!" he yells to a smattering of applause from a crowd in the lobby. Near the end of the party, a dancing man in a giant bitcoin suit shows up and gives me a high five.

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Bitcoin's the next big thing, and it will make investors very rich -- that is, if it's not just the next big speculative bubble. I can't help but notice that aside from the vendors, staff and a few more true believers, much of the party is there for the free booze.

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I first met with the staff of the Bitcoin Center a week earlier, when I joined them for a press round-table to learn more about crypto-currency. The eponymous Bitcoin of the title is a new medium of exchange that operates solely through an elaborate cryptographic protocol, making it a virtual commodity. The cadre of eager Bitcoin enthusiasts I met at the center included founder Nick Spanos (pictured below), an assertive entrepreneur with a fondness for striking the table for emphasis, and deputy director Austin Alexander, who boasts both a near-encyclopedic understanding of digital currency and what seems like boundless boosterism for the coins themselves.

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Spanos refers to himself as a "disciple of the blockchain," the shared, irreversible public ledger that controls the entire Bitcoin network and ensures the integrity of individual bitcoins. There is fixed supply of bitcoins; more appear only by being unlocked as the cloud of bitcoin users "mine" more - a deliberately resource-intensive system which confirms transactions across the network. As time goes on, Bitcoin's users build out the blockchain and the blockchain randomly distributes fragments of bitcoin to miners. Bitcoin is essentially a rewards system with diminishing returns for miners who help support the blockchain. A single bitcoin perhaps could be mined in a few hours on a home computer after the bitcoin protocol was released as public software in 2009, but is now essentially impossible to acquire without the aid of a special mining computer.

Bitcoins and all cryptocurrencies -- like the fun-oriented Dogecoin -- essentially act as a store of value in the form of computational effort. This isn't as crazy as it sounds, since as Alexander pointed out, a dollar is essentially a store of man-hours. But those man-hours ostensibly reflected economically productive effort, while the processing power going into bitcoin essentially grew it out of nothing but electricity.

As more people downloaded the client software and generated more bitcoins, the value of each individual unit increased dramatically; a single bitcoin, worth almost nothing when the protocol was released in 2009, is now worth around $500. But because the Bitcoin protocol doesn't operate on the kind of monetary principles that regular currencies do, the value of bitcoins tends to be incredibly unstable. The highest recorded price was $1,242 - slightly more than the price of an ounce of gold. The total worth of its market capitalization when all bitcoins have been generated (sometime around the years 2110-2140, when all 21 million bitcoins will be unlocked) is a matter of intense debate, but some expect it to reach the hundreds of billions.

In addition to the processing power needed to sustain bitcoin's constant growth, its value is further inflated by hoarding. Boston University finance professor Mark Williams told Forbes at the beginning of the year that he estimates 47 people own 29% of all bitcoins, while 930 own 50%; he says that "many of them were miners and they turned into speculators."

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"If you hype demand the small incremental amount that is available for sale set the price," Williams added. "That's not an efficient market, that’s an inflated market, a market that is misled with false information. I think the market mechanism right now is being interfered with."

Others are more bullish, pointing to the strength of Bitcoin's underlying model. I talked via Skype with Columbia University's Sheen S. Levine, who called Bitcoin a perfect example of an entirely voluntary movement. "All [users] are operating under the same principles. A bunch of people would come together - that's the framework - and each one of them makes voluntary contributions to it ... unlike in a traditional organization, people do not take a salary and can come and go as they will."

Bitcoins are stored with users in encrypted wallets, files which act as a repository for the coins themselves. Each wallet has private keys necessary to send and retrieve funds. Without the keys, a wallet can't be accessed, meaning even something as simple as losing the keys to a bitcoin wallet can permanently lock a user out of their funds. There's no secondary system for gaining back access to the money. Spanos helpfully explained that a user who lost his wallet key is "shit out of luck."

In the hands of an experienced user, however, the system can be remarkably secure, especially if the wallet is stored offline. Coins that are lost will permanently float in limbo. Since Bitcoin is distributed, it's also widely agreed to be unhackable - but bitcoins are only as secure as the keys themselves. If they're stolen, they can be recirculated throughout the web using a technique called tumbling, where hot bitcoins are mixed in with others and reused elsewhere.

The Bitcoin Center's staff are emphatic on this point: "Bitcoin" refers to the protocol, while "bitcoin" (lower case) refers to the units themselves. Spanos doesn't get caught up in how to define bitcoins, at one point referring to them as a "currency or commodity or whatever." Another staffer compares it to Skymiles.

The coins themselves have countless uses, but are only slowly entering the mainstream. Most are mundane: online vendors that sell geek-friendly merchandise are among the thousands of sites that accept payment in digital currency. Others are outright illegal. Federal agents busted Silk Road, a sprawling, totally anonymous online drug market that accepted only bitcoins as payment in late 2013. At the dance party, a libertarian who goes by a psuedonum claims that by anonymously purchasing bitcoins under fake names, it's possible to hide significant amounts of money online from the IRS - an amount he reluctantly details adds up to "half my liquid savings." Some have intentionally designed accessories to increase bitcoin's potential for illegal activity, like the untraceable DarkWallet, which essentially runs all coins that pass through it through a gigantic tumbler that separates them from their encoded history.

"I want a private means for black market transactions," DarkWallet co-creator Cody Wilson told Wired, "whether they’re for non-prescribed medical inhalers, MDMA for drug enthusiasts, or weapons."

"... Yes, bad things are going to happen on [Dark Wallet] marketplaces," Wilson says. “Liberty is a dangerous thing."

Bitcoin was created by an unknown cryptographic expert believed to have a libertarian or anarcho-capitalist bent, and it still faces issues embedded into its design that seem like the result of prioritizing a coder's highly specific technical needs over things a consumer would actually want. For example, it can ultimately be pretty hard to get your money out of Bitcoin. Until 2013, the process went through major exchanges like onetime industry leader Mt. Gox, whose subsequent troubles probably have something to do with the fact that the site was originally designed to trade Magic cards. Predictably, many of the exchanges operated irresponsibly in this totally unregulated environment and simply stopped issuing withdrawals when they depleted their cash reserves, which was met with hugefrustration by the Bitcoin community. At one point shortly before Mt. Gox fell flat in February 2014, some suspected the exchange would take up to 22 months to issue pending USD transfers. On the eve of doom, a poll by CoinDesk found that 68% of customers were still stuck in limbo regarding the status of their cash and bitcoins. 51.4% of those waiting to collect had been waiting at least one month, with 8.8% saying they'd been on hold for more than five.

Mt. Gox went on to "lose" some $600 million in bitcoins, explaining that they had been attacked by unknown hackers and bled dry. But experts found disturbing holes in the site's story, including analysts from ETH Zurich who estimated that actual fraud could only plausibly account for 386 of the  750,000 missing bitcoins - and Mt. Gox later found 200,000 of them on an "old hard drive." Karpeles considers the matter done, and believes that no more of the missing coins will be found. But he's meticulously avoiding setting foot in the U.S., staying instead in Japan where he cannot be compelled to return for several pending court cases.

What would seem like an utter catastrophe to an outsider, though, is seen differently by a sizable portion of the bitcoin community. To them, the lack of regulation isn't a flaw but a feature. "It's the only free market we have," the pseudonymed libertarian told me. "Because Mt. Gox did not get a bailout, it shows that a free market still exists in the financial world." He said that Mt. Gox's collapse demonstrated the system is capable of self-regulation.

He added, "For the first time in history, people can be their own bank" - and with that privilege comes a manageable level of risk. Mt. Gox's former partners came to a different conclusion, suing the exchange for $75 million and later reluctantly supporting its petition for bankruptcy.

Spanos and other staff at the center made their disdain for most media coverage of bitcoin clear; according to Spanos, every article seems to run with an angle like "oh, someone stole a bitcoin! Oh, Mt. Gox collapsed!" And it's true that many in the media have a limited understanding of what bitcoins actually are, viewing them as an internet-borne pyramid scheme or scam.

But the issue isn't whether bitcoin is broadly safe as Alexander tells me. A smart investor would keep only a small portion of his wealth in them. What has people concerned is that it mimics money while being indisputably less safe than regular banking, where deposits are insured and transaction mistakes can be corrected. Spanos compared the loss of bitcoins to losing hard currency, but few people carry thousands on them at a single time. The hard drive containing untold wealth in lost bitcoins could very well have never been found, while an unwary user could easily permanently get locked out of his funds thanks to a fire or theft. Even using bitcoins to simply buy things can be risky, because there's no higher authorities to appeal to when the transactions are disputed. There are ways to safely use or transfer bitcoins online (namely, using an independent third party to verify and sign off on sales), but it's hard to imagine the process for not getting screwed being much more robust than, say, Paypal's.

Some cities have licensed ATMs that buy and sell bitcoins, and they've spread to the UK and even Israel. Early in September, New York's first Bitcoin ATM opened up in the West Village. But while many models allow people to take out actual cash, others like the ones being sold at the Bitcoin Center NYC only let you put money in. The West Village machine only offers a deposit function. In addition to being rather ominous, the ATMs are another example of how bitcoin's design and an institutional vacuum make it difficult to cash out.

Several of the center's staff agreed that the traditional online Bitcoin exchanges like Mt. Gox were more or less bust, and speculated that the future would rest on direct transactions between buyers and sellers - pairing people who want to buy bitcoins with people who want to sell. Basically, the end goal will be a P2P market for exchanging bitcoins for money or goods or what have you. The Bitcoin Center hopes to become NYC's central venue to host real-life BTC exchanges, perhaps pulling fees from facilitating face-to-face transactions, as well as educate businesses on how to set up and use bitcoins as a payment method. When asked what bitcoin's principle value is in, though, Alexander tells me money transfers - which it really is ideal for, seeing as transactions generally move quickly enough to avoid fluctuating value. Spanos simply tells me "We don't know yet." In August, the center announced that it was creating a bitcoin startup incubator.

"We're more than an incubator in someone’s garage out in Silicon Valley," Spanos told CoinDesk. "We’re on the ground floor here, we're 100 feet from the New York Stock Exchange and we have market makers and Goldman Sachs people and anyone you can think of that walks into our doors, and they want to invest."

Our pseudonymed friend says that while the Bitcoin protocol may ultimately go bust, other alternate and improved currencies will quickly fill its role. While Spanos and Alexander accept that the slow-moving process of regulating the coins is necessary for the government to tolerate it, he says that government rules will crush the nascent cryptocurrency before it has time to bloom in the free market of the internet.

Bitcoin's intense speculative market, hoarding, high barriers to entry and exit and questionable value have generated no end of skepticism. Paul Krugman (who is not popular among Bitcoin's intensely libertarian-leaning community) infamously referred to cryptocurrency as "evil," intended to damage governments' abilities to responsibly regulate the monetary supply and stick a knife in the kidney of banking institutions. A chief official at the Dutch Central Bank compared Bitcoin to the 1637 tulip mania, quipping that "At least then you got a tulip [at the end], now you get nothing."

Levine, however, says that challenging norms is all part of the point. "What you see is if the competition in a market that historically been dominated," he told me. "Government is facing new competition from this new creature, this new species."

"Why is a bank making decisions?" Spanos asks. With P2P technology, he assures me, "there will never be a Gox problem again."

Impressive as the commitment and knowledge of the Center's staff might be, much about Bitcoin echoes the internet bubble of the late 1090s, which generated massive profits for a relative few while leaving countless investors, as Spanos said earlier of hapless users, "shit out of luck." If Bitcoin is indeed a bubble that pops entirely, will its fervent community be wiped out? Or will it stand up, dust off its shirt and get back to mining? Either way, many people who will have had little problem buying in will have a lot of difficulty cashing out, and those relative few who have stockpiled massive piles of bitcoin will laugh all the way to the bank.