Month: November 2012

Recently, in the media surrounding Bitcoin, you may have heard about an event called the “block reward halving” that will soon be taking place in the Bitcoin network. Projected to take place on Wednesday at around 18:00 UTC, for the first time ever in Bitcoin history, the rate at which new bitcoins are generated will permanently be cut by a factor of two, and people all over the Bitcoin community are debating what the economic consequences are going to be. Opinions range from those who believe that Bitcoin will enter a period of extreme financial instability as it is caught off guard by the sudden shock in supply to those who believe that the markets will simply hum along as if nothing had happened at all. What this article will do is explain exactly what the block reward halving is, the economic issue that is at the core of the debate, and some of the more subtle effects that could arise from this in the medium to long term.

What Is The Block Reward?

In order to understand what’s going to happen on Wednesday, it’s important to first understand how money creation in Bitcoin works. The database that keeps track of which addresses have how many bitcoins is stored in the form of a “block chain”, which is extended by one block roughly once every ten minutes. Each block contains all of the transactions that have taken place during that time, and when a block is added to the chain, it signifies a consensus among the Bitcoin network that those transactions took place at that time. As time goes on and more blocks are added on top of that block, the consensus solidifies, and after four to six blocks, any attempt to fraudulently change the transaction history to your own benefit becomes impractical because of all the work that has already been done overtop. Blocks can be created by any node on the Bitcoin network, and to regulate the rate of block creation, the network imposes constraints on the form that a valid block can take, with the result that it requires a lot of trial-and-error work to find a block that is valid – so much work that the entire network only manages to find one roughly once every ten minutes. That is a constant; there is an adjustable parameter called the “difficulty” which the network collectively manages to make sure that the actual block creation rate never strays far from that value.

Because creating (or “mining”) blocks is so crucial to the security of the Bitcoin network and yet so hard, the Bitcoin protocol includes a mechanism to encourage people to mine: every time a block is added, the miner who found the block is given 50 BTC as a reward. There is also another mechanism to encourage mining called transaction fees, which will grow in importance in the far future, but for now, the block reward is by far the largest financial incentive to encourage people to participate in the block creation process. The block reward also has another function; it the only way that new bitcoins come into existence. Any bitcoin that you send or receive was at one point somebody’s block reward.

So What’s Happening to it, and why?

The rate at which new bitcoins are introduced into the system was never intended to stay at 50 BTC per 10 minutes forever. Rather, Bitcoin has a monetary policy that was coded into the system right from the start that reduces the rate over time, until the generation of new bitcoins finally stops entirely at a maximum of 21 million in 2140. There will still always be one block coming out every ten minutes, but the number of bitcoins handed out as a reward in each block will come down in sharp steps, cutting in half about once every four years (precisely, once every 210,000 blocks). The event that will happen on Wednesday is exactly this; after block 210,000 hits, every block thereafter will have a reward of only 25 BTC instead of the original 50 – at least until the next block reward halving in 2016.

The main reason why this was done is to keep inflation under control. One of the major faults of traditional, “fiat”, currencies controlled by central banks is that the banks can print as much of the currency as they want, and if they print too much, as happened in Weimar Germany in 1923 and Zimbabwe in 2007 (among many other unfortunate examples), the laws of supply and demand ensure that the value of the currency starts dropping quickly. Because the only use for money is to exchange it for something else later, a currency that is rapidly decreasing in value becomes even less valuable for that very reason, leading to a hyperinflationary spiral. In the later stages of such a calamity, hundred billion dollar bills littering the ground is not an uncommon sight.

Bitcoin, on the other hand, is intended to simulate a commodity, like gold. There is only a limited amount of gold in the world, and with every gram of gold that is mined, the gold that still remains becomes harder and harder to extract. As a result of this limited supply, gold has maintained its value as an international medium of exchange and store of value for over six thousand years, and the hope is that Bitcoin will do the same.

What Will The Economic Effects Be?

The question that most people are focusing on right now is what will happen to the Bitcoin price. Thought on the issue is currently split into two camps. Those in the first camp believe that the decrease in the block reward will cause a “supply shock” in the Bitcoin economy as the number of available bitcoins suddenly goes down, pushing the price up by as much as two times to compensate. This line of thought rests on two key hypotheses. The first is that the supply of bitcoins on the market is largely made up of miners trying to collect a profit, and current major holders play a smaller role. This hypothesis holds increasing weight as mining becomes more and more dominated by professional “mining companies” seeking to earn a profit, and was bolstered further in another way by a recent study by Dorit Ron and Adi Shamir which found that 78% of bitcoins currently in existence are not in active circulation.

The second hypothesis is actually the one attacked more frequently: that the supply shock has not yet been priced into the market. The fact that the block reward would decrease to 25 BTC after block 210,000 has been known since 2009, and what those in the second camp argue is that traders anticipating the change have already bought up bitcoins in the months leading up to the event with the intent to sell them after. If they are correct, then even if the supply of bitcoins coming into the market from miners will soon cut in half, the supply from traders will make up for it, and the price will remain roughly the same. As David Perry summarizes in his article on the subject, “this specific issue comes down to one difficult-to-answer question: what percent of the community is aware of the impending change?”

It’s important to note that the Bitcoin price may also, at the same time, move for other reasons. Right now, Bitcoin has climbed from $10.8 to $12.1 over two weeks, likely because WordPress started accepting Bitcoin, and historically price has been highly correlated with search volume as well. Bitcoin may simply continue its current short-term trend because another organization decides to accept it, or public interest in Bitcoin goes up in the short term, regardless of what happens because of the change in the block reward.

Okay, you mentioned more subtle effects. What else?

There is one reason to be concerned about the consequences of the event for the Bitcoin economy. In order for Bitcoin merchants to succeed, they need consumers who have bitcoins with which to pay them. The one group that is receiving a constant supply of bitcoins to spend is the miners, and so there is a possibility that miners are an important consumer base for the Bitcoin economy. An article by The Verge called them “Bitcoin’s working class“. With the block reward cutting down from 50 BTC per 10 minutes to 25 BTC, the amount of bitcoins that this crucial demographic has to spend will be cut in half, leading to a significant loss of volume to businesses which depend on them.

However, there is also another very profound change that will soon take place in the Bitcoin mining ecosystem: the introduction of the ASICs. ASICs, or “application specific integrated circuits”, are a kind of specialized computer chip that is designed to do only one task, but do that one task extremely well. They are used in a variety of applications including memory blocks, digital voice recorders, cars, and PDAs, but around the beginning of this year a, number of companies have started work on adapting the technology to Bitcoin as well. The result? Mining computers ten times more powerful per dollar spent on both electricity and hardware than anything else that has come before.

These two effects combined can only mean one thing for Bitcoin’s existing crop of miners: a sudden, drastic drop in revenues to anyone who does not upgrade. Currently, blockchain.info estimates that the average miner spends $0.3-$0.6 on electricity and bandwidth for every $1 that they earn from mining. In 2013, those miners who do not upgrade would be paying the same amount in costs but earn only a tenth as much once ASICs reach 50% market share. Outside of special circumstances, like landlords paying for electricity or mining doubling as a heating system, mining with anything but an ASIC will not yield a profit at all. Thus we are going to see not just a reduction in revenue for Bitcoin’s miners, but also a shift in who Bitcoin’s miners are. Those with large racks of GPUs in their spare rooms or mining software running on their gaming computers will fade away, and a new, considerably more amateur, wave of Bitcoin enthusiasts with ready-made ASICs from businesses like Butterfly Labs or Avalon will take their place. Of course, there will be many GPU miners who do upgrade, and just like the issue of how much of the upcoming supply shock is already “priced in,” just how much the mining community will change once ASICs come into play is a wild card.

Of course, the question of exactly how important the miners are is a wild card in itself. One of Bitcoin’s leading payment processors, BitPay, is reporting transaction volumes of $550,000 per month, or $18,000 per day – 2.5 times the current daily currency creation rate. However, there may be specific sectors of the economy that are more dependent on Bitcoin miners, and the potential exists that the new group of miners has drastically different preferences in terms of saving versus spending that may either augment or cancel out much of the supply shock.

Where can I celebrate?

There are lots of block reward halving parties happening around the world. You can find a short list here. If there isn’t one happening in your city, take the opportunity to find some fellow Bitcoin users in your city and create your own!

 

After the collapse of Bitcoinica six months ago, the business of margin trading, a service which at Bitcoinica’s peak attracted a trade volume almost as large as that of MtGox itself, disappeared from the Bitcoin ecosystem almost entirely. Since then, there have been a number of disparate efforts to bring margin trading back. Almost as soon as Bitcoinica fell, a company named RingCoin announced Kronos.io, a product which looked like it could be a superior upstart competitor that would not suffer from the security faults of its predecessor. However, kronos.io was never completed, and RingCoin is now defunct. Another alternative was icbit.se, a service which has been trading options between BTC and USD, gold and even crude oil for months, and is still active now, but has not had anything close to the level of success reached by Bitcoinica. Finally, there is the Bitcoin stock exchange MPEX, which also offers USD/BTC options for trade.Aside from these three, a number of other minor attempts have been made, some of which turned out to be fraudulent, and none of which successfully brought back what the Bitcoin ecosystem lost when Bitcoinica fell.

The idea behind margin trading is simple. If you have an account at a traditional Bitcoin exchange like BitStamp of MtGox, you have two balances: a BTC balance and a USD balance (or perhaps a CAD or EUR balance, or some other currency, depending on what country you are in). Apart from depositing and withdrawing, the only operation available to you is trading one currency for another, reducing the BTC balance by some value and increasing the USD balance by that value multiplied by the current price (or vice versa), also paying a small spread and commission. If you are participating in the exchange as a trader, your goal is to convert to BTC before the exchange rate goes up, and convert to USD before the exchange rate goes down, slowly increasing the net worth of your account over time. The benefit to society from such trading is that it stabilizes markets; a successful trader who earns a profit will, in doing so, prop up the valleys and dampen the peaks of the Bitcoin price, ensuring a more stable exchange value for all. Margin trading services add only one feature to this model: the ability to have one of your balances go negative. That is, if you have 10 BTC and 0 USD, and you are really sure that BTC will go up in the near future, you can buy more BTC on the market, and have a balance of, say, 15 BTC and -$55 USD. The attraction of doing such a thing is simple: if the value of a bitcoin shoots up by 10%, then the net worth of your account will grow by more than 10%. However, there is also a risk: if the value drops by 10%, the net worth of your account will drop by more than 10% as well. If you are really unlucky and the price drops by so much that the net worth of your account becomes negative, then your balances are “liquidated” and you lose everything. The ratio between the change in BTC price and the change in the net worth of your account is called the leverage, and there is typically a maximum leverage, which in the Bitcoin economy has historically been about 10:1.

This is the service that Bitcoinica was providing for eight months before its shutdown in May Now, it looks like another competitor is positioning itself to take this niche: Bitfinex. The service that BitFinex is providing offers a number of advantages over what Bitcoinica provided. First, the security that they claim to be offering is much higher. Unlike Bitcoinica, whose online-accessible “hot wallet” was hacked for $222,000 in March, Bitfinex plans to have no hot wallet at all, processing withdraws manually at the end of each day. The API keys that they use to deal with exchanges will be limited to trading, and will not have the ability to withdraw, averting a mistake which proved ruinous to Bitcoinica when $320,000 was stolen from their MtGox account in July. In terms of account security, Bitfinex once again beats Bitcoinica, offering two-factor authentication right from the start.

More interestingly, BitFinex will trade with a number of exchanges, offering spreads lower than those that can be found at any single one, and there is even the option to make a special “routed order” which will never be passed on to exchanges and instead attempt to eat up an opposing BitFinex order. As exchanges are bypassed, the fee for taking this option will only be 0.1%. Finally, just like Bitcoinica in the later months of its operation, an interest rate system is in place with which users can deposit money and earn an interest of currently 16.5% annually in exchange for providing liquidity.

However, there is also much to worry about. The BitFinex source code is based on the notoriously insecure Bitcoinica source code that was leaked in July, and one forum poster, Davout, found that one could use one of the same exploits against Bitfinex that worked against Bitcoinica when it was still operational: set the leverage to 10,000, put in a small amount of money, and wait for the price to move. If it moves even slightly down, the leverage effect ensures that the result will be immediate liquidation. If it moves up, however, the size of the account balance will jump up by ten thousand times the increase in the underlying BTC price, securing a profit margin far above 100%. Other issues, such as the use of floating point numbers (a form of binary scientific notation typically used to represent non-integer values in computers but known for their inexactness when trying to store decimal values) to store account balances, were also discovered. Even though Bitfinex’s creator Raphael Nicolle claims that “Bitfinex is now much more powerful and robust”, the discovery of such flaws so soon after Bitfinex’s beta release bodes ill for such an otherwise promising startup.

Secondly, the “no hot wallet” setup that is at the core of BitFinex’s design, although admirable, has a problem of its own: if, over the course of one day, it happens that users are consistently buying more BTC than selling, or vice versa, then in order for BitFinex to be able to honor all of its users’ positions it needs to step in and act as the counterparty to some of its users itself. This kind of setup is known as a bucket shop and is heavily frowned upon (and in many jurisdictions even illegal) because it creates perverse incentives – the shop can potentially make an order on the markets large enough to significantly bump the price up, liquidate all of its users who had opposite positions at high leverage, and keep all of their funds as profits. Even if Nicolle does not want to create a bucket shop, given a no hot wallet setup Bitfinex may have no choice but to periodically temporarily become one.

Also questionable is the founder, Raphael Nicolle, himself. Fortunately, this is not another attempt at an anonymously run financial service; Nicolle has provided a LinkedIn profile which confirms his involvement in BitFinex, and has plans to register the company when they settle on the best jurisdiction to locate their service. However, he was also involved in the Bitcoin investment scheme craze that had reached its peak in the Bitcoin community this summer, strongly supporting the (then only suspected) Bitcoin Ponzi scheme operator Pirateat40 in August, stating “now that Pirateat40 closed down his operatations thanks to all the fud that was going on and growing on the forum, I expect everyone that spreads this fud, accused and insulted Pirate and the people that supported him to apologize.” He even tried to open a 2%-per-week investment scheme of his own in September. Of course, all this does not nearly suggest that Nicolle was, and is now, attempting to defraud; 2% weekly interest rates, or 180% annual, are actually quite reasonable in a volatile startup economy where Bitcoin itself can easily rise and fall by much more than a factor of 2.8 within the same period. His endorsement of Pirateat40 too may simply have been a misguided expression of group solidarity and his ardent support of capitalism. However, for those who are concerned above all with the safety of their money reputational factors are an important consideration, and Nicolle may do well to find some trusted members of the Bitcoin community as partners if he wishes to quickly secure the community’s trust.

Perhaps BitFinex will indeed do what Bitcoinica, Kronos.io, and Icbit could not and provide a secure and lasting margin trading service for the masses. But perhaps this platform too will fail in the same way that Bitcoinica did. When Zhou Tong first released Bitcoinica to the public, he received what proved to be a prophetic reply on the Hacker News message boards: “systems that work with money are attacked hard and often, by intelligent skilled people. Spectacular failure is your destiny if you don’t work very hard to prevent it. Spectacular failure may be your destiny even if you do work very hard to prevent it. You should plan accordingly.” The quote applies just as strongly in this case. Nicolle is clearly trying hard to create a strong security setup for BitFinex so that it can avoid the security pitfalls that so ruinously struck Bitcoinica earlier this year. Given some of his security decisions, however, the question is: will he be able to?

 

Bitcoin has come far in this past year. Almost exactly one year ago, the Bitcoin price was almost at the bottom of the largest prolonged slump in Bitcoin history, having fallen from an all-time high of $31.91 in June to a bottom of $1.994 on November 17. Media attention on Bitcoin was almost universally negative, and Wired even ran an article entitled “The Rise And Fall of Bitcoin“, leading many to think that the currency was by then essentially dead. But, as we now know, Bitcoin was far from over. After bottoming out just under $2, the price quickly rebounded, hitting a high of $7.22 when the currency was featured on an episode of The Good Wife, an American legal drama with over 10 million viewers. The price once again somewhat dropped from there, and remained stable around $5 for over three months, until it finally began to climb once again at the end of May. In the summer, propelled by another spike in media attention combined with an artificial boom induced by fraudulent Bitcoin Ponzi schemes, the price rose to briefly touch $15.4 before the Ponzi schemes collapsed, the media attention somewhat receded, and the price oscillated wildly for a few days before stabilizing at a price level of $10-$13, where it has remained since.

The question that can be asked now is: where is Bitcoin now? Is the Bitcoin economy headed for another recession, not quite as severe as that of $2011 but which may still bring the price to $5-$8, is Bitcoin continuing to take off behind the scenes, or is the reality somewhere in between? There are many ways to answer this question. One way is to look at the projects that are currently being developed in the Bitcoin community. One can, for example, see that a number of competing businesses are releasing ASIC-based Bitcoin mining hardware, that BitInstant is coming out with a Bitcoin debit card, that WordPress has started accepting Bitcoin, and that in September Bitcoin received its first inklings of government approval (a process which may only become easier with the advent of the Bitcoin Foundation), and use that information to conclude that Bitcoin is doing great and will only continue to rise through 2013. Alternatively, one can take a dimmer view and claim that nothing truly groundbreaking is taking place, and so the price will go down. However, what this article will focus on is evaluating Bitcoin by the numbers, and looking at what is happening to the various trends that have historically been highly correllated with Bitcoin’s success.

Google Trends

Historically, the Google Trends search volume for Bitcoin has been very highly correlated with the Bitcoin price. Here is a chart that shows the relationship between the two:

Notice how precisely the trends volume followed along with the price all the way through the 2011 bubble and crash, the mini-bubble in January created by the Good Wife episode, and the period of stability that followed. Around May, however, the two started to diverge. Although the search volume did follow the price somewhat as the price rapidly increased to $13 over the summer, it did not pick up nearly as quickly. Since then, search volume has declined and essentially reverted to the same slowly increasing trendline that it has been on since November, but the price does not reflect this; if the correlation had remained, Bitcoin would be at $6, not at $11.

There are several ways to explain the disparity. First, one could argue that we are still in a mini-bubble, and the price will indeed return to $6-$8 in due time. If you look closely, this is exactly what happened on a much smaller scale in January; the trends volume dipped first, then the price. Second, one could argue that the disparity is there because the market has already adjusted to the halving of the block reward that is due in early December. The fact that the disparity is almost exactly 2x strongly supports this hypothesis. Third, one could argue that this is the “natural” price, and the lower prices earlier this year were the result of market manipulation. This is also possible; many suspected Pirate, the operator of the Bitcoin Savings and Trust Ponzi scheme that collapsed in August, of somehow keeping the price down so that his BTC-denominated debts would not spiral out of control too quickly. Also, the period from September to May saw an easy way of “shorting”, or virtually holding negative quantities of, BTC with Bitcoinica, which likely had a significant downward effect on prices. Now, although some options for shorting exist, they are not nearly as popular.

However, there is another question to ask: has interest in Bitcoin really dropped back to its former trendline over the past two months? Although the Google Trends volume for “bitcoin” says yes, some secondary indicators offer a different result. Here is the trends volume for “buy bitcoins” – the volume has continued to increase in a linear fashion all the way through this summer’s mini-bubble and, although it is showing signs of a temporary slowdown, has not decreased at all.

Also, it is not necessarily the case that there is any necessary relation between search volume and price at all. Consider the Tor-based online black market for illegal drugs, the Silk Road. Search volume for “silk road drugs” and “silk road bitcoin” barely increased at all in the period from January to July, and yet in reality we know that Silk Road’s volume has more than doubled over this period and is continuing to increase. In Silk Road’s case, the situation is of course somewhat unique, as once a user discovers Silk Road all of their interactions with the site are through Tor and they have no reason to look up anything more on the public internet, but the same effect may be taking place to a much lesser extent with Bitcoin as well; once a user knows what Bitcoin is, they have little reason to search for it.

Transaction Volume

Here are two charts showing the number of transactions that are taking place in the Bitcoin network.

The chart on top provides a much more hopeful sign than the Google Trends evidence; although the number of transactions has been declining for the past few months, it is still far above the level at which it had stabilized this spring. In fact, if you look at the chart all the way from 2011, transaction levels remain far above even those seen at the peak of the June 2011 bubble. However, although the chart on the bottom is still more positive than the Google Trends volume, it does show a decline to the earlier trendline. The difference between the two charts is simple: SatoshiDice. The second chart was added by blockchain.info in June after the popular gambling site began to take up over half of the transactions on the Bitcoin network, and what it does is remove all transactions from the 100 Bitcoin addresses which contribute the most to the sum, including all of the addresses used by SatoshiDice.

The question is, however, is removing SatoshiDice from the charts legitimate? Many would say yes. Unlike most other Bitcoin gambling games, SatoshiDice is played directly on the blockchain – in order to make a bet, you send a transaction to one of its addresses, and if you are lucky you immediately get more money back. Thus, it is argued, each transaction on SatoshiDice counts for much less economic activity than a transaction anywhere else. However, what this analysis misses is that even if its effect is exaggerated SatoshiDice is a very significant Bitcoin business, and has earned 10,000 BTC over the past six months, or about $16,000 per month – roughly a third of the $30,000-$60,000 monthly fees earned by MtGox. As for transaction count, SatoshiDice transactions represent only 40% of all transactions coming to the top 100 addresses that the second chart removes – the rest is made up of 1VayNert, an address owned by the DeepBit mining pool, and various unknown users. Thus, it is not at all clear that the ratio of transaction count to “economic activity” is really all that different between the popular addresses and everyone else.

Business Volume

This is by far the least rigorous of the numerical analyses due to the lack of data available, but as an indicator of the growth of Bitcoin as a whole it is arguably the most important one. A number of Bitcoin businesses are willing to share their sales volume, and these figures are much more positive. On Bitcoin Friday, a recent Bitcoin community-wide sale organized by Jon Holmquist, Bitcoin’s two largest payment processors, BitPay and WalletBit, reported a total of 196 transactions – not much, by large business standards, but more than any previous day in Bitcoin history for both companies. Volume on Coinabul, the gold and silver sellet, has been increasing every month. BitPay, a payment processor handling sales for a number of Bitcoin businesses, has seen its volume increase from $170,000 in May to $550,000 in September. Recently, BitMit told Bitcoin Magazine that they have “more than doubled [their] trading volume from 1840 BTC to 4260 BTC” in October. SatoshiDice is remaining constant; its sales volume for the past 30 days is 181,362 BTC, compared to an average of 176,835 BTC per month over their entire 184 days of operation. And, last but not least, there is Silk Road. The underground marketplace’s growth was reported on in August, when a report showed that it had more than doubled in the six months before that and, although hard figures are hard to come by, mastermind Dread Pirate Roberts stated on the Silk Road forums two weeks ago that “we are in uncharted territory in terms of the number of users accessing Silk Road.”

It is important to keep in mind that kind of survey of businesses does have an intrinsic optimistic bias; businesses that are seeing their volume slowly decreasing are typically far less prominent in the media, and so a survey would be much more likely to miss them. However, the fact that aggregators like BitPay are also showing signs of growth is a sign that the growth shown here is more than just churn. At this moment, there are other factors that are heavily in Bitcoin’s favor. Only a few days ago, the Bitcoin community was joined by WordPress, its largest merchant yet.

All in all, it is hard to tell what is happening with Bitcoin. Some indicators are showing that Bitcoin usage is remaining roughly stagnant, with a general trend of slow decline balanced out by sudden spikes of attention, while others imply that Bitcoin is stronger than ever. However, what is almost certain is that Bitcoin is not going to collapse any time soon. The price charts show that Bitcoin is currently simply in yet another period of stability similar to the one earlier this year, where search volume and the Bitcoin price remained very steady for over three months. This time, the Bitcoin price is not quite as steady as it was from February to May, but the fact is that the currency has maintained a price level of $10-$13 for over three months:

Although one can draw a near-term trend to suggest that the price is going down, a more long-term look shows that we are actually on a very slow and steady course upward, and the fact of Bitcoin’s WordPress acceptance suggests that Bitcoin is much more likely to keep its upward course than it is to go back down. All in all, Bitcoin may yet have a very bright future ahead.

 

Today, WordPress, an extremely popular blog hosting site and framework and the 22nd most accessed site in the world, has announced that they are going to be accepting Bitcoin as a method of payment. The press release reads: “at WordPress.com, our mission is making publishing democratic — accessible and easy for anyone, anywhere. And while anyone can start a free blog here, not everyone can access upgrades (like going ad-free or enabling custom design) because of limits on traditional payment networks.” The main reason why WordPress has decided to start accepting Bitcoin is that a core part of WordPress’s mission has always been promoting freedom of information, and Paypal and credit card companies’ restrictive policies prevented users from buying WordPress’s services in exactly those countries where they were needed most. “PayPal alone blocks access from over 60 countries,” the release continues, “and many credit card companies have similar restrictions. Some are blocked for political reasons, some because of higher fraud rates, and some for other financial reasons. Whatever the reason, we don’t think an individual blogger from Kenya, Haiti, Cuba, or Iraq should have diminished access to the blogosphere because of payment issues they can’t control. Our goal is to enable people, not block them.”

Another argument which WordPress did not mention is anonymity. Many bloggers that operate in restrictive regimes do so using pseudonyms for their own protection, and traditional payment methods like credit cards and PayPal are unusable for those bloggers because they expose the payer’s physical identity. Bitcoin, on the other hand, offers its users a large degree of anonymity, giving bloggers, dissidents or simply people trying to live their lives in authoritarian regimes a much greater chance at evading persecution.

Aside from going ad-free and custom design, the paid services that WordPress offers include the ability to use WordPress on your own domain name, buy extra storage, customer service offers like a guided transfer of a blog from wordpress.com to self-hosting and even a wide variety of premium themes. However, it is important to note that not everything will be purchaseable for BTC immediately; domains and individually purchased themes (ie. bundles are fine) will not be accepting Bitcoin payments for a while. Nevertheless, WordPress promises to make Bitcoin available as a payment medium for all products “within two or three months.”

As a content-publishing platform, WordPress is already a very attractive choice for Bitcoin users. There are many e-commerce plugins for WordPress, and one of them offers support for BitPay. As a result of WordPress’s ease of use, Bitcoin Magazine itself uses WordPress as its content publishing back-end. For those who are not yet Bitcoin users, WordPress provides yet another reason to become one. WordPress is a rapidly growing platform, with over 100,000 new blogs created daily, and is showing no signs of slowing. And, more recently, WordPress is being used for more than just blogs. Thanks to its extendable plugin-based infrastructure, WordPress is being used for company websites, news sites, social networks and even in e-commerce applications. Being the 22nd most popular site in the world, WordPress is by far the largest website that had started accepting Bitcoin to date (although by financial size it is arguably beaten by Wuala‘s parent company LaCie), and its acceptance will hopefully provide confidence to many other large businesses that may be contemplating accepting Bitcoin but so far have not been willing to be the ones to make the first move. Now that WordPress has given the green light, potential adopters like Reddit, and perhaps many others that we have not even heard were considering accepting Bitcoin, may be soon to follow.

 

While the rest of the Bitcoin community was celebrating Bitcoin Friday by taking advantage of the large discounts made available by their favorite Bitcoin shops, Joerg Platzer of Room 77, a restaurant that has become the epicenter of the Bitcoin community in Berlin, used the date to announce Bitcoin Kiez, a project to get a large number of businesses to accept BTC in Berlin’s Graefekiez district.

Now, Bitcoin Kiez has announced its first three participants:

• Primo Maggio – as Rooom77’s Joerg Platzer describes it, “original Italian food at its best.” This restaurant features a wide variety of homemade sandwiches, antipasti, pasta and desserts, as well as a unique selection of drinks. It places a large emphasis on high-quality ingredients, writing on its website: “everyone who wants to share in our philosophy on good food are cordially invited to come to Primo Maggio on a journey of discovery. In our kitchen and our bar we allow only products which we stand behind. Our customers should only receive what we would take for ourselves, not only when we want to satisfy our hunger, but also our taste buds”.
• Fabelhaft Bar – features some of the best cocktails in Berlin. As one review describes it, “entering the one-room space is like stepping into a gothic castle crossed with an underground bordello, with requisite fin-de-siècle lamps and old candles softly glowing above funky mismatched chairs, each casting soft shadows against the mostly barren and crumbling stone walls. Mondays through Thursdays, unkempt barflies mix with artsy expats and laid-back locals to exchange jokes and talk politics over cold brews or fresh cocktails, including the popular Moscow Mule made with cucumber, vodka, ginger ale, and hand-ground ginger.”
• Vinyl Living Room Longplayer – a small and cozy used record store that is popular as a hangout spot for DJs even outside of Berlin. The shop features a large selection of hip-hop, funk, soul and jazz records and also some reggae, rock and punk, and many of the records that can be found there are difficult to find anywhere else. Although there is no food to buy here, it’s located on the Graefestraße almost right across the street from Room 77 itself.

This is only the beginning, and Room 77 owner Joerg Platzer is confident that there is more to come. Platzer wrote in a thread in the German Bitcointalk forum on the subject: “In the next few weeks the experiences of the participants in this public beta phase will be taken into account to further adapt and optimize the Bitcoin infrastructure. During this time more retail stores and restaurants will announce their acceptance of Bitcoin to the point that in December you will be able to go shopping for Christmas gifts and eat in many cafes and restaurants and pay for everything in Bitcoin. We are calling it ‘an alternative local currency with global reach.’”

If Platzer’s efforts succeed and a stable local Bitcoin community forms inside Berlin, it would be a major step forward for Bitcoin, as it would mark the first large-scale Bitcoin acceptance trial to take place in the physical world. Furthermore, in the eyes of the residents of the Graefekiez, Bitcoin would no longer simply be an abstract topic they may or may not have once heard of; rather, it would be very real, as they would see signs of stores accepting it and customers using it to pay for products and services every day. It would also be a great opportunity to see Bitcoin used in the real world by a non-technical audience, and would provide something very concrete to show to Bitcoin naysayers that the currency is now far more than just a speculative investment. And, most importantly of all, it would be a model for other cities to follow in Berlin’s footsteps.

 

Marek Palatinus, commonly known under his forum handle Slush as the operator of mining.bitcoin.cz, the oldest mining pool in the Bitcoin community, has just announced that he, in collaboration with Pavol Rusnák (stick), is starting up a new project: a Bitcoin hardware wallet that works by connecting to a computer via USB. The primary motivation behind the project is security. There have been cases where Bitcoin users lost thousands of dollars – in one extreme example, half a million – because the computers on which they were storing their bitcoins were infiltrated by viruses. One could argue that these thefts were the fault of a few particularly negligent individuals, but the evidence suggests otherwise. For nearly a decade, botnets of computers taken over by viruses have existed that are millions of machines strong, and even in Finland, which a study by the Norwegian security company Norman found was the least computer virus-ridden country in the entire world, over 24 percent of PCs were infected. Security is not getting any better either; in 2006, security expert Bruce Schneier was quoted as saying “I don’t think, on the whole, we are winning the security war; I think we are losing it.”

When the most private information that there is on a computer consists of funny cat pictures, the issue is of little concern. When the computers in question are storing codes that can be irrevocably redeemed for the equivalent of hundreds of thousands of dollars, however, security becomes a much greater concern. So far, the Bitcoin community’s recommendations for dealing with wallets of such value have been sensible: put a small amount of money on a traditional client to be able to spend it at will, and store the bulk of the funds in an offline wallet either printed out on paper or on a separate machine so that the private keys never touch the internet. However, there is a major problem with this setup for the average user: it is not easy to set up or maintain. Most people do not have the technical knowledge or the inclination to figure out how to carry out an offline transaction, thus anyone attempting to push Bitcoin as a way of storing a significant quantity of savings is often fighting an uphill battle.

This is where the as of yet unnamed USB Bitcoin wallet comes into play. The wallet is a hardware device roughly the size of an iPod Shuffle (3×3 cm) which includes a chip that can generate new addresses from a seed and can use any of them to sign a transaction. To send a transaction, the user must connect the device to a computer (in future versions, possibly also a smartphone) via USB, enter the address and amount on the computer, and ask the Bitcoin client on the computer to send off the unsigned transaction to the device. To protect against viruses, the user must then confirm the transaction by pressing a button on the device, and the signed transaction will then be sent back to the client to be published. The private keys never leave the wallet in the process.

The protocol also has several other features which make it convenient to use. First of all, the process of generating addresses on the chip is based on the hierarchical deterministic wallet proposal drafted by Peter Wuille in February 2012. All private keys are generated from a single root private key which can be written down during the initialization phase, so even if the device is lost, the funds can still be recovered. Elliptic curve mathematics also allows the algorithm to have another interesting property: there is a root public key corresponding to the root private key, which the device freely divulges upon request, such that from the public key one can generate all the addresses that the device can, but without being able to spend from the addresses. A Bitcoin client can easily generate all of the addresses that the device can spend from, and can present to the user a view of how many bitcoins he has in which addresses just as easily as if the client actually owned the addresses in question.

The protocol also includes an optional mechanism to make transactions require a PIN, and the device itself is designed to be tamper-proof so that even if it is stolen, it will be extremely difficult for the thief to recover any private keys or coax the device into signing transactions. Aside from manually brute-force searching through all possible PINs, the only way to crack the device, Slush writes, is to “brush the chip with the precision of nanometers and read the bits using an electron microscope.” In short, long enough for the user to realize that the device is gone and use the root private key to move the funds to a temporary location.

Finally, the device also supports another kind of security through multisignature transactions. Multisignature transactions allow you to create an address such that bitcoins sent to that address require multiple private keys to sign, which can be kept at separate locations or even by separate individuals. Complex schemes like signatures from 2 out of a given 3 private keys being required are also possible. Thus, if you are not willing to entrust the security of your funds to one device entirely, there is always the option of using it as only part of your wallet security arsenal.

The main drawback of the device is portability. Although it is only 3×3 cm in size, it also requires a cable to actually connect to a computer or phone, making it impractical to carry around in one’s wallet. The possibility of including USB and micro USB connectors was discussed, but rejected because having either moving parts or a connector sticking out would make the device much more subject to wear and tear. To Slush, however, the device’s sub-optimal portability is not much of a concern; he writes, “the major purpose is not to make payments mobile. The major purpose is to make them safe.”

Also, the device cannot, by itself, be used on an arbitrary computer without setup. Although there is no need to have a specific operating system or install any drivers because the device will use the same interface to communicate with the computer as standard USB keyboards and mice, the protocol does require a Bitcoin client to be already present in order to function. Specifically, at least in the near future, this means Multibit or Electrum; these are the only two clients whose developers have agreed to cooperate in implementing their part of the protocol. The Satoshi client and Armory may join in the future, but unfortunately, online clients like Blockchain will not, as HTML5 offers no way to directly interact with devices on a low level. Fortunately, Multibit and Electrum do not require installation, so they can be stored on a USB key kept along with the device, and then loaded directly from USB when needed. In the future, there is the possibility that the device will itself contain a client in some way, but that is not in Slush’s immediate plans.

For now, the intent is on simplicity, not features. Slush has already contacted a security company which will do a full review of the code, with thorough tests covering every line – something which, outside of large research institutions and corporations, is only possible with a very small codebase. Every added feature introduces complexity, and therefore a possible attack vector into the device, something which Slush is intent on minimizing. So far, the device is still in its early infancy; nothing close to a full product is available, and there is still the potential for significant changes to the design before the product is released. Currently, the device is set to be released simultaneously as two products: a custom hardware solution for common users, and a shield for the Raspberry Pi for the more technically inclined. The technically inclined also receive another bonus: the code for the device will be completely open source. If the project succeeds, it represents a significant step forward for Bitcoin security. Decoupling Bitcoin security from computer security is a necessary step if Bitcoin intends to be truly secure for the average user, and, along with multisignature transactions, physical wallet devices like this project will be a vital step in getting us there.

 

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Disclaimer: Bitcoin Magazine has previously run advertisements for Butterfly Labs. This article was written independently of this fact. -Ed.
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Aiming for longevity and efficiency of their products, Butterfly Labs (BFL) has confirmed their new SC chips will be using a 65nm process, the same transistor size as was used for Intel’s wildly successful Core 2 Duo and Core 2 Quad processors. As BFL’s main competitors, Avalon and bASIC, are reportedly built on 110nm and 90nm processes respectively, BFL should be able to hold the position of market leader in mining efficiency for some time to come.

BFL’s soon-to-be-released SC product lineup includes the Jalapeno ($149 for 4.5GH/s), the Little Single SC ($649 for 30GH/s), the Single SC ($1,299 for 60GH/s), and the Mini Rig SC ($29,999 for 1,500GH/s). All of these products will utilize BFL’s full custom ASIC 65nm chips, expected to run at 1 watt per GH.

Josh Zerlan, a BFL representative, expects to have chips in hand by the end of November and begin initial shipments shortly after. The number of units to be shipped in the first batch has not yet been determined. Josh also released new photos of the heat sinks for our viewing pleasure.

 

Roger Ver, known in the Bitcoin community for operating Memory Dealers and for a number of efforts marketing Bitcoin including a billboard and a radio ad, has announced that he is starting a new Bitcoin business: an all-purpose electronics store. The Bitcoin Store is already online, with thousands of products available for sale ranging from three dollar USB keys to thirty thousand dollar servers and everything in between. Of course, Bitcoin electronics stores are nothing new; Bitcoin Blaster has been selling electronics for bitcoins for months now, and Bitcoin stores with even larger offerings, such as the now-defunct Bitcoin World Market, have been popping in and out of existence for over a year. However, the Bitcoin Store has one feature that gives it staying power that no other such business has ever had in the Bitcoin world: it is cheaper than the competition.

Roger Ver’s announcement provides some examples: a 60-inch TV which can be found on Amazon for $1,397.99, NewEgg for $1,437.99 but on the Bitcoin Store costs only $1,367.48, a laptop whose Amazon price of $2,266.66 and NewEgg price of $2,317.00 is beaten considerably by the Bitcoin Store’s price of $1985.51, and a laser printer which costs $202.01 on Amazon, $204.99 on NewEgg but $175.66 on the Bitcoin Store. As for how the Bitcoin Store manages to do this, the answer is simple; Roger Ver writes “we have partnered with the worlds largest wholesale technology distributor, and avoid traditional merchant fees because we accept Bitcoin only.” Such relationships are difficult to come by; Roger Ver was only able to achieve this because he already operates Memory Dealers, a store which has an annual sales volume of over $10 million USD (although, Ver laments, almost none of it in Bitcoin). “It remains to be seen,” Ver adds, “if Bitcoinstore.com will be able to have enough volume to keep all the distributors happy and willing to give good prices.”

Shipping is currently set at a fixed $4.99 USD for orders within the United States (although the fee is waived for orders above $100), and a variable fee based on destination and weight internationally. Even at this rate, domestic shipping is usually cheaper than that available at Amazon and NewEgg, where shipping on low-cost products is often even higher; a sample selection of adapters on NewEgg shows shipping costs ranging from $6.99 to $9.99. There are places in the Bitcoin economy where shipping is even cheaper. Some goods on Bitmit offer even expedited international shipping for as little as $2. However, no other bitcoin business offers nearly as expansive an array of goods as the Bitcoin Store does. If volume picks up, even the $4.99 shipping fee may disappear. “Ideally, everything will have free shipping inside the USA,” Ver writes, “but it will take a little more work. If I can guarantee $300K in sales a month, then I can do it for sure.” Even without that much volume, there is a possibility, although far from a certainty, that shipping costs will soon come down to $1.99 regardless.

For now, the Bitcoin Store is still in a beta stage, with a $1,000 minimum on purchases. The user interface is still being finalized, and international shipping costs are currently very high; some report costs as high as $90. However, if everything goes according to plan all of these issues will soon be resolved. The minimum is only there to keep usage down while the site is still being finalized, and Jon Holmquist expects that it will be removed within the next few days. The Bitcoin Store team also reassures potential customers that the current international shipping costs should be disregarded, and much cheaper options will be introduced once the rest of the site is complete.

Because of its low prices, if the Bitcoin Store is successful, it represents another chance for a large increase in Bitcoin adoption in the near-to-medium term future. The Bitcoin Store’s prices are in fact low enough for it to even be worth it to pay the 5% fee to buy bitcoins from BitInstant to shop there rather than using a credit card, so the potential audience of the site extends far beyond those who already have bitcoins to spend. Like all Bitcoin businesses, the main challenge that the Bitcoin Store will have to face is marketing. Roger Ver and Jon Holmquist are already marketing the site on all channels within the Bitcoin community as well as social media channels, but a much stronger and concerted marketing effort will be required for the store to achieve the sales volume that it needs. If it does, this may be one of the best things to happen to Bitcoin yet.

 

Arbitrage serves an important function in the Bitcoin economy. Thanks to the individuals and automated bots that actively look for price differences between the various Bitcoin exchanges and buy from one and sell to another if the price disparity ever becomes high enough for the transaction to be worth it, people who are buying or selling BTC for their own use can rest assured that they are paying roughly the same price no matter which exchange they go to. Arbitrage also promotes competition among exchanges; if the only people trading on exchanges were those who were actually seeking to convert their money from one currency to the other, there would not be enough volume on the smaller exchange to sustain them, and it would be very difficult for new entrants to gather up enough momentum to survive.

In an effort to make life easier for traders participating in Bitcoin arbitrage, developer Eun-Joo Hansch Seoung and her husband have developed a Bitcoin client designed specifically for the task. The idea is simple; rather than having to navigate between browser tabs and spend time copying and pasting codes and addresses across multiple websites and interfaces, almost all of the process can be done within one client which handles all of the operations automatically. The software was originally developed in late 2011 to early 2012 for the now defunct Bitcoin exchange TradeHill, but by the time the software was finished the exchange had already shut down. Hansch writes, “I really was very disappointed since I had been working for months to create a software, which was of no use any more! But I decided not to give up! I figured out the API of MtGox and reused large parts of my GUI. And now BTC-Trader is capable of using the MtGox API.” In fact, BTC Trader supports much more than MtGox; it also includes support for the BitInstant API, a BitcoinCharts overview and the ability to see market prices for all exchange for a specific currency – a view which is surprisingly missing from BitcoinCharts. If you are working in multiple currencies, BTC Trader offers a view which is missing from MtGox: the ability to see all of your balances in all of your different currencies at the same time.

As an example of what can be done, Hansch offers a video tutorial showing how the software can be used to sell 2 BTC for USD on MtGox, send those USD to BTC-E via BitInstant, and sell them back for 2.0037 BTC on BTC-E all in the space of 50 seconds.

The basic steps are simple; as Hansch writes:

1. Sell Bitcoins on MtGox site to get USD funds.
2. Use the USD funds on MtGox for creation of a MtGox coupon code.
3. Creation of a Bitinstant quote with a mouse click.
4. Execution of a Bitinstant transfer to BTC-e Bitcoin exchange.
5. Checking the Bitinstant API response for retrieval of funds.
6. Purchasing Bitcoins on BTC-e exchange.

With BTC-Trader you can perform step 2 to step 6 in about one minute.

The program still has shortcomings; particularly, support for exchanges other than MtGox is not fully integrated into the program, so the last step of the process of arbitrage between MtGox and BTC-E, for example, does require going directly to the BTC-E website. According to Hansch, developing support for additional exchanges will take a considerable amount of time. “The development of a BTC-e version may not take another year,” Hansch writes, “but there is still a lot of work to do.” Given the rate at which new ways of exchanging Bitcoin are appearing, BTC Trader may never be finished. However, Hansch believes that the product is ready to see the light, and is eagerly looking forward to hearing from its first new users.

Eun-Joo’s husband, Andreas, has also agreed to answer our questions about his role in the development of BTC Trader in an interview:

How did you first hear about Bitcoin? What got you interested in helping to develop a trading application for it?

I heard about Bitcoin in September 2011. On the 24th of September 2011 I registered at MtGox. At first I only traded a few Bitcoins using about 200 Euro from my bank account. But after a few months I created enough profit to be independent. I promised to my wife, that I will not use more than 200 Euros. But my profit exceeded 200 Euros and I told her: Look, this money I created from nothing. I gave all the money back to our bank account, so this Bitcoin money is truly mine and I can do whatever I want to with it. I reinvested my Bitcoins and did a lot of trading. One day I had been lucky and earned about 30 BTC due to an error of a website. I tried to contact the support but didn’t get a reply, so I kept the Bitcoins. At that time this event nearly doubled my funds. Since then I developed my BTC-Trader and did a lot of trading.

Many are suspicious of a claim that in the modern age of nearly instant high-frequency trading human-controlled arbitrage can stand a chance against bots. Do you think human trading using your program can still be viable?

Although many people are using trading bots you can still make some profit, because a human being will always be better in his analytical abilities than a trading bot, which may be faster. I see often trading bots just making a little cheaper offer, if you go down with the price. Sometimes you can chase them down to a lower price just by making very small sell offers. However if this trading bot is more intelligent, it knows that this offers better in price are just too small. So you can also figure out the behavior of a trading bot and try to trick it. For example you use a 1 BTC ask to get the bots price down. But the rest of your BTC you will sell for a higher price. The bots Bitcoins will sell faster if you managed it to get him sell his Bitcoins cheaper. But in many cases you can just trust on the market. Just sell your BTC for a high price and get some profit. This small bots will sell all their Bitcoins and the price will still go up. There is just a little patience needed.

Have you managed to use the software to make any trading profits yourself?

My main strategy is the transfer of funds via Bitinstant from MtGox to BTC-e. At this Bitcoin price the difference should exceed about 0.25 USD. If so you can sell Bitcoins on MtGox, transfer the USD funds to BTC-e and buy some more Bitcoins back. With 100 BTC you can gain about 1-2 BTC per day in doing so. The most important thing is to be quick enough. While transfering the funds you are taking a risk. Selling BTC on MtGox and transferring the USD funds to BTC-e via Bitinstant takes some time. During this time other users can buy this cheap ask on BTC-e and you end up with USD and a too high price for buying back BTC. Now you have to decide if the BTC price will go up further or not. Sometimes you will do the wrong decisions. But you should keep cool then and try to keep the losses as small as possible. The shorter the time you will have to take this risk, the better. With BTC-Trader I am quicker than the user, who will try to do this process manually. This is an advantage.

What is your main concern with getting BTC trader finally out there for anyone to try?

It is not easy to convince users, that they should use BTC-Trader. I guess most Bitcoin users are very good at computers. Many use Linux as operating system. They only trust open source software or software they created on their own. A proprietary software for trading on MtGox faces the difficulty, that nobody will trust such kind of software. Sometimes I think it might be impossible to get money for a software users wouldn’t try even if it was for free. Today I was kind of excited about the first download of BTC-Trader. But I don’t know if this user will try it. However I will know if he will request a license.