A Virtual Vicious Cycle: Inside the World of Cryptocurrencies

The strongest currency today is the one you cannot feel. The value of Bitcoin – the virtual currency – skyrockets with every cyberattack that takes place. But are the days of this unregulated currency numbered? Will the regulation systems wake up too late?

Illustration: Bigstock

In January 2016, the exchange rate of the cryptocurrency "Bitcoin" increased by more than four times its rate and today, the price of a single Bitcoin unit exceeds US$ 2,400. Not just the value of the Bitcoin increased – the value of other, less well-known cryptocurrencies, like Ethereum, Ripple, Dash, Litecoin, Golem, etc. – skyrocketed as well and new cryptocurrencies were issued through an unsupervised process that became known as ICO (Initial Coin Offering).

According to the vision of the people who invest in these currencies, one day the decentralized currency will replace the standard currencies and we will be able to use it for shopping at the supermarket and on the Internet, in a manner similar to the one in which we currently use currencies that had been issued by a central bank.

Although it appears that the rally experienced by Bitcoin is great news for the people who invested in Bitcoin and other cryptocurrencies, the reason for this leap in its value was no coincidence.

The real value of Bitcoin has been the subject of debate for a long time. Legendary investor Warren Buffett warned investors in the past to steer clear of Bitcoin, calling it a mirage. According to Buffett, even though Bitcoin enables safe and efficient money transfers, the idea that it possesses inherent value is a joke. Conversely, Marc Lowell Andreessen, the founder of the legendary venture capital fund Andreessen-Horowitz, is a major proponent of Bitcoin and the Andreessen-Horowitz Fund he manages invested in various Bitcoin-related projects.

Without taking sides in the titanic debate raging around the value of Bitcoin, I would like to offer an explanation for the recent leap in Bitcoin value.

The increase in the value of Bitcoin is closely associated with cyberattacks and with the manner in which the ransomware devices that hackers plant in the computers being attacked operate. These software devices actually hold the computer and its files 'hostage', enabling the release of the files only after a ransom has been paid – in Bitcoin.

The fact that ransomware victims hasten to pay their attackers is not surprising. The IBM X-Force report of December 2016 noted that 70% of businesses attacked by ransomware paid their attackers in order to regain access to their computers. Of these victims, 20% paid amounts in excess of US$ 40,000, and more than 50% paid amounts in excess of US$ 10,000.

In May 2017 one of the most substantial and most complex cyberattacks recorded to date took place. Not less than 74 countries and tens of thousands of computers were damaged in an attack involving a new ransomware – WannaCry.

This hacker attack revealed a substantial vulnerability that is not directly associated with the cyber world. The attack revealed a global shortage in Bitcoin. This shortage worsens during the actual attack, as the individuals possessing Bitcoin are reluctant to sell this currency during (and after) a cyberattack, as they expect its value to increase.

Consequently, the shortage in Bitcoin during the cyberattack (and in the days following the attack) is the factor that propels its value upward. But why does this cryptocurrency continue to break records even after the attack is, apparently, over?

The answer probably has to do with the organizations that are currently preparing for the next cyberattack. It may be assumed that many organizations have realized that the next attack is not too far down the road and that if they are attacked – there will be no certainty as to their ability to find Bitcoin to purchase. Pursuant to this realization, they are currently purchasing numerous currencies as a form of "self-insurance". These purchases substantially increase the value of the cryptocurrency.

The hackers themselves, who hold massive amounts of Bitcoin, must be aware of this behavior pattern and do everything in their power to increase the value of the cryptocurrency.

The banks are not indifferent to the use of Bitcoin for cybercrime purposes, and impose restrictions on the use of this currency. For example, a court decision made recently in the case of Bits of Gold v. Leumi Bank of Israel, stated the following: "Bits of Gold is a platform engaged in trading in virtual currencies. It is a formal company holding a currency service provider's permit as required by law and reporting to the Israel Money Laundering and Terror Financing Prohibition Authority. It has even been commended by the court for its transparent conduct. Bits of Gold operates by purchasing Bitcoin from major suppliers and selling it to its customers. Bits of Gold conducted its trading business through an account with Leumi Bank. It should be noted that the bank was aware of Bits of Gold's business of trading in Bitcoin. Initially, the bank had prevented Bits of Gold from executing certain transactions until in May of this year, pursuant to a decision by the bank's board of directors, the bank informed Bits of Gold that it is required to cease any activity associated with the trading in virtual currencies, including Bitcoin."

Bits of Gold appealed to the court so it would order the bank to enable it to continue its activity in accordance with the Banking Law (Service to Customers), which compels the banks to provide certain services to their customers.

Leumi Bank explained their decision by arguing, among other things, that hackers had hacked into bank accounts, stole money from these accounts and attempted to purchase Bitcoin from Bits of Gold using the stolen money, although on several occasions, Bits of Gold itself identified the suspicious activity and reported it. Additionally, the bank noted that Bits of Gold failed to submit various documents and permits the bank had asked for (although even if those documents had been submitted, the bank would not have undertaken to allow the activity of Bits of Gold).

The bank's reluctance to accept the trading in Bitcoin stems primarily from the fact that while customers who deposit money with the platform can be identified, the recipients of the Bitcoin transfers cannot be identified and that is a risk the bank is unable to manage.

In fact, the bank finds itself between a rock and a hard place. On the one hand – a banking directive compels it to provide service to its customers, while on the other hand it faces strict regulation against money laundering and a warning issued by the Bank of Israel regarding this issue.

Is this the 'swallow that makes the summer', heralding future restrictions on the use of Bitcoin? Naturally, as the use of Bitcoin for cybercrime purposes intensifies, the bank's decision to forbid the use of Bitcoin through its customers' accounts becomes even more binding.

As the pressure exerted by the banking and regulatory systems on Bitcoin increases, the value of this cryptocurrency could be adversely affected.

In conclusion, Bitcoin provides a highly efficient way to transfer money anonymously and constitutes a gateway for a new, decentralized economy the likes of which we have not encountered to date. At the same time, if Bitcoin continues to serve as the official extortion currency of hackers using ransomware, its days as an unsupervised, unregulated asset will, indeed, be numbered.

Imposing regulation on Bitcoin will definitely affect its value and is expected to break the vicious cycle that causes its value to increase. 

***

Adv. Ziv Keinan, provides legal counselling and support for technology companies and specializes in commercial law, securities, cyber and privacy protection.

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