What Made the December Bitcoin Crash Different?

Dear readers,

Let me tell you a little story.

Once upon a time there was Bitcoin, a virtual currency that many people thought would change the way we think about money. But one day, China forced BTC, one of the biggest Bitcoin exchanges worldwide, to stop accepting new fiat deposits. That was, more or less, the end of Bitcoin. And we lived happily ever after. Or not? Do you have another ending to this story?

The December 2013 Meltdown

Earlier this month, Bitcoin topped out at around $1,200, a move triggered mainly by all the hype that surrounded the recent Congressional hearing on virtual currencies. In a letter addressed to senators, Ben Bernanke gave his cautious blessing to Bitcoin, saying that virtual currencies may hold long-term promise. Instantly, this love-it-or-hate-it digital cash went through the roof.

But when China's central bank scored a bull's eye on the crypto-currency by barring financial institutions and payment companies from handling Bitcoin transactions, a cloud on the horizon appeared. The oldest and largest Bitcoin exchange in the country was forced to stop accepting new yuan deposits. Bitcoin dropped like a rock and lost around 50% of its value.

Frankly, I don't think this meltdown is that big of a deal. As Business Insider contributor Mark Williams aptly points out, "in Bitcoin world, a week can be the equivalent of a decade." I can't enumerate exactly how many times over the past four years Bitcoin took traders on a roller coaster ride by tripling in value, only to plummet a couple of weeks or even days later.

Even so, this time is different because China – a global economic superpower – is standing up to it. And BTC China accounted for nearly one-third of the world's transactions denominated in Bitcoins.

So, is this the beginning of the end for the world's most controversial digital cash?

Bitcoin 'opponents' around the globe

China is not the only country to frown on this decentralized crypto-currency. Regulators in Europe seem very keen on drafting new rules aiming at preventing virtual currencies from making their way into the mainstream.

Last week, the European Banking Authority raised a red flag over the risks that stem from virtual currencies' extreme volatility and urged consumers to steer clear of them.

Authorities in France also took a stand against Bitcoin. In a statement issued at the start of this month, the French central bank warned that Bitcoins "represent a financial risk for those who hold them."

Most recently, Denmark's Financial Supervisory Authority gave Bitcoin a thumbs down, stressing that it "needs to be regulated".Norway joined the Bitcoin fray, as well. Hans Christian Holte, the country's director general of taxation, said the currency "doesn't fall under the usual definition of money." The government decided to treat it as an asset and start charging a capital gains tax.

Impressive doesn't equal sustainable

Bitcoin is definitely exciting to watch. To put it in Krugman's words, it's impressive. But would you honestly consider betting your savings on an investment that could send you to the emergency room for severe stomach cramps?

For Bitcoin to truly flourish and evolve into a viable alternative to today's traditional paper money, it has to lay the groundwork for positive "network externalities" first. In other words, if more people start using it, the more useful and the less volatile it will eventually become.

In order for this to happen, nations around the world need to embrace it or at least leave it alone. However, because monetary authorities can't virtually keep tabs on it, they'll do everything in their power to prevent it from turning into a widely accepted medium of exchange. It's as simple as that. 

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Read/Post Comments (3) | Recommend This Article (2)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On December 22, 2013, at 4:08 AM, VikingBear wrote:

    Zombie Money Theme Song: "When it all comes down, I hope it doesn't land on you."

  • Report this Comment On December 23, 2013, at 12:49 AM, WmBishop wrote:

    I agree with your analysis and your conclusion with respect to the reflexive instinct of regulators to regulate. I disagree, however, with the implication of your conclusion that this is relevant or determinative with respect to the future utility and/or viability of virtual currency.

    Currencies can be regulated to a very great extent (by those who control the presses), fiat money can be controlled to a lesser extent; but money - as in any accepted medium of exchange - can be controlled perhaps not at all. Consider how many states and how many times "we" have tried to regulate and control gold as a medium of exchange.

    Prognostications of the death of gold as a vital medium of exchange, store of wealth, and investment are constant and ubiquitous. Yet gold markets remain active, efficient, and thoroughly reported. Virtual currencies may have much of the appeal of gold, and enjoy many advantages that bullion does not. I would not count them out merely because regulators are inclined to regulate them. For the record, I own neither a single farthing in any virtual currency, nor any interest in any enterprise related thereto.

  • Report this Comment On December 23, 2013, at 3:17 AM, FaniKel wrote:

    @WimBishop

    Hello! Thank you for your comment!

    I see your point. However, I wouldn't compare virtual currencies to gold. Gold used to be the cornerstone of the international monetary system for many decades (Gold Standard).

    Anything can serve as a medium of exchange, store of wealth or even vehicle currency. I might exchange beans for bread and consider beans to be a medium of exchange. For Bitcoin to evolve into "real money" -- meaning that it serves as a medium of exchange, store of value, vehicle currency, monetary policy instrument etc -- for domestic economies and, consequently, for the international monetary and economic system, it has to be universally accepted and widely used. The USD, for instance, is not the strongest currency worldwide. Yet, to this day it remains the incumbent international currency simply because it benefits from positive network externalities.

    I do believe that virtual currencies have the potential to revolutionize the business of finance, and, for the record, I am "pro" Bitcoin. I don't own Bitcoin, but I find it to be innovative. Yet, in order for it to work to its full potential the world as we know it has to change first.

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