This article was written on March 17. It participated in Bitman’s March featured-post selection. It did not win a prize, and according to the rules it may be freely reposted, but please indicate the source as the Bitman forum: http://bbs.btcman.com/forum.php?mod=viewthread&tid=17145
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Although the Bitcoin world has recently been roiling with waves and turbulence, I myself have been busy dealing with my dissertation defense, and have not had much mind to follow developments closely. More than half a month has passed since the Mt incident, and thinking that I have not updated my blog for quite a while, I might as well offer a few belated reflections. Of course, many of these have already been mentioned on Weibo.
Last month, MtGox, where withdrawals of fiat currency had long since become increasingly difficult, suddenly suspended Bitcoin withdrawals as well. Then the news broke that Bitcoin had a “transaction malleability” vulnerability, causing severe panic in the market. After that, MtGox partially reopened fiat withdrawals, and as a result Bitcoin prices on MtGox plunged, dropping from the four-digit level they had just regained a little while earlier all the way down at one point to double digits.
Bitcoin’s transaction malleability vulnerability does indeed exist; it is a bug discovered back in 2011 and still has not been fully resolved. But its impact is limited, and it is easy to work around. As long as an exchange checks withdrawal records in a more rigorous way, this vulnerability will cause no danger at all. Therefore, apart from MtGox, the overwhelming majority of Bitcoin exchanges did not suffer losses because of this vulnerability, and after the MtGox incident they at most went through a brief period of maintenance before resuming normal operations. MtGox alone has never been able to return to normal operation; it merely updates its announcements every few days, saying that we are busy, never promising a deadline for a solution, and never explaining whether they actually lost coins because of this vulnerability or for some other reason.
People increasingly suspected that MtGox would be unable to operate normally, believing that the Bitcoins on MtGox—whether stolen by hackers, misappropriated internally, or fabricated through false accounting—were not enough to satisfy investors. Thus the price of coins on MtGox fell to one-fifth or one-quarter of that on other markets. Yet many people still remained highly optimistic, believing that MtGox was indeed facing only technical problems, and that once the website program was rewritten everything would be restored. So there were still people willing to buy Bitcoins on MtGox at low prices, and even trying to deposit money into MtGox in order to buy coins.
It was precisely the enormous price gap between MtGox and other exchanges that led many to believe the coins would ultimately be withdrawable, because MtGox could in fact exploit this gap internally, along with control over information, buying low and selling high, making a killing; once they had made enough, they would of course be able to return to normal. Of course, the worst-case scenario is that they are on the one hand manipulating the market to reap huge profits, while on the other hand the investors’ coins still will not be spit back out to you.
The Mt incident has still not reached its final resolution, but the real situation now looks worse than any malicious speculation beforehand: false accounts, deception, manipulation, and backroom dealings—none of it is missing, and even the Bitcoin Foundation has been drawn into the scandal.
There is no doubt that whether MtGox or the Bitcoin Foundation, their problems will not destroy Bitcoin’s future. Bitcoin’s security has not been damaged; its decentralized and open-source nature ensures that it will not collapse because of the fall of any one “center.” But decentralization does not mean that at the corresponding stage of development and on the corresponding ecological level there is no center in a relative sense. For example, the Bitcoin Foundation is at the present stage the center of the Bitcoin development community, just as Satoshi Nakamoto was the center in the initial stage, and MtGox was the trading center for exchanging Bitcoin and fiat currency before last year. These “centers” were all formed in the free competition of the market, and they can be replaced or surpassed by new competitors at any time.
A “center” in this sense is in fact nothing more than an industry leader, rather than a “center” in the traditional system of central banking, that is, the government or central bank. Its status is not obtained through market competition, but granted by law; it does not participate in market competition, but rather stands at a higher position to manage and interfere in market competition.
But there are always people who believe that we need a regulator standing above the market, and this Mt incident seems to confirm their worries: look, Bitcoin needs regulation, doesn’t it? Otherwise who can guarantee that exchanges will not cook the books the way Mt did?
Indeed, the Bitcoin market also needs “regulation,” but if, as before, one must introduce an authoritative central government to carry out top-down regulation, then Bitcoin’s revolutionary significance would be out of the question.
In traditional gold or paper money systems, who deposited how much and who withdrew how much are not public, and the vault cannot possibly be opened to the public at any time. Ordinary people have no way of knowing how banks or exchanges operate internally; they cannot see how much money they hold, let alone whether they have misappropriated or falsely reported funds. Therefore one has no choice but to rely on some top-down regulatory system, with dedicated personnel to inspect, supervise, and audit.
But even so, supervision and auditing do not necessarily require a superior body wielding absolute power to carry them out; in fact, the supervisor can perfectly well be another independent enterprise or institution in the market. For example, there may be several “governments” in the market, each institution with its own regulatory scheme, its own set of legal rules and review mechanisms. Enterprises can freely choose a regulator, pay taxes to that regulator, choose the laws and regulations they need to obey, while the regulator provides corresponding certification to the public. In other words, what is up for choice is not only whether to be regulated or unregulated, but also by whom one is regulated. Different regulators also compete freely in the market, and the credibility of the certifications they issue differs in consumers’ minds. Of course, as market competition unfolds, relative winners will always emerge; there will be one or several regulators that win the highest recognition and occupy the market’s center. But like any industry, a relative center or temporary monopoly cannot be maintained forever; other competitors may at any time replace its position.
However, now that the government has seized the authority of regulation, it is no longer willing to let go. Even though the public has long ceased to trust the regulatory certifications provided by the government, the government also does not allow other competitors to arise freely. And while ordinary consumers do not trust government regulation, they likewise do not think to seek free third-party regulation. As for merchants, since being regulated by the government is entirely compulsory, they also have no incentive to seek any other additional regulator. In this way, government authority is sustained, to the point that when people speak of regulation they think of government, and when they speak of government they think of regulation. But this is unreasonable.
Even in a free market, merchants still need regulation, but please note that it does not necessarily need to be government regulation. For example, after the Mt incident, @洋洋访谈 took the initiative to set up her own regulatory group. She invited people from all walks of life to join in, to conduct on-site investigations into exchanges’ inner workings, and to provide the mark of “Yangyang certification.” This is a third-party regulatory mechanism under a free market. Yangyang is certainly not the government, but what she wants to do is indeed regulation. Merchants also have no obligation to accept Yangyang’s regulation, but if the Yangyang certification mark can in fact strengthen customers’ trust and raise a merchant’s popularity and reputation, then merchants may very well be willing to accept Yangyang’s regulation. Of course, others can also start competing at any time. For example, I could set up a “Dr. Hu certification” too, and who knows, it might also have a market. Merchants using Yangyang certification and merchants accepting Dr. Hu certification would compete with each other, and Yangyang and I would compete as well. A free market will not lack regulation; as long as the market needs regulation, someone will always carry it out.
The above kind of third-party regulation in a free market is possible even in traditional settings; it is just difficult to promote because of governmental centralization and the lack of civic awareness, and in China in particular it is almost unimaginable. But the world that Bitcoin can open up is far beyond that. In fact, Bitcoin not only promotes the marketization of regulation, but can also support the socialization of regulation. Such regulation is neither top-down nor from parallel institutions, but bottom-up and participatory by the whole public.
Traditional banks cannot open their vaults to the public, and exchanges cannot open their general ledgers to the public; this is understandable. And even if the general ledger were disclosed, whether those accounts match the actual receipts and payments would still require someone special to verify. But what if complete openness and transparency could be achieved easily?
Traditionally, merchants have been unable to achieve openness and transparency for no more than three reasons: security, convenience, and authenticity. Exposing a vault in a public place is of course unsafe, and before the Internet era it was not easy to compile and publish accounts; most crucially, people had no way of knowing whether the data published matched reality. Bitcoin solves all these problems in one stroke. All Bitcoin transactions are presented on the public blockchain; only the addresses involved in the transactions are anonymous. As long as the exchange announces which addresses it uses to store the Bitcoins entrusted by customers, then everything is laid out in broad daylight. If an “open-air vault” does not harm security, then why not place it in the open air?
Bitcoin’s public ledger itself ensures authenticity, but we still do not know the correspondence between these accounts and the actual customers. Yet there are many ways to solve this: either anonymize customer data and publish that as well, or, even without establishing an exact one-to-one correspondence, simply publishing a sufficiently large amount of reserves can make people believe that the exchange has not misappropriated funds, or at least will not misappropriate too much. The actual trading behavior of large holders and the market depth of the exchange can also indirectly reflect the approximate scale of funds the exchange should have.
As for those who say these data involve trade secrets, that is suspicious. What trade secrets could there be here? The formula for Coca-Cola can be a trade secret because keeping it secret makes them more money, but if making the formula public would attract more consumers, then the company would certainly make it public. If consumers clearly prefer disclosure, and there is no issue of being secretly learned from by other competitors, but the merchant still refuses to disclose it, then we can only suspect that something is fishy there, perhaps some unspeakable element is involved. The same logic applies to exchanges’ data. If disclosing the data would not put the exchange at a disadvantage in market competition, yet the exchange still refuses to make it public, then I am afraid there is likely something fishy there too.
Some say that making the funds pool public would let people detect inflows and outflows of funds: for instance, if you see a huge amount of Bitcoin deposited, it certainly looks like it will be sold, so you can front-run by shorting in the market before the deposit arrives, thereby creating unfairness. But this argument is even more suspicious. If that counts as unfair, then would insiders at exchanges who can already see fund movements before the public disclosure have an even better chance to get ahead? Only a monopoly on information creates unfairness. But with open and transparent information, everyone can see it, everyone can act on it—unfair to whom? Even longs can deliberately deposit a huge amount of Bitcoin and then, instead of selling, wait to buy the dip. Because the information is public, all the players in the market can use their wits against one another on a fair stage; that is what fairness is.
Of course, making the “vault” public is only the first step. It can only guarantee that the exchange does not falsely inflate or misappropriate the funds entrusted by users, but as long as control of the vault remains in the exchange’s hands, one can never avoid the possibility that the exchange’s boss runs away. Of course, there are also many solutions to this. One is the third-party regulation I mentioned earlier; there can also be third-party insurance, third-party storage, and other businesses to share the risks between exchanges and customers. But Bitcoin itself also contains a more ingenious technical space, making it possible to use code to ensure that even if the merchant runs away, it is difficult to take the entrusted Bitcoins away. For example, the recently launched greenaddress.it seems to be developing in precisely this direction.
As things stand, we cannot expect the Bitcoin world to leap to heaven in one step and realize all the possibilities it contains at once; things like greenaddress.it are still in the exploratory stage. But the road must be walked step by step. One cannot claim to have entered the Bitcoin world while one’s way of doing things still remains entirely in the centralized fiat-currency world. If anyone stops moving forward and refuses the trend toward openness and transparency, then either they have not accepted the Bitcoin idea, or there is something fishy in their heart.
The Mt incident should give Bitcoin players enough of a lesson: one must suspect trading platforms with malice. What can be made public, yet is not made public, must have an inside story. What can be transparent, yet is not transparent, must be false. When Mt could easily have proved that it still had the ability to honor withdrawals, but did not prove it, then it was probably because it did not have the ability. When Mt could easily have identified through which few transactions hackers stole how many Bitcoins, but did not identify them, then that means the loss of coins was not caused by hackers at all. What the Bitcoin world collectively reveres is a transparent general ledger—and that general ledger is Bitcoin itself. It does not lie; every transaction is clearly written on it. Even a person with ulterior motives would find it difficult to fake a theft, and thus Mt could only choose silence, choosing to speak around the subject rather than answer directly.
Good people are willing to excuse unscrupulous merchants, finding one reason after another for why they are unwilling to be open and honest. But the facts prove that the reasons for not making things public are either stupidity or thievery. Smart and candid merchants have absolutely no reason not to be open and transparent in the Bitcoin world, because that is precisely the spirit Bitcoin ought to have.
After the Mt incident, BitStamp chose to have a third-party institution conduct an audit. Although this is a “pre-Bitcoin-era” practice, it is at least a first step. As for the major domestic exchanges, apart from saying a few empty words, they have been slow to take action, and have not even made solemn promises or a clear timetable. By now, they scarcely even say empty words anymore; they have changed tactics and are shifting the topic. Why? We should learn to suspect them with malice. Even if they now throw out a plan, it is already too late; I will not trust it again. Unless they can also explain clearly what on earth they have been dragging their feet on for this past half month: colluding in secret? Altering false accounts? Filling a hole?
We can basically be certain that the major trading platforms all more or less have something fishy in their hearts—false reporting, misappropriation, embezzlement by those guarding the assets and stealing from them all the same—but there are still kind investors who step forward to excuse them, believing that exchanges by nature have the right to use the entrusted funds, and that they do not need to have 100% reserves. Indeed, the key issue is not whether there are 100% reserves, but whether there is openness and transparency. If I say I only have 50% reserves, can I open an exchange? Of course you can, but then you will face free competition with other exchanges that have 100% reserves. If an exchange with 100% reserves can prove that it really has 100% reserves, then customers will vote with their feet and make their choice.
The awkwardness now is that the major platforms do not have the confidence to proclaim 100% reserves, and investors do not yet have a better choice. But I believe this phenomenon is temporary. If the market does not change its customs in time, if people still, as before Mt, indulge merchants who refuse openness and transparency, then the next Mt will sooner or later keep appearing, and investors will sooner or later keep changing their minds through painful lessons.
In fact, more than half a year ago, Mt’s problems had already emerged. Fiat withdrawals were becoming more and more difficult; the ostensible reason was that the U.S. funds held by two American institutions were frozen. But in substance this amounted to only a few million dollars, at most causing a brief panic or run, affecting withdrawal speed for a certain period of time, but not something that should last for several months. Bitcoin China and OkCoin were both able to obtain investments in the millions; MtGox should not have found it difficult to bring in investment to alleviate the frozen-funds problem. But Mt never solved the problem, and even less did it transparently show why it could not solve the withdrawal problem. The problem was dragged on and on, to the point that Mt’s high premium became the norm, and investors long remained indulgent toward it: even knowing full well that Mt could use such a high premium to make money with ease, investors were still willing to keep playing along with Mt, continuing to keep their coins in Mt accounts. Investors knew there were inside stories, knew there was something fishy, and yet did not care, as long as they themselves could get a share of the pie. But in the end, when their own funds also went down the drain, it was too late for regret. If investors still do not learn from this lesson, still do not regard merchants’ candor as a necessary requirement, still do not care about openness and security and care only about superficial benefits, and still indulge and tacitly permit merchants to operate behind closed doors, then Mt’s behavior will become a model for greedy merchants. More merchants will learn Mt’s methods to cheat investors, and in the end the ones who suffer will still be the investors themselves.
“What can be made public, yet is not made public, must have a hidden scheme” — only when this kind of “malice” becomes the common attitude in the market can merchants naturally be forced into openness and candor. If someone like me, a penman, can make some positive contribution to the development of the Bitcoin ecology, then what I can do recently is basically to keep trying to spread “malice,” and continue mercilessly mocking hypocritical merchants and naive users. Perhaps you think this is not very constructive, perhaps you think my thinking is rather pessimistic, but I believe the force I contribute is ultimately positive.
Translated from the Chinese original with AI assistance. The original text is authoritative.
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