Bitcoin Market Arbitrage: The Failure of Western Banking & PayPal

Yesterday, Bloomberg reported on Bitcoin in an article entitled “Bitcoin’s Gains May Fuel Central Bank Concerns.” Today, CNN Money reports on a “scandal” at the oldest bank in Europe and Silver Vigilante earlier reported on the London Whale traders’ bets last Spring having been against JP Morgan itself. Yesterday and today, PayPal, the dominant online payment solution, has gone down and been crawling along since. With the heart of European banking system engulfed in controversy, PayPal showing signs for concern and Bitcoin only making positive headlines, is a new day rising?

In the longview of things, Italy is real close to ground zero for the dissipation of dominant financial system central banking. Not only is Italy coming to terms with issue’s that could affect the outcome of elections next month and dent Mario Draghi’s record as Europe’s top central banker, but also the bank is dealing with scandal within the Vatican at the Vatican Bank. As Silver Vigilante covered in July:

Embroiled in another financial scandal pertaining to the laundering of money, the Vatican bank has been called by Forbe’s “the most secret bank in the world” and faces international scrutiny in its highly secretive banking model.  Although details are limited to the public, it is clear that the Vatican bank is facing pressure from Italian and European officials over its innerworkings.  In short, the bank has laundered billions of dollars. It has had help of course, in the deeply interwoven network of high finance, and none other than US bank JPMorgan abetted highly suspicious transactions, although the bank has yet to be accused of laundering itself. Though, this is a no-brainer considering the accounts the bank hosted for the Vatican.

The current bank in question, Monte dei Paschi di Siena, founded in 1427, revealed last week that it faced upwards of  €720 million on three derivatives trades, carried out in 2006-2009, details of which it had kept from regulators.  This paralleling scandal within the Vatican Bank, in which JP Morgan is unofficially implicated.

Italy’s third largest bank asked for €3.9 billion in state aid in 2012 when it failed to meet European capital standards, as the bank’s shares have lost 16% since posting a 2013 high on Jan. 7. It faces nationalization.

Revelations have sparked a spitfire of recriminzations: who knew what when – about derivative trades. The finger pointing has drawn outgoing Prime Minsiter Mario Montiand European Central Bank President Draghi into the line of fire.

Draghi was head of the Bank of Italy during the trading period. He is supposed to take charge of EU banking regulation under plans for a single supervisory authority.

Giulio Tremonti, a former economy minister in Silvio Berlusconi’s government, desecribed Draghi’s failure to prevent the trades during his tenure at the Bank of Italy as shocking. The ECB has not commented, while the Bank of Italy has accused the previous leadership at Monte dei Paschi of withholding critical information, subsequently made available by the present management.

“There are some official documents from the Bank of Italy that point to the fact that the bank was engaged in very risky activities, and that some of the risks were not balanced and some were not properly accounted for on their books,” Nicola Borri, assistant economic professor at LUISS Guido Carli University in Rome told CNN.

So, as the old guard steps aside, the new guard does its best to make its presence – as an option for the average joe – known.

Bloomberg admits:

An increase in the value of bitcoin, the world’s largest online currency, may fuel concerns that virtual money could undermine the role of central banks.

Bloomberg featured the Bitcoin chart at the above-typed link as the sites Chart of the Day. Bitcoin has more than doubled in the past twelve month, firming to $16.37 from $5.88, according to Mt.Gox data, the world’s largest Bitcoin exchange. Bitcoin has firmed up to $2.14 in November 2011 from a high of $29.58 five months earlier. Here is Bitcoin as I type:

Bitpay Inc., a bitcoin payment processing company that recently raised $510,000 in an investment round, this month announced that the number of companies using its services has increased almost 50 percent to more than 2,000 since November, when blog management firm WordPress.com said it would accept the digital currency.

“I think the ECB obviously is concerned, and it’s not reputational,” said Steve Hanke a professor at John Hopkins University in Baltimore who helped to establish new currency regimes in countries such as Argentina and Bulgaria. “I think it’s a competitive threat. Maybe virtual currencies will be so convenient that they will pose a threat because of their ease of use.”

Virtual currencies “could have a negative impact on the reputation of central banks” if their use grows considerably, the Frankfurt-based ECB said in its research paper. “This risk should be considered when assessing the overall risk situation of central banks.”

PayPal issued a statement over its UK Twitter feed on the 28th regarding the condition of its site:

We’ve been made aware of site issues today & are working to get this resolved. Apologies for any inconvenience. Will update asap. Tks, MW

A string of outages affected PayPal on the 28th, and on the 29th service only crept along. PayPal users have reported delays in payment processing and transactions, as users on PayPal’s forums have noted that transactions are not showing up right away on their activity pages. As a result, some have made multiple payments for the same item.

This has obviously caused concern down the PayPal economy chain, as merchants affected by the site issues are now forced to notify their customers and find workarounds for the stalled payment notifications. What many of them don’t realize is that Bitcoin is there in the broad daylight ready to be used used.  PayPal’s service issues have caused firms to either cease accepting Paypal or begin sending receipts and download links manually.

In response to the system problems, a PayPal spokesperson sent CNET the following statement:

For 3 hours (approximately 11pm PT Sunday night – 1:45am PT Monday morning), PayPal learned of a technical issue where a small proportion of customers made duplicate transactions when they did not receive a notification that their original payment went through. This issue has been resolved. All customers will be refunded for duplicate transactions as soon as possible. We are sincerely sorry that this happened to these customers and we will work with every one of them to make them whole.

Price risk aside, the Bitcoin network offers users a system where Bitcoin transactions of nearly all sizes can be conducted in a safe and quick manner. In five minutes a transaction of millions of dollars worth of Bitcoins can be conducted securely with both parties knowing of the transaction completion in real-time. The European Union has made efforts to bring Bitcoin under its wings, but this undermines Bitcoin’s benefits. Brazil, on the other hand, has shown negative interest in the payment system,going after modest entrepreneurs.

As Jon Matonis for the interestingly supportive Forbes magazine recently wrote of any attempts to undermine Bitcoin via state intervention:

In a blog post last week at Unqualified Reservations, the author described a fictitious account of how bitcoin dies because a “DOJ indictment is unsealed” naming any and all BTC exchange operators as criminal defendants and the “BTC/USD price falls to zero and remains there.”

While this U.S.-centric plot would seem more plausible in a cryptographic flaw scenario, it does bring to light some interesting game theory strategies for both regulators and free market monetary proponents. Aside from the impact on price, would a government ban on bitcoin, including a direct ban for law-abiding merchants, shrink the available size of the so-called bitcoin market? Is an officially “illegitimate” bitcoin a useless thing?

I maintain that a government ban on bitcoin would be about as effective as alcohol prohibition was in the 1920s. Government prohibition doesn’t even do a good job of keeping drugs out of prisons. The demand for an item, in this case digital cash with user-defined levels of privacy, does not simply evaporate in the face of a jurisdictional ban. One could even make the case that it becomes stronger because an official recognition that Bitcoin is not only a “renegade” currency but a “so-effective-it-had-to-be-banned” currency would imbue the cryptographic money with larger than life qualities.

Ironically, the ban would create something like theStreisand effect for Bitcoin generating an awareness for entire new demographic groups and new classes of society. Unlike alcohol, bitcoin itself might not be considered a consumption good but it certainly makes it easier to acquire and sell certain consumption goods.

The under-banked people of System D would awaken to using bitcoin for eliminating onerous fees or the risk of handling cash. The individuals seeking drugs without violence or prescriptions would understand the imperviousness of sites like the agorist Silk Road. The anti-banking crowd would race to get their hands on some bitcoin as a symbolic gesture to weaken bankers’ firm grip onpayments. The pro-gambling casino people would all of a sudden realize how play money bitcoinbypasses the ridiculous and religious anti-gambling laws. The asset protection wealth managers would start to become fascinated with esoteric things like deterministic brainwallets and Tor.

Which brings us to the giddy, pro-banking-integration spokespeople for Bitcoin that tend towards full compliance because it’s required or, worse, preemptive compliance because they believe it to be safe. What happens to their rosy world when bitcoin exchanges can no longer operate in the open without fear of State retaliation? After all, they were patiently counting on ‘railroad tracks’ and connected links with existing financial institutions to grant Bitcoin a legitimacy mandate.

Now with burgeoning covert and in-person exchange opportunities plus a variety of reliable exchanges operating outside of the U.S., the Bitcoin of our fictional story is far from fading into obscurity. Conversely, it is the ambitious opportunities for crony capitalism that fade into obscurity because a closed-loop bitcoin economy not requiring meatspace exchanges would emerge and accelerate.

One doesn’t drive Bitcoin underground. A free Bitcoin was designed to be ‘underground’ for its own survival otherwise it wouldn’t need such aninefficient, decentralized block chain. The low-cost and non-reversible bitcoin transactions that appeal to mainstream commerce are merely byproducts of a mutinous system that doesn’t rely on trusted third parties. Joel Bowman writing at The Daily Reckoning clearly recognizes that bitcoin’s future doesn’t depend on State legitimacy let alone low-cost sanctioned transactions:

In the end, bitcoin is a bet on the other side of The State’s coin; the free market side. It’s a bet that voluntary trade will, in the end, overcome neanderthalic force and coercion. It’s a wager that the conversation currently underway in the shadowy ‘black’ market is far more intriguing, far more complex, far more nuanced and exceedingly more interesting than the yip-yapping that distracts the undead, mainstream TV-consumer for an hour or so around feeding time every evening.

I would add that it’s also a bet on income and consumption privacy becoming the norm over ‘reportable earnings’ and invasive transaction tracking. It’s a bet that career mobility and independent contractor businesses will eventually outstrip the growth of the corporate wage-slave population. It’s a bet that the degree of an individual’s financial privacy is selected solely by the individual and not by what the State reluctantly permits.

Prohibiting bitcoin is the opposite of what a rational game theorist would conclude. But are our regulatory overlords smart enough to advocate a hands-off policy? If the State cannot plausibly ban bitcoin, why would they want to give it the additional power to grow and propagate? Bitcoin challenges the State as monetary sovereign and that has grave implications for their monetary authority and quasi-peaceful taxing authority. A savvy and smart regulator would seek to avoid the confrontation that “Old Bitcoin Radical”foresees.

Their best response to Bitcoin is irrelevancy, or failing that, extreme gold-like market manipulation for as long as possible. The end game for the State is perpetuating the fiat myth — their fiat myth not the populace’s cryptographic Bitcoin myth. They have always known that faith in money is a mass illusion, however they never considered that they wouldn’t be in charge of the illusion.

In the meantime, just enjoy the spectacle and relax people for mining bitcoin, holding bitcoin, sending bitcoin, and receiving bitcoin is not against the law inany country in the world.

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