Are cracks beginning to show in bitcoin?

It has been a difficult seven days for bitcoin. Last Friday the world’s largest bitcoin exchange Mt Gox halted withdrawals of the digital currency citing a software bug.

“A bug in the bitcoin software makes it possible for someone to use the bitcoin network to alter transaction details to make it seem like a sending of bitcoins to a bitcoin wallet did not occur when in fact it did occur,” the Tokyo-based exchange said in a statement.

“Since the transaction appears as if it has not proceeded correctly the bitcoins may be resent.”

By Monday, the price of the cryptocurrency had fallen to its lowest level in two months.

On Tuesday, Slovenia-based Bitstamp became the second major bitcoin exchange to halt customer withdrawals, blaming a denial-of-service attack, and Bulgaria-based BTC-E quickly followed suit.

Bitcoin was coming under pressure from hackers launching attacks across the currency’s eco-system, worsened by the fact that the currency is a decentralised digital system of value transfers not governed by any central bank, company or government.

'Incredibly illiquid'
The currency's price, which was more than $800 last Friday, plummeted as low as $102.

Even investment bank JP Morgan weighed in on the crisis, saying bitcoin was a “vastly inferior” currency and not a solid investment.

In the report called The Audacity of Bitcoin , John Norman, the company's head of forex strategy, called the currency "incredibly illiquid" and "extremely volatile".

“At the risk of sounding like a Luddite, bitcoin looks like an innovation worth limiting exposure to. As a medium of exchange, unit of account and store of value, it is vastly inferior to fiat currencies,” Norman said.

It’s not the first time the cryptocurrency has been the subject of problems.

It was implicated in a huge drug bust last year when the Federal Bureau of Investigation took down the Silk Road electronic exchange.

It experienced regulatory pressure from trading restrictions in China to a recent threat of a complete ban in Russia.

Earlier this month, the Russian authorities issued a warning against using bitcoin, saying Russian law stipulates that the rouble is the sole official currency and that introducing any other monetary units or substitutes was illegal.

The currency also absorbed a decision by Apple to remove all bitcoin-related software from its app store.

However, in the face of all this adversity, bitcoin entrepreneur Jeremy Allaire says he is confident the digital currency will survive.

Allaire, who founded the bitcoin payments company Circle, said the freeze on bitcoin withdrawals imposed by three major exchanges would not cause any long-term damage to the digital currency's credibility.

“If anything, the recent attacks and response from the bitcoin community, both core developers and ecosystem participants, demonstrate the resiliency and agility of this platform.

“These challenges are driving a greater focus on platform stability, security and scalability, which are important focuses as we move from the early adopter phase into mainstream usage.”

Allaire is one of the people arguing that bitcoin companies should work with governments to establish regulations for the currency.

His bitcoin payments company raised $9 million in venture capital funding and is due to launch later this year, with international operations headquartered in Dublin.

Concerns
"There is no point in dismissing the whole digital currency idea because there are concerns," he says.

To ensure widespread adoption of bitcoin, he says there needs to be rules around its use.

“There is a strong need to prevent money laundering and criminality with bitcoin. There needs to be rules if bitcoin is going to be big.

“We have an enormous amount of work to do in education and engaging with policy-makers around the world. We are starting with the EU and the US.”

Allaire believes bitcoin “represents one of the most important technical and economic innovations of our time”.

Yet despite being a champion of the currency, he is also quick to defend governments and central banks for issuing warnings about the risks of using bitcoin.

"Central Bank of Ireland and ECB warnings on risks such as lack of consumer protection from theft and price volatility are justified. They are legitimate concerns. We have to identify how we are going to address them."

Allaire cites the global financial crisis of 2008 for advancing the popularity of the currency.

With the reputation of the financial sector ruined, a new currency that bypassed the banks always had a good chance of being a winner.

“The global financial crisis shattered the trust of many consumers and businesses around the world.”

Allaire has used bitcoin for a variety of payments – including his sons’ pocket money.

“I have long-term savings in bitcoin, though not a huge amount of my assets.

“It is important that I have long term belief in the currency. I give my sons their allowance in bitcoin and I’ve bought everything from socks to food to electronics with it.”

He hopes bitcoin will be as easy and widespread in use as the financial services we take for granted today, including physical cash.

“We are not concerned with owning bitcoin as a speculative investment. By enabling more transactions, that grows the economy.”

Bitcoin clones
Allaire says there are probably 200 digital currencies out there but they are mostly bitcoin clones.

“Anyone can build software that can allow people to send messages and transmit audio. That software has been around for a long time.

“Then Skype came along and changed everything as they did it very well. We want Circle to do the same for bitcoin.”

Whether the latest bitcoin plunge is a short-term setback or a long-term confidence buster remains to be seen.

It may not have mainstream acceptance at the moment but certainly has brand recognition.

Bit by bit: Digital currency timeline
January 2009: First bitcoin transaction. Satoshi Nakamoto sends 10 bitcoin to crypto-activist Hal Finney.
May 2010: Someone buys two pizzas for 10,000 bitcoin. At today's rates those pizzas cost over $6 million.
September 2012: The Bitcoin Foundation is formed. The non-profit organisation aims to standardise the technology.

May 2013: Bitcoin catches the eyes of Silicon Valley. Coinbase raises $5 million from Union Square Ventures. It later raises an additional $25 million from venture capital firm Andreessen Horowitz.
October 2013: Silk Road, a black market powered by bitcoin, is shut down. The same month the world's first bitcoin ATM opened in Canada, enabling bitcoin owners to exchange the digital currency for cash.
November 2013: The currency's value surpasses $1,000, meaning the total outstanding pool of bitcoin – which is created by a network of users who solve complex mathematical problems – is worth more than $13 billion.
December 2013: China cracks down on bitcoin, essentially shutting it out of the country, sending prices tumbling to a low of nearly $300 after reaching a high of more than $1,200.
February 2014: A freeze on bitcoin withdrawals is imposed by three major exchanges following software bugs and denial-of-service attacks.