The exchange rate of Bitcoin briefly pushed past $1,000 as more people took interest in the digital currency, but many mainstream consumers remain concerned about the persistent security issues surrounding Bitcoin companies.
Bitcoin transactions are irreversible, and this trait is often described as a perk for merchants who fear chargebacks. But this trait also means consumers have less recourse when they enter a dispute or are victimized in an outright scam. The Bitcoin core developer team is working to address this by adding an optional grace period to bitcoin payments.
A recent and prominent example of Bitcoin's security woes is Sheep Marketplace, an online drug market whose operators were accused by its customers and vendors last month of stealing $40 million worth of bitcoins.
Other widely reported scams, thefts and hacks include the Bitcoin Savings and Trust, a ponzi scheme which raised more than 700,000 bitcoin before shutting down; the theft of nearly $250,000 in Bitcoin from Bitfloor, which used to be one of the largest exchanges, in September 2012; and hacks on customer information and bitcoins at multiple Bitcoin trading platforms.
"All of these thefts around Bitcoin sort of make Bitcoin look suspicious to mainstream consumers," says Jerry Brito, senior research fellow at the Mercatus Center.
While scam sites and ponzi schemes would be hard to stop regardless of the type of currency involved, attacks on a Bitcoin exchange or wallet could be prevented with "plain old computer security," Brito says. "There were some early adopter types that started Bitcoin exchanges and other businesses that were perhaps not as prepared as you might have hoped."
Despite the numerous reported incidents involving the theft of bitcoins, the currency itself remains secure and may benefit from the addition of more traditional companies supporting its use.
"To the best of my knowledge no one has really stolen money by cracking the Bitcoin protocol; bitcoins are stolen from these third parties that are helping people get into Bitcoin," says Gil Luria, an analyst with Wedbush Securities, which recently published a research report on Bitcoin's intrinsic value.
"This has a parallel in the Visa and MasterCard world as no one has broken into Visa or MasterCard but what people have broken into is the...third parties," he says. "Third parties are always the point of vulnerability."
As more third parties use Bitcoin, they may have to implement rules comparable to the Payment Card Industry data security standards, which govern the protection of card data, Luria says. Bitcoin companies may face additional requirements around cold storage, which involves storing bitcoins on a computer that is not connected to the Internet, he says.
Several features that help secure Bitcoin transactions will be disseminated in January or February next year with the rollout of version 0.9 of the payment protocol, says Jeff Garzik, a Bitcoin core developer who works with BitPay, a Bitcoin merchant service platform. As a Bitcoin core developer, Garzik has been entrusted with making changes to the Bitcoin protocol. Garzik has been hashing out changes with pseudonymous Bitcoin creator Satoshi Nakamoto since 2010, he says.
Version 0.9 will add a reversibility layer that could be used by merchants. Merchants will receive a refund address to facilitate this process.
Another feature will allow customers to send payments directly to merchants. These transactions would happen off the blockchain, the public ledger that documents the movement of each bitcoin. BitWall, a Bitcoin content monetization startup, and Coinbase, a Bitcoin wallet provider, have both launched a micropayments feature that works off the blockchain to cut transaction fees and the time it takes to receive payments. For larger transactions this feature allows merchants to get their payment faster and pay fees the customer forgot to pay. These transactions are eventually matched up to the blockchain to legitimize them.
The blockchain would remain an integral part of Bitcoin use, and could be vital in stopping Bitcoin thefts. Several Bitcoin exchanges already have procedures in place for blocking certain Bitcoin addresses that have stolen bitcoins in them, he says. "This forces those using stolen coins well into the shadows and allows for multiple entry points for law enforcement to intercept someone laundering those coins," he says.
While Garzik couldn't comment on specific BitPay transactions, he did say well-known thieves' deposits have been blocked at other exchanges. But for addresses to be blocked in the future, Bitcoin businesses might need a court order, and Garzik doesn't know of any public court orders so far.
Wallet services are implementing several new security features, including encrypting all wallet keys, which are the passwords that provide access to Bitcoin addresses, says Garzik. Wallet providers are also enabling multi-signature transactions, or only allowing transactions to go through with the approval of several parties, he says.
"In general a lot of education is needed," he says. "A lot of people that are not capable of securing millions of dollars are holding millions of dollars' worth of bitcoin."
Bitcoin "is in its infancy still; there's a level of risk involved and a level of required education," Garzik says.
Sheep Marketplace came to prominence after the shutdown of Silk Road, an infamous online black market, in October. Bitcoin prices plummeted as much as 33% after charges against Silk Road's alleged operator, Ross William Ulbricht, were unsealed. Prices dropped from $127 to as low as $85 per bitcoin.
Prices have risen quickly since the Silk Road shutdown. The price on BitStamp, U.K.-based exchange, and Mt. Gox, another popular exchange based in Japan, passed $1,000 last week.
"It's a result of positive news from the Silk Road takedown and Bitcoin's good reception in D.C, as well as demand from China," Brito says. He spoke to legislators during a Bitcoin Senate hearing on Nov. 18.
Many users have speculated that prices have surged because of China's interest in the digital currency, with BTC China, a virtual currency exchange, overtaking Japan's Mt. Gox to become the largest Bitcoin exchange in the world.
BTC China had begun talks with Chinese regulators seeking recognition of Bitcoin, allowing the currency's use to buy goods and services.
But since last week, the price per bitcoin has dropped a couple hundred dollars after the People's Bank of China, the country's central bank, issued a statement barring financial institutions from handling Bitcoin transactions. The price abruptly fell more than 20% on BitStamp after the central bank stated the currency doesn't have "real meaning."
But still "there's far more demand coming online right now and friction is getting removed," says Luria. "Demand will continue to come in big waves."
The Bitcoin exchange and merchant services platform, Coinplug, received $400,000 in funding recently, and plans on launching in Korea before the end of the year. Koreans are particularly fast at adopting new technology, says Richard Yun, a spokesperson at Coinplug.
And more people are using the virtual currency as a payment method instead of as an investment.
BitPay, the Atlanta, Ga.-based Bitcoin merchant services provider, announced that it increased its processing volume by 165% in November compared to October, with 55,288 transactions in the most recent month. The provider processed 6,296 bitcoin transactions on Bitcoin Friday, a play on Black Friday when merchants accepting Bitcoin offer deals on their items. The volume made Nov. 29 the most popular day in the history of Bitcoin commerce. On Bitcoin Friday last year, BitPay processed only 99 transactions.
The per-bitcoin price as of Dec. 9 is more than $870 on BitStamp and $900 on Mt. Gox.
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Corrected December 11, 2013 at 8:17AM: An earlier version of this story incorrectly described how version 0.9 of the Bitcoin payment protocol would facilitate refunds.