The Bitcoin Flaw: Monero Rising



The Bitcoin Flaw: Monero Rising
By Izzy Otomakan

I recognize the irony that barely a few months after I shared The Power of Money: A Case for Bitcoin I am now releasing this piece - critical of Bitcoin. I wrote TPOM largely because I was fed up with people and institutions claiming Bitcoin was a fraud, ponzi scheme or bubble. It is none of those things. It is however, in a critical respect, over.

Bitcoin has been beaten[1].

We don’t need to wait any longer for further evidence of this fact.[2]There is sufficient evidence now. At this point, what we see playing out is largely pantomime - as governors of the status quo introduce more mechanisms to increasingly neuter Bitcoin and enforce control over it – whether the general public is aware of it or not. Bitcoin has been compromised as the standard bearer for cryptocurrencies, and the wound is mortal.

I recognize this may sound outlandish, so please allow me to explain.

No matter what anyone may try to convince you of, the single most historic purpose of blockchain hasn’t to do with smart-contracts or disruption of the wire-transfer industry. Those are elements of secondary importance at best – and in proportional value to the larger purpose, pale by comparison. The historic purpose of Bitcoin is that it strives to be the highest quality money[3], and as such enables modern society to peacefully and effectively throw off the shackles of a corrupted system of unsound money that poisons everything it touches.

I spent time in The Power of Money discussing the 3 elements that are required for something to be successfully used as money. These may have been familiar to many already exposed to modern academia’s core economics curriculum. But this is where I went wrong.  There are other rules necessary for ‘sound money’ besides those three. Thankfully, it wasn’t long before I was informed of my oversight by several in the Monero community[4]. I had missed a critical element that contributes to something’s ‘moneyness’ and this makes all the difference. Whether it was intuition, luck, serendipity or some combination that I included an addendum which discussed a cryptocurrency which contains this feature I don’t know – I’m just glad that I mentioned it. 

This 4th attribute of sound money is fungibility, and is an aspect that while subtle enough to escape notice (as it did with me), is also critical to determining whether a money is ‘sound’ or not. The repercussions for money not being fungible are significant, despite potentially being delayed for a time. But first, a definition:

Fungibility is a feature of money which declares that any transactional unit of the money is entirely indistinguishable from any other transactional unit of the money.

This has never really been a problem when using physical things like gold as money. After all, gold can always be melted down, and carries no recoverable history in itself to tell you where it’s been or who has held it.

But what if I could tell you with 100% certainty that a particular gold piece was kept by Napoleon Bonaparte as a good luck charm? That gold piece would surely be worth far more than the ‘average other’ gold piece that had no such impressive history. In a similar vein, what if I told you that another particular gold piece was used to launder drug money across the U.S.-Mexican border? Once the novelty of its association wore off, you might realize that because that gold was used in committing a crime, government officials could seize it at any time. You might in this case value it lower than an otherwise unburdened gold piece. 

What these two examples show is that if a unit of money has an identifiable history associated with it, it can be 'different' from other units that don't share that history. As such, different units of a single money type may have significantly different values associated with them. For a money to attain fungibility, it cannot contain a history of its use. This definitionally means that all transactions (current, past, and future) using the money must have the ability to be truly anonymous. Which leads us to a critical point:

In order for money to achieve and maintain fungibility, it must maintain its anonymity.

Many people get nervous at the notion of anonymous money - feeling that it somehow implies that they will be viewed as engaging in criminal behavior. This is a due to a misunderstanding that may be addressed and corrected. We are not seeking anonymity of money for any purpose other than to ensure the currency is fungible. It has nothing to do with wanting to buy drugs or launder money. Anonymity is a purely technical requirement for money to actually be fungible – and without the trait of fungibility, the soundness of the money is imperfect and ultimately doomed to fail.

And this is where Bitcoin’s flaw presents itself.

Bitcoin, when it was launched, did have some measure of anonymity, and by extension, fungibility. It’s method for achieving this though was anonymity by obscurity – namely, no one was expected to try and figure out how to connect real-world people with public key wallet addresses – certainly not once the transactions began to become complicated. Your privacy was kept by the ‘needle in the haystack’ approach – namely your transaction of hash codes (the needle) was to be lost in a sea of other codes (the haystack).

But that has changed.

There already exists technology to ‘decipher’ the public blockchain – and it’s getting more accurate with each passing day. For those at the helms of government (and money) institutions, they sit in a sea of associative information. Everything from names/addresses of Coinbase users to geolocation’s of those same people’s whereabouts (by tracking cellphones) to voice and facial recognition algorithms - all ensure that the ability to attach names and details to most Bitcoin transactions (or similar-types of blockchain) are but a matter of time. All it takes is one vulnerability in the information chain for someone’s digital identity to be compromised, opening up entire financial (blockchain) histories to be deciphered.

How would you feel if you were required to print, in legible block letters, your full name on every dollar bill before you spent it?

I’m guessing not very excited by the prospect.

Now what if I told you that in addition to your name, it was also your home and email addresses?

A little weirder, right?

Although it’s not advertised, to those with the proper technology– this is basically what can happen when transacting in Bitcoin. Do not be lulled into a state of false security by the fact that these abilities to ‘decipher the blockchain’ haven’t been made widely known. It takes only a little bit of research to realize that the identity security of Bitcoin (the ‘anonymity by obscurity’ feature) has been compromised.

For those who would seek to undermine cryptocurrency as an alternative to Fiat, it is not in their best interests to announce to the world that they have ‘cracked the code’. Did the British announce to the Germans in WWII that they had solved the mystery of the ENIGMA encryption machine? Of course not. In fact, they hoped that the Germans would continue using the ENIGMA machine, as so long as this was the case the British could maintain a strategic advantage.  



Why Monero?

Currently, there are a handful of  coins that claim to be private or anonymous. There are also functions like coin-mixers that serve as anonymizing services. Do not be fooled into complacency with these – they all have limitations, and this essentially comes down to a critical difference between Monero and these other coins.

All traditional blockchain coins (Bitcoin, Ethereum, Dash, etc.) create transactions that are born  as public and broadcast to everyone. If you want to have a private transaction in those coins, you start with a public transaction, then do stuff to it to make it private. Unfortunately, anything done can either be undone, or at the very least identified as having had ‘something’ done to it.  

Either of these is all that is needed to destroy a money’s fungibility. For instance, if you send your Bitcoin to a ‘mixer’, either the mixer itself could be compromised (in which case the coin’s history is recovered) or at the very least the coins you get out are easily identifiable as having gone through a mixer (and you the owner – and the new coins themselves - are identified as having used a mixer). It would take only the stroke of a pen to institute a ‘tax’ on any business that accepts coins that have passed through mixers at any point in their history. Given the nature of Bitcoin’s blockchain, this would be relatively easily enforced, and isn’t even the nastiest version of how this could play out badly for users.

You may be asking now, whether there is simply a system upgrade or ‘new fork’ that could ‘fix’ Bitcoin in this regard. The answer unfortunately, appears to be no.  Bitcoin’s lack of fungibility is something deeply embedded in its core operating structure. While we should ‘never say never’, even aside from the fundamental technical limitations – the political ability to achieve such a fork is at best remote. Government hasn’t yet really imposed its will on Bitcoin, or more specifically, the highly centralized miners who would need to be ‘brought in line’ - but that they would try and do so is practically a given. When this political reality is combined with the seeming impossibility to technically achieve such an ‘upgrade’ (for Bitcoin, Ethereum or the like), the prospects look grim.

Monero though, is different. In Monero, each coin transaction is born anonymous – never even existing anywhere in the system as anything else. If you want to make your transaction public, you can – but you need to take steps to make this happen. No other coin exists with this functionality, and it all stems from a brilliant methodology called ‘ring-signatures’ (which I won’t go into here). While other coins are attempting to copy Monero in this regard, they cannot help but fall short, as this is built into the core Monero architecture.




What This Means for Bitcoin’s Price (and Monero's)

I don’t expect Bitcoin to stop going up in price anytime soon – and I’m quite OK with that. Bitcoin is currently the standard-bearer for Cryptos, and is probably the coin that most ‘newbies’ will first buy while they are learning about crypto. As a Monero investor, I’m happy for people to invest in Bitcoin, as I know that sooner or later, the money they invest in Bitcoin will come to Monero. The reason for this is simple:

The audits are coming.

Anyone who thinks that law enforcement, tax authorities, and the full apparatus of the state has ‘given up’ on Bitcoin is kidding themselves. We know as a matter of fact that state sponsored agencies are tracking virtually every aspect of our modern life, and that they increasingly have the means to track Bitcoin transactions at their disposal.

I don’t know what form ‘the audits’ will take – but when they begin, and people realize that their Bitcoin transactions make them vulnerable to any number of problems, people will transfer – potentially en masse – to the coin with the undeniably best form of anonymity, and hence, fungibility (e.g., Monero).

What are some of the possible types of ‘audit’ that may come? I’ll suggest just two to give you an idea (in addition to my earlier comment suggesting a ‘tax’ on coins that have passed through mixers). There are, no doubt, many more possibilities which would at the least cause a headache for holders, and at worst – significant losses.

There is of course, the simple tax audit. As most of the tax rules surrounding Crypto have yet to be written, and considering that it is in government’s interest to maintain a tight grip of control (not to mention get a piece of the now nearly $200 billion pie) we may expect simple tax audits – especially for those with large value balances. These audits may range from casual to predatory. While I do not advocate for tax avoidance in any way, it would be unrealistic to not expect people to do everything they can to avoid paying taxes (never mind if they perceive the tax-process as in any way troublesome, unfair or harassing).

Then there is ‘Civil Asset Forfeiture’. In most states in the U.S., if money is suspected of being used in a crime, then authorities can seize it. How sure are you that the Bitcoin in your wallet are beyond suspicion of ever having been used in a crime? Remember, we are talking about their entire history of its existence, not just recently or while in your possession. If there is even the suspicion of this having happened, then you could in theory receive a demand notice that you hand-over your Bitcoin to government authorities or face further penalties.

So back to the header of this section – what it means for Bitcoin’s price: whether it happens slowly or ‘all at once’, when people begin realizing that holding a money that doesn’t have fungibility exposes them to all sorts of risks, they will sell their Bitcoin (and ETH, etc.) and swap into a coin that provides these features: Monero. As such, while at the time of this writing Monero is only about 1/50th the market value of Bitcoin, I personally forecast it to reach a 1/10th level of value in the next 6-18 months. This means that even if Bitcoin stays the same in value, Monero will rise 5 times. If Bitcoin doubles, Monero will go up 10 times.

Of course, this could all happen a lot more quickly and aggressively - which is why even though I stick to a 10% of BTC intermediate-term price target, I also feel I am being very conservative.  The recent action we’ve seen in Bitcoin Cash vs. Bitcoin shows just how quickly the tide can turn. But unlike the BTC vs BCH debate, BTC vs Monero isn’t a debate at all – its settled science. One is fungible and protects holders – the other is not, and exposes all holders to the risks of unsound money. As such, if Monero were to ‘inherit’ the market cap of Bitcoin today, it would appreciate in value by more than 50 times, and put it on surer footing for long-term success than a money without fungibility.




A Few Concluding Thoughts

While there are other benefits to Monero, I will not address them here with the exception of one  - as it relates to the need for privacy (away from criminal use cases) and so supports the adoption case quite strongly. Bitcoin, and any non-private coin, will be increasingly troublesome to adopt for businesses. After all – do you as a business owner want everyone in the world to be able to see how much money you have and when/where you move it? In Bitcoin, if anyone has your wallet address (say from doing a small transaction with you), they can see exactly how much money you have in total – never mind track the money from that point on. While there are many complicated hoops you might ‘jump through’ to avoid this situation as a business owner, you could do just one – adopt Monero – and rest easy. 

Secondly, if you haven't yet done so, I highly encourage you to read  The Power of Money: A Case for Bitcoin . While I will make an edit at the beginning to note that this piece (on Monero) is effectively the successor coin, all the arguments made about Bitcoin can (and should) be extended to Monero.

Finally, as always, constructive feedback is welcome. As I think I've made abundantly clear via my about-faces in Ripple and now Bitcoin, I am not shy about admitting I am wrong. If I have erred in any part of this analysis, I genuinely appreciate being corrected along with an explanation. It was just such a correction to TPOM that facilitated my understanding of fungibility and Monero.


[1] Sorry Ethereum, this applies to you too - and pretty much all other cryptos that derive a portion of their value from striving to be ‘money’ (as opposed to business use cases).
[2] In some regards, I am far ‘later to the game’ than the many Monero supporters whose direction has been invaluable to me. Nevertheless, I, like all people, need to understand things in a way that makes sense to me – hopefully this piece will help others in the same way.
[3] I explain the concept of moneyness, and why Bitcoin satisfies its criteria (even better than gold in ways) in The Power of Money.
[4] By the way, the interactions I’ve had with Monero supporters (in stark contrast to other coins) have been amongst the most thoughtful, polite and insightful I’ve received. Those who understand Monero tend to realize that it’s only ‘a matter of time’ before their day in the sun comes, and that seemingly makes for much calmer and coherent discourse.

Comments

  1. Very interesting article! As you know, blochains are changing systems (soft forks, hard forks,...). So bitcoin of today won't be the bitcoin of next year. Maybe the next article can make some things clear: https://themerkle.com/bitcoin-litecoin-devs-may-integrate-moneros-confidential-transactions/

    I'm glad to hear what you think about this.

    ReplyDelete
    Replies
    1. I would love to watch the bitcoin community try and adopt the technologies that Monero uses. They almost ripped themselves apart just trying to decide on block size, LOL

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    2. "They almost ripped themselves apart just trying to decide on block size, LOL"

      yeah LOL
      Not almost. They ripped themselves apart literally.

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  2. @Anoniem, this true so the bet then is on what happens first, widespread tax audits and investigations or fungibility hard forks.

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  3. BRILLIANT. Reproduced here http://www.swiftcointalk.org/alternate-cryptocurrencies/the-case-for-monero-coin/

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  4. > Unfortunately, anything done can either be undone, or at the very least identified as having had ‘something’ done to it.

    This doesn't sound right... surely there are things that can be done that can't be undone, and there are things, especially in the world of computer science and cryptography, that can be done and not ever be identified as having been done.

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  5. But once all the BTC holders switch to Monero, won't the full power of governments' boot be focused on Monero? And that power can be significant (e.g. power over businesses that accept it, over exchange with fiat currency, etc.)

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  6. The new Stash wallet enables anonymity on any blockchain. Game changer.

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  7. This comment has been removed by a blog administrator.

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    1. What a bizarre message to post. You actually wrote 'this comment has been removed...' as opposed to an actual posting. Perhaps you were trying to give the impression that i censor comments here. I do not delete comments unless i see them as pure (unrelated) spam. even then i frankly couldn't be bothered.

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  8. The Australian government have already hooked their greedy claws into bitcoin and slapped taxes on it, whether that be a gst for private use or capital gains for business and assets. There is no getting around it.... trust me I have been looking lol. I always go by my gut instinct and when I first heard of bitcoin I could see the possibilities but also felt the implications. Monero always sat "right" with me. Thank you for your article I will definitely be sharing this with others.

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  11. Would be nice if you talked some about side chains. Monero could be implemented as one of many side chains to Bitcoin, pinning the value of the Monero-sidechain to Bitcoin. The current Monero coin would in this case lose significant value since all features of Monero would be available in the Bitcoin Monero side chain.

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    Replies
    1. linking anonymous-fungible coins with non-anonymous, non-fungible coins degrades those qualities of the former.

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    2. The link is only to the first public key. Wallets can easily implement a transfer to a side chain where the first transfer is made to a public key on Monero that is linked to the Bitcoin transfer and immediately transfer the coins to one or more public keys where it is not possible to link it to the Bitcoin public key. The user would not be aware of any of this and would receive its fully anonymous Monery side chain coins. The transfer back to Bitcoin would be similar where the wallet uses a throw away public key making traceability impossible.

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  12. Wouldn't the knowledge that audits were inevitable shelter the value of Ethereum (and others) from those needing anonymity? Is that bad?

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