Bitcoin exchange Mt. Gox now admits it was hacked and is now bankrupt, according to admissions made by Mt. Gox CEO Mark Karpeles at a press conference in Tokyo today. More than 850,000 bitcoins, worth approximately $450 million disappeared from Mt. Gox computer systems, in a theft that should not have been possible according to the theory behind the virtual currency trading system. The Mt. Gox meltdown is raising questions about the viability of the entire bitcoin system.
The bankruptcy filing under Japan’s Civil Rehabilitation Law puts a court-appointed bankruptcy supervisor in charge of the company to put together a restructuring plan and handle restitution to the company’s creditors, a group that includes 127,000 bitcoin holders. In the United States, under Chapter 11 bankruptcy laws, the company is responsible for developing a reorganization plan, and continues to operate under its own management. In Japan, filing for bankruptcy tacit admission that the company is not capable of managing its affairs in a responsible manner.
That appears to be the case with Mt. Gox bitcoin exchange which concealed the theft by simply refusing to honor withdrawal requests from its depositors while attempting to figure out what happened, until the rising demands for explanations made it impossible for the company to continue stonewalling its creditors. The hacking of a high technology company’s heavily protected computer systems, however, raises questions about the security of all electronic deposits, in addition to specific concerns about the bitcoin’s viability as an international currency.
Recent hacks of major retailers such as Target and Neiman Marcus, software giant Microsoft, and even the U.S. military have demonstrated that there is no such thing as a hack-proof computer system. Banks have not been immune to hacker attacks either, with billions being lost each year by U.S. banks, much of it in restitution to customers whose individual accounts have been hacked.
JP Morgan Chase was hacked in December of 2013, compromising 465,000 customer accounts. In June of 2013, hackers tapped five U.S. banks for $15 million after spending two years slowly drilling their way into the system, but no bank has yet been hit to the tune of $450 million at one time.
Many of these hackers are overseas, forcing U.S. law enforcement officers to go overseas after them. Most are never caught and, when they are caught, it’s usually when they try to convert their electronic booty for the real thing. This does not bode well for Mt. Gox bitcoin exchange customers.
The fact remains, however, that bitcoins have a special appeal for hackers, and a special vulnerability, Any computer system can be hacked, no matter how strong the security protocols if you have enough computing power at your disposal….and bitcoin miners themselves are one of the few groups outside government who have that kind of computing power at their disposal.
Bitcoin miners use graphics cards to process data. A standard PC processes 1 million instructions per second, but bitcoin mining systems can process 800 million instructions per second, and most bitcoin miners are running systems with 100 to 1,000 times that much computing power to break the encryption codes that protect the blockcode databases where the information about all the bitcoins in existence are stored. There are newer systems on the market that are literally a hundred times more powerful.
And that’s precisely the problem with the bitcoin system. The same people who are protecting the bitcoin system also have the power to hack into it and steal the funds stored there and, as the returns on investment for bitcoin mining decline as the difficulty of earning bitcoins increases, it was inevitable that one or more bitminers may have succumbed to temptation.
Bitcoin miners are, in effect, the security force that protects the bitcoin system. Whenever they break the current encryption code, they theoretically enhance the strength of the system making it theoretically impossible for anyone else to break the codes….anyone, that is, except another bitcoin miner.
While bitcoin apologists continue to brand the Mt. Gox security breach as mismanagement or neglect. But better staff and stronger systems do not address the underlying problem, which is that a bitcoin system based upon continuing encryption of the data should not be vulnerable to such attacks because the database should tell you the whereabouts of every single bitcoin and, if it doesn’t do that, then the system isn’t what it has been cracked up to be.
Computer experts speaking off the record have speculated that what Mt. Gox did wrong was to keep their customer’s bitcoin codes in a separate, vulnerable database. Other exchanges store the customer’s codes offline in a segregated system that is kept off the internet, under lock and key. Some experts advise their customers to keep their key codes printed out and in a safe place.
In some respects, the bitcoin system is reminiscent of the precious metals business. Also touted their products as a hedge against inflation, government monetary manipulations, taxation, and even economic collapse, precious metal companies still offer to store customer’s precious metals in private repositories. In those repositories, there are two types of storage, segregated and non-segregated storage. In reality, all the precious metals on deposit are stored in the same vaults and, in order to retrieve your holdings, you have to depend upon your monthly statement to prove your ownership of the metal on deposit.
In fact, the only way to absolutely insure your precious metals is to take physical delivery and then store the metal in a safe deposit box or buried in the ground somewhere. The key difference between precious metals and bitcoins (which are often depicted as gold coins in the media, some of which are actually equipped with data chips where the owner’s key codes are stored) is that precious metals are physical objects that can only be in one place at a time.
Bitcoins are just snips of computer code, all stored in the same database, which is spread out among computer programs all over the world. Proponents maintain that this makes them uniquely secure. Critics are saying that makes bitcoins uniquely vulnerable. Both sides in the debate agree that the now bankrupt Mt. Gox bitcoin exchange was a bad actor. The question is whether it is possible to do invest in bitcoins safely under the current scheme.
By Alan M. Miner