How is regulation going to affect the bitcoin price?

Regulation as it concerns bitcoin has been dominating the media cycle recently. We’ve had the US government meeting with representatives of the Bitcoin Foundation. In the UK, regulators have been meeting with companies trying to make determinations about a framework for operating in the realm of bitcoin. And companies like Tradehill have suspended bitcoin operations pending further notice because regulatory issues have been opaque regarding decentralized virtual currencies.

Yet in the past month, this uncertain environment has not deterred the volume of trading on bitcoin markets. Despite an unknown future, the price of bitcoin has been trending up over the past month.

Because of the number of regulatory issues being discussed, many are wondering what that will do to the value of bitcoin. BTC doesn’t operate in a vacuum. Regulatory decisions will affect bitcoin’s price. The question is: will it help or hurt its value?

Let’s start off by looking at the trends in bitcoin's price. In July, BTC was in the doldrums. The price reached a low of $68 on Mt. Gox. What might have caused this?

Looking at the news cycle at the time, with mining difficulty going up, the price was going down. Also becoming problematic was Mt. Gox’s inability to process USD withdrawals. Those were negative factors that might have played a part in driving the price so low.

Since that time, however, bitcoin has been on a pretty steady rise. It’s hit a high of over $148 on Gox, albeit briefly. A bitcoin investor might say that August was a nice run. While volatility is always a concern with bitcoin, we didn't seen too many swings of late - except perhaps for one downswing in early September. That is a welcome sight to see on the charts.

Overall growth in value is something that everyone who supports bitcoin wants to see. And as we've seen in the past, a higher bitcoin price means that it gets more mainstream attention.

“If the bitcoin economy continues to grow then more and more banks will enter the bitcoin economy”, said Garrick Hileman, an economic historian with the London School of Economics.

“This will be anathema to many, but bitcoin would be well served if it became more closely aligned with government”, said Hileman. Indeed, a number of libertarians who have been attracted to bitcoin are motivated to do so because of its supposed freedom from the financial system. The concerns about how governments control fiat have long left people of this mindset suspicious of who really controls the economy.

Recall that, in Sastoshi Nakamoto’s own paper on bitcoin, references were made to the fact that trust in financial third parties was a major influence in why it was created in the first place.

The problem is that bitcoin is not separate from the financial system. Bitcoins have value because they are traded for fiat money. And the companies that operate bitcoin businesses must interface with banks. The concept, then, that bitcoin can be separated from finance is flawed.

If enough bitcoin investors hold this sentiment, the price will inevitably go down due to selling because of lack of faith. And that would probably have something to do with the general consensus among the public that banks should not be trusted.

On the opposite side of this argument is that despite the possibility of bitcoin being regulated is the fact that it can open up new economic possibilities. That, in and of itself, might offer enough value for the price of bitcoins to rise. Think about all of the new companies – exchanges, mobile wallets and even CoinDesk itself – as businesses that are being built around bitcoin and other virtual currencies.

“Regulatory clarity is arguably the single most important issue facing bitcoin right now”, said Hileman. “Increased adoption should lead to an increase in bitcoin’s price, and many businesses and consumers are reluctant to adopt bitcoin because of negative headlines and the currency’s uncertain regulatory status.”

Uncertainty, at this point, may be exactly what is holding bitcoin back. But since bitcoin is global, it’s going to be a patchwork of regulations depending on where you live. Take China for example. In a recent Bloomberg BusinessWeek article, the bitcoin environment there is described as being a “wild west” situation because the Chinese government is not publicly discussing regulation at all. And in fact, BTC China is the third largest bitcoin exchange right now. Who knows what the government there will do? No one can guess what kind of policy, if any, might develop.

The United States dollar is the dominant currency that is traded for bitcoins. As a result, regulation by the US government will affect BTC prices the most. It appears from the outside that regulators are taking a cautious approach, gathering data to make an informed decision. Whatever they do decide, it will spark a reaction in the bitcoin markets.

It may also change the way that bitcoin-based businesses operate. Take, for example Erik Voorhees, who operates Coinapult, a SMS bitcoin messaging service, in Panama where no discussion on bitcoin regulation is taking place. There are so many different bitcoin exchanges and businesses operating within different legal frameworks.

With that in mind, it’s an intriguing proposition to see how different countries’ regulations will reflect the overall value of bitcoin on exchanges. We already seen vastly different spreads on exchanges. What will happen when bitcoin faces compliance rules in some markets?

What do you think will happen to the value of bitcoin in the face of regulatory decisions? Will bitcoins become more valuable, or will the price go down no matter what, based on the fact that it eventually will face a set of financial rules?