This week CoinDesk carried a piece by John Matonis, the executive director of the Bitcoin Foundation and a self-described cryptoeconomist, in which he suggested that “government tainted” bitcoins traded on licensed exchanges will trade at a discount, creating arbitrage gain opportunities for savvy traders.
goes like this: consumers value privacy, which is why they adopt technologies like bitcoin. Since bitcoins that have passed through licensed exchanges will be inherently less private than bitcoins that haven’t, demand for them will be lower. The response by the market will be to lower the price of the tainted coins until they start to move. This can be interpreted as consumer demand for a discount due to the loss of privacy.
I respectfully disagree. New York bitcoins will trade at the market rate. In fact, I doubt that trading fees will even be higher for New York residents or that they will be blocked by the major exchanges. Any increase in overhead related to the BitLicense will be passed on to all customers or absorbed by licensees.
In spite of what they say, people don’t seem to value privacy very much, or at least not enough to actually pay for it. Most consumers are more than willing to hand over basically unlimited amounts of personal information, so long as it comes with access to something that they want or like using. Data vacuums like Google and Facebook remain as popular as ever.
I predict two things will occur in connection with New York’s BitLicense: first, when finalized, the BitLicense rules will be substantially similar to the proposal currently in circulation. Second, the major US-based exchanges will comply, rather than cutting off New York. In fact, they have already done most of the work in connection with licensing as Money Service Businesses in many states. Foreign exchanges with substantial New York business will also comply.
The thriving, unlicensed black market for bitcoins in New York that Matonis predicts will never materialize. It is true that some hard-core bitcoiners value their privacy enough to stay away, but these people are already unlikely to be using the exchanges due to existing “know your customer” rules. Some would-be exchange customers may take their business elsewhere. However, this is already priced into the market, since the supply and demand that would be generated by these traders is absent from the exchanges.
Moving beyond the privacy angle, Matonis’ argument doesn’t make economic sense. The pricing paradigm that he suggests would only work in areas with a captive market, which is both technically and socially infeasible with bitcoin.
Exchanges and trading platforms function as market makers for bitcoin, a task which they must carry out efficiently if they want to stay in operation. What it costs to buy bitcoin at a well-run exchange should always stay slightly higher than the equilibrium point and the sell price slightly lower. For exchanges that charge little or nothing in the way of transaction fees, the spread between the buy and sell rates makes up the bulk of operating revenue.
Compared to other commodities, bitcoin movement between markets is almost frictionless. Coins can be very quickly transferred in and out of exchanges, nearly free, and without difficulty, 24 hours a day, every day. Market action tends to be very efficient at adjusting for arbitrage. As a result, the prices at the major exchanges tend to track each other closely, regardless of their location in the world.
The vast majority of purchasers or recipients will be unable to positively identify a “New York bitcoin” and likely wouldn’t care even if they could. Even if a critical mass of traders did force exchanges to discount “tainted” coins, there are plenty of traders who care more about profits than privacy who would gladly buy all the discounted bitcoins they could to sell on other exchanges.
The proposed BitLicense rules are draconian, expensive and unhelpful to new bitcoin exchanges looking to operate in the State of New York. However, I believe that they will not be nearly as disruptive as claimed by the gloom and doom predictions of late. John Matonis is as close to a subject matter expert for bitcoin as you’ll find and his opinions carry significant weight in the community, but I still think he has this one wrong.
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