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Some perspective on Bitstamp

Bitstamp, the prominent Bitcoin exchange, has been hacked. This is bad news for the Bitcoin ecosystem, but let’s be sure to keep it in perspective.

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Blog Consumer Protection

This post has been updated below.

Bitstamp, the prominent Bitcoin exchange, has been hacked. This is bad news for the Bitcoin ecosystem, but let’s be sure to keep it in perspective. Inevitable comparisons are being made to Mt. Gox, so let’s see how things stack up.

First, from what we know thus far, it’s a substantially smaller heist. In fact, as of today it’s barely 1% in dollar value lost, or 2% in bitcoins lost. The losses are small enough that Bitstamp has promised to guarantee every last penny (or satoshi) of its customers’ funds with their reserves.

Bitstamp is a very different company today than Gox was in February of last year. Gox was in many respects run by amateurs, whose security had not grown proportionately with the value of the bitcoins they were trusted to hold safe. Bitstamp is by all accounts a serious company: they have a large team of engineers, venture capital backing, and a proven competence with scaling their infrastructure as transaction volume increases. Most importantly, they appear to have stymied more severe losses by using “cold storage.” That means they store the private keys that control some percentage of their total bitcoin holdings offline, away from an outside hacker’s reach.

This sensible and voluntary precaution should enable Bitstamp to make up for any of their customers’ lost funds with offline reserves. Unlike what we saw with Mt. Gox, if Bitstamp’s recent statements are accurate no customers will lose their holdings because of this breach, and they will be back in business soon. All in all, while this incident is nothing to be celebrated, we’re seeing the industry mature and it’s headed in the right direction.

Some have mischaracterized Bitstamp as the “backbone” of bitcoin and this hack as an indicator of a greater flaw within Bitcoin itself. It’s important to be clear what Bitstamp is and what it isn’t. Bitstamp is not the “backbone” of Bitcoin. Bitstamp is an exchange, a way for people to buy bitcoins. If Bitcoin had what you’d call a backbone, i.e. the essential, rigidifying structure that makes the organism stand against the gravity of collapse, then that would be the community of Bitcoin miners. Like a biological backbone, Bitcoin’s is made up of many individual vertebrae—thousands of individuals running mining software on the network—and that diversity gives the bitcoin backbone flexibility and strength. It takes more than the failure of a single individual or a single company to weaken Bitcoin itself. That said, Bitstamp is an important part of the ecosystem; it’s a dominant player in an exchange industry that could use greater diversity and competition. Yet one of the main reasons why we don’t see more USD-Bitcoin exchanges–especially compliant exchanges based in the United States–is regulatory uncertainty. The result is fewer players and greater systemic risk from any single failure. This is why it is important that we get a sound regulatory regime in place soon.

Update 1/9/2014 –  Bitstamp has come back online.