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Bitconnect: A Case Study in the Government Regulation Paradox

 

Within the past year, cryptocurrency has undoubtedly become the hottest topic of discussion in the investing world. A “collective insanity” over cryptocurrencies has spurred something akin to a 21st century gold rush.1 This is clearly reflected in the valuation of the cryptocurrency market as a whole.  The cryptocurrency market cap increased by over 3,300% in 2017 from $18.3 billion to $616.3 billion.2 This meteoric rise in cryptocurrency valuation was fueled by the influx of money from investors all across the globe. However, many of these investors were unsophisticated and simply entered the market for fear of missing out on the gold rush.

Enter Bitconnect. Bitconnect, an anonymously run cryptocurrency lending and exchange platform, preyed on unsophisticated investors. Bitconnect users would loan their cryptocurrency to the company in exchange for the promise of outsized returns depending on the duration of the loan with longer loans receiving the promise of higher returns.3 In fact, Bitconnect guaranteed users returns of up to 120% per year.4 The loans were required to be made with the company’s proprietary cryptocurrency, Bitconnect Coin (“BCC”), which users would purchase from the Bitconnect exchange after depositing their Bitcoin with the company. According to Bitconnect, the large returns were generated with the company’s trading bot and “volatility trading software.”5 However, Bitconnect’s guaranteed returns, extensive referral program, and the anonymity of the site’s founders led to speculation in the cryptocurrency community that the company was running a Ponzi scheme.6 On the other hand, to an unsophisticated investor, Bitconnect seemed like the perfect opportunity to profit off of the cryptocurrency market surge without worrying about investment research or monitoring.

Unsurprisingly, Bitconnect turned out to be too good to be true as the whole thing came crashing down when, on January 16, 2018, the company announced that it was shutting down its lending and exchange platform and left its users holding the bag. 7 Bitconnect attributed the shutdown to “continuous bad press,” continuous DDoS attacks on the platform, and the receipt of two cease and desist letters from the North Carolina and Texas securities boards.8 Because Bitconnect required its users to make their loans using BCC, the price of the token naturally skyrocketed during the platform’s operation, but now it is virtually worthless. At its peak, BCC traded at around $430 with a market cap of around $2.6 billion.9. Currently, BCC is trading around $3 with a market cap of around $28 million.10 Almost $2.6 billion in value disappeared in a matter of days.

The Bitconnect story is significant because it is unlike the cryptocurrency scandals of the past and likely could have been prevented. Bitconnect was not hacked like Mt. Gox or, more recently, Coincheck, which lost $340 million and $530 million in user cryptocurrency respectively.11 Rather, Bitconnect was simply a Ponzi scheme. Had there been any federal oversight of the cryptocurrency market or any regulatory framework governing cryptocurrency exchanges, the Bitconnect scandal may have been shut down in its early stages. However, lack of regulation is one of the main selling points of cryptocurrencies. This inherent tension in the cryptocurrency market is referred to as the “Government Regulation Paradox”.12

The Government Regulation Paradox states that cryptocurrencies need government regulation to deter price manipulation and related wrongs, but the absence of such regulation is one of the biggest reasons that many investors buy into cryptocurrencies in the first place.13 In other words, cryptocurrency investors desire the stability that comes with government regulation, but do not want the cryptocurrency market to be regulated by the government.14

Extreme price volatility, cryptocurrency exchange hacks, and other scams like Bitconnect, have demonstrated that some type of oversight or regulation other than the self-policing of the market itself is required in the cryptocurrency markets. The breadth and scope of such regulation is an issue that governments will have to grapple with when devising their own regulatory framework. While some countries have begun to take steps in this direction, the vast majority of countries are not there yet.15 In the meantime, there is little doubt that there will be more Bitconnects where billions of dollars evaporate overnight.16


  1. Pete Adeney, So you’re thinking about investing in bitcoin? Don’t, The Guardian (Jan. 15, 2018), https://www.theguardian.com/technology/2018/jan/15/should-i-invest-bitcoin-dont-mr-money-moustache

  2. Total Market Capitalization, CoinMarketCap, https://coinmarketcap.com/charts/ (last visited Feb. 10, 2018). 

  3. See Fitz Tepper, Bitconnect, which has been accused of running a Ponzi scheme, shuts down, TechCrunch (Jan. 16, 2018), https://techcrunch.com/2018/01/16/bitconnect-which-has-been-accused-of-running-a-ponzi-scheme-shuts-down/

  4. See Gareth Jenkinson, Bitconnect Ponzi Scheme – No Sympathy From Crypto Community, CoinTelegraph (Jan. 19, 2018), https://cointelegraph.com/news/bitconnect-ponzi-scheme-no-sympathy-from-crypto-community

  5. See Tepper, supra note 3. 

  6. See Jenkinson, supra note 4. 

  7. See Tepper, supra note 3. 

  8. Id. 

  9. See id. 

  10. Bitconnect, CoinMarketCap, https://coinmarketcap.com/currencies/bitconnect/ (last visited Feb. 12, 2018). 

  11. See Nikhilesh De, Coincheck Confirms Crypto Hack Loss Larger than Mt Gox, CoinDesk (Jan. 26, 2018), https://www.coindesk.com/coincheck-confirms-crypto-hack-loss-larger-than-mt-gox/

  12. See Jay Adkisson, Bitcoin, Cryptocurrency And The Government Regulation Paradox, Forbes (Jan. 29, 2018), https://www.forbes.com/sites/jayadkisson/2018/01/29/bitcoin-cryptocurrency-and-the-government-regulation-paradox/2/#6c91910c2fae

  13. Id

  14. Id. 

  15. See id. 

  16. Id. 

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