The take-down of Liberty Reserve, which authorities described as a multibillion-dollar online money-laundering operation, raises the question whether Bitcoin could evolve into an alternative for cybercriminals.

The U.S. attorney's office in New York on Tuesday unsealed an indictment against the operators of Liberty Reserve, which provided the financial infrastructure for criminal activity ranging from credit-card fraud and identity theft to child pornography and narcotics trafficking. Five of the seven defendants, including founder Arthur Budovsky, were in custody in Spain, Costa Rica and New York.

What made Liberty Reserve so successful was the anonymity it provided its users. The company's complex system used third-party exchangers that actually handled the transactions and credited or debited Liberty Reserve accounts. As a result, Liberty Reserve collected no banking information.

With Liberty Reserve out of business, what else could support anonymous transactions? The answer is decentralized online currency, such as Bitcoin.

The peer-to-peer digital coins themselves are nothing more than a string of numbers. People who download the open source client acquire Bitcoins by having their computers compete to solve complex mathematical problems. The winner gets the virtual cash.

Bitcoin users are assigned a number that provides anonymity in transactions. The currency can be used in a number of online marketplaces, and people who want to trade Bitcoins for cash can do so using several exchanges. The most popular is Japan-based Mt. Gox, which processes about 80% of exchange transactions.

Bitcoin is already used by cybercriminals today. A black market drug site called Silk Road accepts Bitcoins in selling illegal drugs such as heroin, cocaine, marijuana and a wide variety of pills.

While Bitcoins is useful in Silk Road's relatively small transactions, the digital currency falls short today on supporting the large criminal operations once handled by Liberty Reserve. For example, the latter company was used in transferring money in the recent looting of $45 million from banking machines in 27 countries.

[Also see: Russian malware mines bitcoins through botnet]

A major problem with Bitcoin for large criminal operations is the wide fluctuation in the currency's value. For example, in April a Bitcoin went from $266 to as low as $105, due to an influx of new buyers and software that couldn't keep up.

"Big time criminals are businessmen, so they want to protect their investments, protect their profits, and Bitcoin is too unstable to do that," said Alphonse Pascual, an analyst for Javelin Strategy and Research.

Silk Road has gotten around this problem by offering a hedging service in which the underground online market covers any loses, while keeping any gains in value. Such a system is unlikely to work a large criminal enterprise.

From the criminal perspective, another problem with Bitcoin is its high profile. How the currency works and the exchanges used are well known to government regulators and law enforcement.

In April, the Department of Homeland Security seized the accounts of Bitcoin exchanger Mutum Sigillum LCC, a subsidiary of Mt. Gox. A warrant used in the seizure said the subsidiary was running an unlicensed money service in violation of U.S. law.

Whether cybercriminals can find a way to make Bitcoin more useful remains to be seen. But in the short term, it is unlikely to fill the void left by Liberty Reserve.

"It may take up some of the traffic that Liberty Reserve was handling, but I don't imagine it will be very much," Pascual said.

This story, "Online Money Laundering Bust Casts Light on Bitcoin" was originally published by CSO .