Michael Eisenberg is a partner at early-stage venture capital fund Aleph. A key figure in Internet and software investment in Israel, he currently resides in Jerusalem and lectures on entrepreneurship at the Hebrew University.

Here, he makes a case for Israel as a potential hub for digital currency innovation.

This week, the US Internal Revenue Service (IRS) handed Israel a golden opportunity on a silver platter. Or, shall I say, a virtual gold opportunity. By deciding to tax bitcoin as an asset, like gold, the US Government effectively doomed bitcoin as a currency.

As Robinson Meyer correctly writes in The Atlantic:

“To tax bitcoin as property … destroys its fungibility: one bitcoin can no longer be exchanged for another …This was one of the original intents behind the service. Bitcoin aimed to function as a kind of digital money, meaning it had to work as a unit of account, a medium of exchange, and a store of value.”

To be clear, this does not doom bitcoin. The protocol and architecture of the block chain-based ledger will still enable endless disruption of existing industries.

However, it does cripple some of the nascent US-based entrepreneurial efforts to boost bitcoin-based commerce until the currency abstraction layer arrives on top of the bitcoin block chain. This Chamath Palihapitiya tweet is instructive in that regard:

“Bitcoin is too complex for mass market. Need an abstraction so it can be used by people who don’t care how it works” @chamath #coinsummit — Danny Thorpe (@danny_thorpe) March 26, 2014

Meyer, quoting Prof. Levitin of Georgetown, points out just how complex this tax treatment is for the common man:

“The price at which a particular bitcoin was acquired (and this is traceable) determines the capital gains on that particular bitcoin when spent. If I spend bitcoin A, which I bought at $10, but is now worth $400, I’ve got a very different tax treatment than if I spend bitcoin B, which I bought at $390. […] This means bitcoins are not fungible, and that makes it unworkable as a currency.”

I believe this opens the door for another jurisdiction, with appropriate regulatory and tax regulations, the right technology ecosystem and interested entrepreneurs to become the epicentre of bitcoin and virtual currency innovation. Israel should become exactly that place.

Israel is currently working on its bitcoin regulatory framework. The Bank of Israel and Israeli Tax Authorities should treat bitcoin as a currency and apply sure but light regulation. They should not, as Professor Danny Tziddon suggested at our Aleph Bitcoin event, simply follow the US Federal Reserve or government.

The Israeli regulators should “zag” where the US “zigged”. They should take a simple approach and not the United States’ complex approach. This would increase the velocity of bitcoin purchased by Israelis by making it a medium of exchange.

That increased velocity, and hence use, would also speed up the innovation around bitcoin, its protocol and the general commercial applications of virtual currency in Israel. Critically, it will also attract global bitcoin entrepreneurs to Israel.

Critical mass

Israel already has a critical mass of the crypto expertise and the entrepreneurial verve to enable bitcoin innovation to flourish here. We also have another advantage: we are a small country, a community, with our own currency that is not the world’s reserve currency.

Our economic system is not threatened by the emergence of a digital and decentralized currency. Our community ethos breeds trust, which is so necessary for new currencies. Hence, Israel can uniquely enable virtual currency and innovation to flourish around this digital currency revolution.

We are one of the few countries that stands to gain more as a country from the export of innovation engendered by bitcoin and virtual currencies than we stand to lose by having an alternative currency to fiat currency. Thus, we should be encouraging our legislators and regulators in Israel to be avant-garde, daring and world-leading in their policy approach toward bitcoin and virtual currencies.

This article was originally posted on Aleph.vc, and has been republished here with permission.

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