At 9:30 AM this morning, leading Bitcoin exchange Mt. Gox released the following statement:

“In light of recent news reports and the potential repercussions on MtGox’s operations and the market, a decision was taken to close all transactions for the time being in order to protect the site and our users. We will be closely monitoring the situation and will react accordingly.”

This statement came in the wake of months of increasingly erratic behavior from the exchange, and the leak of an alleged Mt. Gox internal memo suggesting that the company’s “hot wallet” (where their active trading is done) was compromised to the tune of about three hundred and fifty million dollars). As of press time, there is every chance that the exchange is gone for good, along with every cent of customer money.

The reddit account goxloser claims to have lost more than 4700 BTC (valued at somewhat more than two million dollars). They write,

I don’t know how dying feels, but I’m pretty sure that’s how I feel now.

The price of Bitcoin has dipped significantly in response to the news, though at press time it had already begun to recover. The future looks cloudy for Bitcoin, at least in the near term. The fall of Gox is disaster in no uncertain terms.

So how did we get this this point?

THE GOX AFFAIR

Mt. Gox began operation as a Bitcoin exchange in 2010, launched by amateur Bitcoin enthusiasts Jed McCaleb and Mark Karpeles, the latter of whom became of the CEO of the site in 2011. The site was a runaway success, and by April 2013, the site had grown to handle more than 70% of the world’s bitcoin transactions.

The site has been plagued by technical and administrative issues since its inception. In 2011, the exchange was hacked, allowing the theft from user accounts totaling approximately nine million USD at the time of the theft. Mt. Gox employees initially blamed the thefts on users being careless with their passwords, before eventually admitting that the site itself had been substantially compromised. While the security vulnerability that the hackers exploited was eventually fixed, the company’s lax security policies and handling of the incident would both prove an omen of things to come.

The next few years continued to be rocky: in a series of scandals in mid 2013, the federal government seized five million dollars from Mt. Gox’ American business operations, accusing the website of operating a monetary exchange without proper permitting, and former partner CoinLab sued the exchange for breach of contract. These issues escalated late in the year as Mt. Gox users all over the world began to have increasing difficulties pulling their money out of the exchange, experiencing withdrawal delays of weeks or months. Amid growing user unrest, the company was notably tight-lipped and hard to reach, releasing only cryptic notes about technical difficulties and troubles with finding new banking partners. The administration repeatedly refused to grant interviews. When Wired sent journalists to their physical address in Japan, the only representative of the company they were able to meet claimed that the administrators were out of the office and refused to comment or give his name.

On February 7, just over two weeks ago, the exchange shut down all trading activity entirely, claiming a need to address security issues within the site. A poll on February 15 suggested that 68% of Mt. Gox customers are waiting on withdrawls from the exchange, and 21% have been waiting more than three months. On the 10th, the company issues a press release stating

“A bug in the bitcoin software makes it possible for someone to use the Bitcoin network to alter transaction details to make it seem like a sending of bitcoins to a bitcoin wallet did not occur when in fact it did occur. Since the transaction appears as if it has not proceeded correctly, the bitcoins may be resent. [sic] MtGox is working with the Bitcoin core development team and others to mitigate this issue.”

The CEO, Mark Karpeles, made several interviews with the Wall Street Journal and Forbes, making similar claims. Despite Mt. Gox’s attempt to blame their difficulties on the Bitcoin protocol (suspicious, as the alleged bug doesn’t appear to have crippled any of the other exchanges), many in the community began speculating that the company was insolvent, and the increasing wait times on withdrawals represented the company scrambling to hide this fact from its investors.

Consumer suspicions may have been confirmed today by the leak of what appears to be an internal Mt. Gox memo, which describes the theft of virtually all of the exchange’s holdings, and outlines damage control approaches that involve the removal of the CEO, attempts to cover some of customer’s lost money, and corporate re-branding.

“The reality is that Mt. Gox can go bankrupt at any moment, and certainly deserves to as a company,”

In the wake of the leak, a number of other Bitcoin-based businesses released a joint statement through the CoinBase blog:

This tragic violation of the trust of users of Mt.Gox was the result of one company’s actions and does not reflect the resilience or value of bitcoin and the digital currency industry. […] As with any new industry, there are certain bad actors that need to be weeded out, and that is what we are seeing today. Mtgox has confirmed its issues in private discussions with other members of the bitcoin community. […] We are confident, however, that strong Bitcoin companies, led by highly competent teams and backed by credible investors, will continue to thrive, and to fulfill the promise that bitcoin offers as the future of payment in the Internet age.

A spokesperson for the group stated that Mt. Gox leadership has privately revealed that the exchange will soon file for bankruptcy. On Sunday, the CEO of Mt. Gox resigned from the board of the Bitcoin Foundation, a nonprofit advocacy group. The next day, Mt. Gox Twitter account was erased. The picture for any Mt. Gox customer ever seeing any money again looks bleak.

What’s going on here? Well, a few possibilities present themselves. The most likely seems to be that, at some point in the past, Mt. Gox was robbed to the tune of 800,000 BTC. Since then, Mt. Gox has been fraudulently operating on a fractional reserve basis. Over time, Mt. Gox’s ability to keep up lagged, leading to the escalating wait times on withdrawals as they struggled to continue to hide the theft, converting their own cash resources and their customers’ into Bitcoins. At some point, the leaked memo was written in an attempt to manage the PR fallout from the inevitable reveal. Since the leak of the memo, management has been in a panic trying to figure out how to either solve the problem or remove themselves from the path of prosecution.

THE FALLOUT

The crisis strategy memo allegedly from Mt. Gox states this in its introduction:

The reality is that MtGox can go bankrupt at any moment, and certainly deserves to as a company. However, with Bitcoin/crypto just recently gaining acceptance in the public eye, the likely damage in public perception to this class of technology could put it back 5~10 years, and cause governments to react swiftly and harshly. At the risk of appearing hyperbolic, this could be the end of Bitcoin, at least for most of the public. We believe in the value of Bitcoin, its potential to change the world, and its principles of transparency. Most importantly we care about the customers of MtGox and other bitcoin-based businesses who will be affected.The likely consequences will be larger than this localized financial damage, and we believe that the benefits of keeping MtGox stable and running outweigh the risks.

The truth is that Mt. Gox is over. Even if every cent were eventually repaid, trust is gone. Nobody in their right mind would trust these people with a single cent ever again, nor should they. The culture of secrecy, incompetence, and outright lies is cloying and the administration of Mt. Gox is guilty of, at minimum, criminal negligence. Civil and criminal suits are not unlikely in the coming months as Japanese and American regulators investigate the company.

The fate of Bitcoin, though, is another story. Bitcoin’s reputation, in the media, falls somewhere between software piracy and Bernie Madoff. The fall of Mt. Gox isn’t going to destroy Bitcoin, because it would be difficult for the media to be harsher on cryptocurrencies than it already is. Anyone whose view of Bitcoin is derived from MSNBC or Fox already doesn’t take cryptocurrencies seriously and won’t until the system’s market penetration is too complete to ignore. The truth is that there’s more here than public opinion: Bitcoin offers a value proposition that is simply too good to pass up. Streamlining and protecting the kind of money that we use is an important idea, and it’s one that will change the world whether it likes it or not. All the bad press in the world can only serve it slow it down a little.

Furthermore, it’s worth taking the time to repeat that this mess has nothing to do with the Bitcoin protocol. Mt. Gox wasn’t robbed because Bitcoin doesn’t have a central bank, and it definitely wasn’t robbed because Bitcoin is unregulated: theft is illegal, hacking is illegal, and criminal negligence is illegal. Crimes were committed, and odds are good that charges will eventually be brought. The reason that this happened isn’t because Bitcoin is a cryptocurrency. It happened because Bitcoin is new. There hasn’t been time to erect the infrastructure of trust that exists in more mature money markets. The industry is still in the process of replacing early-adopter overgrown hobbyist ventures like Mt. Gox with more mature, responsible, and experienced financial institutions. As time passes, the actual industry of cryptocurrencies will only get more professional and reliable.

THE TAKEAWAY

Let me take a moment here to levee a warning: speculating on Bitcoin is foolish. Investing your life savings into it is irresponsible. Bitcoin is young, and for now its real value in terms of the commerce it enables is much, much lower than its nominal value, which is inflated by hordes of amateur day-traders. Bitcoin is a currency, not an investment vehicle. Speculating on the booms and busts is little but glorified gambling, and you probably shouldn’t do it. It’s bad for Bitcoin’s stability and adoption, and it’s bad for your personal finances in the long run.

That said, the investors of Mt. Gox didn’t lose their money because they speculated irresponsibly. They lost their money because they were robbed. The degree to which Mt. Gox was involved in that robbery remains to be seen, but they were at least profoundly negligent and dishonest, if not actually thieves themselves. The people who lost their money in the Gox affair are victims, and I dearly hope that when the criminals involved are prosecuted, some of those victims are able to reclaim what they are owed.

Mt. Gox is dead forever. It won’t be bailed out. It isn’t too big to fail. It taught the market an expensive, painful lesson about leaving amateurs in charge of too much money (and the dangers of fractional reserve). That’s how these things are supposed to work, and the Bitcoin industry is ultimately stronger for the grizzly death of Mt. Gox and the increased scrutiny that will be places on its competitors. In the wake of the incident, we’re already seeing increased transparency from many of its competitors, and that trend will likely continue. Several exchanges are implementing features to allow users to analyze the blockchain to prove their solvency.

When history looks back on the Gox affair, with the full light of context, it won’t be remembered as the incident that proved the fatal flaw of Bitcoin. It will be remembered as the incompetence that allowed ordinary people to commit an ordinary crime.