Two Huge Flaws in the Bitcoin Ecosystem

As Bitcoin approaches ten years of age, it continues to intensify innovation and increase the pace of change in the financial world. The pros of Bitcoin and blockchain are many and include among others: fast payments, democratising a currency, removal of central bank control, lower costs, higher speed of transfers and several other perceived advantages.

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However, there are two big flaws emerging that may impact Bitcoin’s apparent unstoppable rise that will contribute to a huge crackdown on Bitcoin – in a huge way. The two flaws are:

  • Income tax avoidance fundamentally built-into the Bitcoin network
  • Environmental impact of cryptocurrencies

These two cryptocurrency flaws are not discussed much in mainstream media because perhaps taxation and environmental concerns are too passé.

Income Tax

In most advanced countries, especially European ones, citizens pay 40-60 percent income tax to support the large social benefit programs. Bitcoin’s tax avoidance capabilities challenge the foundation of that social structure.

Today European citizens can potentially have income in Bitcoin, anonymously, and later decide if they want to spend it in Europe or outside Europe without paying tax. The other aspect of Bitcoin is the way a taxpayer can pass the income to someone else anonymously, without a trace. With the click of a button, millions of dollars can switch hands in the retail space several times within an hour.

Tax avoidance could impact European governments more than most other developed regions because Europeans comply with income tax to a high degree. Europeans pay high taxes, which are fairly efficiently used compared to other countries where tax avoidance is rife and social benefits to the population are miniscule.

Many European countries are proud to have an efficient high-tax-low-corruption system. This is in contrast to low-tax or no-tax areas. This puts Europeans and their governments on a collision course with Bitcoin. In the long run, Bitcoin can challenge the tax regime, which is totally decentralised.

European governments will react to this tax threat at some stage. Initially they may resort to strict regulation around the use of wallets. The regulators will be reactive perhaps and they will take their time, but at some stage, I believe an outright ban will be in place for tax avoidance reasons.

The alternative to a ban is to regulate all Bitcoin wallets or try to convince tax-payers to use Bitcoin ‘look-alikes’ created by centralised entities, but that’s notoriously difficult to enforce on a global scale. A centralised cryptocurrency is not the same thing as a decentralised one. Cryptocurrencies are decentralized and taxation is centralized.

Sooner or later the EU will have some kind of ban on cryptocurrencies and implement regulatory controls.

Environmental cost

Many people think Bitcoin is a “virtual currency”, which makes it sound like some kind of super environmentally-friendly new digital currency that is living in the wonderful world of computers.

People may think Bitcoins are created out of thin air –electrons in this case. However, they are not. Bitcoins are mined in huge data centers around the world. The mining process is hugely energy intensive, and the energy is used to solve relatively useless algorithms.

Cryptocurrencies have created a processing power arms race. Large Bitcoin mining data centers in China and other countries use cheap electricity from coal fired power plants, which in turn get their energy from giant open-pit coal mines. The coal mines and their environmental and social costs are well documented. While the world is fast moving towards energy efficiency and renewable energy, coal is considered the dirtiest fossil fuel.

Bitcoin is anything but clean. It’s part of an energy equation. Its creation is dependent on energy and processing power.

A key part of the annual climate change conference – COP23, which was held in November 2017 and attended by almost 200 countries, was the launch of the ‘Powering Past Coal Alliance’, which aims to rapidly phase out the use of coal power in favour of cleaner energy sources.

The latest reports indicate that the bitcoin miners are consuming more electricity than entire countries – more than Ireland or Nigeria, for example.

It’s ok to make money in Bitcoin. Those who joined the wave early on deserve the returns, even as it comes at the cost of newcomers. That’s how speculative markets work, but let’s not fool ourselves, the Bitcoin ecosystem is not clean. Bitcoin is neither clean from an environmental perspective nor from a monetary perspective.

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