Bitcoin, Regulators and Online Markets – a look at the World of Bitcoin Exchange

forexExchanges are the link between the old world of banking and the new world of crypto-currencies; they play a vital role in supporting the growing Bitcoin economy. If Bitcoin hopes to continue rapidly gaining new users it needs this bridge between the old and new systems to be up and functioning. While Bitcoin is in no way dependant on a link to the traditional banking system, its smooth transition into mainstream use certainly is.

Unfortunately these bridges which make up the exchange market are concentrated and often broken.  This leads to concerns over reliability and security, which can cause market panic and extreme volatility. As Bitcoin enters the mainstream a wave of new businesses, services and software developers have recently dedicated their efforts to solving this problem. Their task will not be easy, and the while the exchange rate has seen some recent stability, there is a long way to go before obtaining bitcoins can be called user friendly and reliable.

This is an especially big problem for the expansion of Bitcoin. Attempting to purchase bitcoins is a frustratingly slow, nervous and difficult process for a consumer who is used to the convenience of internet shopping.  The usual reversible and/or disputable payment methods of credit cards, PayPal, etc. are rarely available in the purchase of non-reversible bitcoins. Generally consumers are required to use slow and expensive bank wires. This situation is an example of the difficult task facing exchanges as they attempt to integrate two very different systems.

Bitcoin was not designed for compatibility with traditional banking.  There is no Bitcoin protocol for ID verification. There are no accounts to freeze or confiscate.  As such exchanges have the unenviable task of attempting to shove Bitcoin transactions into the current banking regulatory mould.  While Bitcoin’s recent gains in popularity have brought about new entrants to the exchange market, it has also brought the scrutiny of regulators. Compliance with financial regulation, particularly in the states, is costly, time consuming and no small barrier to entry.

The Bitcoin exchange market is in the midst of a rapid evolution which will be critical for Bitcoin’s continued adoption. Here we will attempt to provide an overview of the current market and developments on the horizon. This is a tricky task as it is an attempt to take a snap shot of a rapidly moving target.

What are the current options in the Bitcoin exchange market?

While there are a number of different ways to obtain bitcoin, however, the large online exchanges are currently the dominant players in the exchange world.

Online Exchange Markets

By far the most popular option is a large online exchange such as the market leader Mt.Gox. Exchanges such as these operate entirely online. Customers must first open an account which now usually requires sending in copies of ID and waiting for verification in accordance with anti-money laundering polices. Once an account is set up a money wire or another form of irreversible payment is sent in to fund the account. After those steps, which are likely to take days if not weeks, bitcoins can be purchased. While this method requires some patience, the advantage is that it can be done entirely online.

At some exchanges there are faster funding options such as Dwolla or cash deposits, however, these options are often suspended or shut down due to banking and regulatory issues.

Over the Counter Alternatives

For those looking to avoid common delays from online exchanges, or perhaps looking for greater privacy, a common option is a local Bitcoin exchanger.  Services such as match local Bitcoin traders with those looking to buy or sell. Exchanges can be arranged entirely online using options such as bank wires and the site offers an escrow service. However, many transactions that originate via the site happen in person and with cash. Another OTC option is services such as which helps to match buyers and sellers via an IRC channel.

New Software Options

On the horizon are projects that aim to provide peer-to-peer exchange solutions. MetaLair is an open-source project designed to create a decentralized exchange network. The network created would allow for both crypto-currency to crypto-currency via an automated escrow service with plans for fiat to crypto capabilities. While still very much in development, a solution such as this technology would provide a quick, peer-to-peer exchange solution.

The Expanding Market

Earlier this year Bitcoin’s USD exchange rate hit all-time highs at near $260. This happened as Europe was experiencing a new round of financial trouble in Cyprus and Bitcoin hit the mainstream press.

What was once considered to be only the play thing of computer nerds or conspiracy theorists was now seen by the mainstream press as a possible opportunity. Perhaps still a very risky and out-there opportunity, but Bitcoin got quite of lot of attention.  And it sparked a rush to invest in the new currency and related businesses.

Many Bitcoin start-ups went from being small operations run by one programmer in his/her spare time, to potential big businesses being courted by major venture capitalists. This is especially true for the exchange market as many realize that Mt.Gox’s huge market share can be chipped away at, and the race to do so is on. As Bitcoin exchange support service’s co-founder Yurii Rashkovskii put it, the current situation “is a land grab.”

The many new exchanges entering the market is exciting news for the Bitcoin economy which has suffered from extreme market concentration.  The oldest and by far the largest Bitcoin exchange is the Japan based Mt.Gox. While its market share is starting to slip, for years the exchange enjoyed an over 80% market share for USD/BTC exchange.

This extreme concentration has been an ironic problem for the brilliantly decentralized Bitcoin as it leaves one very large point of failure in the exchange market. The trouble this can cause was shown earlier this year during Bitcoin’s run up in price. Mt.Gox is such a dominant force in the market that it’s posted BTC/USD exchange rate is the defacto ‘Bitcoin price’.

In April, as Bitcoin’s price was soaring over $200, Mt.Gox was hit by a series of DDoS attacks that delayed and briefly blocked access to the site. Market speculators panicked and the price plummeted to near $60.

This exchange volatility makes accepting Bitcoin payments a risky business for merchants, often undermines the currencies legitimacy and holds back those considering investing in the Bitcoin world.


However, as the Bitcoin economy continues to expand, new entrants in the exchange market not only stand a chance of making quite a lot of money, but also will wind up solving some of the currencies biggest problems in the process; exchange market concentration and price volatility.

The Race is on

The new businesses entering the market are numerous and varied and any list or figure given here would likely be out-dated by the time it reached the reader. However, some idea of the activity in the area can be gained by looking at new investments in Bitcoin exchanges and exchange related businesses.

Many investors go about their business quietly and solid numbers are unavailable, however, there have been a number of well publicized investments in the Bitcoin exchange space in the past few months.

In April Coinsetter, a Bitcoin trading platform offering margin trading, raised $500k from a number of investors including the Bitcoin Opportunity Fund run by SecondMarket founder Barry Silbert.

Coinbase, a Bitcoin wallet service that can be used to purchase BTC, announced in May this year that they had raised $6 million from a number of big investors including Fred Wilson, Ribbit Capital, SV Angel, and Fundersclub.

Also in May BitInstant, a Bitcoin exchange funding service, raised $1.5 million in a seed funding round led by Winklevoss Capital.

There has also been a number of venture capital funds created for investing in startup Bitcoin businesses. These include Liberty City Venture’s Digital Currency Fund and BitAngels.

The race for market share is such that new businesses providing support to exchanges are springing up; specifically BTCGlobal and  These new businesses provide technical support for new exchanges. “We do the tech. You do the rest” reads the website. Or as co-founder Yurii puts it they are “Mt.Gox in a box”.

“Looking at the eco system as a whole there is definitely a need for more access points into and out of the Bitcoin economy and it makes no sense for everyone to be reinventing the same wheel” explains Bex co-founder Jessie Heaslip. ”We are inventing one wheel that we are going to license out.”

The start-up has the goal of making opening an exchange a less capital intensive and technically challenging endeavour.  Bex will focus on developing “the most repeatable parts of this business” and then link together the exchanges using their platform in a “global liquidity pool.” This liquidity pool would allow small exchanges in various locations to operate reliably without a large amount of start-up capital. Instead they would be able to access liquidity from other Bex based exchanges.

Support businesses such as Bex could dramatically lower technical and capital barriers to entry for new exchanges. But Bex is not aiming to capture any of the very large US market share, that would be too resource intensive and risky.

Also looking to create an exchange network is the new Ripple system. Operated by OpenCoin Inc., which received a round of venture capital funding in April, Ripple is looking to create a network of small and large exchanges which are ‘Gateways’ to the Ripple network. With Gateways in many locations Ripple users will be able to exchange a wide variety of currencies. Leading Bitcoin exchange BitStamp is already setup as a Ripple Gateway.

What is the online exchange market doing?

For years Mt. Gox has been the undisputed market leader with a USD exchange market share of 80%+. Mt. Gox came to be in this position largely by getting in first and managing to be the last man standing as the Bitcoin economy grew and became the subject of many theft attempts.  Mt. Gox simply survived the growing pains that killed many others.

Since April, Mt. Gox has slowly been losing its market dominance.  And now sits at just below 50% of the USD exchange market.




 *Compiled from data obtained via Shows total BTC volume including trades in USD and other currencies, using 7day averages.


Mt. Gox’s decline in market share, as can be seen from the above chart, is due largely to a loss in its own volume rather than being over taken by a competitor.

With all of the issues Mt. Gox has expirenced this year, law suites, bank account closures and issues with USD withdrawals,  it’s not terribly surprising that it has lost volume. But where has the volume gone? Perhaps there has been a reduction in speculator trading. Perhaps Bitcoin users are moving to exchange alternatives.

Unfortunately there are not easily available numbers on the use of exchange alternatives, but as all Bitcoin transactions are public, we can have a look at the Bitcoin transaction numbers in general.


*Chart taken from 180 day USD major exchange volume using 7 day averages.


The above chart shows USD volume on the major exchanges. It is clear that USD exchange volume in general has been on the decline, particularly in the last month.

However, USD transaction volume on the Bitcoin network has seen a rise in the last few months. This shows that while exchanges have been losing some volume, the Bitcoin network has not.


*Chart taken from 180 day USD transaction volume using 7 day averages.


It would be very interesting to look at a comparison of trade volume of various exchanges vs. total transactions on the Bitcoin, however, due to a number of technical factors this is quite difficult. However, provides an estimate of Bitcoin transaction volume and produces a Trade vs. Transaction ratio chart.


The chart was created to examine speculation in the Bitcoin economy. It compares Bitcoin ‘Trade’ volume, volume of exchange between BTC and fiat, to Bitcoin ‘Transaction’ volume, number of transactions which likely represent transactions between users or for purchases of goods and services.  The charts tracks the ratio of transactions to trades; transactions/trades. A higher ratio means less speculation. 




The US Dollar remains the dominant national currency in the Bitcoin economy.


While Bitcoin’s recent explosion in value and mainstream attention has brought many new entrants to the exchange business, it also brought about the attention of regulators and the scrutiny of banking partners.  Just as the Bitcoin economy is moving into the mainstream regulators and bankers are applying the brakes.

Serious regulation entered the Bitcoin economy earlier this year with US financial regulator, FinCEN, releasing a guidance paper on ‘virtual currencies’.  The guidance made it clear that any entity which buys and sells virtual currencies, such as an exchange, is considered to be a money transmitter.  This is a heavy burden to bear. Not only does it require strict adherence to anti-money laundering policies but also lengthy and costly licensing hurdles. To legally operate as a money transmitter in the States, a business needs to obtain money transmitter licenses from 48 different states. Estimates vary on the time and cost of this compliance but it is certainly a significant hurdle for a start-up business to clear.

One US based exchange start-up, Vaurum, has experienced interest from investors and has raised a seed round, but also faces an uphill battle with compliance. Avish Bhama, Vaurum founder, sees compliance as being a barrier to entry and one which has been very costly for his business. “Complying will cost us ~100k+ / year.  It is expensive and time consuming and is a big barrier to entry. … It’s hard to put a number on it, but lately more than half of my time has been spent on regulatory stuff.”

CampBX, an established US based exchange, also puts a significant amount of resources into staying compliant. “Bitcoin regulation is evolving at a fast clip, and we actively revise our compliance program every quarter to remain fully compliant.”

One could assume that friction with US regulators would simply move Bitcoin businesses off shore. However, this did not save Japanese based Mt. Gox from a run-in with US authorities. Shortly after the release of their guidance regulators seized the Dwolla account of Mt.Gox’s  US subsidiary, Mutum Sigillum LLC. The subsidiary also had its Wells Fargo bank account closed as regulators accused the business of operating in the US as an unlicensed money transmitter. Nearly two years prior while opening the Well Fargo account the businesses CEO, Mark Karpeles, signed a form declaring that the business was not a money transmitter.

While they have now registered with FinCEN, Mt.Gox had failed to register immediately after FinCEN’s guidance which categorized exchanges as money transmitters.

US regulators willingness to enforce their rules on any digital currency based service with US customers was demonstrated in their dealing with Mt. Gox and in the recent shut down of Costa Rican based digital currency provider Liberty Reserve. Statements after the May shutdown of the business make it clear that US regulators intend to enforce their anti-money laundering standards on foreign companies. Under Secretary for Terrorism and Financial Intelligence, David S. Cohen, clarified that the US would pursue illicit financial actors wherever they may be, in the US or overseas.

“We are prepared to target and disrupt illicit financial activity wherever it occurs – domestically, at the far reaches of the globe or across the internet.” 

Any exchange which hopes to share in the very large US market will have to keep US financial regulators in mind. However, the ever resilient Bitcoin economy is developing services designed to ease compliance issues for exchanges.  BTCGlobal, a Uruguayan based support service for Bitcoin businesses, has launched a “Massive Parallel Licensing” program which aims to create a network which will allow members to leverage each other’s regulatory infrastructure and resources.

Via the BTCGlobal Site: “The highest hurdle for entrepreneurs interested in launching a Bitcoin exchange business is the significant international and local regulatory requirements. It is estimated that an investment of over $10 million would be required to reach total legal compliance in all the U.S. 50 states alone. The BTC Global Massive Parallel Licensing program addresses this hurdle with a package that includes comprehensive regulatory support and a full suite of Bitcoin products and services.”

However, increasingly Bitcoin businesses are simply choosing to block US customers as they see entering the US market as too risky and/or costly and focus on other jurisdictions which have been comparably much friendlier.

Regulation outside the US

Many countries have not directly addressed digital currency regulatory issues, however, some countries have stated that they are not requiring any regulatory compliance at this time. Both British and Canadian regulators have issued letters to exchanges stating that they are not required to register with financial authorities.

In Canada a letter from regulator FINTRAC was sent to a number of exchanges confirming that the exchanges were not money service businesses and were therefore exempt from laws governing those businesses.

The UK’s financial regulator HM Revenue & Customs (HMRC) sent a letter to at least one exchange start up making it clear that the business was not required to register with HMRC under money laundering regulations.

In Europe ‘e-money’ is regulated, however, for the moment the European central bank does not view Bitcoin as money or e-money and does not require compliance for Bitcoin businesses.

While regulators may change their policies, it’s clear that some locations are far more lenient than others. However, lenient regulation does not necessarily translate to co-operative banking partners.

Nervous Banks

Recent moves by regulators, particularly in the States, have scared many banks out of the Bitcoin arena and their caution is understandable. Commercial banks cannot exist in their current form without accounting rules and national currencies that are created and supported by national legal structures. They cannot afford to be on the wrong side of these legalities.  Bitcoin should be a concern for them; it was not built to fit the regulatory mould and it seems that banks are frightened of inadvertently enabling violations of financial regulations via the Bitcoin network.

There have been numerous examples of banks, often abruptly, ending their relationships with Bitcoin exchange businesses. Earlier this year US based exchange BitFloor ceased trading after CapitalOne closed their bank account, and this is just one of many examples from the US.

In Germany Bitcoin exchange Bitcoin-24 had its bank account closed by authorities in April who were concerned that the site was being used for fraudulent transactions. More recently, LibertyBit, a Canadian based exchange, halted operations as a result of bank account closures and alleged fraudulent account activity.

While start-up Vaurum has managed to build banking relationships, it took some convincing. “The hard part is that banks won’t even talk to Bitcoin exchanges because their compliance teams are scared of the regulatory issues that come along with banking a Bitcoin exchange. …  The mechanics of the partnership are pretty straight forward – it’s just that banks don’t want to get in trouble with regulators and are quite conservative by nature. … It took some time to educate banks on our business.”

The Other Options

While some are putting their effort into making the Bitcoin/banking partnership work, others are busy finding ways around it. For the moment it would seem that there is only a small percentage of Bitcoin trade happening outside the large exchanges and most exchanges do not view these options as competitors. However, the alternative exchange market is experiencing rapid growth of its own.

As Fiat currencies in their digital form exist only on the servers of banking institutions, Bitcoin to fiat exchange cannot take place without the co-operation of a banking institution.  Many who are looking to bypass the regulatory and banking relationship hurdles are attempting to fly under bank’s radar with small transactions.  This means peer-to-peer transactions rather than a large intermediary such as an exchange.

There are a number of options that aim to connect individual Bitcoin users for trades. Two examples are and MetaLair.

MetaLair is an open source software project that aims to create a decentralised exchange mechanism which would facilitate peer-to-peer exchanges between crypto-currencies and in the future fiat to crypto exchanges.

The project will begin by building a network to enable peer-to-peer, crypto-currency to crypto-currency exchanges. In this scenario the MetaLair software acts as an automated escrow agent which makes for a very low trust system; but of course fiat to crypto exchanges would be more complicated.

Due to the nature of the banking system, the project’s crypto to fiat exchange plans would necessarily involve fiat funds being held by a third party escrow service. MetaLair plans to provide an open protocol to allow anyone to set up as an escrow service and to build a reputation via a rating system. As lead architect Johnathan Turrall explains, “what we are creating is an open system. The details of how the fiat to fiat transactions occur between the entities are effectively between them, we are just providing an interface by which they can do that.”

While MetaLair aims to create online exchange, has been in operation for years offering primarily in person exchanges.  The service matches local Bitcoin traders with those looking to buy or sell. The site is known for finding exchange agents for in-person trades, however, exchanges can be arranged entirely online. These trades use options such as bank wires and the site offers an escrow service for added user security. Via a local trader it is possible to purchase bitcoins quickly, privately, in person, and with cash in over 2,200 cities worldwide.

Earlier this month the sites founder Jeremias Kangas said his site has been gaining roughly 300 new users each day and has over 50k users overall. The site currently employs 4 people and is looking to hire more as they continue to improve their service.

New local Bitcoin markets calling themselves Buttonwood have sprung up in a number of US cities. The name is a reference to the 1792 Buttonwood agreement that created the New York Stock Exchange and which took place at 68 Wall Street under a buttonwood tree.


While the exchange market is changing, things are still largely the same. Mt. Gox is currently the largest exchange and USD/BTC exchange is the largest market.

Venture capital backed start-ups are determined to capture the US market and they seem likely to succeed. Only those start-ups who can attract large investment funds will be able to calm nervous banks and clear the regulatory hurdles.  As such the exchange options in the States will become much more serious and will require verification from all clients, likely above the current law. Privacy will not survive in the US online exchange market.

As compliance in the States is a large and expensive hurdle to clear, many innovators who’s projects do not fit the regulatory mould will avoid the US and likely actively block US users. Bitcoin innovation may be driven out of the States.

The large online exchanges are the dominant exchange options and it is difficult to guess the percentage of the market for exchange alternatives such as local markets or OTC trades. These options would seem to be much more appealing to Bitcoin veterans, however there is no doubt that alternative exchange options are experiencing a boom of their own.

As the world of traditional banking collides with the new world of crypto-currencies there will continue to be friction. New exchanges will appear, bank accounts will be closed, regulators will take action, businesses will be shut, some will get rich, some will face prosecution and how the exchange rate reacts is anyone’s guess. But this weak point in the evolving Bitcoin economy is where the action will be. Watch this space!


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