China Bitcoin Flag

In November of last year, I wrote that bitcoin had a China problem. With the BTC price tripling in a two month span to over $1,000 around that time, and BTC China surpassing (the then still solvent) Mt. Gox as the world’s largest exchange by volume, it was clear that China was exerting increasing influence on the price and stability of the bitcoin market. Less than a month later, the People’s Republic began a series of anti-bitcoin measures that all but choked the crypto-currency from the market, culminating this Spring with a outright ban on banks and payment processors working with bitcoin businesses in the country.

This pressure from Chinese regulators, combined with the spectacular implosion of Mt. Gox and ongoing uncertainty in other global markets, helped push the BTC price down as low as $360 in April and continues to keep it hovering in the $500 range today.

So with November 2014 just around the corner, it’s poetic, yet deeply concerning that BTC China reported yesterday that 71 percent of all bitcoin trades over the past 30 days have been denominated in Chinese Yuan (RMB). The claim was based on data from bitcoinity and was further explored in a detailed report by Coindesk, which notes that China is now home to not only the largest bitcoin exchanges, but also several “industrial-scale mining operations.”

Welcome to the China problem part deux.

To reiterate what I wrote last fall in my original report on Bitcoin and China,

But for a currency touted for its independence from government interference, the growing concentration of Chinese influence over this crypto-currency wealth creates a single point of failure for the system. The same would be true if you replaced China with any other country (assuming it could generate similar trading volumes), but the fact that it is the notoriously unpredictable China doesn’t inspire confidence…

If the world has learned anything over the last half century, it’s that modern China can be a manic and unforgiving patriarch, making rapid and unilateral policy decisions that often fly in the face of logic or the perceived greater good. It would be foolish to assume we can predict its future actions around bitcoin….

A bet on bitcoin is increasingly a bet on the predictability of the Chinese government and its highly unstable economy. It is a bet that the Chinese economy will perform poorly, capital controls will continue, and Beijing will remain tolerant of bitcoin. In other words, it’s a sucker’s bet.

The US government’s United States-China Economic and Security Review Commission (USCC) issued its own report in May of this year, titled “Bitcoin’s Uncertain Future in China,” that arrives at a similar conclusion:

If Chinese regulators successfully prevent Chinese users from accessing bitcoin, the global bitcoin market will face continued price declines, significantly decreased trading volumes and threats to its legitimacy.

Judging by the latest data, Chinese users have not been prevented from accessing bitcoin — quite the opposite in fact, at least over the last few months. But if history is any guide, this is a situation that can change rapidly and unpredictably.

At its peak in Q4 2013, RMB-denominated transactions made up just shy of 60 percent of global trading volume, and the global price of bitcoin climbed in lock step with the RMB volume share. Today, we’re already 18 percent beyond that previous record imbalance. When children play with fire, it typically only takes one bad burn to teach a lesson that will last a lifetime and help to prevent future incidents. Apparently the bitcoin community is not such a fast learner.

The issue is, there’s not really much the non-Chinese bitcoin market participants can do to correct this imbalance short of increasing trading simply for the sake of volume, which isn’t really a solution at all. The most realistic answer to this problem is one that will need to happen organically: institutional trading volume. Barry Silbert and other market leaders have long cited enormous latent demand (billions of dollars worth) among institutional investors sitting on the sidelines and waiting for more clarity in the US regulatory landscape. If and when this money enters the market, it will be more than enough to drown out the current retail trading volume.

In the meantime, bitcoin bulls have reason to be on edge as Fall/Winter 2014 is shaping up with many of the same warning signs as the same period a year ago. Here’s hoping the adage holds true that “past performance is not indicative of future results.”