>> thank you, mr. chairman. i would just ask jennifer a quick question. have we seen any recognized terrorist group ever express er interest or actually use bitcoin for its operations?opera >> so we've certainly recognized the possibility and the vulnerability there. there's nothing in terms of information in the public domain about a terrorist organization expressing such interest or using it. but we would always be more than happy to have any outside briefings to discuss that topic further. >> thank you. over to you, mr. chairman. >> senator merkley? >> thank you very much. i wanted to ask a couple things related to different forms of crimes that -- quote crimes thaa have occurred with bitcoins. the first thing i want to ask i there is a centralized public ledger that's encrypted. so the anonymity is only in ulyn

terms of -- you're not truly anonymous. there is an encrypted version of who owns what. so one concern about the, if you will, the reliability of the currency is whether that encryption can actually be broken. so i want to ask that question. there are some very powerful code breakers in the world. and we certainly have cussio discussions about our own u.s. capability to break codes quite often up here. but the second is we've had this series of reported crimes. one was a bitcoin savings and trust which ran a pyramid scheme in bitcoins. we also had the hacking of a bitcoin exchange called bit floor. and as it was reported, 24,000 bitcoins were stolen.2 and we had instawallet, a wallet provider that was hacked and ed. they lost 35,000 bitcoins. these are not small dollar items

given the value of the individual coins. but maybe to paint a little bit of a picture for us, how does this all work? if there is a public ledger that is keeping track of who owns what, then how does one actually steal a bitcoin? >> all right. so in terms of breaking the code and the really powerful cryptologists that are out eally there, i just don't know the answer to that. i don't know if there is anyone out there that can break the code. it has certainly been represented to us at fincen that it's as strong as encryption as exists out there. so it seems quite safe from that standpoint. >> this is primeit number trap door cryptology? >> to tell you the truth i don't know the type of cryptology that's used. but i'd be happy to take that back and get you an answer. in terms of some of the types of

schemes you mentioned, whether w it'she a pyramid scheme or hacking, probably the most relevant concept that comes up there is the airrevokability of the transactions with bitcoins.. the idea that when i take a bitcoin and pay you with that bitcoin there's no way for me to get that money so to speak, or that bitcoin back unless you t choose to give it to me and choose to tell me who you are. so that can be a great tool for fraudsters in the pyramid scheme sense or hackers who hack into your computer and are able to get your code that is your half of the bitcoin, so to speak. as i understand it, there's a public key and a private key to bitcoin. i think of the public key myselh almost like thee routing number on my bank account and i give that number to others who want o to send me money. us what i'm not going to give you

is the pin that i use to access the atm in my account. and the private key is like that pin. so typically the person holds o' to the pin. or the private key. it's only when you put the h public and private key together you that now have some bitcoin that you can actually do something with.ur so if a hacker gets your private key, they're able to take your a bitcoin and you can't get it back. >> they can modify essentially the public ledger and then the public ledger becomes de facto record of ownership? >> that's exactly right >> so in these -- well, okay. let's see if mr. cotney has any comments on this. >> well, you bring up an interesting case regarding consumer protections because as the director noted these transactions are irreversible. and as a regulator charged withr consumer protection that's what we are interested in every day. the interests of consumers to

make sure that their money gets from point a to point b and that there is someone reliable standing behind that transaction. and that's what we're interested in. >> in a few seconds -- i'll just say it's fascinating that the system, which is not, if you j will, continuously tended but is in this public space, has been r robust enough to hold up for this long without a major flaw that brought entire thing down. it certainly has attracted the attention of innumerable innu programmers around the world asking, can we create a similar? system?day. so thus we are here today.st thank you. >> and i would just echo, basedl upon other commodities where there's a physical presence, you can somehow trace it back.it bac the fact we're talking about something in the virtual world really has remacable

ramifications. senator heller. >> thank you, chairman. i want to thank our witnesses for being here today. we're trying to grapple with this, trying to figure this out, and we have more questions than answers. so hopefully you can answer some of these questions. but miss calvery. i want to know when did fincen start to take notice of these bitcoins and other virtual currencies? >> back>> in probably 2007 with the egold case. was b it was back then that we put out i believe it was an administrative ruling talking about e-gold which was a commodity-backed virtual comm currency. and even back then put out our view that it fell under the money transmitting regulations issued by fincen. so we've been keeping up with it since that time. >> do you have any idea what percentage of the current virtual currency users and >> perhaps businesses that are participating in illegal activities? >> we would have no way to knowh that. what we do knowat is if you taka

currency -- virtual currency like liberty reserve, that was an instance where we believe it was set up for the purpose of laundering money and the vast majority of transactions using liberty reserve were to elieve facilitate criminal activity of all types. it's what the department of justice alleged. it's what we alleged in our 311 action. in regard to bitcoin, it seems there's a lot of legitimate users out there and like any other payment system it can be exploited by illicit actors and we have seen it exploited by st illicit actors.gard t at least with regard to the allegations mid-by the th department of justice in the silk road matter alleging that it was used, bitcoin was used to facilitate hundreds of millions of dollars on money laundering. >> on that silk road the fbi seized about 144,000 bitcoins.er what does the federal governmens do with those?

>> so luckily, that's not an issue we'll have to deal with at fincen, but i can tell you from my past job as the head of the forfeiture program that they will be thinking about whether they can sell those assets. >> so they still have them? >> i would have to defer to my colleagues at the department of justice. >> i will talk, mr. cotn echl y, a little bit about volatility. we know last week it was trading somewhere around $400, went up to around i think 900 yesterday and finally settled at 600. why the volatility? >> well, i think that there's a great interest in this particular space. there is, as i mentioned, a demand for real-time payments t andhe lower transaction costs. and one of the means today thatg we're looking at is through virtual currency. certainly at the state level we

have a regulatory regime in place. as i mentioned, we are a consumer protection regulator. we're not an investment protection regulator. like the s.e.c. like the states. want to we want to make sure those consumers are protected. and just like any investment, someone who's looking at making an investment, whether it's in virtual currency or a stock or a bond investment, they need to do their due diligence. >> do you follow anything that goes on in china and europe? it's my understanding they're increasing in volume in other countries. is is there any reason for this? would you have any knowledge? >> i don't have any direct knowledge, sir, no.kn >> jennifer? >> myow understanding is in som countries there may be an interest in bitcoin because it can -- where you have a home sm currency considered volatile itself, bit coin mightw behe considered a better place

store value.ter and in other places it's also considered a good medium for edo transacting or transferring value. so if there's not a good internal system for transferring value efficiently, it might be used for that purpose as well. >> thank you. thank you, mr. chairman. >> in the category of shameless plugs, congratulations on n holding a hearing on something that could be a problem later on and is not a crisis right now. it's such a rare moment. seriously the committee is starting to weigh in on this and i'm going to take this conversation away from the illegal and to the practical > i realities of what we're dealingt with here. away f as this becomes a common method of transmitting goods and d services, replacing a dollar bill or replacing a credit card which we knowol are long standi

methods. there are a tremendous number of challenges by not categorizing this. i noticed both of you especially you jennifer have deferred that. thank goodness we didn't have to achieve that result because we had enough broad authority that allowed us to pursue this. but let's take, for example, a bit coin being used by a pie.a e how do you ring that up on the cash register? what's the sales tax on that?he how do you record it it for income tax purposes?ncome how do you transmit it for purposes of payroll taxes? how do you deal with this when it becomes more commonly accepted method of transmission. and so what i'm saying is it's not just nefarious groups.it's n terrorists and illegal operations that have a potentiar of reallyti skirting on the edg. it is, in fact, the more cepted

commonly accepted it is and the more available it becomes the more difficult it is for regulaf kind of regulatory activities to be carried out. regula especially tax activities. i would like maybe your thinking on whether categorizing a bit coin achieves a result so we can think about the regulatory regime or whether we need to create a whole new category and think about this differently. either one of you can answer that question.ei >> sure. from an anti-money laundering financing prospective, from thar limited perspective, it's not as important. we have similar regulations across different parts of the industry. the idea that they are going to have anti-money laundering controls in place, they are going to provide reports on suspicious activity, regardless of whether it's a commodity or a

currency or a security.rency or those basic protections will oni follow howeverll we define it. from our perspective, it's not as important. i take your point. this country and all countries are going to have an interest in protecting consumers and preking investors and thinking about monetary policy and thinking about taxing all those things and reasons why we have regulatory and statutory schemes in every country around the world covering these issues.e cn if bitcoin takes off and become a serious part of the financial system, then those issues will need to be brought to the forefront. i think there is still a question in that we can't assume that bitcoin is going it become the major player that enthusiasts think it will. i did hear some venture capitalists speak recently and

saw this as a binary investment. this is either going to. take of and be the next great thing. it's going to be the cell phone of 20 years ago or it's going to be a nice experiment that completely fails. so i thinkse we're waiting to s. in the meantime, we're trying tc make sure we protect the financial system from elicit actors. >>e you pointed out between illegal activity. illegal activity, and we can't be distracted by this, is illegal no matter what the means. whether it's paid for by cash, paid for by ach, or through now> virtual currency opinion on the legal side, those actors want to play by the rules will work through agencies like mine, played by the rules, and that's really the importance of a s. comprehensive set of regulations both on the state and federal rs level. >> just to follow up on a ons.

comprehensive set of regulations. you tell me i'm now the state tax commissioner and someone a paid with a bitcoin and i find out you have expertise. just heard this is trading for $700. is that whatad the pie is worth would you come down and be my expert witness when i collect sales tax on $700? >> unfortunately i'm not the tax commissioners. >> i used to be. >> this is going to be a big challenge. we can focus on the illegal part of this, but to the extent that it becomes recognized as a valid method in the perfectly legitimate world of transferring goods and services, this is going to become an increasing b. problem and the more the opportunity presents itself to b evade, not illegally, but to ut avoid taxation to say that actually was speculation. spec are you going to pay capital

gains on it? it's an interesting challenge. u i think we need to be thinking about these issues if, in fact, we see this becoming a way to transmit goods and services. that's more regularly accept ed. >> i think you raised a great point in the sense that many are focusing on nefarious schemes. they want to be off the grid. >> thank you for being here. i posted earlier this hearing r topic and askedth kansasens in particular to comment on what id should know, what would be some suggestions for questions that they might have. and interesting in just thew lt few hours, 125 responses, most of them very long and thoughtful. let me explore one of the topics

that was raised in a sense that's regulatory. is there an effort to make certain that the regulations are uniform globally in the absence of that is there not a risk of the activity is simply taken offshore if we're the country r that is the regulator and is there an economic consequence te that happening? what's the downside to our country and its economy and the opportunities for innovation if the united states is the heavy regulator and other countries are not. >> maybe we'll ache that pr a domestic perspective and the ke international. the united states we have the e states and we have the federal regulation. we do, i think, a fairly good job of the states working

together to try to find common n approaches whenever possible and then to work with the states on the federal approach and try to get as much common ground there as we can. so we have as much consistency as we can at least within the co united states. then we go externally. externally from the money laundering and counterterrorist finance perspective, the task na forcel is the international standard setting body that attempts to keep consistency in standards across the globe. it's a body that has carrots and sticks and has been effective in getting countries to put regulations in place. but all that being said, i thin ifac businesses are going to lee the united states based on perceived or real regulatory burden, i think they are going to find the game short lived because as mentioned, countries are going to have an interest in figuring out the tax implications and monetary policies. it's not just the united statesi

that has interests in protectini investo investors. so the regulation is going to catch up. and i think there are plentyin good reasons to bring innovative business and keep innovative business in the united states. >> i think it's very important to leverage the strengths of each of us. the state regulators and the federal agencies. at the local level, as a state regulator, i know, for example, that there's a large cambodian e population. i know of loel, massachusetts.ca i know there's a large brazilia population in framingham.gham. i send examiners out every day to conduct examinations to do transaction testing, money going abroad. so we have the boots on the ground and a local understandint that these companies. then we pair that with the national perspective and knowledge of federal agencies

who also interact on an international level.by by leveraging these strengths, i think we do a much better job ah detecting and preventing this de illegal activity. >> i appreciate bothnt those answers. do you have a sense about the importance of this activity being certained in the united states?es? what is it -- what benefits does our economy and environment gain by encouraging or at least not. discouraging the bitcoin from being centered here? >>. >> i think what we gain is our continued replation as being ths country where into va tors start new businesses. and something we would want to continue. i think the great challenge for the regulators are to encouragew innovation wherever we can and

put smart regulation in place that tries to deal with risks, very real risks about which we need to be concerned but mine miezing burden. >> >> i think we've all got a lot more questions for you, but we understand a vote will be held around 5 sclok. so we want to make sure we get to the second panel. i want to thank you both for your testimony. >> thank you for the opportunity. >> i'll turn to senator merkleyt >> because of the time, i'm

going to start introducing as r? you come up,so feel free to tak your seats, quickly. i'll start with paul smoltzer. he's the president of bits. in this role, he led bit's work, in promoting the safety and soundness through best practices and successful strategies for developing secure infrastructures, products and services. second, we have professor sarah jane hughes. she is the university scholar ao indiana university. for the past 25 years, professor hughes has taught payments law and banking regulation. she's a nationally recognized nn expert on payment systems. public and private methods to detect international money laundering and consumer nt

protection and financial privacy. next we have mercedes. she works with privacy and cyber security issues and the use of w marketing, consumer service.ons and we have anthony delipi. hav anthony is the co-founder and an ceo of byte pay. a processing system for bitcoin. mr. galippe foinded byte pay in 201. he has 15 years experience. he was district sales manager au aerotech at industrial devices corporation. thank you for all of you for

bringing your expertise to bare on this topic. >> ranking members, kirk and heller and members of the subcommittees.bers of my name is paul spencer and i am the president of bytes, the i financial services round table. attempts to develop digital currencies have existed for decades. as consumers have become more confidentble and computer systems have become more powerful and less expensive, we're seeing digital currency increase. we need to recognize it exists outside financial king and payment systems. in my testimony today, one measure of a currency's successy is its acceptability. we're seeing retailers accept digital currencies for goods and services. for example, the publishing serv service accepts bitcoin as a form of payment.ederal just last week, the federal election commission indicated it

is considering allowing byte coin's use as accepted. digital currencies also allow access where digital currencies do not allow access. digital currencies may also have the ability to provide access ie the under-banked and non-banked. a microfinancing service in kenya recently added a bit-coin. payment for its customers. digital currencies can also hel individuals in countries with impressive regimes to support causes that they might not otherwise support through their country's traditional payment providers.

another interesting aspect related to certain currencies is cryptographic protections. digital currencies do present opportunities to watch, pres including facilitating realtime payments, particularly those involving international partiesc and those involving and th micropayments, possible deeper , cryptographic options and opportunities to serve the under-banked and politically nd oppressed more effectively. while there are opportunities, we also have the recognize the v potential risks.g. first, as noted, significant market risk. without government funding or support, digital currencies are subject to market moll involve tillty creating to merchants and others who accept as payment. beyond the march, 2013 guidance issue, the digital currency environment incorporates no ronn protections particularly t consumer protections.o for example, also as noted, co

within the last two months, there have been multiple reports of currency disappearances from various bitcoin trading f platforms. in none of these cases is it e likely that the owners will recover fig. given the anonimty of the world and the lack of know your customer requirements that apply to traditional financial institutions, using digital currencies, individuals may also be able to donate to illegal organizations that would otherwise be legitimately be leg banned such as those engaged in terrorist financing.

some recent studies as we've as been suggesting suggest it's a haven for illegal activity.r ile we talked about silk road and wd talk about liberty reserve. but those, i think, are probably just the prime examples of the y point that criminals are using broad array of criminal activities. so as we look at the lack of regulatory oversight and the market risk associated with digital currency, there is a en. continuing challenge to overall usage and endorsement. we need to discuss the effectiveness of risk mitigations. thank you for allowing me to testify and we look forward to . continuing to work with you. >> thank you, professor hughes?s

>> ranking members heller and kirk and honorable members of the subcommittees. i am honored to be here with yos today. monitoring the developments and taking a responsible approach ta their regulation reflects their growing presence in domestic and international transactions. recent negative publicity associated with law enforcement actions against silk road and exchange values in china and the czech republic raises policy concer concerns. i have as the chairman said worked in areas that are like this for a long time not as a provider, but as a watcher.wa and i also wish that my late father could be here today, because he served in world war ii as a kriping to fer for the n united states and was involved in the computing industry in the united states.e i remember being a teenager when he brought home two big

briefcases and said it's a computer t. brought and it was. one of the things is that we're seeing in a relatively short od period of time, important path break changes in technology of the characters that senator warner suggested earlier and weo need to be very cautious not to chill those innovation, but we still need to have appropriate legal regimes around them. i think it's appropriate that we take some time and craft with great care in and as flexible a way as possible.ropr particularly with regard to the remarks of director calvary and commissioner coffee.to the so i had a number of recommendations that responded to the questions that the invitation to appear put forward.on taking them slightly out of order from my prepared testimony, obviously, there has al