An American software developer named Jed McCaleb founded a platform in 2006 named Magic: The Gathering Online eXchange. He set up the platform for secure exchange of trading cards used in a video game by the same name, using the domain name mtgox.com. This platform allowed cards to be bought and sold like stocks.
Some quarters say that it was this underlying technology of trading imaginary cards securely that formed the basis of bitcoins. Although McCaleb never released the original code written by him for Mt. Gox, it is true that the bitcoin technology is similar to such card exchange technology. It is also in popular notion that the anonymous author of the Bitcoin paper,1 Nakamoto, is probably McCaleb himself.
It is important at this juncture to understand how the bitcoin and blockchain works. I would recommend you to go through my earlier post on What are bitcoins / cryptocurrency / blockchain – what is so different than fiat money?
While China as of now, owns 58% of the global bitcoin circulation, it was not so until 2013 when the Japanese were leading the bitcoin race and Mt. Gox owned 70% of all bitcoins.
Mining is the act of maintaining and validating global bitcoin transactions by solving mathematical calculations. New bitcoins are created to reward the miners. Mining is the only way for creating new bitcoins.
Whoever, may be the author of the idea behind bitcoins, people found value and confidence in the literature, and joined in. People developed independent networks based on the paper and it grew at a time when mining was comparatively easy.
By 2008, people had bitcoins and they did not know what to do with it, just like money and stocks lying around. When money lies idle, you would need a banking system where you can put your money in return of an interest or for putting money to any use. And when shares of companies are idle you would want to trade them through an exchange.
So in 2010, to fuel the bitcoin economy through transactional exchanges and bring in new entrants, McCaleb used the domain mtgox.com to create a bitcoin trading exchange named Mt. Gox and incorporated it in Tokyo by the name MtGox Co., Ltd. It quickly found acceptance among Japanese bitcoin users. Mt. Gox was the first entity to hold bitcoins in large scale.
On 19 June 2011, an account of an official auditor at Mt. Gox was compromised. His password was stolen by a hacker who manipulated the system and illegally transferred a large number of bitcoins to himself. He then went on to sell all these bitcoins at a very low rate using the exchange’s software, creating a massive “ask” order at any price. People globally bought these bitcoins at very cheap rates (some were sold at as low as 1 cent).
Although the price of bitcoins stabilised in minutes to its earlier rate, this hack resulted in loss of around 850,000 (750,000 of investors and 100,000 of its own) bitcoins to Mt. Gox, worth USD 473 million at that time. Compared to the global circulation of ~6,850,000 bitcoins at that time.
A lot of bitcoins were randomly dispersed by the hacker. He sent thousands of bitcoins to accounts which did not exist. These bitcoins can never be withdrawn or transacted with, as it is impossible to access without a password. The bitcoins were permanently lost from the global economy. This opened up a lot of flaws in the system. One of them being the inherent flaw in failing to check existence of accounts before transferring value.
Interesting to note that the hacker could not compromise the bitcoin technology, however, he could steal the password of an official auditor.
No one acknowledged the hack for years. It was only on 28 February, 2014, Mt. Gox finally acknowledged the three-year old hack. The company would not have revealed it had there been no need to file for bankruptcy.
Even after the 2011 hacking event bitcoin trading went on at Mt. Gox and in 2013 Mt. Gox came to own almost 70% of all global bitcoin circulation. However, the loss still needed to be accounted for.
Mt. Gox in the meantime kept looking for the missing bitcoins and could track and recover about 200,000 of the 850,000 bitcoins.
The company supplanted the loss of bitcoins by using its own store of bitcoins and the recovered amount. This costed the company about USD 473 million and it finally led the company to fail its payments to its creditors. CoinLab which was servicing the Mt. Gox investors in the North America region filed a lawsuit of USD 75 million. The lawsuit demanded Mt. Gox to transfer the accounts of its North American investors from Mt. Gox to CoinLab as per a contract they had entered earlier.
Neither did Mt. Gox have the money to transfer the accounts nor did it have the money to pay for the lawsuit. That is when it finally filed for bankruptcy protection in Tokyo on 28th February, and later in USA on 10th March.
On 16th April, 2014 Mt. Gox finally gave up its plan of restructuration and applied for liquidation.
Out of all this mess the CEO of Mt. Gox, Mark Karpelès, who bought 88% of the Mt. Gox business from McCaleb in 2011, was prosecuted in 2014. He was tried on the grounds of fraud, perpetration of fraud, manipulation of public data, and stealing of over USD 1 million from Mt. Gox. He had been arrested in Tokyo on a different set of allegations and was granted a bail in 2016. He is not allowed to move out of Japan as of now.
While the investigation on every aspect of the hack is still going on.
Governments across the world realised that it was high time they need to interfere and regulate bitcoins.
Currency is irreplaceable
It was clear that no amount of technological innovation could render the responsibility a government or a central bank can assume in terms of human losses. A trusted middle man who can insure, validate and take legal action on a transaction is a requirement of any stable economy.
Failure of anarchy
In all types of anarchies, society somehow coagulates around the smartest or the strongest. The socio-legal and political fabric of such a system needs to be highly developed. A strong state machinery is therefore required in order to contain the exigencies of such systems.
So that’s how it ended. The largest bitcoin exchange which could have owned 60% of all bitcoins in circulation today, ended. Consequently, the concentration of bitcoins then changed hands from the Japanese to the Chinese due to their huge mining farms.
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