By Derek A. Dion*
I. The Silk Road Bust
On October 2, 2013, the FBI arrested the “Dread Pirate Roberts” and shut down the Silk Road—a website that served as the Amazon.com of the criminal underworld, selling any matter of illegal drugs online. Dread Pirate Roberts, also known as Ross Ulbricht, purportedly founded the website. Silk Road could only be accessed by using The Onion Router, or TOR, which served to anonymize the buyers and vendors on the website. To further obscure the identities of those engaged in the black market, Silk Road did not make trades in U.S. Dollars or any other government currency. Instead, the website dealt in Bitcoins—an electronic currency that can be used relatively anonymously. When the FBI shut down the Silk Road, it immediately seized 26,000 Bitcoins from various vendors on Silk Road and seeks to seize another 600,000 Bitcoins from the Dread Pirate Roberts himself.
“Bitcoin is an electronic form of currency unbacked by any real asset and without specie, such as coin or precious metal.” Bitcoin exchanges allow users to trade the e-currency for legal tender. An algorithm regulates the Bitcoin supply, monitoring the peer-to-peer network and the number of coins in the system. Bitcoins are kept in electronic wallets and accessed using a combination of public and private keypairs, effectively serving as a password. Bitcoin’s use is questionably legal, and the currency is used by a small community of dedicated users.
As Bitcoins are electronic, the FBI cannot “seize” them the way that it could traditional currency. Instead, the FBI must seize the servers that hold the wallets on Silk Road’s website or have access to the private keypairs of the illicit Bitcoins. The FBI has yet to publicly confirm what it will do with the seized Bitcoins. It has suggested that it may liquidate them after the judicial process is over. What the FBI chooses to do with the seized Bitcoins matters. It will serve as a signal to the Bitcoin community regarding whether the U.S. government sees Bitcoin as contraband in-and-of itself or merely an otherwise legal asset that was illegally gained from a website that sells drugs.
This Column’s purpose is to recommend that the FBI liquidate the Bitcoins instead of destroying or freezing them. It will begin with an examination of the statutes that govern how the FBI may use or dispose of assets under forfeiture law. The Column will next address the effect that the Silk Road bust had on Bitcoin prices and what that suggests about how the market perceives the currency’s value. Finally, this Column will examine the implications of government action on Bitcoin.
II. Forfeiture Law
Statutes and regulations govern what an agency may do with seized property. The property first goes through a forfeiture proceeding, either criminal or civil, which determines the final disposition of a citizen’s rights with regards to an asset. Once the asset has been forfeited to an agency, its disposition depends on the type of asset. For example, when the government seizes currency, the agency has permission to keep the forfeited property for its official use. For most assets, including foreign currencies, the agency may choose whether it keeps, sells, or destroys the property. For example, the FBI could trade seized foreign currency for U.S. Dollars through a currency exchange. Alternatively, the FBI could destroy property for which it has no use.
For certain assets, though, Congress gives the agency less freedom. For example, forfeited drug paraphernalia must be destroyed unless it is used for law enforcement or educational purposes. This, of course, makes sense. It would be bad policy to allow say, the DEA, to be in the business of selling drug paraphernalia to the public, even if there is a willing market and the DEA could make money on the transaction.
Some items are treated like contraband even when they are not. For example, an agency is not permitted to sell forfeited firearms to the public. If the agency does not sell the firearms to another agency and does not plan to keep them for law enforcement or educational purposes, they must be destroyed. Alcohol is treated similarly. Note that firearms and alcohol, unlike drug paraphernalia, are not illegal per se. However, Congress has concluded that it is bad policy for the government to partake in selling firearms and alcohol back to the public because those items are legally and morally controversial.
When it comes to the Silk Road Bitcoins, the FBI is free to take whatever action it likes. The U.S. Code and Code of Federal Regulations make clear that assets not specifically excepted (such as firearms, alcohol, and drug paraphernalia) may be liquidated by an agency. But the question is: Should the FBI publicly sell the Bitcoins back to the public when Bitcoin’s legal status as a currency remains unclear or should the FBI treat Bitcoins more like it treats non-contraband exceptions like alcohol or firearms? To answer this question effectively, the government must first consider where the value of Bitcoin lies.
III. What Governs Bitcoin’s Value?
The price of Bitcoin was immediately affected by the closure of Silk Road. Prior to the shut down on October 2, Bitcoin’s price on Mt. Gox, one of the largest and most popular Bitcoin exchanges, was $145.70 per coin. After the FBI announced Ross Ulbricht’s arrest, the price plunged to $109.76. However, by the end of the next trading day, the price had rebounded to $124.00. Since then, Bitcoin’s price has begun to soar far above its open on October 2.
It is easy to hazard why Bitcoin’s price initially fell. The FBI alleged that Silk Road generated sales worth approximately 9.5 million Bitcoins compared to the approximately 11.8 million Bitcoins in circulation. Obviously, Silk Road played a significant role in the circulation of Bitcoins in the system. But what explains Bitcoin’s recovery after the crash? Here are three potential answers:
A. Users Believe Bitcoin’s Legal Status Is Stable
One reason Bitcoin crashed may be the assumption that the FBI would declare Bitcoin illegal after it shut down Silk Road. In fact, the FBI has done the opposite. By suggesting it may liquidate the Bitcoins, the FBI sends a signal that it does not consider Bitcoin contraband. The recovery could be due to the fact that the FBI had an opportunity to declare Bitcoin illegal and did not. One of the main reasons Bitcoin is unstable as a currency is the market’s concern that the currency may be considered illegal.
B. Bitcoin Has Value Beyond Criminal Activity
Another view of the crash is premised on the notion that Bitcoin’s primary value is fostering illegal activity. When Silk Road was shut down, it destroyed a major source of value for Bitcoin, thus causing a drop in price. However, if this premise was true, what explains the recovery in price?
There is no doubt that Bitcoin has vast potential for advancing criminal behavior. But if the market truly had believed that Bitcoin’s value was its capacity for criminal behavior, its price would have gone down with Silk Road’s closure and would likely have remained there. But instead, the recovery suggests that the market believes in value beyond illegal activity. And if that is true, removing Silk Road creates separation between Bitcoin and clear, well-known illegal behavior.
C. Supply Is Restricted
The final theory explaining Bitcoin’s recovery relies on supply and demand. The FBI may end up removing approximately 625,000 Bitcoins from the marketplace. As noted above, there are approximately 11 million Bitcoins in existence. Therefore, the FBI could remove as much as five or six percent of the entire market of Bitcoins. Thus, by reducing the supply of Bitcoins in the system, one would expect the price to go up.
These three explanations should inform government action. The FBI must understand that the market may see value in Bitcoin beyond its criminal uses, the volatility of Bitcoin can be quelled by regulating e-currency without outlawing them, and the FBI has seized enough currency to affect prices.
IV. What Government Action “Says” to the Market
No matter how the FBI decides to dispose of the seized Bitcoins, it will telegraph a message to the Bitcoin market. Some will argue that the FBI may not mean to “say” anything with an action, but that is not the point. No matter what the FBI does, the niche community of Bitcoin users will interpret its action as a statement on the legitimacy and viability of the currency. The FBI has three options: sell the Bitcoins, destroy the Bitcoins, or keep the Bitcoins.
A. Option 1: Sell
The FBI could trade the Bitcoins for U.S. Dollars on an exchange. This option communicates to the market that the FBI does not classify Bitcoin as contraband and demonstrates non-active acceptance of the currency. But a massive, unstructured sell-off will cause price fluctuations to an already unstable currency. Also, the FBI could face criticism for liquidating Bitcoin if it must use exchanges that are generally unregulated.
B. Option 2: Destroy
The FBI’s second option is to destroy the seized Bitcoins. This signals to the market that the FBI views Bitcoin as contraband or semi-contraband (such as liquor or guns). It also wastes millions of dollars that the FBI could claim for the seizure. Additionally, as a practical matter, the Bitcoin system is designed to recognize coins in the system and accordingly release new coins at a particular decreasing rate. In effect, destroying a significant number of coins will simply cause the system to recognize the loss and adapt accordingly.
C. Option 3: Keep
Finally, the FBI could keep the Bitcoins indefinitely. Such a gesture would signal to the market that the government is either planning on keeping the Bitcoins to manipulate the market, it plans on eventually seizing all Bitcoins in the system, or it is simply unsure of what it should do. In either case, this option would leave the Bitcoin market unsettled as it waits to see what the FBI will do.
V. Recommendation: “Sell”
The FBI should follow through with its earlier comment and liquidate the seized Bitcoins at the end of judicial proceedings. This author has argued before that Bitcoin should not be treated as contraband per se, and, instead, federal and state governments should pursue viable regulation, particularly of the Bitcoin exchanges. The goal should be a stable currency used for purposes outside illegal behavior. To encourage this, the FBI should publicly announce a structured cash-out of the Bitcoin, so as to disturb the market as little as possible. It should also only deal with exchanges that are licensed as money service businesses and presently comply with FinCEN. Destroying the Bitcoins wastes value and unnecessarily treats the coin as contraband. Keeping the seized coins unsettles a nascent and niche market that the government should instead work to stabilize. This proposal gives the FBI the opportunity to capture the value that it seized from the Silk Road bust, while also signaling to the market that the government seeks to create a stable and legal Bitcoin marketplace.
* Derek Dion is in the final year of a joint-degree JD/MBA program at University of Illinois. He thanks the Illinois Journal of Law, Technology & Policy for their willingness to publish a follow up Bitcoin piece.
 Andy Greenberg, End of the Silk Road: FBI Says It’s Busted the Web’s Biggest Anonymous Drug Black Market, Forbes (Oct. 2, 2013, 12:35 PM), http://www.forbes.com/sites/andygreenberg/2013/10/02/end-of-the-silk-road-fbi-busts-the-webs-biggest-anonymous-drug-black-market/.
 Alex Hern, FBI Struggles to Seize 600,000 Bitcoins from Alleged Silk Road Founder, Guardian (Oct. 7, 2013, 6:31 AM), http://www.theguardian.com/technology/2013/oct/07/fbi-bitcoin-silk-road-ross-ulbricht.
 SEC v. Shavers, No. 4:13-CV-416, 2013 WL 4028182, at *1 (E.D. Tex. Aug. 6, 2013). The criminal case against the Dread Pirate Roberts is United States v. Ulbricht, 13-mg-023287 (S.D.N.Y. 2013), and the civil forfeiture case is United States v. Ulbricht, 13-cv-06919 (S.D.N.Y. 2013).
 I have written about Bitcoin more extensively in another article that addressed legal and regulatory challenges. See generally Derek A. Dion, I’ll Gladly Trade You Two Bits on Tuesday for a Byte Today: Bitcoin, Regulating Fraud in the e-Conomy of Hacker-Cash, 2013 U. Ill. J.L. Tech. & Pol’y 165.
 Adam Gabbat & Dominic Rushe, Silk Road Shutdown: How Can the FBI Seize Bitcoins?, Guardian (Oct. 3, 2013, 9:40 AM), http://www.theguardian.com/technology/2013/oct/02/bitcoin-silk-road-how-to-seize.
 Kashmir Hill, The FBI’s Plan for the Millions Worth of Bitcoins Seized from Silk Road, Forbes (Oct. 4, 2013, 3:16 PM), http://www.forbes.com/sites/kashmirhill/2013/10/04/fbi-silk-road-bitcoin-seizure/.
 Bizarrely, Bitcoin has different prices on different exchanges, which would seem to lead to an easy arbitrage opportunity. However, the differing prices may depend on the liquidity of the exchange. Donald Marron, Do Bitcoins Violate a Fundamental Economic Law?, Christian Sci. Monitor (Sept. 3, 2013), http://www.csmonitor.com/Business/Donald-Marron/2013/0903/Do-bitcoins-violate-a-fundamental-economic-law.
 For example, Mt. Gox’s Dwolla account was seized by the Department of Homeland Security via court order from the District of Maryland for operating as a money-transmitting business without a license. Vitalik Buterin, MtGox’s Dwolla Account Seized for Unlicensed Money Transmission, Bitcoin Mag. (May 16, 2013), http://bitcoinmagazine.com/4641/mtgoxs-dwolla-account-seized/. Mt. Gox later received a money transmitter license from the U.S. Department of the Treasury’s Financial Crimes Enforcement Network (FinCEN). Vitalik Buterin, MtGox Gets FinCEN MSB License, Bitcoin Mag. (June 29, 2013), http://bitcoinmagazine.com/5560/mtgox-gets-fincen-msb-license/.