September 2010
The Sony Vaio laptop that was the nerve center of the biggest business in the Bitcoin world in the fall of 2010—Mt. Gox—sat on a square wooden table, under a roof made out of dried palm leaves. An oblong swimming pool was just feet away.
The founder of Mt. Gox, Jed McCaleb, had moved to Nosara, a Costa Rican beach town, less than two months after starting the exchange. Lonely in their isolated New York estate, he and MiSoon didn’t want to spend another winter cooped up with their two small children. In Nosara they found a house near the beach, with a Montessori school for the children, an opportunity for Jed to finally perfect his surfing, and a hut in the backyard where he could work.
But the booming new business was not cooperating with their plans for a quiet tropical life. Just ten days in, he had seen his first day with 1,000 Bitcoins traded and about ten days after that he saw his first day with over 10,000 Bitcoins traded, meaning that over $1,000 changed hands that day. Jed was making 0.5 percent from each side of every trade, a nice reward for something that required little work. But the flow of money in and out, particularly from PayPal, was causing headaches.
Jed suffered from an issue common in any business that takes credit cards or PayPal. All the traditional payment networks allow customers to dispute charges and can take money back from merchants, like Jed, even after transactions go through. This was one of the issues that Cypherpunks had wanted to address in creating digital cash—owing to the anger about how much power the system of so-called chargebacks gave to the credit card companies of the world. Bitcoin itself did not allow charges to be reversed, but if Jed sold Bitcoins via PayPal to someone who then disputed the PayPal payment, Jed could lose the PayPal money and not be able to get the Bitcoins back. Within a month, Jed acknowledged he was defenseless against this.
“I’m just eating the charge which sucks so please, please don’t do this,” he pleaded on the forum.
After this post, the problem got worse, not better. Jed tried to resolve disputes before they escalated, even if it meant losing money, so he didn’t have his PayPal account shut down altogether. But one morning he opened up his laptop and found that PayPal had done just that, leaving him without an easy way to get money from customers. Meanwhile, people who had money stuck in Jed’s frozen PayPal account complained about the difficulty of getting it back.
“I do this in my spare time for free so don’t get all uppity,” Jed wrote to his critics.
This was clearly not what Jed signed up for when he opened Mt. Gox. He had never intended for it to become a full-time job. He was motivated by working on interesting challenges, and Mt. Gox was instead becoming a series of boring and stressful problems. Like many people interested in big challenges and bold solutions, Jed got bored by the details of seeing those solutions to their end—something that would come back to haunt the community later.
On the hunt for someone who could help relieve him of the burden of work on Mt. Gox, Jed began chatting online with a user named MagicalTux, whom Jed soon came to know as Mark Karpeles. Mark was almost always online because it was one of the only places where he felt comfortable in the world. A chubby twenty-four-year-old, Mark had been raised in France alternately by his mother and grandmother, who didn’t get along and continually moved him between schools. At age ten, Mark was sent to a Catholic boarding school in the Champagne region of France—a school he looked back on with fear and anxiety. Even as a youngster, Mark had tremendous difficulty with human interaction, while the logic of the computer had spoken to him naturally. He would ace his math classes—and could assemble and disassemble his calculators—but he struggled with literature and the humanities, and eventually dropped out of school, not long before he was arrested for some of his hacking activities. Since then, he’d had a peripatetic lifestyle, looking for a place where he could feel at home. He first tried Israel, thinking it might help him get closer to his Catholicism, but he soon felt as lonely as ever, and the servers he was running kept getting disrupted by rocket fire from Gaza. Back in France, he got a job as a programmer but soon fell out with his boss. During this period, he would make rather melancholy posts to a generally unread blog in which he discussed his situation.
“To tell the truth, I always felt a sort of emptiness in my existence, somewhat as if I wasn’t really in the right place, or as if I was missing something I needed in order to really live, and not just survive,” he wrote in 2006.
Mark finally got a chance to visit Japan, which he had been drawn to since reading a series of Manga comics his mother had given him. When he arrived the first time and checked into his capsule hotel, the part of him that had always been afraid in France was put to rest by the stoicism and politeness of Japanese culture. It didn’t hurt that the girls in Japan seemed to actually respect the fact that he was a programmer.
By the time he met Jed online, Mark had lived in Tokyo for more than a year and set up his own web-hosting company that rented out server space. He learned about Bitcoin from a French customer in Peru who wanted an easier way to pay the bills Mark sent him. As Mark dived into Bitcoin in late 2010, he discovered that it had already attracted an unusually cohesive and friendly online community, the sort of social setting in which he could feel comfortable. He would engage in endless chats at all hours about everything from obscure Japanese payments systems to the identity of Satoshi, who Mark was confident was not Japanese.
“I’m a coder and already worked with tons of japanese people here, and the way the code is made is also completely different from anything I ever saw in japan (but not so different from more western stuff),” Mark wrote one night on the chat channel.
Online, Mark had a brash cockiness that he never showed in real life—so brash, in fact, that it was occasionally off-putting. But he lived alone with his cat, Tibanne, and was always available and willing to help out. He volunteered to help Martti Malmi host the Bitcoin website on his servers. And when Martti offered to connect Jed with his European bank, so Mt. Gox could begin accepting euros, Mark helped Jed set up the back end. The work gave Jed confidence in Mark’s abilities.
As the price of Bitcoin rose to nearly 30 cents per coin by the end of December 2010—thanks, in no small part, to the attention from WikiLeaks—Jed called a lawyer in New York to ask about the regulatory implications of running a business like Mt. Gox. The lawyer said it was unclear how the government would view Bitcoin. In the forums, there were lengthy debates about whether Bitcoin would be considered money, which would be subject to bank regulators, or some sort of commodity, which would come under different government oversight. Whatever the outcome, the lawyer told Jed that he would probably have to eventually register as a money-transmission business, which would involve extensive applications and lots of legal bills.
Jed turned to Mark for advice, seeking his thoughts on a four-page document Jed had put together to send to potential investors. The document underscored how far Mt. Gox had risen in its short life. The business was worth $2 million by Jed’s estimate: “Mt. Gox is generating revenue with very low running costs and huge potential upside,” the document said. Jed told Mark he was thinking of raising about $200,000, mostly to hire a lawyer to help deal with the regulatory situation.
But as the headaches continued to pile up, Jed got more antsy. In January, a Mt. Gox user named Baron managed to hack into Mt. Gox accounts and steal around $45,000 worth of Bitcoins and another type of digital currency that Jed had been using to transfer money around. When Baron deposited $45,000 back into Mt. Gox to buy more Bitcoins, Jed froze Baron’s money. The incident reinforced Jed’s belief that Mt. Gox was a prime target for hackers and that he had neither the time nor the security expertise to protect it adequately.
Jed wrote to Mark: “Please keep all this confidential. I don’t want to start a panic, and I’m not sure I’ll do it yet, but I’m thinking I might try to sell Mt. Gox.”
When Mark picked up the conversation on the Internet relay chat (IRC), Jed asked if Mark would be interested in purchasing the site and made him an offer that was hard to refuse. Mark would not have to pay anything up front. All he would have to give up was 50 percent of the company’s revenues for the first six months. Jed would continue to hold 12 percent of the company, but Mark could have the rest. Jed’s fraction of the company was designed to be small enough to protect him from legal liability if Mt. Gox ran into problems in the future.
Jed and Mark were outwardly very different people. Mark was a large, awkward Frenchman, while Jed was a slight, suave American. But both of them were loners who tended to skeptically watch the world from afar and live mostly in their own heads. Each was the only child of a single mother who had given him self-confidence while also making him skeptical about traditional sources of authority—a mixture of traits that made for a good match with Bitcoin at this point.
As the deal between the two men progressed, the strange legal limbo in which Bitcoin existed colored every step. Neither Mark nor Jed used a lawyer. Instead they drew up contracts themselves and sent them back and forth. After they had both signed these contracts, Mark wrote up a less-than-official-looking certificate that said that Jed officially owned forty shares of Mt. Gox, though it did not say how many total shares existed.
Jed didn’t labor over the deal because, even with all the growth Mt. Gox had experienced, the business still had fewer than three thousand customers, and was on track to bring in only around $100,000 in revenue for the year.
Mark took ownership of Mt. Gox using the corporation that also held his web-hosting business, Tibanne Ltd.—named after his orange-and-white tabby cat.
By the time Mark and Jed finished their deal, the price of Bitcoin had shot above $1, attracting a new wave of media attention. It also attracted another big hacking attack. At this point, of the 21 million Bitcoins that would ever be released, one-fourth were now out in the world, worth around $5 million at the $1 exchange rate. What’s more, the number of daily transactions was creeping steadily upward.
The cause of this surge was due, in no small part, to the rise of another business that was to pose an even graver test to the foundation of trust that Bitcoin was trying to build.
THE POSSIBILITIES FOR using Bitcoin in the real world had not progressed much since NewLibertyStandard’s offer of SpongeBob SquarePants stickers. Mark Karpeles was still taking Bitcoin for his web-hosting services and a farmer in Massachusetts was selling alpaca socks. But the range of products available for Bitcoin expanded in a dramatic way a few days before the price of Bitcoin shot from around 50 cents to above $1 for the first time, when an unassuming post on the Bitcoin forum heralded the next wave of Bitcoin commerce.
“Has anyone seen Silk Road yet? It’s kind of like an anonymous amazon.com. I don’t think they have heroin on there, but they are selling other stuff.”
The posting was made by someone who went by the screenname altoid. In real life, he was Ross Ulbricht, a 6-foot-2 surfer-cum-scientist who had been planning Silk Road for months when he put his innocent-sounding post on the forum.
For Ross, a fun-loving, well-educated twenty-six-year-old, the creation of Silk Road had begun in earnest in July 2010 when he had sold a cheap house in Pennsylvania that he’d acquired while he was a graduate student there. With the $30,000 from the sale, Ross rented a cabin about an hour from his home in Austin, Texas. He also purchased petri dishes, humidifiers, and thermometers, along with peat, verm, gypsum, and a copy of The Construction and Operation of Clandestine Drug Laboratories, by Jack B. Nimble.
The psychedelic mushroom lab he set up in the cabin was not created with the intent of enabling Ross to become a petty drug dealer. He had much grander visions of his life than that. From the time he sold the house in Pennsylvania, he knew he wanted to set up a new kind of online market, where people could buy all the things that aren’t available on ordinary online markets.
This unusual and dangerous business concept was the product of the idiosyncratic mixture of influences that had shaped Ross’s mind. His parents had been hippies of sorts, taking him on vacations to Costa Rica, where his father taught him to surf. His curiosity about and penchant for the outdoors had later helped turn him into a seeker, looking for ways to free his mind and achieve oneness through Eastern philosophy and designer drugs. Ross came from Texas, and his search for freedom led him to some of the thinkers on the border between libertarian thought and anarchism—the same philosophers who had influenced many of the Cypherpunks—and he came to believe that the ultimate hurdle to personal freedom was government. At Penn State, he had the unique distinction of being a member of both the campus libertarians and the West African drumming ensemble. He would describe his ideological awakening in spiritual terms.
“Everywhere I looked I saw the State, and the horrible withering effects it had on the human spirit,” Ross would say. “It was horribly depressing. Like waking from a restless dream to find yourself in a cage with no way out.”
In Austin, Ross did not tell anyone about the new marketplace he was working on, but he did give some indication of what he was after on his LinkedIn page, where he wrote, in broad terms, that he was “creating an economic simulation to give people a firsthand experience of what it would be like to live in a world without the systemic use of force.”
Initially, he called the project Underground Brokers, but soon enough he settled on a more enticing name: Silk Road. The mushrooms growing in the cabin were going to be just the first product, so something would be available for purchase when the site opened—and he soon had big black trash bags full of them.
In building Silk Road, the drugs were the easy part. The harder part was finding a way to sell the drugs online, outside the watchful gaze of the authorities. The first necessary tool he’d discovered was software, known as Tor, which allowed people to obscure their location and identity when surfing the Web. It also allowed for websites to be set up behind a similar curtain of anonymity. While Tor had been created by United States Naval Intelligence, to give dissidents and spies a way to communicate, it was based on ideas that had been developed by David Chaum and other cryptographers. Most Tor websites could be visited only by people using a Tor web browser. The web address that Ross posted on the Bitcoin forum for Silk Road—http://tydgccykixpbu6uz.onion—gave it away as a Tor site.
The second important tool that Ross had discovered was Bitcoin. With Tor alone, a customer wanting to buy Ross’s mushrooms could have visited Silk Road without being tracked. But assuming the customer didn’t want to pay by sending cash through the mail, all the other alternatives for making digital payments were easily tracked—as the Cypherpunks well knew. Ross saw that Bitcoin solved this problem. If a buyer paid for drugs with Bitcoin, the Bitcoin blockchain ledger would record coins moving, but the Bitcoin addresses on either end—a series of letters and numbers—would not include the names of the people involved in the transaction. Now the only identifying information about the buyer was the postal address where he or she asked to receive the drugs. And this was easy to game by providing anonymous post office boxes.
Within the Bitcoin world, there had been a common assumption that people looking to buy illegal or unsavory goods were likely to be among the first to have an incentive to use Bitcoin. In one early conversation about where Bitcoin might catch on, Satoshi had argued for online porn, where users “either don’t want the spouse to see it on the bill or don’t trust giving their number to ‘porn guys.’”
Ross had made his first post about Silk Road in the middle of a long-lasting thread on the Bitcoin forum, entitled “A Heroin Store,” which had been discussing the possibility of such a marketplace. Martti had chimed in a few months earlier, helpfully trying to think of ways to make it work. For him, the sticking point was how to get both sides of the transaction to trust each other enough to part with their Bitcoins and drugs.
The fact that Ross had figured out how to put all the pieces together was a minor miracle. Ross had studied physics in college and materials science in graduate school at Penn State. But he was only an amateur programmer and he had to learn the nuances of Tor and Bitcoin software as he went along, stumbling at many points. His ability to pull it off was a testament to his work ethic and business acumen. In response to Martti’s concern, he created an escrow service—essentially himself—to hold the Bitcoins of a customer until the drugs arrived in good condition, so the customer had some recourse if the pills or powder didn’t show up as expected. On the programming front, Ross managed to sweet-talk an old college friend, who was a more experienced programmer, into giving him lots of technical advice.
In addition to all this, though, Ross’s ability to get Silk Road up and running was a product of his sheer desperation at a difficult moment in his life. Two years earlier, Ross had abandoned graduate school—despite having already published several scientific papers—because he wanted to do bigger things with his life. The first things he tried all fell flat, including a used book store he was running at the time he put Silk Road online. This had been one of the first prolonged periods of struggle in a life that had otherwise been quite charmed. Ross had movie star looks that won him comparisons to the actor Robert Pattinson, and he had always had an easy time making friends, attracting women, having fun, and grabbing brass rings like his Eagle Scout badge and the graduate school fellowship. His failures after leaving graduate school had led him, by late 2010, to a crisis of confidence in which he turned away from his friends and broke up with his girlfriend for a spell.
“I felt ashamed of where my life was,” he wrote in the digital diary he kept on his laptop. “More and more my emotions and thoughts were ruling my life and my word was losing power.”
Silk Road was, in some sense, a last heave—a Hail Mary in the parlance of Ross’s football-mad hometown. By the time he got it open in late January, he had, by his own accounting, gone through $20,000 of the $30,000 he had to his name.
When Silk Road finally opened up to anyone with a Tor web browser it was a simple site, with pictures of Ross’s mushrooms next to their price in Bitcoin. At the top, there was a man in a turban riding a green camel, which would come to be the site’s trademark image. Within days, a few people signed up, and the first orders came in for Ross’s mushrooms. Soon thereafter, the first vendors joined in, offering to sell their own illegal wares. By the end of February, twenty-eight transactions had been made for products including LSD, mescaline, and ecstasy. Ross’s growing confidence was evident from a message he posted on the Bitcoin forum from his new screen name: silkroad.
“The general mood of this community is that we are up to something big, something that can really shake things up. Bitcoin and Tor are revolutionary and sites like Silk Road are just the beginning,” he wrote on the forum.
In his own diary, Ross was more frank: “I am creating a year of prosperity and power beyond what I have ever experienced before.”