Trouble with Bitcoin as the government muscles in

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Is the honeymoon over for Bitcoin, the little alternative currency that could?

Recent events have some beginning to doubt whether Bitcoin is viable over the long term—and whether it will ultimately be able to live up to its promises of privacy and security.

The biggest news arrived yesterday when the Bitcoin Foundation, a Seattle nonprofit organization founded primarily to promote the virtual coins, said it had received a cease and desist order from the State of California's Department of Financial Institutions. Failure to comply would subject the group to fines of up to $2,500 per violation per day and possible criminal prosecution to boot. The charge: It is a crime to engage in a "money transmission business" without a license. (The U.S. Treasury Department issues these licenses; failure to register is punishable by additional fines and prison time.)

The immediate problem, as has been widely noted, is that the Bitcoin Foundation does not transmit money to anyone. It runs on donations but is basically a lobbying group, not a financial exchange in the vein of Bitcoin's central clearinghouse Mt. Gox.

In other words: If you thought you didn't understand the world of Bitcoin, you aren't alone. Even our own government is having trouble sorting out how things work in this brave new world.

This is hardly the first time the Bitcoiniverse has encountered growing pains and legal eyebrow-raising. Last month, Mt. Gox, the largest Bitcoin exchange, found itself facing a similar order to cease and desist operations, also accused with failure to register with the U.S. Treasury.

In related news, also over the past weekend, it was revealed that the U.S. Government—through the Drug Enforcement Administration—had actually seized Bitcoins from someone as part of a forfeiture of property operation. It's the first known occurrence of a government agency actually taking Bitcoins from someone by force—something that isn't supposed to be possible based on the way the currency is designed. (It's suspected that this "seizure" is a bit of a misnomer, that the DEA either took control of the suspect's computer, which had an unencrypted Bitcoin wallet on it, or—more likely—it simply tricked the suspect into buying some phony illicit substance through an online sting operation.)

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For the business community, all of this adds up to a lot of questions about what happens next. Imagine if you didn't know from one day to the next whether the doors of your bank would remain open, or if the dollars you had on account there would actually continue to work as legal tender.

For most Bitcoin users today, this uncertainty appears to be part of the fun—since it drives the exchange rate of Bitcoins up and down with remarkable velocity. Business users, on the other hand, have less tolerance for this kind of risk, particularly if more and more of their sales are denominated in the currency. At press time, the value of a Bitcoin is down about $5.

Writing on the cease and desist letter for Forbes, Bitcoin Foundation director Jon Matonis says that, "Freedom of choice in currencies is probably the most important free speech issue of our time." As that freedom begins to impact the fortunes of the increasingly shaky dollar, we'll soon see whether the government agrees with that sentiment.

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