Mt. Gox might be "the worst-run business in the history of the world." Photographer: Kiyoshi Ota/Bloomberg 
Mt. Gox might be "the worst-run business in the history of the world." Photographer: Kiyoshi Ota/Bloomberg 

Let's go ahead and concede that Mt. Gox, the Bitcoin exchange that went offline today and seems to have misplaced about 365 million of its customers' dollars, might be "the worst-run business in the history of the world,” as one Bitcoin investor recently said.

One thing that is supposed to help prevent the worst-run businesses in the world from operating exchanges and losing hundreds of millions of dollars is regulation. And as digital currencies proliferate -- and some come along that don't suffer from Bitcoin's innumerable and probably fatal flaws -- getting that regulation right will only become more important.

So far, countries have taken three main approaches to regulating Bitcoin and other digital currencies.

The first is to outlaw them or severely restrict their use, as Russia and China are doing. This isn't irrational, but it could prevent needed innovation. The second is to do nothing, as Japan has done; its finance ministry, central bank and Financial Services Authority have all said they won't take responsibility for regulating Bitcoin. Mt. Gox, based in Tokyo, reveals the wisdom of that strategy.

A third and better approach is what the U.S. and several other countries are attempting: Seek to encourage digital currencies, as long as they follow the rules.

Therein lies the rub. The rules are manifold and onerous for companies that want to transmit money. They have to follow laws intended to prevent money laundering, terrorism and tax evasion. They have to comply with international sanctions. They have to adhere to securities laws and those governing remittances. In the U.S., they have to appease state regulators and an alphabet soup of federal overseers. And they have to assure consumers -- for instance, with clear procedures on fraud protection and error resolution -- that they are reliable and secure enough to handle their money.

Yet several U.S. regulators have been quite receptive to rethinking how all this regulation should apply in the age of digital currencies. Benjamin Lawsky, New York state's superintendent of financial services, deserves credit for suggesting a "BitLicense" for digital currency companies. This would offer a much clearer framework for disclosing risks, protecting consumers and preventing crimes. The goal isn't to create newly burdensome requirements just for digital currencies -- it's to think about how to address the same issues the old laws addressed, but to do so in a more modern and flexible way.

Another Mt. Gox might still arise under such a system, but customers would at least have a better idea of the risks involved and could have confidence in the lines of accountability following a failure. Bitcoin exchanges and processors might still find such rules annoying and expensive, and complying with them will probably be one factor among many that will doom Bitcoin itself.

But that's OK! Bitcoin may not work in reality, but it is still an idea whose time had come. Paying for things using credit and debit cards is expensive, and moving money from one place to another, especially overseas, is cumbersome. Bitcoin's developers, in creating a peer-to-peer payment system that records all transactions on a public ledger, took an elegant approach to solving these and other problems.

Unfortunately, Bitcoin's clever payment system is yoked to a volatile and deflationary pseudo-currency, prone to security flaws, attractive to criminals, and in most other ways disastrous as a store of value, unit of account or investment opportunity.

Yet in showing the way for other payment innovators, and in getting regulators to think creatively and ambitiously about how the money-moving business might be disrupted in the digital age, Bitcoin's designers and backers are performing a valuable service. It's unfortunate that many of them had to lose their shirts in doing so.

The Rise of Bitcoin

To contact the editor responsible for this article: David Shipley at davidshipley@bloomberg.net.