His Bitcoin startup made Charlie Shrem a millionaire at age 22. Shortly after, he went to prison for exchanging money without a license. There, packets of mackerel were used as the primary currency. But why? And what does this have to do with bitcoin and the blockchain? A detour into the ‚prison economy‘.
“I was always the outlier, when it came to what I believed the world should be like. And how as human beings, we should be voluntary in our actions – not forced to do things.“ It might have been this pursuit of freedom, this wish to overcome borders that pulled Charlie Shrem to bitcoin from the very beginning. Shrem came upon the cryptocurrency in 2011, at a time, when it was only known to insiders.
Contrarily to the current situation, bitcoin was pretty unknown back then. No banker, no regulator, no government official had ever heard of it. “I was in an Internet Relay Chat and someone started talking about this bitcoin thing. He sent me 30,000 bitcoin, I sent it right back. Today, this would be almost $60 million.“ Shrem was hooked. He started reading up on the topic of bitcoin. But there still was not much material. The white paper, written by the anonymous bitcoin founder Satoshi Nakamoto, was by far the best source he had.
The bitcoin community was still small, so Shrem quickly made a name for himself. “I was invited to Vienna, which was the first place where we all came together and met each other. In a café here in Vienna, Gavin Andresen, Roger Ver, Eric Voorhees and I came up with the idea of the ‚Bitcoin Foundation‘, the largest nonprofit entity around Bitcoin.“ The fact that this meeting took place in Vienna of all places has a number of reasons, says Shrem: “Vienna is the gate to the East, but still very centrally located. Also, the Austrian school of economics played a role.“ The movement, started by Austrian Carl Menger and taken to new highs by his fellow countryman Friedrich August von Hayek puts the freedom of the individual above everything else.
Obviously, this fit the underlying ideas of bitcoin. But this belief in freedom and the loose structure also caused problems. Shrem, for example, says bitcoin is “like the Wild West. It’s so crazy, no one knows what’s going on.“ And who was in the midst of this Wild West? Charlie Shrem himself. Together with a business partner, he started the Bitcoin exchange startup BitInstant. They wanted to make bitcoin available to a broad mass: “We thought: If people can buy and sell bitcoin quickly, maybe we can get it in the hands of as many people as possible.“
BitInstant took off. Quickly, it was available in more than one million locations nationwide. Supermarkets, gas stations – people were suddenly able to exchange US dollars for bitcoin easily. The startup closed multiple funding rounds and was, according to Shrem, doing “crazy volumes“. Shrem became a millionaire and a star in the Bitcoin community. Charlie Shrem was 22 years old. And meeting him personally gives on the impression that he must have enjoyed his lifestyle. Shrem speaks fast and loudly, he is an eloquent extrovert. Being a millionare in his early twenties as well as CEO of his own, fast-growing startup must have been a dream come true for Shrem. Additionally, he had a rebel’s reputation and the self-confidence of someone who was certain that his ‚thing‘ would change the world – a fact that Shrem liked to mention frequently in public appearances.
But the attention – Shrem says he was “the biggest face of Bitcoin” – together with bitcoin’s libertarian elements eventually led to BitInstant’s decline. This, because the cryptocurrency did not only attract visionary dreamers, but also all types of criminals. BitInstant was (supposedly) used for money laundering, e.g. for money made in drug deals. Shrem: “I was young and stupid and didn’t know what I was doing. And we broke the law.“ If you meet Charlie Shrem today, he actually does seem much more quiet, much more sensible than he must have been back then. Sometimes, however, his ‚old self‘ still shows and one gets an idea of the ‚old‘ Charlie Shrem. Federal prosecutors started to target Shrem. They wanted to land a blow against bitcoin and thus prove that the United States were precisely not the Wild West, but a country with law and order.
Shrem went to prison in 2014. Originally accused of money laundering and “other charges“, Shrem was convicted of “aiding and abetting the operation of an online money transmitting business“. Since bitcoin was now considered money, you needed a license to sell it. BitInstant did not have a license, however. So they were operating illegally. But: Does Shrem agree with this reasoning? “It’s very complicated. Everything can be money. But you gotta pay to play, so if you want to operate in a country, you have to follow its laws.“ Shrem did not understand this soon enough, however. So he spent a year behind bars. There, he got to know something called the ‚Prison Economy‘: “In prison, there were two markets. The administration-run market with an official store. Every Tuesday, inmates can go to the store and buy basics like tuna fish, mackerel, chicken, shampoo, all that stuff.“
At the same time, however, there was also a market run by inmates. Various items were traded on this black market. You could buy stuff on other days as Tuesday – or even find items you were not even able to buy in the official store. “In prison, you can get anything you want. But there needed to be a common currency, right? Not really. People traded value to each other. The guy who fixed my headphones accepted protein bars. The guy who gave me a haircut took jars of peanut butter. Everyone accepted different things.“ As in the real world, however, one currency prevailed. “Over time, everyone started accepting packets of mackerel. They’re shelf-stable, so they last three years. Also, they have protein in them. Even the headphone guy and the haircut guy accepted mackerel.“ Thus, packets of mackerel became the common currency in prison. They were traded for $1.50, as this was also their price in the store. “Why did packets of mackerel have value? Because everyone said they had value. They also had utility – the protein – and were rare. There was an inbuilt inflation rate: 500 inmates were able to buy 14 packets of mackerel every week. Therefore, the annual maximum supply was: Inmates (500) x amount (14) x number of weeks (52).“
Prison seems to be an ideal setting to explain currency market dynamics. Sure, there are some drawbacks: The system is closed off and, compared to the real world, quite simple. But the basic mechanisms are identical. Shrem: “At first, everyone used mackerel to store value. But the mackerel expires after three years. So a second market developed, called the ‘money mack’. This was mackerel that was already expired, so you could not eat it anymore. It traded at $1 or $0.75, an alternate currency of sorts. Money macks were like fiat money, since they had no utility value. One guy had huge savings of money mack, ten percent of the total supply. Then, however, his reserves were seized, and distributed among the inmates, which led to hyperinflation. All of a sudden, money macks had no value anymore.“ Because mackerel has some drawbacks as a currency – expiration date, the danger of thefts, etc. – Shrem started to think: Could you make this monetary system work digitally? Obviously, Shrem came up with a bitcoin-related solution. He never implemented it, however. “Implementing this would have been against the rules in prison – and I had learned my lesson“, he says with a grin. But Shrem had enough time to start a thought experiment.
“Instead of physical packets, inmates could exchange digital versions of mackerel.“ But there were no computers in prison, so how could this be done? Well, bitcoin’s underlying blockchain technology is mostly revolutionary because of its decentralised structure. Transactions are validated by a decentralised network and thus forgery-proof. One would need certain inmates to record transactions in notebooks – in blockchain lingo, these recording inmates would be called ‘nodes’. Shrem: “You would go to one of these inmates and tell him that you want to transfer two packets of mackerel to inmate A for a haircut he gave you.” The inmate with the notebook would then write down this transaction. In order to have no central authority in the system, however, one would need a bunch of such nodes. They would then meet every two hours or so to synchronize their transaction records. This way, every bookkeeper would have the same records, but no individual node would have all the information. This would then form a decentralized ledger. On this ledger, every transaction represents a block, which would compose the blockchain, if strung together. Similarly to the prison economy, the blockchain technology functions much more complex in real life – but again, the basics are the same. During Shrem’s time in prison, blockchain’s popularity blew up. Shrem: “We used to think that Bitcoin would disrupt finance. But now it can be used for everything: social media, e-government, logistics, etc. I did not see this coming.”
After his release, Shrem spent some time reading up on what he had missed. “Now, I’m more into bitcoin and blockchain than ever.“ He is involved in several blockchain projects, amongst others the online marketplace Changelly and the new cryptocurrency Dash. By the way: The fact that the Bitcoin community quickly forgave Shrem does not really come as a surprise. Many of the pioneers do not believe in governmental regulations or limiting and individual’s freedom. “Some say that I am a a martyr. I do not agree. I made a mistake – and I paid the price.“ And that is a price, which cannot be measured in bitcoin, dollars or mackerel.
This article appeard in the April issue of the German-language edition of Forbes.
Photos by David Visnjic