Here’s what would happen to Bitcoin if the government tried to take it over

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On June 7, the U.S. government task force seized more than $ 2 million in Bitcoin (BTC) to pay a ransom after an attack on the Colonial Pipeline system. An arrest warrant filed in the U.S. District Court for the Northern District of California shows that authorities have recovered 63.7 BTC.

As news of the recovery spread through the mainstream media, some outlets suggested that the U.S. government somehow hacked the Bitcoin address to extract the funds. For example, Justin Wolfers, a professor at the University of Michigan and a New York Times staffer, tweeted:

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This sparked a discussion about whether an entity could break SHA-256 encryption, and if so, why waste that ability to unlock a Bitcoin wallet that contains only $ 2 million?

The same type of cryptography is used by the National Security Agency, banks, overseas government agencies, cloud storage systems, and most electronic devices such as smartphones and communication apps.

If governments wanted to wreak havoc in the cryptocurrency market in the short term, they would have to make big sales to negatively affect the price. However, there would likely be at least 3 insightful signs that would suggest this type of scenario is unfolding.

Open interest in CME BTC futures would increase

The most likely vehicle for government agencies to short sell (sell) is to trade CME Bitcoin futures. In addition to the price pressure, analysts would have to confirm a sharp increase in open interest, i.e. the number of contracts in play. Unfortunately, CME does not provide real-time data for this indicator.

CME Bitcoin Futures Settlement Data. Source: CME

As shown above, each CME Bitcoin futures contract represents 5 BTC, so the 7,572 open interest is 37,860 BTC. These contracts are run financially, which means that the winner will be paid out in dollars.

While the current $ 1.25 billion open interest doesn’t seem significant enough to cause shock waves, the number hit $ 3.3 billion in February when Bitcoin was trading at $ 58,000. Hence, a significant and rapid increase in open interest is a potential indicator of government activity.

The futures premium should turn negative

A large futures contract seller causes the futures premium to be temporarily skewed. In contrast to open-ended contracts, these futures contracts with a fixed calendar do not have a financing rate, so their price will differ greatly from regular spot exchanges.

By measuring the price gap between futures and the regular spot market, a trader can estimate the extent of the upward movement in the market. Whenever there is aggressive activity from shorts (sellers), the two-month futures contract will trade at a discount of 1% or more.

CME July Bitcoin Futures Premium / Discount vs. Coinbase, May 2021. Source: TradingView

Note that July CME futures typically trade between a 0.5% discount and a 1.5% premium over regular spot exchanges. However, during the May 19 crash, aggressive selling of futures contracts caused the price to trade 2.5% below Coinbase.

This movement can occur either during liquidation orders or when large players decide to short the market using derivatives.

Exchange infrastructure would be attacked

Although most cryptocurrency exchanges have their servers set up in remote locations, governments could attempt to seize physical servers or web domains.

Investors who have been following the crypto sector since 2017 will remember that Alex Vinnik, the founder of BTC-e, was arrested by the US government and the website hijacked in July 2017.

In November 2020, Cointelegraph published an excellent article explaining how a US Department of Justice framework would allow a crypto transaction to “touch financial, data storage, or other computer systems within the United States” to provoke enforcement action.

Any coordinated effort by governments to suppress cryptocurrencies is likely to involve massive “anti-money laundering” efforts against exchanges, particularly those that offer derivative products to retail investors.

So if these 3 signs aren’t there, there is little reason to believe that a massive government-led industry disruption campaign is underway.

The views and opinions expressed here are solely those of author and do not necessarily reflect the views of Cointelegraph. Every investment and trading movement involves risks. You should do your own research when making a decision.