From what I've been told, yes....they can be used when stolen; it's kinda the whole untraceable, distributed nature of it all.
This is wrong. Every single transaction is saved, by everyone. It's the core of how the protocol works.
That doesn't mean there aren't ways to obscure who controls the wallets, but it's not untraceable, and 'distributed' has nothing to do with privacy.
This is my biggest reservation about bitcoin - they have taken the worst attributes of paper cash (pretty anonymous, not tied to a verifiable identity), and replicated them in a digital currency. If I'm transacting with someone I want to know who they are, in case of fraud or theft. People even openly run money laundering operations (mixing), and the community put up with it! In contrast, most people never store large values of money in actual paper cash anymore, they store it in a bank, which has identification and laundering checks, proper tracing of accounts to identities, immediate yet reversible transactions, and compensation if money is stolen. Bitcoin doesn't come out well in that comparison.
The other reservation I have about it is the lack of regulation - these exchanges which hold the money of lots of people are not regulated as banks are. No-one knows exactly what security they actually have (as opposed to say they have), sometimes people don't know who's behind them (I remember that 17 year old from Singapore talking here about starting one[1]), and there's no protection against market manipulation, speculation and cornering, or it seems against online theft. Given they have become so valuable so quickly, you can be quite sure the market is heavily manipulated, perhaps even in advance of thefts like this in order to gain the maximum benefit. What is the cause of the huge recent spike in prices for example? If bitcoin is to work as a currency and a store of value (the traditional roles of money), it does need regulation and verification, but I find it hard to see how that would come about, given the lack of a central authority and the lack of will to deal with incidents like this.
I'd love to see a digital currency that tried to emulate the advantages of digital cash, while doing away with the ability of a central government to print the currency ad infinitum - that's the big downside of our current state-backed currencies - it seems Bitcoin is not that currency.
I think the important part that's missing is this:
If you have the proper opesec, BTC is anonymous.
The 'BTC is anonymous' meme does nothing more than help people who don't know what they're doing get busted. It's like Sarah Palin's email account getting hacked because she picked security questions that were well-known. Even if you're not doing anything nefarious, you may want to keep certain transactions private. "BTC is anonymous" means that some people who don't fully understand how BTC works will be doing things they _think_ are private but actually are not.
And if you think people know how BTC work, just examine this thread.
About the lack of regulation and verifiable identities - that's the allure of it :) It's not just the lack of inflation, it's the whole "Wild Wild West" atmosphere :) Like, remember the Internet before the old people and politicians found out about it?
But no one's gonna stop them from using it, and if you're the receiver, you wouldn't care where it came from.
One could imagine people still choosing to trade in these Bitcoins, but that such a penalty would forevermore reduce their value next to "unshunned" coins. Could legit businesses and people using Bitcoin collectively reduce the value of stolen Bitcoins in this fashion to discourage it without directly discovering who misappropriated them...?
Also, this is ignoring the entire problem of 'who decides what stolen means in a totally decentralized protocol?' That's non-trivial in and of itself.
It's a democracy. If the masses decide that Blockchain.info is blocking coins that weren't stolen for some nefarious reason, they can just ignore their warning.
The question is: do the majority of bitcoin users even care if they are using stolen coins?
It'd likely be along the lines of anti-spam lists. You might have one that's high-profile thefts or seizures. For that matter, these lists could be political, issue-based, or whatever.
It's ridiculous and unlikely to be followed if taken out to the extremes of issue-based disputes, but I don't think it's impossible for a significant number of people to agree not to transact in stolen Bitcoins, some on principle, some as self-preservation (the exchanges), and most because their utility is reduced by the first two groups refusing them. This also happens to increase the value of untainted Bitcoins.
This is the mechanism I always thought the feds would use to go after bitcoin. "Possession of stolen property" - My understanding of the law in my area is that I am breaking the law if I possess stolen property, even if I can prove that I obtained said property legitimately and even if I couldn't reasonably be expected to know that said property was stolen.
What if the feds decided to apply the same thing to bitcoins? I mean, what if you legitimately obtain bitcoins that are, in fact, stolen property? Or bitcoins that were used in a law-breaking transaction?