Sooooo conflicted. On the one hand, I want PayPal to pay for their BS, but on the other, I don't want them to improve, so that Bitcoin continues to be a much better option 

I agree something is fishy with this story. It's not just paypal that does this, all merchant accounts have high risk departments that hold customers money for a certain amount of time. Paypal is just one of the worst because so many of their customers are joe smo's who have no merchant processing backgrounds and deal in high risk/high chargeback businesses (like selling used equipment, and in a notoriously chargeback friendly btc field)

Best of luck to the OP suing paypal though, seriously. Good to see someone really fighting. Hope that works out well for you. IMHO, I don't think this will go anywhere, at all.

It makes sense to me that Paypal is at odds with Bitcoin, therefore have decided to use these tactics. It's believable, to me.

No, there are plenty of stories about Paypal freezing accounts or taking down auctions when it comes to Bitcoin.

Good work OP, good luck with the claim!

PayPal transactions are reversible. VERY reversible - like 60 days after the transaction, I think. That is one of the big advantages of the system, from a consumer standpoint.

BitCoin, on the other hand, is probably the least reversible currency available (and is touted as one of the big advantages of the system). It's not even reversible with a court order, like eGold, which is disallowed on PayPal.

If a PayPal balance was easily transferable to other currencies, especially in a non-reversible way, it would make PayPal much more attractive to crooks, because after scamming people, they would just immediately transfer the money out of PayPal (to eGold or BitCoin), way before PayPal could react and reverse the transaction. If left uncontrolled, this would eventually destroy the biggest advantage of PayPal, which is perceived consumer safety.

As Conor Lynch points out, PayPal does have other safeguards in place against money laundering schemes, such as a rolling 60-day hold on all transactions,  percentage-based holds reserved for handling elevated fraud rates, and other measures. But these measures are probably NOT fun and games for PayPal to implement, since they cost both a lot of manual labour, and annoys merchants. A lot of honest merchants get caught in the crossfire of these measures, which then (with righteous fury) describe their experiences on the Internet. As such, it makes sense to eliminate anything that makes the PayPal system attractive for fraudsters in the first place, and currency exchanges (again, this is not a ban against BitCoin in particular, which is most definitely a currency exchange) was probably high on that list. This might also not be PayPal's policy alone - VISA and MasterCard might not be super-happy about currency exchanges either.

The above problem does not exist with virtual goods (such as Facebook credits) because you cannot exchange it for another currency, such as dollars or euros, and is therefore not suitable for the money laundering scheme described above.