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Can privacy coins be better managed to satisfy both law enforcement interests and those who like the greater anonymity they provide?
On New Yearâs Day, the U.S.-based crypto exchange Bittrex announced via Twitter that it was delisting three leading privacy coins: Monero (XMR), Zcash (ZEC) and Dash. A link promised further details, but those who followed it learned nothing to explain why trades in those tokens would end on Jan. 15.
Still, the news couldnât have been entirely surprising. Regulators, both in the United States and abroad, have been casting a gimlet eye at privacy coins these days. Unlike Bitcoin (BTC) and Ether (ETH), the coins promise enhanced anonymity by hiding usersâ addresses and transaction amounts, which make transactions more difficult to trace. Government agencies suspect they may be used for tax evasion, money laundering and perhaps other criminal activities.
The U.S. Treasury Departmentâs Financial Crimes Enforcement Network, for instance, noted in its Dec. 23 proposed rule change that anonymity-enhanced cryptocurrencies, or AECs, âhave a well-documented connection to illicit activity,â having been âused to launder Bitcoins paid to the wallet used in the Wannacry ransomware attack,â for instance. Moreover:
âSeveral types of AEC (e.g., Monero, Zcash, Dash, Komodo, and Beam) are increasing in popularity and employ various technologies that inhibit investigatorsâ ability both to identify transaction activity using blockchain data and to attribute this activity to illicit activity conducted by natural persons.â
Elsewhere, the U.S. Internal Revenue Service announced in September that it would provide a bounty of up to $625,000 to anyone who could break Monero, the most widely used privacy coin â suggesting that the agency believes the coin may be used to hide taxable income.
âBittrexâs action does not surprise meâ
Timothy Massad, former chairman of the U.S. Commodity Futures Trading Commission and now a senior fellow at Harvard Universityâs Kennedy School, told Cointelegraph: âBittrexâs action does not surprise me.â He went on to clarify that âthe use of crypto for illegal purposes has been a top concern of law enforcement agencies and regulators in the U.S. (and elsewhere), so a focus on privacy coins is to be expected.â
The scrutiny of the coins is not confined to the United States. In 2019, the South Korean unit of OKEx delisted five privacy coins, including XMR, Dash and ZEC, citing the G20âs Financial Action Task Forceâs Anti-Money Laundering rules â in particular, the need for the exchange to have an address for both the sender and recipient of a crypto transaction, which privacy coins do not provide. Japan, for its part, banned privacy coins in June 2018, referring to Monero, Zcash and Dash at that time as âthree anonymous siblings.â
Dave Jevans, CEO of CipherTrace â a crypto analytics firm â commented to Cointelegraph: âIt isnât surprising to see delistings of privacy coins in the wake of increasing regulatory scrutiny that carries additional risks.â As previously reported, CipherTrace has been developing Monero tracing tools on behalf of the U.S. Department of Homeland Security. âRegulators are focused on privacy coins because of concerns that these coins could be more easily leveraged by bad actors to launder stolen funds,â Jevans told Cointelegraph.
BTC remains âcurrency of choice for criminalsâ
But as is often the case with cryptocurrencies, things arenât as simple as they first appear. While acknowledging that many of regulatorsâ concerns with privacy coins are valid, Jevans observed that âthe data still shows that Bitcoin, which is more traceable than cash, remains the currency of choice for criminals because of the ubiquity of off-ramps into fiat.â Meanwhile, following the Bittrex delisting, Dashâs Twitter account unsurprisingly issued a defensive statement, noting: âDashâs privacy functionality is no greater than Bitcoinâs, making the label of âprivacy coinâ a misnomer for Dash.â
Others have suggested that the Bittrex action might have been an effort to get in step with the FATFâs Anti-Money Laundering guidelines, or âtravel rule,â and if so, other U.S. exchanges may soon do likewise. Andrew Miller, a professor at the University of Illinois and a board member at the Zcash Foundation, had doubts about this explanation, telling Cointelegraph: âSince Kraken, Gemini and other exchanges continue listing privacy coins, I donât think itâs because of a specific regulatory requirement.â
When Cointelegraph contacted Bittrex about its recent delistings, a spokesperson for the company said: âBittrex does not have a comment for this story.â It should be noted that Bittrex U.S. also delisted XRP on Dec. 29, but that is likely down to the U.S. Securities and Exchange Commission filing charges against Ripple.
âNothing inherently wrongâ
Other commentators argue that there is not anything intrinsically problematic about privacy coins. Indeed, they are a useful innovation, though perhaps they need to be managed better. âThere is nothing inherently wrong with privacy coins,â said Jevans, even if they make it easier to launder money than BTC.
As noted, cash is easier to launder than Bitcoin, yet no one is talking about eliminating cash, he suggested. Miller added that privacy coins, too, could be a counteragent for excessive monitoring of crypto markets on the part of authorities, including âwarrantless bulk surveillance.â
Giulia Fanti, a professor at Carnegie Mellon University, told Cointelegraph: âThe global economy is moving towards a digital financial system that will enable fine-grained surveillance by governments and/or corporations.â Privacy coins matter, among other reasons, as they signify innovation:
âThey are helping spur the development of cutting-edge privacy technologies that could eventually be used in centralized digital financial services. So, while privacy coins can certainly be used for money laundering, they also provide an important counterweight to some concerning societal trends.â
Preston Byrne, a partner with law firm Anderson Kill, told Cointelegraph: âPrivacy coins are an important innovation not just in terms of incentivizing the development of new decentralized crypto systems but also in terms of the importance to society of having a confidential means of entering into transactions generally, a role currently filled by cash.â Moreover, privacy coins may be less useful in hiding certain illicit activities than some regulators think â provided certain guardrails are in place, according to Byrne:
âAttempting to hide oneâs activity through a privacy coin is also unwise due to the fact that, at least for the time being, getting from the cryptoverse into real assets requires touchpoints with regulated exchanges where KYC [Know Your Customer verification] is conducted. Pushing privacy coins off of exchanges where KYC takes place strikes me as counterproductive.â
Importance of âregulated touchpointsâ
Still, Jevans believes that âwe should expect more exchanges in the U.S. and globally to delist privacy coins in order to ensure compliance until they can deploy a risk-based approach to preventing money laundering.â This may not help, though, said Byrne: âIn the long term, the explosive growth in so-called âdecentralized exchangesâ will likely pick up the slack, without the benefit to the government of having coins occasionally make contact with regulated touchpoints.â
These âregulated touchpointsâ could indeed prove privacy coinsâ salvation. A custodial wallet operator, for instance, âcan generally see the transactions a user is executing and can still require the user to provide some form of identity,â explained Fanti, adding:
âSo, even if a privacy coin hides transaction contents on the public blockchain, there may still be ways to enforce regulatory requirements â at least for some important classes of transactions â with the cooperation of custodial wallet operators.â
Both Zcash and Monero also support a technology called âview keysâ that give an option to disclose information about a transaction to auditors or regulators in a secure manner, as Miller added: âItâs a common misconception that privacy coins fundamentally undermine or are incompatible with the existing way regulations are appliedâ â a sentiment voiced on social media, suggesting that privacy coins are more about personal freedom than money laundering.
On Jan. 7, it was announced that a crypto custodian will issue wrapped Monero on the Ethereum network, suggesting that not just DEXs could be working on finding a place for the three so-called privacy coins to flourish.
Expect more KYC/AML enforcement
In the end, a kind of balancing act may be required on the part of regulators and the crypto community, where the challenge is to preserve the privacy strengths of cryptocurrencies but without making them a haven for money launderers and ransomware criminals.
âI would expect to see continued efforts to address the risk and to step up KYC/AML enforcement as the new administration comes in,â Massad told Cointelegraph, adding: âWhether privacy coins can be âmanaged betterâ to satisfy both law enforcement interests and those who like the greater anonymity they provide is an interesting question. I canât say Iâve seen that yet though.â
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