Why were privacy coins banned?
The personal choice of anonymity in blockchain technology.
Since I last posted a blog on metaverse topics and privacy and security, the market has taken a huge turn…for the worse. Am I to blame? Did I uncover the vulnerabilities allowing hackers to take down these companies?
LOL. I don’t have so much hubris to actually think that. Besides, I was trying to help people avoid losing money.
But the turn in this market quieted me for a while.
Now, I am back because I feel the undercurrent getting stronger and there are some interesting developments that are worth covering.
Today, I am focusing on privacy coins.
Have you ever wondered how it is public knowledge that Elon Musk’s net worth is over $250 billion? We know this because we know how much Tesla and SpaceX stock he owns, which is public information. So are the values of his homes and his tax returns.
Have you also wondered how we know Elon Musk’s net worth and yet Donald Trump is able to keep his mysterious? Interestingly, there are claims that Mr. Trump tries to overstate his net worth publicly. He has so many trusts, holding companies, businesses, lawsuits, real estate properties, etc. that it is too much to keep track of which is how he keeps it largely a mystery.
The difference is about privacy, the ability to control what information is public and which is not.
A privacy coin is a form of cryptocurrency where the technology focuses on hiding the identity of the wallet owner. In other words, privacy coins are about anonymity.
Why do we need a privacy coin? Because blockchain technology is pseudonymous.
Basically, I present to you the argument that the term “privacy coins” is a misnomer. In their current format, they really should be called anonymity coins. You see, the blockchain makes transaction data public and immutable. But the wallet address, which is a string of numbers, hides the identity of the person. The human brain does not associate people with numbers like a computer. We associate a person with their name. This is why blockchain is pseudonymous. The name of the person behind the numbers can be doxxed (identified), and once doxxed anyone can trace all of that person’s transactions.
Who cares if they know all my cryptocurrency transactions? Well, there are a lot of reasons why someone might care. If you hold a certain political belief, you could be at risk for retaliation if you donate to that cause. Race, gender, age, social status, religious belief etc. are used to deny loans (amongst other things). Heck, if Mr. Trump does want us to think he is worth more than he is actually worth, it helps him get bigger loans! Finally, maybe you don’t trust government or don’t like to be the subject of government surveillance.
Photo by cottonbro: https://www.pexels.com/photo/group-of-people-carrying-trash-in-plastic-bags-9246483/
But anonymity can also be exploited. The infamy of Al Capone is based on how he hid his illegally obtained money by funneling it through a cash business where he could easily cook the books.
But Al Capone was not the creator of money laundering. The practice is as old as government and taxes are, which is why regulators do not like anonymity.
So, in response to the need for anonymity, these privacy coins were developed using some pretty cool, sophisticated techniques like zero knowledge proofs (discussed in my blogpost on cryptocurrencies). And what happened next? Scams, hacks, breaches, crime became rampant in cryptocurrencies and, especially, DeFi, where criminals used privacy coins to avoid prosecution and detection.
Privacy coins really are anonymity coins.
In the last month, regulators have started to really crack down on these privacy coins. For example, cryptocurrency exchange Huobi delisted seven different privacy coins from its platform on September 19, 2022. I read that they did this because they are trying to get permission from regulators to operate in the United States.
So, let’s recap. Bitcoin is pseudonymous, which is a problem. Privacy coins were meant to fix the pseudonymity problem. Criminals used privacy coins to exploit people out of their cash and avoid detection, so now the regulators are systematically banning privacy coins. What next? Well, a lawsuit, of course. Six cryptocurrency users of Tornado cash filed a lawsuit in Texas against the U.S. Treasury over the sanctions. The case argues that the sanctions punish people who were lawfully using privacy coins. That banning a whole technology, rather than a specific transaction, will stifle innovation. Coinbase is supporting their effort.
It is interesting how quickly the regulators are acting this time. Al Capone went to jail in 1931 but the U.S. didn’t pass its first anti-money laundering law until 1970, nearly 40 years later! And then there were several more laws within the next two decades. But today’s swift action is leading to some significant stumbles, as the Tornado cash lawsuit points out. Besides, technology is not something a lot of regulators and law makers have a good reputation for fully understanding.
Let me propose an idea. If the regulators really just care about taxes, or specifically the avoidance of taxes, why not have taxes apply to the cryptocurrency rather than the person? I mean, if my understanding is correct, a tax can just be written into the code of the cryptocurrency. A 0.0001% cost of each coin that just goes straight to the IRS or other tax collection body? It is sort of like the gas fee.
I think that would solve the problem of collecting taxes. However, I am sure you spot the fallacy the same as I do, which is that it does not solve the crime of theft. A recent massive breach in Australia was possible because the hacker demanded Monero cryptocurrency in exchange for the stolen data. I don’t think a tax on Monero coin would have deterred that hacker.
Theft is a notoriously difficult crime to prevent. Proactively disincentivizing crime is the goal, but how? In researching this post, I discovered cryptocurrency mixers which is a method that anonymizes the transaction. For the last few hours, this concept has given me significant pause. Should cryptocurrency mixers be legal? Is there a legitimate use for them? I started questioning my rigid adherence to the concept that privacy is about choice. Is anonymizing the transaction a fair choice for the sake of privacy?
Then it hit me. Why not just flag mixed coin as having been mixed? I am still mulling over this thought.
Regardless, I support privacy technology in cryptocurrency, including anonymity. Just like I can choose to use Chrome or Tor as my browser (one tracks me, the other doesn’t). User’s can and should have a choice that is appropriate for their own desires about privacy. What information I can keep to myself and what information is publicly available. Elon Musk doesn’t seem to have a lot of privacy but I bet that is because he just doesn’t much care to.
You’re the best,
Caroline
P.S. I found a really good white paper written by Perkins Coie LLP on different privacy coins. And before you doubt me, yes, I do believe some lawyers are really good at understanding and describing technology.
About the author: Caroline McCaffery is a privacy advocate and a security student. She is also the co-founder at ClearOPS, which stands for clear operations in privacy and security. ClearOPS accelerates scale for vCISOs by automating their mundane tasks. She is a frequent blogger and speaker with over 20 years of experience as a lawyer working with tech startups. You can connect with her on Linkedin.
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