Money laundering for beginners (part # 2): Privacy Coins & Anonymity Pools
Privacy coins and anonymity pools stand out by focusing on keeping transactions private and people anonymous. This gives individuals and groups more privacy, but it has also attracted more attention from regulators due to its characteristics.
The Essence of Privacy Coins
Unlike the transparent operations of conventional cryptocurrencies like Bitcoin, privacy coins put user anonymity at the forefront. All transactions are recorded on a blockchain, but the identity of the involved parties and the transaction amount are concealed.
Monero (XRM) is emblematic of privacy coins. When transacting in Monero, stealth addresses, and ring signatures are involved, ensuring the transaction remains untraceable, and addresses anonymous.
How It Works:
1️⃣ Initiation: Alice intends to send 5 XMR to Bob. She initiates this using Monero's protocol.
2️⃣ Stealth Addresses: For this specific transaction, Bob’s wallet will automatically generate a one-time stealth address, safeguarding his actual Monero address.
3️⃣ Ring Signatures: Alice’s transaction is mixed with several others, acting as decoys, ensuring no observer can pinpoint Alice’s specific transaction.
Anonymity Pools
Anonymity pools enhance privacy. They pool transactions from several users, mix them, and then distribute them, making it exceptionally challenging to link incoming and outgoing transactions.
The more users, the better the anonymity and privacy for a transaction. In a withdrawal, the original depositor can be obscured among multiple addresses. With a 5 XMR trade, analyzing 1000 addresses is more difficult than analyzing 10.
Relayers
In addition to built-in anonymity pools, some protocols include relayer features. Relayers break the direct link between sender and recipient by routing the transaction through multiple points. This doesn't change the withdrawal data or the target recipient's address.
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Zcash (ZEC) and its Shielded Pools
Zcash utilizes zk-SNARKs, a form of zero-knowledge technology that allows systems to verify possession of specific information without disclosing the data itself. It's akin to proving you own a key without revealing the key. This is particularly useful for verifying identities or transactions while keeping details private. As a result, "shielded pools" have been created, where transaction information is completely hidden.
Regulation
Regulatory bodies have intensified their focus on privacy coins and related platforms. The Commodity Futures Trading Commission (CFTC) imposed penalties against bZeroX, LLC and its founders and filed charges against its successor, Ooki DAO.
Furthermore, the Financial Action Task Force (FATF) has seen an uptick in the use of Virtual Assets (VAs), including anonymity-enhanced coins/cryptocurrencies (AECs) for terror financing. Notably, in October 2022 and February 2023, FATF updates highlighted a shift towards VAs, even by groups like ISIL and Al Qaeda. For instance, ISIL-associated websites have been caught soliciting funds in Monero. Although these extremist groups mainly depend on traditional financing, the FATF recognizes the increasing adoption of VAs, including in extreme right-wing terrorism funding, often facilitated by crowdfunding platforms. This evolving trend is on the FATF's radar.
Combatting
1️⃣ Blockchain Forensics: Firms like Chainalysis, Ellyptic, Crystal Blockchain are innovating to decode privacy coin transactions, detecting patterns that may suggest illicit activities.
2️⃣ Regulatory Frameworks: Governments worldwide are developing guidelines tailored to privacy coins to foster responsible use.
3️⃣ Exchange Scrutiny: Some exchanges are delisting privacy coins due to AML and KYC challenges. Enhanced monitoring can be a middle path.
4️⃣ Public Awareness: Advocating for the ethical use of privacy coins can be a way forward.
5️⃣ Collaboration: Collaborating with privacy coin developers can lead to a compromise where user privacy and necessary transparency coexist.
Privacy coins and anonymity pools serve a genuine need in today's digital world. Their misuse, however, remains a potent concern. "Embracing privacy coins means acknowledging their duality. While they champion individual privacy, they also pose collective challenges. Striking the right balance is our shared responsibility," opines Jane Doe, CEO of CryptoSafeguard.
“Each of us should have a say in how our personal data is handled. But in a decentralized setup, we must also be aware that privacy can be misused for unlawful or unethical purposes”, says Gintarė Košubienė , CEO & Co-Founder of micapass .