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How Decentralized Cybersecurity Can Support Governments in Fight Against Terrorism and Money Laundering

Things have been getting heated in the cryptocurrency space lately. On the week of July 16, U.S. Treasury Secretary Steven Mnuchin called Facebook’s planned cryptocurrency, Libra, a “national security issue”, thinking that it can be used to facilitate illegal activities such as drug dealing and terrorism.

However, we don’t believe cryptocurrencies are doomed and that cooler heads will eventually prevail. First, let’s take a look at how cryptocurrencies are being used by criminals, and how anti-money laundering (AML) and counter-terrorism financing (CTF) laws have been expanded to include digital currencies. Then, we’ll discuss how blockchain’s traceability and decentralization can actually help combat (rather than facilitate) illegal activity.

How Money Launderers and Terrorists Use Digital Currencies

Criminals use mixers and tumblers to split up, scramble, and reassemble their crypto funds into different wallets and exchanges, where they repeatedly trade with several altcoins. They do this to obfuscate the origin of their digital funds and cover their tracks.

Many cryptocurrency exchanges are unregulated without any KYC, making cryptocurrencies attractive to criminals. Some of these unregulated exchanges in jurisdictions with lax KYC/AML laws can be used even without mixers or tumblers. In fact, these unregulated exchanges receive 36 times more Bitcoin from money launderers than regulated exchanges.

However, many criminals don’t understand that blockchains and their immutability make it easy to trace the origin and destination of their digital funds. Some have already gotten caught by law enforcement agencies, who actively monitor darknets (e.g. Silk Road) and peer-to-peer markets (e.g. Local Bitcoins) to catch people breaking the law using crypto transactions.

The Latest on AML and CTF Regulations

Indeed, governments around the world are increasingly cracking down on cryptocurrencies. Every country has reacted in a different manner. Some have outright banned crypto. Others have levied strict AML laws on any crypto exchanges or custodial services. Increasingly fewer jurisdictions remain lax.

Some exchanges and custodial services recently realized they can’t battle governments forever on this. Last September, ShapeShift decided to begin KYC despite loud protests from its customer base. Even last month, Binance announced their decision to restrict service to U.S. customers, and to create a separate and fully regulated exchange for the U.S. market.

On June 2019, the Financial Action Task Force (FATF) outlined new regulatory standards involving virtual assets saying that crypto payment providers must be subject to the same KYC/AML/CTF rules as conventional banks. The EU has also issued a directive requiring that crypto exchanges and custodial services be subject to the same identity verification and suspicious activity reporting requirements as traditional institutions.

So where does blockchain come in? Blockchain actually possesses the one thing that regulators really want: the ability to trace funds to perpetrators of illegal activity.

The Importance of Traceability to Fight Money Laundering

What many people, including both regulators and criminals, don’t realize is that blockchain can actually help catch money launderers more than it can facilitate them. Despite what privacy fanatics say, Bitcoin is not anonymous. It runs on a fully traceable distributed ledger that can be used as a publicly viewable verification system for financial transactions.

Blockchain also provides the transparency that allows financial institutions and regulators to exchange information with each other in real-time on the same network. Under the traditional regulatory model, violations often go undiscovered. Blockchain, on the other hand, provides regulators with a huge database of potential violations regarding the financial activity.

So what’s special about blockchain that allows anyone to trace funds across the digital space down to each perpetrator? The answer is decentralization.

How Decentralization Enables Us to Trace Illegal Activity

Under the traditional system, data is stored in fragmented silo-based systems where banks remain reticent to share information with others. In the case of KYC, the race is on to stay ahead of terrorism and financial crime. Therefore, the costs of compliance (and fines for noncompliance) continue to escalate under the traditional system.

Adopting blockchain to fight money laundering on an international scale will require the cooperation of all governments and large financial institutions, but this is not as difficult as it sounds. Rather than facilitating money laundering, decentralization actually offers useful AML capabilities to law enforcement officials, who are starting to use blockchain-based tools to trace financial activity using cryptocurrencies back to their perpetrators.

Having financial data and transactions on a single decentralized platform would reduce noncompliance risk due to delayed or inaccurate reporting. A software program can piece all the ledger’s data together to track the original sources of transactions. In fact, this is already available: Uppsala Security’s Sentinel Protocol platform offers the Crypto Analysis Transaction Visualization (CATV) tool based on a decentralized Threat Reputation Database (TRDB), designed to help law enforcement agencies track the origin and destination of digital funds.

Using instantaneous exchange of information among financial institutions and regulators, suspicious activity can be flagged, allowing for proactive actions against money laundering thus saving the global economy trillions of dollars.



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Sentinel Protocol Team

Operating on blockchain technology, Sentinel Protocol harnesses collective cyber security intelligence to protect crypto assets against hackers, scams and fraud