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The Rise of Bitcoin Blacklists

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Coinbase and other exchanges carry them, Tether and other stablecoins too, and now even the Wasabi wallet: the blacklist. Bitcoin address censorship seems inevitable. Does that seal Bitcoin’s usefulness as a currency – or is it simply part of the new playing field on which privacy and transparency are negotiated?

Every crisis is a catalyst. It accelerates what appears to be unavoidable but can normally only come into being with resistance. In a crisis, be it Corona or Ukraine or even just a bad hack, resistance crumbles and the supposedly inevitable gets an easy game.

It was foreseeable that the war in Ukraine would drive the regulation of cryptocurrencies forward. Who would want sanctions against this war to fail because Russians just use Bitcoin? Who wants Putin, his inner circle and his allies to laugh at the West’s financial sanctions? Who would want a trade in bitcoin instead of dollars to fill the Kremlin’s war chests?

Coinbase

Of course, the truth is much more complicated. For the crypto industry, however, the Ukraine war became a milestone moment of the blacklists.

The US stock exchange Coinbase is taking address blocking to a whole new level with a blacklist. How, explains Chief Legal Officer Paul Grewal on the company blog : Sanctions played a vital role in protecting national security and curbing unlawful aggression. Coinbase therefore fully supports government sanctions.

First, the exchange blocks sanctioned players. With each registration, Coinbase matches data against sanctions blacklists in the US, UK, EU, United Nations, Singapore, Japan, and Canada. People appearing on the blacklists cannot register an account. Second, Coinbase regularly compares existing accounts with blacklist updates in order to retrospectively block accounts if necessary. And third, the stock market tries to anticipate dangers. This is perhaps the trickiest part of the operation: the exchange uses blockchain analysis programs to circle addresses and individuals on blacklists.

This point is extremely important. For example, in 2020, the US blacklisted a Russian with three blockchain addresses. Through blockchain analysis, Coinbase was able to identify 1,200 additional addresses potentially linked to the Russian. These addresses also ended up on Coinbase’s internal blacklist. In this way, the exchange is now blocking more than 25,000 blockchain addresses related to Russians who are either under sanctions or involved in criminal activities.

Stablecoins

Not every crypto company goes as far as Coinbase. But even a company like Tether, which is not exactly on the best of terms with the US, cannot and does not want to escape the pressure. While stablecoin USDT is also subject to sanctions by Western governments, it is unknown if the firm is introducing a similar “contact debt” as Coinbase. On the other hand, Tether rejected Ukraine’s request to block all Russians.

A few days ago, Tether put three more crypto addresses on the internal blacklist. These addresses probably contained $150 million. It is not known why exactly, but there may be a connection to a hack. Since the address freezing happens in Tether’s smart contract , it’s completely transparent after all.

Similar to Tether, other centralized stablecoins are poised to implement blacklists and sanctions. The center dollar USDC is also known to freeze dollar tokens if they are involved in criminal transactions. Since Coinbase is also behind the USDC tokens, it can be assumed that the blacklist is just as extensive here as it is on the exchange itself.

To what extent DAI or UST – the two relevant decentralized stablecoins – are immune to blacklists is difficult to say. In both cases, there is no central entity that can run and execute the blacklist, making it inherently more resistant to them. But in both cases there is a decentralized entity – a DAO – which is able to block addresses as well under appropriate circumstances. However, it should be slower and prevent excesses, such as the 25,000 addresses on Coinbase’s blacklist.

Wasabi

Finally, we find a blacklist where we least expected it: at Wasabi. Wasabi is a wallet that primarily appeals to users with an increased need for privacy. Because part of Wasabi is a connection to CoinJoin – a kind of decentralized mixing in which several transactions merge into one, so that it is hardly possible to tell which addresses sent to which address.

Since CoinJoin is a decentralized protocol, it also cannot contain or enforce a blacklist. However, in the variant that supports Wasabi, CoinJoin requires a central middleman – a coordinator. This is managed by the developers of Wasabi under the company zkSNACKs. In doing so, they earn fees with which they can finance the development of the wallet and the operation of the servers.

It is these central coordinators who are able to introduce a blacklist – and that is exactly what they are now doing . One of the developers recently explained that it became necessary to block some addresses to prevent the company from getting into “trouble,” presumably legal trouble, because the service was being used by hackers and scammers. “We try to protect the company and the project by minimizing the money that hackers and scammers launder. As a company, we have the right to do that, but believe me, none of us are happy about it.”

Of course, it can be said at length that Wasabi is not CoinJoin, that the protocol itself works, that there are other wallets, such as Samourai, that also allow CoinJoin, and so on. But it doesn’t change the fact that privacy with Bitcoin is always a game of time. Any service that offers privacy will sooner or later introduce blacklists, and if you use a decentralized service, the blacklist threatens to catch up with you when you list coins on an exchange.

The graveyard of fungibility

As a result, some in the cryptocurrency ecosystem are of the opinion that fungibility is dead for Bitcoin. Fungibility means that one coin is like another like an egg is like another, which is formulated as a condition for something being good as money. Because if not every unit is the same, if one is on a blacklist and the other is not, then not every unit can be worth the same. But that’s what you should expect from good money.

In the “ graveyard of bitcoin ’s fungibility,” parts of the Monero community are harping on about it. Monero is a cryptocurrency that uses various technologies, such as ring signatures and zero-knowledge proofs, to achieve a very high level of anonymity. The graveyard collects evidence of how blacklists are implemented in the Bitcoin ecosystem. For example, he lists cases where coins mixed by Wassabi are blocked by various exchanges or how users lose their accounts because they have used mixers, whether by Wassabi, Samourai or other software.

To what extent all of this renders Bitcoin “unusable” is likely to be a matter of perspective. For some, a lack of fungibility is a huge issue that disqualifies bitcoin as real, good money. This group has often invested in privacy coins, whether it be Monero, Zcash, Pirate, Mina or others, and it is not clear whether their investment came from their interest in anonymity or the other way around.

Another perspective would be that Bitcoin becomes good money precisely because of the possibility of maintaining blacklists. After all, who wants to have anything to do with money that Russian war criminals can easily use to evade sanctions? With money that hackers and scammers can easily use to launder their loot? A money that makes almost everyone who uses it an accomplice in money laundering?

There is no definitive answer to this. What weighs worse? Loss of privacy for one – or loss of opportunities for others to prevent or punish crime? How one responds probably depends on one’s own attitude and also one’s own experiences with prison and crime. In the end, however, the question will probably not be decided by us, but by the companies that have to work with blacklists.

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Ethan Hunt

Bitcoin Maximalist and Toxic to our banking and monetary system. Separation of money and state is necessary just like the separation of religion and state in the past. Also, pro-local, pro-global and anti-national.

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