On August 8th, 2022 – The US Office of Foreign Assets Control (OFAC) issued sanctions targeting North Korean funds illicitly obtained via hacks, phishing scams, and other illicit measures.
Strangely the sanctions were levied against open-source “privacy-enabling” code and not any specific person, and/or entities.
Naturally this caused quite a cold front to blow across all crypto especially Circle – the company that manages $USDC
With 52 billion dollars of $USDC (as of writing) in circulation with approximately 1.5 million unique holders.
Circle abiding by the sanctions immediately froze the Tornado Cash $USDC pool. Centre, the consortium behind $USDC did this by blacklisting wallet addresses controlled by Tornado Cash.
Politicians are tweeting about it:
I sent a letter to Treasury Secretary Yellen regarding the unprecedented sanctioning of Tornado Cash. The growing adoption of decentralized technology will certainly raise new challenges for OFAC. Nonetheless, technology is neutral and the expectation of privacy is normal.⬇️ pic.twitter.com/0aN4a4A6tb
— Tom Emmer (@RepTomEmmer) August 23, 2022
Clearly there are also some precedents regarding this matter. US Representative Tom Emmer mentions specifically in his letter to Janet Yellen:
‘FinCEN guidance on the application of FinCEN regulations to certain business models involving virtual currencies. The guidance draws a distinction between “providers of anonymizing services” (including “mixers”) and “anonymizing software providers.” The guidance makes clear that providers of anonymizing services are subject to Bank Secrecy Act obligations while providers of anonymizing software are not. Specifically, the guidance determines this distinction to rest on the fact that “suppliers of tools (communications, hardware, or software) that may be utilized in money transmission, like anonymizing software, are engaged in trade, and not money transmission.”
Ok, so this is a lot to process. Let’s look at the major players here:
Consortium that controls $USDC business ops. Has other members such as Coinbase and Circle.
Privacy-enabling protocol software hosted on GitHub.
Founder, Tornado Cash – arrested, currently in detention by Dutch authorities. Must stay in jail pending trial for 90 days. (August 24th, 2022)
Known to fund Lazarus Group.
Known to use Tornado Cash to launder funds back to DPRK.
Phew, now that we’ve drawn up the list of players, let’s try and analyze the situation. I tend to abide by a Motivational Theory lens for these sorts of situations.
We could argue for example that there is what Alexey says, what OFAC would say, and then there is the truth. So, what are the motives for the major players here?
North Korea wants to make money, they have difficulty generating any sort of wealth with a minimal economy, so we can sort of bypass them in this section as no one is arguing their motivation in this scenario. Lazarus Group is their baby, and they don’t really try to hide it.
They are most likely trying to send a message that DeFi will not be an easy means to launder illicit funds from sanctioned entities or pass funds between America enemies to avoid financial penalties. It is possible that the whole play here is to shake the tree and see how far they can go before being stopped by strong US Amendment protections. Sanctioning persons, and entities is one matter, sanctioning open-source code is another. Especially as there appears to be established legal precedent as mentioned earlier in this article.
Honestly, I didn’t know about Centre until I started researching this article. I knew that Circle ran $USDC, but clearly, they have an international corporate shell on top with this consortium, and I’m assuming it’s just a liability parachute for Coinbase and Circle if they ever need to pull the plug on any future stablecoins beneath the shell company. The motivation here is clearly compliance in my opinion, with 53 billion US dollars in $USDC the last thing you want to do is draw unwanted attention before the midterms, and the regulatory structures that I assume they are lobbying hard for.
Russian software developer based in the Netherlands. It’s been alleged that he worked for the Russian FSB. He is not currently, as of writing, even allowed to speak with his wife. These days anyone could be CIA, or FSB – so I think it’s best to just assume for this article that Alexey does not in fact work for FSB – at least directly. Motivations could be numerous: safety, money, protection.
Fiscal Information and Investigation Service. The Netherlands organization that ordered the arrest of Pertsev. Most likely working in concert with US and/or international partners. Lazarus Group laundering their crypto via Tornado Cash is a huge embarrassment for financial crimes divisions worldwide. Could also be a classic case of ‘shake the tree’(Alexey) and see what falls out. Espionage via friendly and unfriendly states has been ramping up the last decade and with the war in Ukraine it’s not shocking that enforcement is ramping up – warranted, or not.
Recently I was listening to the video of Peter Van Valkenburgh, of Coin Center discussing the Tornado Cash sanctions by OFAC banning Americans from interacting with the Tornado Cash protocol. Recently there was a similar incident he mentioned where Blender.io was added to the sanction list prior to Tornado Cash.
Sanctioned by OFAC – Blender.io is an unincorporated organization, with some addresses, names, aliases, and a series of Bitcoin addresses that were relevant to using the Blender.io service. It was a custodial, centralized Bitcoin mixer. Every address on the list had a private key that controlled movement out of that address, so if you sent money to be mixed, the PERSON that controlled the private key mixed funds in that account.
These OFAC sanctions are directed at PEOPLE, or PERSONS. Blender.io was basically a centralized exchange. Under FinCEN rules you are technically supposed to register – so they had already clearly violated the law.
In comparison we move on to Tornado Cash. Here the entity is not described thoroughly – Tornado Cash aka Tornado Cash Classic aka Tornada Cash Nova, website Tornado.cash, 45 Ethereum smart contract addresses, with no additional guidance.
Tornado Cash is non-custodial mixing software, the funds that you would send to these addresses are not controlled by some PERSON holding private keys, but they are controlled by the smart contracts that are in turn executed on the Ethereum blockchain.
Peter also mentioned some earlier precedents:
‘Banning software publication is banning speech’ (Bernstein vs. US DOJ)
‘Banning otherwise legal transactions made to maintain one’s own privacy and engage in anonymous speech for political purposes’ (Money of Speech doctrines)
Several developers working on software associated with Tornado Cash protocol have had their GitHub accounts shutdown. This would be the chilling attack on free speech Peter mentions in the presentation.
Peter also makes the point that even though the building of a case in regard to an individual placed on a sanctioned OFAC list is done in secret for national security reasons, the PERSONS at least have the right to challenge the sanction (e.g., The 2 Iranians who were listed in the SDN list).
‘Who has the right to challenge the sanction that’s made against an autonomous smart contract?’ – Peter Van Valkenburgh.
This is analogous to banning open-source software for protecting privacy.
Ok, this is a lot to read. If you’ve gotten this far, you’re probably asking “So what!”, “This stuff always happens, and the US GOV, going to GOV like it always does.”
Yet, this is not true my friends. As we enter the new world of high inflation, low employment, and high demand there is one common denominator that unites all US major policy bills.
REVENUE GENERATORS (i.e., Taxes). AKA taxes that Americans don’t really notice, or care about.
Examples being taxes on marijuana and edibles, taxes on tobacco, taxes on gasoline (to a point), and so on. So called consumption taxes can be a Godsend for an administration swimming in deficits and debt, whether Republican, or Democrat.
What is the solution then? I believe the solution is proving to the US government that they can make more money supporting privacy solutions to help build a huge US digital economy versus heavy-handed privacy-destroying sanctions that could easily be more nuanced, clearly defined, and economically beneficial.
The economic arguments are going to sway the votes here, not the privacy concerns. Money talks, and the OFAC, or whatever multi-lettered agency feels their jurisdiction is being threatened will continue to stomp all over crypto, web3, and even web2 until a united front of lawyers, lobbyists, and politicians are able to enunciate a clear path to a crypto consumption tax that is not bogged in the hallways of the IRS.
As the line goes: “Show me the Money!”