Should Crypto Exchanges Take KYC Seriously?

In theory, cryptocurrency is the first step towards fiscal utopia; a state where individuals can conduct transactions without fear of retribution. When used the right way and by the right people, it can be financially liberating. However, there are always two sides to a coin. The anonymity offered by cryptocurrency has given rise to a flourishing black market where scams such as ransomware have left victims helpless. 

In 2018, $1.7 billion worth of cryptocurrency was stolen from investors. Of this, $1 billion was stolen from crypto exchanges. This number reflects only the asset losses that can be traced. The actual losses could be much higher. As crime continues to plague cryptocurrency, the need for exchanges to put KYC norms in place is stronger than ever. Here is how KYC can prevent money laundering and other misuses of crypto exchanges:

Preventing The Use Of Cryptography In Terrorist Financing

According to a report by Europol in 2015, cryptocurrency features in several high-profile investigations regarding payments between criminals. Bitcoins were used in more than 40% of all illicit transactions in the European Union. In November 2017, BTCO.075, the equivalent of $685 was transferred anonymously to a bitcoin address used by an organization linked to the Al Qaeda. This is a very small example of how cryptocurrency can be used to fund terrorism. 

When cryptocurrency is mined, the transactions are recorded on the blockchain. This data is not directly linked to information such as name and address that can be used to identify a person. Thus, it makes transactions anonymous to an extent and offers the same benefit of trust as traditional hawala networks. With KYC norms, identifying participants of suspicious transactions becomes a lot easier. This could act as a deterrent for terrorist organizations considering the use of cryptocurrency for financing. 

Protection Against Money Laundering

Over the past decade, cryptocurrency has been used to launder over $2.5 billion. An easy way for money launderers to clean dirty money is by using bitcoin mixers or tumblers. All money launderers need is at least one bitcoin account on the internet and a few in the dark web wallet between which the bitcoins can be bounced to launder dirty money. Money launderers may also use unregulated cryptocurrency exchanges to ‘clean’ bitcoins. 

Researchers have found that a majority of bitcoins used to launder dirty money pass through unregulated cryptocurrency exchanges. Exchanges in countries with little or no Anti-Money Laundering regulations receive as much as 36-times more bitcoin involved in money laundering than those in countries with AML rules in place. 

Due diligence and enforcing KYC norms can help detect and prevent money laundering activities. It will also help law enforcement agencies hold accountable the money transmitters and virtual currency exchangers involved in violating money-laundering rules. 

Fighting The Dark Side of Anonymity – Ransomware

According to a study by an US-based intelligence firm, 64% of all ransomware attacks use crypto exchanges to launder money. Criminals infect the target with malware and demand a ransom payment in cryptocurrency. On receipt of payment, a decryptor tool is delivered to allow the victim to recover data. Where earlier, victims were targeted randomly and small amounts were demanded as ransom, the trend is now shifting towards targeting political or legally sensitive data. The ransom amounts have also seen a dramatic increase. 

Cryptocurrency is the favored form of ransom mainly because of the anonymity offered by it. The system allows criminals to watch the public blockchain to verify when payments have been made and automate the process of unlocking files upon completion of the transaction. Thus, it gives criminals the power to hold entire countries and economies to ransom. 

It is only through KYC, that law enforcement agencies will be able to identify the people behind such attacks. It will also make it more difficult for criminals to withdraw the cryptocurrency. 

Ensuring Financial Inclusion

Given the anonymity associated with cryptocurrency, many banks and other financial institutions do not trust cryptocurrency. However, with efficient and strong KYC norms in place, it will emerge as a new method for people who do not have ‘traditional legal ID’ to prove their credibility. It will give them the opportunity to participate in the global economy, repay loans, make transactions, etc. This will, in turn, help businesses innovate and prosper. 

Building Reputation

By implementing KYC norms, crypto exchanges will have information that can help identify the person conducting transactions on the exchange. With this, they can protect themselves against accusations of financial wrongdoings such as money laundering or terrorist financing. 

Theoretically, in the case of the closure of the BTC-e Stock Exchange, implementing KYC could have made it possible to check the legality of the revenues on the site instead of suspecting the administrator of the exchange of money laundering. Thus, accusations would have been made not against the exchange but against users making suspicious transactions. 

In this way, KYC would help crypto exchanges build a reputation of being honest, transparent and operating within the country’s legal framework. When it comes to financial institutions, this is crucial as it builds trust and encourages people with honest dealings to make transactions on the exchange. 

Offering Protections For Users

While KYC removes some of the anonymity associated with transactions on crypto exchanges, it protects the interests of the users. In many cases, users will not be able to withdraw or make deposits of more than a certain amount without going through the KYC process. Thus, it protects cryptocurrency from being stolen. In the case of thefts, it also improves the possibility of recovering the funds as it makes it easier for the true holder of the account to prove his or her identity. Users can also link their cryptocurrency accounts to their bank accounts. This would make withdrawing the currency easier and more convenient.  

In conclusion, KYC compliance is beneficial to both the crypto exchange and its users. It is only a threat to people hiding behind anonymity and wanting to make fraudulent transactions. As the old saying goes, if you have nothing to hide, you have nothing to fear. 

Bobby Joseph: Bobby Joseph - Helping & advising Enterprises on Data Quality, proposing the right tools & solutions in the DQ space at Melissa