Opinion: Blockchain developers urged to rescue cryptocurrency from the dangers of money laundering
A recent groundbreaking report by Elliptic has brought to light the staggering amount of $7 billion in illicit cryptocurrency assets that have been laundered through cross-chain services. This means that criminal organizations are using decentralized exchanges, cross-chain bridges, and coin-swapping services to hide the origins of funds obtained illegally.
This revelation is a cause for concern as it highlights a significant loophole in decentralized financial frameworks that allows money laundering to thrive. It also indicates a shift in the tactics employed by illicit actors, who have now moved on from using crypto mixers to utilizing bridges as a legitimate tool for financial crimes.
The issue lies in the fact that these bridges were not designed with criminal activities in mind. On the contrary, they were created to uphold the principles of privacy and efficiency in cryptocurrency transactions by eliminating unnecessary bureaucracy. However, their misuse by criminals demonstrates how a well-intentioned service can be weaponized.
The inherent functioning of cross-chain bridges makes it easy for criminals to transfer funds from a well-known address on one chain to a new address on another chain, effectively severing the traceability of the funds. This process either wraps the funds or removes them from pooled liquidity, making them virtually untraceable. In essence, the bridge acts as a getaway car.
We have witnessed similar cases of misuse in the crypto industry, such as crypto exchanges becoming hubs for money laundering and financial crimes in the past. Just like exchanges eventually underwent significant changes to address these issues, bridges must also evolve to combat money laundering effectively.
The current blind spot in cross-chain bridges that enables crypto crimes is the absence of anti-money laundering (AML) protocols. While some chains attempt to maintain the knowledge chain that connects the two networks by not allowing users to specify a different destination address, this approach has limitations. It only works when both blockchains are EVM-based and relies on the detection capabilities of the destination blockchain, which allows illicit activities to slip through undetected.
The typical response would be to introduce extensive Know Your Customer (KYC) and AML measures to prevent money laundering and other financial crimes. However, there is an alternative approach that focuses on enhancing AML practices without resorting to intrusive KYC requirements. Cross-chain bridges can still operate anonymously or pseudonymously while implementing AML guardrails to prevent illicit transfers. This would involve a few changes to the existing framework.
One solution would be for regulators to mandate AML parameters that bridges must adhere to. However, achieving regulatory clarity for blockchain products is a complex task, and waiting for regulations to catch up would only prolong the problem.
From a technical standpoint, developers of cross-chain bridges could incorporate permissioned infrastructure and anomaly detection systems that do not compromise privacy. It is crucial to strike a balance between preserving trustlessness and privacy while preventing financial crimes.
Since most bridges operate as decentralized protocols, developers need to recognize the importance of implementing AML measures. While some may hesitate due to concerns about interfering with decentralization or complicating the transaction process, it is necessary to adapt quickly. Implementing real-time on-chain AML protocols, such as sanctions, fraud detection, and prevention checkpoints, will help deter illicit activities and maintain credibility.
For blockchain and crypto to gain widespread adoption, it is crucial to ensure that their frameworks are not exploited by terrorists, oppressive regimes, or illegal businesses. While money laundering exists in traditional financial systems, pressuring bridges and cross-chain services to enhance their AML practices will benefit everyone and enable crypto to fulfill its potential as a decentralized financial ecosystem.
