Tornado Cash — the fallout continues

. (Photo: Luke MacGregor / Bloomberg via Getty Images)

Last week I wrote about a nuclear bomb that had been dropped on the cryptoverse — the US Treasury’s sanctioning of a transaction-anonymising crypto project called Tornado Cash. The fallout has started, continues and is very ugly.

A recap: an arm of the US Treasury called OFAC slapped sanctions on a piece of autonomous software called Tornado Cash (a “mixer” in crypto-speak) because about 10% of its users were bad guys, mostly North Korean, according to OFAC. Specifically, it means no one can receive money from a Tornado Cash address, nor can they send to a Tornado Cash address. That is, if you are a US citizen. Or, more importantly, if you ever want to ever visit the US or do business with the US.

So, everyone then.

There were a number of astonishments here. OFAC has only and always sanctioned legal persons. It was the first time they had sanctioned a piece of computer code. Presumably because they couldn’t trace and arrest the bad actors. So they sanctioned everyone and anyone within spitting distance of Tornado Cash. Second, all of the major crypto projects that may have sent or received transactions, or may one day wish to send or receive transactions from Tornado Cash, immediately buckled and blocked Tornado Cash addresses, not wishing to anger the American government. Oh, and a seemingly innocent 29-year-old developer was arrested in Amsterdam for what seems to be, er, developing neutral software.

It did not go unnoticed, to put it mildly, that many of the crypto projects that immediately complied with the OFAC sanctions used to boast of being “decentralised”, “censorship resistant”, “autonomous”.

Uh huh. How’s that going?

Twitter exploded in outrage. Commentator @wazzcrypto said: “The Ethereum community was all about decentralisation until a developer got arrested and suddenly everyone turned onto OFAC compliant Non-Profit Corporations.”

And here is the fallout. The US, like all other countries, wants to catch bad guys. Money launderers, for instance. They have generally done this by gumshoe detective work. Intelligence agencies. Following the money. Human sources. Stakeouts. Getting warrants. Electronic snooping. Finding out who is opening accounts in Panama. And then pouncing on someone and hauling them off to jail and charging them, presenting the evidence and if they have their ducks in a row, getting a conviction.

You know, you’ve seen 100 movies with this plot.

Compare this with what has just happened with OFAC. They don’t have to do the hard work of finding criminals any more. Just make one of their haunts radioactive and screw the other patrons who stopped in for a glass of water.

Then a second fallout, happening in real time. Most people with a glancing interest in the cryptoverse know there is an energy debate around the largest cryptocurrency, Bitcoin, which uses an energy-hungry technique called Proof-of-Work to secure transactions. This is true too of the second-largest blockchain, Ethereum. But on 16 September, Ethereum will move from Proof of Work to a more energy-efficient technology called Proof-of-Stake (PoS).

This project has been years in development; it is by far the biggest event on the crypto calendar, anticipated for years and now on its final leg. It turns out that after this move to PoS in a few weeks, a near majority of the network that secures transactions will be controlled by (or through) US companies, most of it through a Nasdaq-listed company called Coinbase.

If OFAC decides one day to sanction Coinbase because it helps secure Ethereum transactions and some bad guys use the Ethereum network somewhere, OFAC could quite easily shut down a major part of the entire crypto enterprise. This is no longer just cryptocurrencies; blockchain projects have now become legitimised and useful across multiple industries, with more than 150 million users, many of whom do not care about cryptocurrencies.

I do not understate when I say that everyone who cares about crypto is terrified of OFAC’s potential to overreach here.

An analogy? The US shutting down the internet because of cybercrime. Think this is an exaggeration? Consider that China has permanently shut down large parts of the internet for one billion citizens because they don’t like criticism. Countries will do stuff that they think is in their interests, and worry about the courts later.

Like the Sword of Damocles

In trying to read what is going on between the lines, it seems the US is deciding on criminalisation before proper regulation, even knowing that it may not last. It hangs over the entire industry like the Sword of Damocles even as the lawyers suit up and prepare to challenge the government in court. For anyone interested in the legal positioning, the case against OFAC is here.

As a strategy of intimidation, this is pretty clever. Threaten everyone with jail, guilty or not, and worry about the legalities later. The goal is to force compliance with an established legacy of governance, in place for many hundreds of years, deeply resistant to shifts in power.

There will be many who might read this and say this has nothing to do with me, Bitcoin is for criminals, cryptocurrency is bollocks, crush it, ban it, snuff it out.

You’d be wrong. It has everything to do with those who fear the brute and untrammelled power of governments everywhere and who celebrate the transformative potential of new technologies.

Steven Boykey Sidley is Professor of Practice at JBS, University of Johannesburg. First published in Daily Maverick