Why Russia can’t use crypto to evade sanctions | Chainalysis Head of International Policy explains

Global economic conflict has put crypto in the spotlight. Russian assets worth billions of dollars were frozen in response to Moscow's military operation in Ukraine. Some say cryptocurrency could be used as a backdoor to evade those restrictions.

Anybody can create a wallet is the argument that often goes, and then they can shift their funds between their wallets.

How effective is crypto for evading financial sanctions? And what are the blockchain intelligence tools that could prevent that? We talked about it with Carolyn Malcolm of policy at crypto intelligence firm Chainalysis. Welcome to another exclusive cointelegraph interview. So, first of all, I wanted to ask you whether you noticed some increases or some change in crypto activity in Ukraine or Russia since the military conflict started.

Yes. So look, this is obviously an issue that we've looked at very closely since Russia's invasion of Ukraine and looking to see any changes really across the ecosystem. And I think the first thing that we need to remember is that we're talking looking at two economies which were sort of extremely crypto literate. So in terms of levels of adoption, sort of grassroots adoption of crypto, we ranked Ukraine 4th in the world and Russia 18th in the world. So we're already talking about economies where there's significant level of crypto use and transaction volume even before current events. However, what we are seeing, which is unusual, is on specific trading pairs and thinking there in particular about sort of ruble to Bitcoin or Hovenia, local Ukrainian currency to Bitcoin, we are seeing those sort of trading pairs be particularly active and I think particularly in the case of the ruble reaching really all time highs versus in Ukraine, I think certainly very high levels, but certainly not all time highs, but certainly the highest we've seen in four or five months.

And so how do you interpret that data? Do you think Russians and Ukrainians are buying more crypto? And so for what purposes?

Yeah, look, it's obviously difficult to know what's the rationale behind those changes that we're seeing. I mean, there's certainly been different theories in terms of this is a moment perhaps simply a price discovery in the market. This could be a sign of a flight to safety in terms of capital. But without being on the ground and sort of understanding the rationale of the industry, John sort of undertaken it, it's difficult to sort of infer what, what these changes in the data might actually represent in terms of sentiment.

So many are saying that the Russian elite that is being hit very hard by the, by the sanction, by the Western sanctions, might use Crypto to circumvent those sanctions. So are we seeing anything that could make us believe that that is actually.

Happening right now in terms of total liquidity in the market? If you're thinking about the Russian economy as a whole, this is not sort of comparable to North Korea, for example, which itself has been under significant sanctions for some time. We're Talking about the 15th largest economy in the world. And so the volume that would be required to actually move into, you know, move into crypto. If we were to think about sort of, you know, undertaking the Russian economy in bitcoin, we're talking about very significant volumes within crypto. You know, we're looking at, you know, a total sort of value of market cap of, you know, 1.7 trillion thereabouts. But and so there's sort of not the levels of liquidity that you would need in order to able to sort of move the Russian economy, if that's what you're sort of suggesting, into the world of crypto. And then the second aspect of course is on, you know, well, what about particular individuals looking to evade sanctions and that, that's of course very interesting. And you know, we have seen some increase and I think there was some reporting early last week around sort of the. Has there been an increase in the number of bitcoin whales for for example? That's something we're looking at closely. So at an initial glance it may just be linked to, to increases in the value of Bitcoin itself, which we obviously have seen increase since the invasion was been underway. But those are things we are going to continue to watch. But I think it's important to remember, of course, although current situation is very tragic, I think for many people that we are in this situation is perhaps, you know, something that for a number of people, particularly those, you know, talking about here, people with very significant amounts of wealth, they may have, this may be a scenario that they saw coming. So to expect to now suddenly see those movements in the market is maybe not, not necessarily what are the key indicators of, you know, that, that sort of shifting of capital out of the Russian economy?

Yeah, for sure. It's a bit unrealistic to think that the whole banking sector of Russia could suddenly move into crypto to evade these sanctions. That sounds definitely realistic. Still like talking about these very specific individuals which have been targeted. We know that there are this circle of people, the so called oligarchs that are very keen in like continue transacting with the west because they have assets there, they have business relationship in the west. And so forth. So right now, the Western authorities, us, Europe, they want to keep them cut out from the Western financial system. So are there any methods that these people could potentially use using crypto in order to evade the sanctions?

Yeah, so that's a good question, I think. Look, it's important to keep in mind that we're probably in a very different position as a sort of ecosystem than we were in, say, three or four years ago. Because, you know, one of the most important developments in this space over the last couple of years has been, you know, a very clear statement bringing the crypto economy within the bounds of the anti money laundering and countering the financing of terrorism framework. And what that means is that very clear obligations in terms of intermediaries in this space, in terms of collecting information around their clients identity, information about those clients have been put in place. And both at the government national level, but also in terms of the industry actually implementing those obligations, we've obviously seen a huge amount of progress since 2019 when the financial Action Task Force established that requirement for virtual assets. So it is true, and I guess the question always comes up in this space both in terms of personal wallets, perhaps to start there. So. Well, anybody can create a wallet is the argument that often goes, and then they can shift their funds between their wallets. And certainly it is without a doubt it's clear that those obligations in terms of record keeping don't apply to private wallets, to personal wallets, in the same way that they apply to third party intermediaries. The reality is though, at the end of the day, it's important to be able to move those funds ultimately into fiat currency in order to be spent. We're still not living in a world where one can sort of stay in the crypto economy and buy all the goods and services that one might like to buy. So at one point, you are going to move through an intermediary who is under an obligation to keep those identity records. The second aspect though, of course, is the question of sort of bad actors. This is true in the traditional financial space as it is in crypto. And that's just to say, you know, there are backed actors who, despite being under sort of legal obligations, won't fulfill those obligations. But I think what's interesting about crypto is that we're in quite a unique position because of the transparency and the permanency and the immutability of that public record, that whether it be a case of us having information today about who controls particular wallets, for example, or. Or that be Information that comes later down the line. And there I'm talking about, for example, to date, we haven't seen any of the sanctions actually specifically reference crypto wallets, Bitcoin addresses, for example, in relation to sanctioned individuals. That's something we've seen in the past in previous sanctions efforts by ofac, for example. It's not something we've seen as yet with the current round of sanctions against Russian individuals and entities.

I thought that Coinbase, not long ago, just a couple of days ago, just froze 25,000 addresses that were connected with Russian entities that were deemed to be committing some sort of illicit activities supposedly related to those sanctions. So wouldn't those count as. As the addresses you were discussing?

Look, I don't want to speak for Coinbase, but I think when I read the statement they put out, they certainly indicated that they had frozen this number of accounts relating to illicit activity, but not specifically in relation to these sanctions. So what we've seen in the past, for example, is that OFAC has named a particular individual and they have a number of identifiers. They might be email addresses, but also we've seen, I think, about almost 100 instances where we've seen them actually name Bitcoin or other crypto addresses as being related to those sanctioned entities or individuals. Now, that's not what we've seen so far with the current sanctions. We know in terms of broader illicit activity, and we've published some work on this very recently. In terms of, for example, that, you know, in terms of illicit activity and revenue from ransomware, 74% of the revenue from ransomware in 2021 came from Russian related entities. So is other types of illicit activity which might relate to that number of frozen accounts that you referred to. But in terms of these specific sanctions, we haven't yet seen any identified wallets relating to the sanctioned individuals and entities.

A lot of common ordinary Russians and Ukrainians in this situation, they are apparently increasingly relying on crypto in order to preserve the value of their money. How do you direct the sanctions to the Russian that are responsible for this and at the same time allowing the common Russian users to use the cryptocurrency in order to face this difficult situation.

You do absolutely to actually be effective in making that kind of judgment between allowing access to ordinary Russians while, you know, preventing malicious actors to circumvent sanctions in that way, you absolutely need to combine the transparency of the underlying blockchain technology combined with data analytics. And that's why we've seen, you know, very much a focus both in terms of industry, but also in government in terms of, so the investigative side that, that focus on making sure they have those capabilities in terms of data analytics to understand and, you know, to investigate, to detect activity of the sort you're describing and certainly on the industry side to be able to identify when they may be interacting with a sanctioned entity or advisor. So I think that governments are seeking to enforce sanctions and disrupt their invasion, can invest in those analytics to kind of get ahead of efforts to obscure sanctions, evading transactions. And I think, you know, doing so in the blockchain sort of crypto environment is much more streamlined in fact, than any tools capable of disrupting Russia's use of a network of traditional bank wise or frankly even physical cash to evade sanctions.

Yeah, and maybe you can give us like an insight in what is the exact procedure that you, as a crypto intelligence company would follow in order to identify, identify an attempt of evading sanctions by one of the sanctioned individuals or organization. So how would that process of red flagging a situation like this would work?

Yeah, so that's a great question. So basically when we have those situations like I've described in the past, where OFAC or another sanctioning government agency has identified a particular wallet address as being related to a sanctioned entity or individual, that allows us to take that information, and I'm very, very quickly and certainly within the hour, and input it into our systems. And that means that if you are then a current cryptocurrency exchange who is using our products, and you receive a transaction, whether that be directly or indirectly, there might be a number of stages in between the transfer to you and the sanctioned address. You might have gone through a number of personal wallets, for example. But even so, despite it being indirect, once it hits that person who is using our data analytics tool, they can actually, they will receive an alert that the funds being transferred to them relate to or come from, have as an origin the sanctioned wallet address and that allows them to then act accordingly. Now we know when it comes to crypto, we're not actually able to prevent the transfer of the funds. But what we are able to do if you're a crypto exchange is not then allocate them into a particular, you know, to the credit of a particular individual who's holding, you know, who wanted access to those funds and instead it gives you that facility because it is a real time alert to actually freeze those funds in order to comply with your sanctions obligations. So we already provide those tools for our customers to sort of flag and investigate suspected sanctions evasions. But what's interesting is that we're also working at the moment on developing new, more lightweight tools to provide an easy way for decentralized protocols and platforms to conduct basic sanctions checks to help manage reputational and sanctions enforcement risks. So that's a toolkit which we're looking to expand beyond just your centralized exchanges into the world of decentralized protocols and platforms as well.

So now a final question for you would be related to public policy related to crypto. So we know that in correspondence of this geopolitical crisis, there are politicians in both the US And Europe that are calling for taking serious measures that will prevent Russia as a state to evade sanction through cryptocurrency. So whether this is a justified concern or not, it's a fact that politicians are worried about it. So what do you think? How do you think this crisis is going to change? It's going to shape public policy related to cryptocurrency in the, in the next future?

So that's a, that's a great question. I guess there's two things I would highlight, and I guess if there's to be any sort of silver lining out of this, you know, extremely sort of tragic situation that we're seeing unfold in Ukraine, it is that it is caused in terms of the crypto industry and sort of lawmakers and policymakers who are engaged in developing a regulatory framework for the industry really forced them to come to grips at a very detailed level with how the industry actually works, how the technology works, to really clarify some of the misconceptions around, you know, well, isn't it, isn't it. Anonymous well, can't I just use my personal wallet to sort of evade the sanctions and so forth? Because it has become such a prominent political issue as well, it's really forced people to understand, well, what, you know, what is the difference who is under obligations? You know, why is it not as simple as it might appear, prima facie, to actually use crypto to evade sanctions? So I think that, you know, that level of understanding and education, I mean, that education process is something we've been going through for a number of years. But these events have really crystallized the need for people to understand the nuances of the industry and also to understand how some of the features of the underlying technology can actually be extremely useful in achieving policy objectives. So that's what I would say is number one. I think the second aspect is there's no question that we will see a further push to, on the implementation of things like the AML CFT standard for virtual assets. As I mentioned before, this is a standard, you know, established in 2019. Some further guidance in 2021. But both countries and the industry have been in a process of implementation. And this is not unusual. You know, laws don't come out, and people are able to sort of implement them on day one. So countries, in their place, process of actually translating that into domestic laws. Some countries have already done it. Others are still in the works. And industry itself is also in the process of working out how it will meet its obligations under those new rules. And I think what we will see at a very practical level is that process speed up.

That was a very interesting conversation. Carolyn, thanks a lot for jumping on our show.

Thanks very much, Giovanni. It's a pleasure to be with you.