It might shock you to learn that most cryptocurrency data is pseudonymous (meaning your identity may be discoverable even if you wish to to remain unknown) rather than truly anonymous (data that cannot be identified).
What exactly does that mean … and why is it important?
First, let's do a quick review of how cryptocurrencies work. Cryptocurrencies, such as Bitcoin, Ethereum, and Dogecoin, are digital forms of payment akin to tokens that you exchange physical currency to obtain. Once acquired, you can exchange the cryptocurrency online for specific goods and services from companies that accept crypto payments. (As of April 2021, More than 6,700 companies have issued their own forms of cryptocurrency, with a total value of more than $2 trillion.)
Cryptocurrencies use blockchain technology to track all transactions. A blockchain is a type of database that stores information in "blocks" forming an encrypted chain of information. As transactions occur, they get recorded as blocks of connected data, forming an immutable chain (thus the term blockchain). With blockchain, you can trace when, where, and how a transaction takes place, amounts paid, and more, including the entities who participated in the transaction.
That last part is critical. You might be thinking, “Wait a minute, I thought the big draw of cryptocurrency is that it’s private. How can it be private if ‘who participated in the transaction’ is known?”
Knowing the entities involved in a transaction is not the same as knowing the real-world identities of those involved. Unlike banks and other traditional financial institutions that are mandated to identify and verify customer identities (a practice called Know Your Customer or KYC), most cryptocurrency exchanges are not obligated to verify customer identities. Instead, Cryptocurrency utilizes encrypted digital identities, and the “real” individuals behind those identities are not necessarily known to anyone. This lack of transparency is one of greatest lures of cryptocurrency. It’s also the chief the source of criticism for many of crypto’s detractors who say the lack of KYC enforcement makes the cryptocurrency exchanges a haven for criminal and terroristic monetary activities.
Are the identities of cryptocurrency users really private?
Let’s examine in a little more depth our opening thesis for this article, “most cryptocurrencies are pseudonymous rather than truly anonymous.” According to Acuant, a California-based identity verification, document authentication, and fraud prevention services provider, the “great paradox of cryptocurrency is that its associated data creates a trail that can suddenly make your entire financial history public information … the addresses which money is sent to and from, the date and time and value of each transaction is all tracked, the only thing which isn’t is the identities of the people behind those addresses.”
Given that, if someone could somehow figure out a method for identifying the real people behind the digital identities, that person would suddenly have a treasure trove of information. Ultimately, say some cryptocurrency experts, the real-word identities of cryptocurrency users can become known, thus their online identities should be viewed more as pseudonyms (ultimately discoverable) rather than as being anonymous.
How might these identities be found out?
In its blog, How Anonymous Is Cryptocurrency?, Acuant suggests that as more and more cryptocurrency transactions take place, a “massive map is being created” that in time may allow analytical tools to link real-world identities to cryptocurrency identities, undermining any notion that cryptocurrency transactions are anonymous. (It’s sort of like when the world learned that Steven King had been publishing under the pseudonym of Richard Bachman for years. Once the “cat was out of the bag,” for all those works once attributed to Bachman, it all seemed so obvious. It had been King all along.)
You might be wondering, “If I’m not a criminal and I’m not doing anything underhanded, what do I care if my identity is known?”
Because blockchain records every transaction detail linked to an identity, your entire financial history—at least as it relates to cryptocurrency—could suddenly become public information, and it can’t be erased. It’s forever. As an individual, do you really want that? As a company, can you afford to have the supposedly private information of your cryptocurrency users exposed?
“The cryptocurrency landscape is ever evolving,” explains intellectual property, business litigation attorney, and certified privacy professional Eric Ludwig of the law firm Ludwig APC of San Diego, California. “From the European Union’s General Data Protection Regulation to the United States’ comprehensive state-by-state approach, governments and regulators are routinely promulgating new standards, especially in the areas of KYC, anti-money laundering, and data privacy. Those who deal in cryptocurrency, whether as a business or as an individual, are well-advised to protect their interests by operating from a place of knowledge and greater understanding. To do otherwise, is to open yourself and your business up to potential data privacy repercussions as well as increased legal and regulatory scrutiny.”
Protect Your Product. Your Business. Your Dreams. Contact Eric Ludwig today for a one-hour consultation to discuss legal issues and concerns you may have around cryptocurrency, blockchain technology, and data privacy. (619) 929-0873 | [email protected]aw.com.