Sophisticated blockchain analysis is enabling organisations and law enforcement agencies to work together to combat illicit activity, unlocking the true value of cryptocurrency for the masses
The last decade has brought enormous growth in the adoption of cryptocurrency, from individual consumers and investors to businesses and institutions. Beginning life primarily as an alternative currency based on digital blockchain technology, use cases have proliferated in more recent years, with a big variety of projects now actively using or planning to use the technology.
Blockchain is set to revolutionise how we live and transact, and transform a range of different industries, far beyond the sectors most in the spotlight right now, such as art and gaming. But such is life that whenever a powerful new innovation is developed to help bring about positive changes globally, there are people who also seek to exploit those powers for nefarious means.
Criminals use cryptocurrencies for the same reason that millions of people use them for legitimate purposes: they are instantaneous, cross-border and liquid. The 2022 Crypto Crime Report from Chainalysis shows cryptocurrency-based crime hit an all-time high in 2021 when illicit addresses received $14bn, up from $7.8bn in 2020 and $4.6bn in 2017.
With opportunities for significant rewards, cybercriminals are becoming increasingly sophisticated in their techniques, including new and unfamiliar technologies. Scams have long been the largest segment by transaction volume and represent a significant threat to trust in the space, robbing victims of $7.7bn worth of cryptocurrency in 2021 alone. Within this growing landscape, ‘rug pulls’ have emerged as the go-to technique of the decentralised finance (DeFi) ecosystem.
Rug pulls are where the developers of a cryptocurrency project abandon the token and take users’ funds with them. They accounted for 37% of all cryptocurrency scam revenue in 2021, up from just 1% in 2020. Around $3.2bn worth of cryptocurrency was stolen in 2021, a 516% leap compared to 2020, with 72% of that stolen from DeFi protocols.
This is not surprising given the mammoth 912% growth in DeFi transaction volume in 2021, with the incredible returns on decentralised tokens like Shiba Inu encouraging many to speculate. It’s easy for those with the right technical skills to create new DeFi tokens and get them listed on exchanges, even without a code audit to publicly confirm that the contract’s governance rules are iron-clad and contain no mechanisms that would allow for the developers to make off with investors’ funds. A lack of regulation has left people wide open to these scams.
However, the report by Chainalysis also reveals that while cryptocurrency crime is growing in volume, it is shrinking as an overall proportion of the cryptocurrency ecosystem. Transactions involving illicit addresses represented just 0.15% of cryptocurrency transaction volume in 2021, nearly 10 times lower than in 2017. This shows significant progress is now being made.
“Though this shrinking proportion is partly due to the rapidly growing rate of crypto adoption, it’s also because law enforcement’s ability to combat crypto-based crime has evolved too, with the tools at their disposal improving all the time,” says Michael Gronager, co-founder and CEO of Chainalysis, whose cryptocurrency investigation and compliance solutions help law enforcement agencies, regulators and businesses as they work together to fight illicit cryptocurrency activity.
“Law enforcement agencies also not only have more and more resources, as well as experience, to handle cases involving cryptocurrencies, but they have been increasingly able to seize illicitly obtained cryptocurrency. In November 2021, the IRS Criminal Investigations announced it had seized over $3.5bn worth of cryptocurrency in 2021, all from non-tax investigations, representing 93% of all funds seized by the division during that time.”
The ability to track and recover assets is crucial as it destroys the financial incentive to carry out further attacks. Other examples include $56m seized by the Department of Justice in a cryptocurrency scam investigation and $2.3m from the ransomware group behind the Colonial Pipeline attack.
Yet despite the clear progress, there is still a long way to go in fighting illicit cryptocurrency activity. Criminal abuse of cryptocurrency creates huge impediments for continued adoption of this revolutionary technology, heightens the likelihood of restrictions being imposed by governments, and, worst of all, victimises many innocent people around the world.
One of the most common misconceptions about cryptocurrency is that it is totally anonymous and untraceable, when in fact the opposite is true: cryptocurrencies present unprecedented transparency. They are the first global payment systems outside of any organisation’s control and their blockchains create public, permanent records of transactions. The challenge is that the public blockchain ledger is very difficult to interpret, driving a need for better blockchain analysis.
“That’s where we come in,” says Gronager. “At its core, Chainalysis is a data platform. Our data links cryptocurrency transactions with their real-world services.” Chainalysis provides this data, as well as software, services and research, to government agencies, exchanges, financial institutions and insurance and cybersecurity companies in over 70 countries. Seeing which real-world entities transact with each other enables the organisations to work together to solve the world’s most high-profile criminal cases and grow consumer access to cryptocurrency safely.
For example, Chanalysis can show that a given transaction took place between two different cryptocurrency exchanges, or between a cryptocurrency exchange and an illicit entity, such as a sanctioned individual or organisation. With blockchain analysis tools and KYC information, law enforcement can gain transparency into blockchain activity in ways not possible in traditional finance. Likewise, with transaction monitoring, cryptocurrency exchanges and financial institutions can flag high-risk activity and fulfil their regulatory obligations to then report them.
“By working from the same Chainalysis blockchain data, our public and private sector customers can collaborate more efficiently when investigating illicit activity,” Gronager adds. “Our mission is to build trust in blockchains to promote more financial freedom with less risk. We believe transparency is critical to weeding out bad actors and building this trust in blockchains, which will ultimately pave the way for more mainstream adoption of transformative cryptocurrencies.”
For more information, visit chainalysis.com
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