Sanctions-busting role of cryptos is limited, for now
There are growing fears in the West that the Russian government will use cryptocurrencies to evade sanctions
Updated: Apr 21, 2022
Ukraine war has hardened rifts on crypto regulations · All Updates
Singapore’s foreign ministry on March 5 imposed financial sanctions on Russia, including restrictions on cryptocurrency transactions. The United States, EU and their allies fear cryptos offer a loophole through which Russia will evade Western sanctions. However, these fears are likely overblown in the short term, given the extensive scale of the latest Western sanctions, improving monitoring of crypto transactions and the availability of alternative, if fledgling conventional Russian and Chinese cross-border payments systems.
What next
Russia is unlikely to be able to use cryptocurrencies to evade sanctions at scale and undetected. Individual Russians will continue to use cryptos to protect their savings from the effects of the ruble's plunge against the dollar. The use of cryptos for sanctions-busting will have salience in the longer term as global adoption grows. Western governments will use current concerns to impose closer supervision on cryptos, and accelerate the development of central bank digital currencies (CBDCs).
Subsidiary Impacts
- Ransomware attacks by Russian state-linked actors to raise crypto funds could increase.
- More crypto wallet addresses will be named as sanctioned entities, setting off a 'whack-a-mole' chain as owners move to new addresses.
- Autocratic regimes will find it more challenging than democracies to adopt decentralised finance.
Analysis
Leading cryptocurrency exchanges including Binance, Coinbase and Kraken have rejected calls by Ukrainian Deputy Prime Minister Mykhailo Fedorov and other officials for them to freeze the blockchain accounts of all users from Russia and Belarus, not just addresses linked to sanctioned politicians and oligarchs.
The US administration will likely turn to the courts to secure the legal authority to make exchanges do more. Binance, Coinbase and Kraken are signalling they will not fight such court orders, albeit reluctantly.
The libertarian reaction of the crypto world against falling in line with Western nations' efforts to isolate Moscow from international financial systems is likely to reinforce governments' determination to place a largely unregulated sector under tighter supervision.
Split industry values
Developments in the crypto sector raise questions about whether corporate social responsibility changes during times of war -- an issue that the millennial and younger generations, the primary adopters of cryptos, have not had to address previously, and whether even avowedly disruptive industries like cryptos can ignore the role of morality in international business.
The CEO of US-based crypto exchange Kraken, Jesse Powell, has tweeted that his company's mission to get people out of the legacy financial system and into cryptos would be better served by focusing on individual needs, rather than any government's. His comment that he would sooner cut off US than Russian accounts because of US aggression caused a backlash from US customers, underlining the reputational risks to companies from the shift in attitudes because of Ukraine.
Russia is a significant market for Cayman Islands-based Binance, the largest of the crypto exchanges and the past subject of money-laundering investigations by the US and UK governments. Its Russian-language Telegram channel has more than 113,000 members. Binance has pledged to donate at least USD10mn to humanitarian relief for refugees.
Tech opinion is not undivided:
- One of Ethereum's largest mining pools has cut off Russian miners.
- DMarket, a Ukrainian NFT and metaverse platform, has frozen Russian and Belarusian users' accounts. A cryptos channel for international donations to help Ukraine has been set up.
- Ukraine's government says it will issue non-fungible tokens to fund military operations -- possibly the first crypto war bond.
Fedorov has been relentless on Twitter in encouraging US tech corporations (including consumer-facing digital services such as video gaming, e-sports and social media) to join other Western companies and suspend business operations in Russia. Facebook and Microsoft are among those that have done so (see INT: Ukraine creates new challenges for tech companies - March 3, 2022).
Market reaction
The initial reaction of financial markets after Russia launched its invasion on February 24 was an investor flight to traditional safe-haven assets such as the dollar and gold. Bitcoin, the emblematic cryptocurrency, was treated as a risky asset and experienced a sharp price fall.
After a modest rally as Russian and Ukrainian individuals converted domestic currency savings into cryptos in an attempt to preserve their value in the face of plunging ruble and hryvnia exchange rates against the dollar, bitcoin and other cryptos fell again as fighting escalated.
One of the investment appeals claimed for cryptocurrency has been that its price movements do not correlate with other financial assets. That no longer seems to hold, probably because of the increasing involvement of institutional investors.
Sanctions-busting
There has been no significant evidence that the Russian state is using cryptos to avoid the latest round of sanctions. It is, however, early for such evidence to appear, and as Russia has been sanction-proofing its economy since 2014, any large-scale movement of oligarch, elite and state wealth into cryptocurrencies would have occurred long before the invasion.
Russia's rich probably turned their wealth into cryptos before the invasion began
In October, President Vladimir Putin made a rare public comment on the possibility of accepting cryptos as payment for energy exports to reduce dependency on the dollar, although his support was lukewarm. The Russian central bank is known to be skeptical, although it announced a vague pilot of a digital ruble last month.
Russia has banned the domestic use of cryptos as a means of payment since 2020. It has also, like China, accelerated the development of its fledgling SWIFT rival, the Financial Message Transfer System (see RUSSIA/CHINA: Moscow will seek alternative payments - December 16, 2021).
Last months, attempts were made to use bitcoin to get around Canadian financial restrictions on foreign donations to protesting truck drivers. Ottawa sanctioned 34 crypto wallets linked to protest participants. A private lawsuit, using a remedy available under Canadian but not US law, effectively froze them. While intended recipients received bitcoin transfers from the United States, the court order that resulted from the private lawsuit meant they were not able to convert them into spendable Canadian dollars through exchanges. Authorities were able to detect such monies.
Transparency
Law enforcement shows a growing ability to seize cryptocurrency from criminals, disproving the narrative that cryptocurrency is an untraceable and unseizable asset (see INT: Cryptos are uncertain bet amid Russian invasion - March 2, 2022 and see US: Crypto seizure underlines key criminality trends - February 10, 2022).
Blockchain transparency limits large-scale money laundering
The use of cryptos might mitigate sanctions for Russians, but the liquidity of cryptocurrencies is still inadequate to absorb the volumes of currency needed to abate the sanctions or finance a war. Russia has a well-entrenched criminal crypto infrastructure that laundered the equivalent of USD700mn in 2021 and accounted for three-quarters of ransomware revenue, according to Chainalysis, a crypto research firm. That is still a tiny part of the USD1tn-plus economy.
Even if Russia's crypto exchanges could handle much larger sums, the transactions volume would be self-evident. Perversely, blockchains' transparency makes large-scale money laundering for purposes of crime or sanctions-busting easier to spot than that done in fiat currencies, which can be buried in networks of foreign banks and shell corporations.
Regulation
It is a sign of cryptos' maturity that they can be considered a sanctions-busting tool but have evolved to a point where sanctions enforcers can monitor them. Financial regulators will seek to enhance their capacity to bring cryptos into the regulatory regimes for financial assets like equities rather than currencies, and accelerate work on CBDCs (see INTERNATIONAL: CBDCs lag carries financial risks - November 3, 2021).
Turf wars between regulatory agencies may slow progress in the United States.
In Europe, ECB President Christine Lagarde has called for the EU's Markets in Crypto Assets (MiCA) legislation, which would establish a regulatory framework for cryptos similar to that for securities markets and investment intermediaries, to be passed as quickly as possible.
