Cryptocurrency and War

Bitcoin fell to a low of $A48,000 on 24 February as Russian tanks crossed the Ukraine border, down 22 per cent from $A62,000 on 16 February. As sanctions followed, Bitcoin recovered somewhat, adding 8 per cent to $A52,000 as of writing, albeit still markedly down from mid-February when geopolitical turmoil started infecting global markets.

The overall crypto market cap followed suit, falling from $A2.76 trillion down to $A2.16 trillion, rising back to $A2.37 trillion, according to the coinmarketcap.com website. In comparison, underlining crypto’s relative volatility, the ASX200 fell just 4 per cent from 7285 on 16 February to 6998 on 25 February.

The impact of Russian adventurism on crypto asset prices is one thing. But what about the potential for crypto to play a meaningful role for both sides of the conflict? How might either side use digital assets to mitigate the adverse impacts on their monetary systems arising from the invasion?

In Russia’s case, the sanctions announced so far will make it more difficult for the Russian state, business sector and citizens to transact with the outside world. As of writing, the US, UK, France, Italy, Canada, and the European Commission have just announced the suspension of selected Russian banks from SWIFT, the global messaging network that underpins cross-border monetary flows between financial institutions (FIs). This is despite the difficulty that Western entities would face paying for Russian goods and services or repatriating any Russian investments locked inside the Russian financial system due to the suspensions.

For the uninitiated, SWIFT is the de-facto international messaging network for cross-border money flows that allows banks and FIs to authorise and clear payments across borders. The actual funds are settled between correspondent banks, but SWIFT provides the electronic messaging that enables those fund transfers to be made. SWIFT is domiciled in Belgian and subject to EU law, so any suspensions must be imposed by European regulators, such as when the EU forced SWIFT to disconnect certain Iranian banks in 2012.

Russia does have its own homegrown “SWIFT”-lite network, called SPFS, but the majority of its connected member banks are Russian, and so its ability to counteract any suspension from SWIFT is limited.

Bitcoin however, as an entirely permissionless and decentralised network, could certainly act as a way to make payments into and out of Russia, if traditional rails such as SWIFT are denied to Russian actors for payments using fiat currency. The only requirement to send or receive Bitcoin (or any crypto token) is access to the global Internet. In Bitcoin’s case, there is no centralised entity that controls Bitcoin and so it is logistically challenging to “shut it down” for sanctions or any other purpose.

If any Bitcoin sent or received in either direction isn’t converted into fiat currency via an exchange, then identifying the source and destination of the wallets involved is difficult, although regulators and law enforcement agencies will try. It’s conceivable that state authorities might pass laws to compel miners to withhold valid Bitcoin transactions from the normal process of verifying blocks to be added to the Bitcoin ledger. But this would likely result in miners from outside the reach of such laws to verify those blocks anyway as Bitcoin’s protocol naturally incentivizes this.

In jurisdictions where exchanges are under the direct oversight of regulators and law enforcement agencies, then identifying the owners of wallets is easier if appropriate “know your customer” (KYC) procedures are being enforced by the exchange operators. Digital assets that remain on those exchanges can be seized, and assets transferred to customer wallets traced.

Another potential use case for Russia to skirt sanctions efforts is to mine Bitcoin or another “proof-of-work” (PoW) token. According to BP, Russia is the world’s largest net exporter of oil and natural gas combined. Russia could use some of this excess energy to mine Bitcoin within its borders. This is straight from the Iranian playbook according to Elliptic, who estimates that Iranian miners represent an estimated 4.5 per cent of the world’s mining capacity. 

Anyone, including the Russian state can mine Bitcoin if they possess suitable mining equipment and the energy to power the machines. There is no central authority that “approves” miners to do so. Bitcoin is permissionless by design, which means that it can mine and/or be used for purposes that may be nefarious, as well as beneficial to humanity. Whether this is a good or bad thing has always been a fierce debate and Bitcoin proponents certainly argue that state-empowered fiat currency comes with its own set of pros and cons as much as Bitcoin or other crypto.

Looking at it from the perspective of the Ukraine state, its financial institutions, corporations and citizens, Bitcoin and other crypto assets provide alternate means of payment and stores of wealth that are readily transferable across borders without risk of theft or forced release. Because knowledge of the 256-digit private key to a wallet address where Bitcoin “exists” is all that is required to move the value held at that address, anybody who remembers the private key (or in Bitcoin’s case, the 12 or 24 word “seed” phrase that represents the private key) owns the Bitcoin.

It’s not even necessary to retain the hardware or software wallet that generated the original wallet address if the private key is known. Access can be re-established from any Internet-connected device worldwide using any of the numerous wallet solutions available. Digital assets represent a highly secure and practical way to move funds across borders without the risk of seizure (other than being forced to reveal the private key or seed phrase under duress). Cash and gold pale in comparison, logistically speaking.

The emergence of digital assets both centralised and decentralised provide new ways for conflict participants to circumvent regulatory or enforcement actions, escape the clutches of seizure or even generate income through proof-of-work mining. Bitcoin especially, given its entirely permissionless and decentralised nature, is an enabling technology freely available to anyone, no matter the nature of their intentions.