The heat is on for digital currency systems as the unravelling of the Costa Rican operation Liberty Reserve looks set to go down as the biggest money laundering prosecution in history. While there have been no direct allegations made towards outfits such as Bitcoin, its systems are coming under increasing scrutiny and the Liberty Reserve scandal is only going to increase the push for greater regulation.
The scale of the allegations against Liberty Reserve, which handled $US6 billion and transferred by one million users, are huge. Prosecutors described Liberty reserve as a "financial hub of the cyber-crime world; one of the principal means by which cyber criminals around the world distribute, store and launder proceeds of their illegal activity including credit card fraud, identity theft, investment fraud, computer hacking, child pornography and narcotics trafficking."
The fallout shook things up on our shores as well, Westpac Bank has been caught up in the proceedings as they held an alleged $US36.9 million ($38.4 million) in their accounts under the name of Technocash. Westpac has denied any wrongdoing and stresses that they have satisfied all Australian requirements and make rigorous efforts to combat money laundering.
Meanwhile, Technocash, a home-grown operation that facilitates international currency transfers, has shuttered its doors. The company said in June that it was shutting-down the money-moving business, citing the closure of its accounts by Australian banks for making existing operations untenable.
It's a tame end for a local business that had such a promising start. Technocash's launch in 2000 was supported by a government grant and it was heralded as a start-up success story. Director Paul Monsted is adamant that his organisation satisfied all off Australia’s anti-money-laundering and know-your-customer regulations, but he concedes there were a few clients that “got through the net”. Technocash declined an oppotunity to comment for this story.
It is suggested that Liberty Reserve was used almost solely for laundering money, or transferring the proceeds of illegal activity. This is a staggering claim when you think about how many people were using the system. There’s mounting speculation about how the system should have been regulated and if the allegations are true then they had certainly neglected their requirements of verifying the identities of their clients.
A bad look for digital currencies
This has re-ignited debate about how the growing use of digital currencies should be regulated. The rise of digital currency systems has made it easier than ever to move large sums of money across borders. On the surface this should be a boon to efficiency and productivity, but in line with these developments we have seen large-scale money laundering, as in the case of Liberty Reserve.
The issue of anonymity is what brought Bitcoin to the fore in both popularity and scrutiny from regulators. Bitcoin’s systems are novel and unique and so far its users have been able to maintain their anonymity as there are no regulations to do deal with the P2P transfers of an intangible commodity.
US regulators have been equally as resourceful as they’ve begun targeting the entry and exit points of Bitcoins into real currency. Exchanges such as Mt Gox have been forced to tighten up their identity requirements. “It’s our responsibility to provide a trusted and legal exchange, and that includes making sure that we are operating within strict anti-money laundering rules and preventing other malicious activity,” Mt Gox said in a recent press release.
This wild-west environment seemingly pits the cowboys against the Sherriff; the anti-establishment hackers against the might of the US government. A bloody shoot-out with excessive force used by both sides is not going to benefit anybody, least of all the legitimate customer who simply wants to send money home. Instead what’s needed is calm and professional mediation. We need a better understanding of these digital systems by regulators and we need to be sure their actions are not motivated by the vested interests of those afraid of losing market share.
Avoiding a knee-jerk response
A knee-jerk reaction by regulators could have devastating impacts on this fledgling industry, which has the potential to offer huge efficiency gains to many businesses. And you only need to look as far as our corporate regulator to see how not to do things.
The Australian Securities and Investment Commission (ASIC) recently admitted blocking an IP address in an attempt to shut-down a website offering fraudulent financial advice. The result was that all of the 250,000 websites under that IP address were shut-down, many of which were legitimate. This action taken using section 313 of the Telecommunications Act and the somewhat mysterious interpretation of this 15 year old Act has been used by ASIC 10 times over the past year to the block IP addresses of fraudulent websites.
Their use of the Act has not been fully explained, neither has their choice to block entire IP addresses rather than simply the specific domain names of the offenders. All in all, a clear example of the care with which regulators must approach the realm of digital commerce.
All systems that go online will have their teething problems. The banks had theirs, as did credit card companies. The important thing is that at this infant stage they are nurtured. The Liberty Reserve scandal is a big one, but this is only one operator in a large, and growing, industry.
And there is a key difference between Liberty Reserve and Bitcoin that we must not forget. Liberty Reserve was a central authority controlling their own currency. They had sight of all transactions coming in and going out and they had ample opportunity to monitor the identity of those transferring real currency. On the other hand, Bitcoin is a P2P network and is based around a lack of centralisation. Bitcoins aren’t a real currency; they are an intangible means of exchange.
Money market regulators are having a tough time dealing with that distinction.
It seems that Bitcoin’s longevity and acceptance by the mainstream will hinge on its willingness to meet regulators somewhere in the middle.