TORNADO CASH: SO WHAT'S THE STORY?

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26 Aug 2022

Crypto privacy mixer Tornado Cash has been sanctioned by the U.S. for involvement in money laundering while its developer has been arrested.

At the same time, there’s a long list of crypto advocates who have condemned the sanctions: Kraken CEO Jesse Powell, crypto policy non-profit Coin Center, and others. The demonstration in support of the arrested Alex Pertsev will be held on August 20th in Amsterdam to prevent a dangerous precedent, as developers could now be made responsible if software they created is misused.

👀 Before diving deeper, let’s see what Tornado Cash is and how it works.

Tornado Cash – as all other coin mixers – uses smart contracts to accept token deposits (ETH, DAI, cDAI, USDC, USDT, WBTC) from one address and enable their withdrawal from a different address. These smart contracts work as a pool where all the deposited tokens get mixed together. When funds are withdrawn from those pools, the on-chain link between the source and the destination is broken, anonymizing the transaction. Network options include Ethereum, Binance Smart Chain, Polygon, and Ethereum Goerli (a test network).

In two words, Tornado Cash is a blockchain protocol for sending and receiving anonymous transactions, which uses Zero-Knowledge Succinct Non-Interactive Argument of Knowledge (also called zk-SNARK).

Privacy advocates argue that coin mixers are especially useful, even necessary, in cases where a person's activities—like journalism, civil disobedience, and protest—can put that person at risk. Because of this, they require greater privacy in their crypto transactions.

On the other hand, law enforcement and government agencies see coin mixers as a way for criminals to launder money using cryptocurrency and services like Tornado Cash to obscure where the funds originated.

According to Elliptic, over $7 billion in cryptocurrency have gone through Tornado Cash since its launch in 2019, with around 20% of those funds tied to illicit activity.

Turns out that coin mixers occupy a gray area between facilitating money laundering and preserving the right to privacy...

Tornado Cash is now the second cryptocurrency mixer to be effectively cut off from the US financial system. In May, the Treasury Department added Blender. io to its sanctions list.

Privacy mixers play an important role in protecting a personal life of users and investors. So how does it happen that Tornado Cash is under the U.S. sanctions for involvement in money laundering?

Just during 2022, the platform was used (completely or partially) as a «laundromat» for stolen crypto assets when:

January: $8 million was stolen from one of hot wallets on Liechtenstein-registered LCX Exchange;

January: $15 million (4.600 ETH) was lost by Crypto. com;

March: $625 million was stolen from Axie Infinity in the Ronin Bridge attack by the North Korean cybercriminals Lazarus Group (one of the largest hacks in the history of the crypto industry);

💬 After that, Tornado Cash applied Chainalysis oracle contract to block the Office of Foreign Assets Control (OFAC) sanctioned addresses from accessing the DApp. However, this affected just the website frontend, the contract remained permissionless.

April: Beanstalk Farms lost $182 million;

June: in the result of an attack on the Horizon bridge in the Harmony ecosystem $100 million was stolen (by the same Lazarus Group);

July: $6 million was stolen from the Audius community treasury;

August: $7.8 million was stolen in the attack on crosschain protocol Nomad.

❗️Per Chainalysis, Tornado Cash has handled more than $3.5 billion overall, of which up to $1.2 billion is directly related to theft, break-ins, and other illegal transactions.

On August 8, OFAC prohibited all U.S. persons and entities from interacting with Tornado Cash or any of the Ethereum wallet addresses tied to the protocol.

💡 Interesting: after that, someone was trolling celebs by sending them a slew of ETH from Tornado Cash implicating them in a potential regulatory mess. Affected wallets include those controlled by: Coinbase CEO Brian Armstrong, TV host Jimmy Fallon, clothing brand Puma, Beeple and comedian Dave Chappelle.

Alchemy, Infura, and dYdX limited access to the platform for users who have previously interacted with Tornado Cash, but the community immediately criticized the projects for the detriment of decentralization.

Are the U.S. sanctions on Tornado the beginning of a war on privacy?

Open source code is not a crime ©️

After the U.S. Treasury Department sanctioned Tornado Cash on August 8, crypto and privacy advocates took it as a call to action.

Who's publicly confronted the sanctions and the arrest, and what arguments they have:

🌀 On August 20, about 50 people gathered in Amsterdam to protest the arrest of the blockchain developer Alexey Pertsev. The Netherlands’ Fiscal Information and Investigation Service (FIOD) arrested him on suspicion of involvement in concealing criminal financial flows and facilitating money laundering.

🌀 Roman Buzko of law firm Buzko Krasnov:
“It’s a case where the fundamental principle of crypto is being questioned. The case concerns whether code is an expression of free speech. In my view, it is.”

🌀 The Electronic Frontier Foundation, a digital rights organization founded over three decades ago, has the same view:
"EFF is deeply concerned that the U.S. Treasury Department has included an open-source computer project, Tornado Cash, on its list of sanctioned individuals. Code has long been recognized as speech, so there are clear First Amendment implications whenever the government inhibits the publication of computer code on a public website."

🌀 Web3 developer Naomi Schettini:
“Alex is just a developer. They should be going after the true criminals. Pertsev is not responsible for criminals using his code for doing illicit activity. That’s like saying the inventor of the knife is responsible for murders. It’s truly ridiculous.”

🌀 Jesse Powell, chief executive officer of the digital-asset exchange Kraken:
"US Treasury Department actions to shut the Tornado Cash crypto-mixing service may be unconstitutional. People have a right to financial privacy. We’ll see if it survives a challenge in court. The code repositories were taken down, a step I think was not necessary. This is mostly a knee jerk, recently to what happened to UST and Luna."

🌀 The Washington, D.C.-based advocacy crypto policy group Coin Center's Jerry Brito and Peter Van Valkenburgh also said:
The Treasury's Office of Foreign Assets Control (OFAC) overstepped by adding Tornado Cash smart contract addresses to its specially designated nationals and blocked persons list. "This action potentially violates constitutional rights to due process and free speech, and that OFAC has not adequately acted to mitigate the foreseeable impact its action would have on innocent Americans," they wrote

To be continued.........