The US is concerned about use of cryptocurrencies to avoid sanctions. Let's take a look.

Concerns mount

  • Computerworld: Russia is likely using cryptocurrency to thwart sanctions
  • New York Times: Russia Could Use Cryptocurrency to Mitigate US Sanctions
  • Ethereum World News: EU, US Concerned Russia May Use Crypto to Avoid Sanctions

Those articles are from February and early March.

On March 17, Bloomberg reported Crypto Experts Say No Evidence of Major Russia Sanctions 

Former Ethereum developer Virgil Griffith gets 63 months in prison

On April 12, Yahoo! News reported Former Ethereum developer Virgil Griffith gets 63 months in prison

Former Ethereum developer Virgil Griffith was sentenced to prison and fined US$100,000 for violating international sanctions against North Korea by speaking at a cryptocurrency conference in the Hermit Kingdom in April 2019.

At the conference, Griffith explained blockchain technology’s use in money laundering to evade sanctions

His crime, if you call it that, was instructing North Korea on how to use cryptocurrencies to avoid sanctions. 

He pleaded to avoid a maximum 20-year sentence for violations against the International Emergency Economic Powers Act, a dubious law to say the least. 

He will now go to prison for discussing what was already widely known to the underworld.  I rather doubt he presented anything that was not already widely known in Russia and North Korea. 

Worry about Ethereum, not the renminbi

Eurointelligence comments Worry About Ethereum, Not the Renminbi.

This is a story that appears at first as outside of our reservation, but we think it has a deep significance for a debate that is well inside. A young American programmer has been jailed by a New York court for 63 months. The reason is that he accepted an invitation to go to North Korea, where he gave a presentation to the Pyongyang blockchain and cryptocurrency conference. 

The interesting bit about this story is the implicit recognition that you can use the Ethereum blockchain to evade sanctions. But trying to keep that information secret seems rather pointless to us. Not everybody understands this stuff, but the information is all out in the open. Unlike the North Koreans, the Russians are tech-savvy. If the North Koreans can evade sanctions through blockchain, so can the Russians. If the attempt to explain how it works carries a long prison sentence, we should probably assume that there this is a real threat.

At this point, let's cut to what appears to be an unrelated debate: on the impact of the current Russia sanctions on the future role of the US dollar as the world leading currency. We have heard a number of US commentators argue that it won't have an impact at all. We believe that this is also the view of the US Treasury. The argument is most cogently formulated by Michael Pettis who cites three reasons: there is no available alternative now; no other country/region of the world is willing to incur large current account deficits to absorb the associated costs that come with that; and the global economy would otherwise go through a very disruptive restructuring shock.

Unlike the North Koreans, the Russians have demonstrated in the last few weeks that they are already experts at evading sanctions. When economists talk about the dollar as a global currency, they stay within the framework they normally use: that of monopolistic fiat currencies issued by central banks. There is no threat to the dollar from another currency, like China's renminbi. Pettis is an expert on China and knows that the country is not willing to run large and sustained current account deficits, and liberalise capital flows to boost the role of the renminbi.

Cryptocurrencies have one characteristics of gold: limited growth in supply. But unlike gold, they can be used in complex cross-border transactions directly. It is the first financial system in human history not backed or controlled by a central authority. The dollar will remain the largest global currency. Nobody will challenge the dollar in our analogue metaverse. But it will become progressively harder for the US to use the role of the dollar to force the world to comply with its will. You can't jail all the programmers.

Siding with Pettis

I still side with Pettis. 

Nonetheless, the last paragraph of Eurointelligence rings true: "Nobody will challenge the dollar in our analogue metaverse. But it will become progressively harder for the US to use the role of the dollar to force the world to comply with its will. You can't jail all the programmers."

However, Eurointelligence missed the boat in one paragraph I left out. Here it is.

The bigger threat comes from disruptive technologies like blockchain, which allows people to engage in financial transactions without interfacing our current global financial markets, over which the US exerts significant control. For as long as you don't try to convert your bitcoin or ether into dollars, and remain inside a crypto-based economic system, there is nothing the US can do on the financial side to stop you. 

Q: What's wrong with the paragraph? 
A: Nothing at all.

Indeed it is a point that I have made repeatedly: "For as long as you don't try to convert your bitcoin or ether into dollars, and remain inside a crypto-based economic system, there is nothing the US can do on the financial side to stop you."

Inherent Crypto weakness

Bingo. 

That sentence is the inherent weakness of the crypto universe. 

As long as you don't try to convert cryptos into dollars or euros you are fine.

For now, there are ways to escape detection. The same applies to SWIFT, the international payment notification system the US has sanctioned.

Via multiple account linkages, perhaps through China, India or other countries that do not enforce US sanctions, Russia can avoid SWIFT sanctions as well.

Understanding sanction evasion

Evasion holes are everywhere. Cryptos are simply another hole.

Right now, the US, EU, etc. have sanctioned individuals and countries. Avoidance is by escaping detection.

The way to plug the hole is to block dollar movements into or out of cryptos totally.

Sanctions on individuals or countries don't work. Total blocking of monetary transactions into or out of cryptos is the real threat. 

High taxes might have a similar impact. Buying anything with Bitcoin constitutes a sale of Bitcoin. It is a taxable event. 

Hunt brother silver cornering 

The Hunt Brother Silver Cornering collapse also comes to mind.  At one point the Hunt Brothers controlled most of the silver in the world.

Federal commodities regulators then introduced special rules to prevent any more long position contracts from being written or sold for silver futures. Shorts piled on. The price collapsed. 

There are many ways governments can crush Bitcoin but a blanket prohibition of selling Bitcoin for cash coupled with merchant restrictions is the easiest to envision.

No one confiscators the bitcoins, and no one stops mining. You just have no way of buying anything with cryptos other than peer-to-peer barter.

No matter how many times I repeat this, Bitcoin bulls dismiss it as impossible. It's not impossible. 

How likely is this scenario? 

I do not know. Perhaps it's "never". But the threat is real. All it takes is the Fed or the US government to feel threatened by crypto use. The likely reasons are fraud prevention and energy usage.

If transactions were banned, Bitcoin would crash, instantly. Meanwhile, the higher the price of Bitcoin, the more likely a crackdown will happen.

A bitcoin crash would ease the threat. 

With that, let's return to sanctions, sanction avoidance, and weaponizing the US dollar.

Janet Yellen warns China on Russia and creating a bipolar global financial system

Let's tune into a speech by Treasury Secretary Janet Yellen in which she warned China about cooperating with Russia.

Many people thought this was in relation to the US dollar as the world's reserve currency. 

It wasn't. It was about evading sanctions.

For discussion, please see Janet Yellen Warns China on Russia and Creating a Bipolar Global Financial System

Treasury Secretary Yellen is worried about Russia avoiding sanctions via China, India, etc. Numerous countries will establish ways of avoiding the US dictating sanction policy for the world.

Ethereum and Bitcoin are just two more methods. But is "for now" or "forever"?

What does China do with a dollar that's no longer risk free? Buy gold?

To understand the difficulty in escaping the dollar, please see What Does China Do With a Dollar That's No Longer Risk Free? Buy Gold?

To tie all of this together, please see US Sanction Policy Forces Russia to Default. Let's Go Over the Ramifications

Although I would like to see a 100% gold-backed currency, no country will accept the  fiscal and trade discipline conditions that commodity backing of currency requires.

This material is based upon information that Sitka Pacific Capital Management considers reliable and endeavors to keep current, Sitka Pacific Capital Management does not assure that this material is accurate, current or complete, and it should not be relied upon as such.

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