Bitcoin has never been a truly confidential cryptocurrency. BTC addresses can be associated with IP addresses and other user information using the analytic services CipherTrace, Chainalysis, and Crystal.
Transaction history of the largest cryptocurrencies is in the public domain, so any user can get the addresses and balances of senders and recipients. Analysis of transactions in the blockchain can provide information that allows deanonymizing the user. Disclosure of personal data can be avoided, but it will require a lot of effort from the user.
The pseudonymity of cryptocurrencies has led community members to develop truly anonymous altcoins.
Cases of using anonymous cryptocurrencies for extortion, demands for ransom and payments on the darknet have undermined their reputation in the community. And although criminals can use anonymous cryptocurrencies, their main goal is to protect personal data.
Anonymous cryptocurrencies are needed by anyone who values the privacy and confidentiality of financial transactions. To business – to preserve sensitive transaction information, to individuals – to ensure privacy.
The first anonymous cryptocurrency, Bytecoin, was released in 2012. Since then, several such cryptocurrencies have appeared. Monero, Dash, Zcash, Beam, and Grin gained popularity.
To ensure confidentiality, Monero uses ring signatures and stealth addresses that hide coins, transaction amounts, and recipient addresses. The disadvantages of Monero are the large transaction size and scalability issues. The Monero blockchain is five times the Bitcoin blockchain in terms of one transaction.
Zcash uses the zk-SNARKs zero-knowledge proof protocol . Anonymous transactions in Zcash can only be performed with encrypted z-addresses that are not visible on the blockchain. During such transactions, funds are burned and exchanged for new coins.
The disadvantages of Zcash are the complexity of zk-SNARKs technology and the need for a trusted setup. The creators of the cryptocurrency used random parameters to initially configure zk-SNARKs. If these parameters fall into the hands of an attacker, he will be able to fake data on the network. In addition, the Zcash blockchain is eight times the Bitcoin blockchain in terms of one transaction.
The anonymous cryptocurrency Dash uses the PrivateSend mechanism, which shuffles the coins of several users and combines them into one transaction. Mixing occurs on master nodes. After mixing, it is practically impossible to track the sender and recipient, but the master node remains with information about them. For this reason, Dash cannot be considered completely confidential cryptocurrency.
In January 2019, two cryptocurrencies were released based on the MimbleWimble protocol. The main Beam network was launched on January 3, and Grin on January 15.
The MimbleWimble protocol uses the elliptic curve method for signing transactions, as well as the Confidential Transactions and CoinJoin mechanisms. Confidential Transactions hides the addresses and amounts of transfers from outsiders, and CoinJoin combines several transactions into one, mixing transactional inputs and outputs.
MimbleWimble has no familiar addresses – instead, wallets exchange data with each other. At the same time, MimbleWimble-based blockchains do not store transaction history. They record information about the owners and condition of the coins. According to Beam developers, such blockchains will be at least three times smaller than the Bitcoin blockchain.
How anonymous cryptocurrencies solve business problems
For business, privacy and speed of financial transactions are important. The largest cryptocurrencies do not always cope with these tasks.
According to CEO of Beam project Alexander Zeidelson, the main problem of most cryptocurrencies is the lack of privacy.
“Everything that happens on the blockchain can be analyzed. Suppose Alyosha gave Masha 10 BTC. Now he knows the address of her wallet and can find information about the financial life of Masha in the blockchain browser. Masha’s transaction history shows how many bitcoins she has and what she spends them on , ”he explains.
Lack of anonymity when making payments can damage the business. When using fiat money, only the tax service can access the company’s financial statements. In the blockchain, data will be available to all users, including competitors and attackers.
“In the absence of financial confidentiality, competitors can track how much the company pays employees, with whom and at what price makes deals,” comments Alexander Zaidelson.
Bitcoin users can be deanonymized after reusing the address or passing verification on the exchange. In the case of anonymous cryptocurrencies, such a situation is impossible. They use cryptographic protocols that complicate the audit of network data. The wallet address of an anonymous cryptocurrency can only be disclosed by its owner.
The adoption of cryptocurrencies by a business is also affected by the speed of transactions in the blockchain. In 2018, the Bitcoin network processed seven transactions per second, Visa – 24 thousand.
Transactions in Dash and Monero networks are larger due to the use of ring signatures when hiding user data. At the same time, the transaction processing speed of these altcoins is higher than that of bitcoin but is still not comparable with large processors like Visa.
The issue of scaling anonymous cryptocurrencies has not yet been resolved. One of the promising solutions is the MimbleWimble protocol, which is used by Beam and Grin cryptocurrencies. According to Beam developers, the MimbleWimble protocol in combination with the Lightning Network can facilitate the adoption of anonymous cryptocurrencies by the business.
An important role in the distribution of anonymous cryptocurrencies is played by regulatory issues. States cannot track transactions of anonymous cryptocurrencies and therefore disapprove of anonymous altcoins, and sometimes even completely forbid them.
In 2018, anonymous crypto trading was banned in South Korea, and anonymous cryptocurrencies themselves were banned in Japan. The US Secret Service announced the need to counter their spread.
The effectiveness of such prohibitions is mixed.
“Japan has banned trading on exchanges with anonymous cryptocurrencies. Does this mean that Japanese citizens have ceased to own them? No, now Japanese citizens will buy anonymous altcoins on other sites, and not on Japanese cryptocurrency exchanges. And it’s impossible to prevent this,” commented Alexander Zaidelson.
CTO Beam Alex Romanov believes that the state should regulate economic activity, not cryptocurrencies.
“The phrase“ cryptocurrency regulation ”is absurd. It is necessary to regulate financial transactions: buy, sell, forward, convert. Cryptocurrency is a technical solution. It does not require a new area of regulation, ” he says.
According to Alex Romanov, the state needs to set limits on payment by cryptocurrency and introduce a verification procedure on cryptocurrency exchanges.
“The state sets limits on cash payments over a certain amount. A similar situation should be in the cryptocurrency industry. To transfer large amounts, users will undergo KYC verification and AML verification , ”comments CTO Beam.
Beam believes that regulators can reconsider their views on anonymous cryptocurrencies if holders of such digital assets have the opportunity to report. To do this, you need to add a mechanism for user interaction with regulators to anonymous cryptocurrencies.
“At Beam, owners will be able to transfer transaction data to third parties. The latter will gain access to information only if a key is generated by the user. Thus, the Beam blockchain will ensure complete confidentiality of financial transactions and will comply with the requirements of regulators,” explains Alexander Zaidelson.
CEO Beam is confident that in such cases, the regulator will not need to prohibit anonymous altcoins.
The future of anonymous cryptocurrencies
Beam CEO Alexander Zaidelson believes that most cryptocurrencies will become anonymous in the near future.
“In 10-20 years, most cryptocurrencies will protect the user’s transaction history,” says Alex Romanov.
Regulators may continue to attempt to prohibit or restrict the use of anonymous cryptocurrencies. Nevertheless, experts believe that regulation will not stop the circulation of anonymous altcoins, although it will slow their official adoption.
“There are many examples in history when a shadow market appeared in response to total bans. Fighting the shadow economy is much more difficult than finding a compromise solution,” comments Alex Romanov.
The degree of reliability of these forecasts will become clear over time, however, the growing public interest in cryptocurrencies provides grounds for cautious optimism.