OPINION: Cryptocurrency and exchanges – law enforcement changes are needed now

In the traditional banking world, organisations or individuals will find themselves subject to criminal sanction if they advertise, or provide advice to consumers about, investments or securities without a regulatory licence or the relevant registered prospectus or disclosure documents.

This does not appear to be the case with cryptocurrencies, however. Products can seemingly be offered with impunity. Consumers can lose billions of dollars by investing in products advertised on social media and the internet, or by accepting recommendations from unqualified celebrities, new tech businesses or scammers, with little or no redress from regulators.

Regulators and enforcement agencies are well-aware of the problem, and have called for stronger powers to regulate the “wild west” cryptocurrency market.

Facilitating crime

The situation is exacerbated by extensive evidence that crypto exchanges are being used to facilitate organised crime. The anonymity built into crypto wallets and money transfers means that transactions are completely unregulated and hard to trace. Customers have no idea who they are dealing with behind the scenes. Blockchain, although a legitimate technology, coats currency transactions with high-tech security, helping to facilitate money laundering and investment scams.

Cryptocurrency transactions are so fast-moving that they can fall outside a regulator’s purview in milliseconds; information requests made hours later by enforcement agencies to crypto exchanges are therefore of little use. Cryptocurrency deals are difficult to block, and blockchain technology means that tokens can be moved instantaneously. Some crypto exchanges even dispute the jurisdiction of courts in relation to subpoenas served upon them, and do not physically exist in any jurisdiction. Once money obtained through fraud or other malfeasance moves through the crypto system, it disappears, which is exactly what criminals want.

Exponential growth

Cryptos’ ability to facilitate crime has grown exponentially in recent years.

A recent U.S. Federal Trade Commission (FTC) report found that more than 46,000 Americans had lost in excess of $1 billion in crypto-linked fraud since the beginning of 2021, and that losses in crypto were almost 60 times what they were in 2018. The Australian Competition and Consumer Commission (ACCC) reported that Australians lost A$113 million in crypto scams in the first four months of 2022 alone.

Just last month the value of three new coins — TerraUSD, Luna and Dogecoin — collapsed, wiping out more than $300 billion from the crypto market in a matter of days. Dogecoin, which started off as a satirical cryptocurrency and has no real asset value, peaked at $87 billion before plummeting following a panic sell-down to a near-zero value. Of more concern, perhaps, is that Dogecoin had asset parallels with TerraUSD, a stablecoin pegged to the dollar.

Warnings fall on deaf ears

Regulatory warnings about the high-risk nature of investments in cryptocurrency have, however, failed to dampen the public’s “fear of missing out”, or get-rich quick dreams. Despite repeated warnings to consumers that, once they invest, they will be unable to get their money back — even if they find they have been caught in an investment scam — cryptos’ popularity continues to grow.

In some cases, enthusiasm has been fuelled by celebrity endorsements, notably Matt Damon’s “Fortune Favours the Brave” mantra and Kim Kardashian’s posting of advertisements for cryptos to her 228 million Instagram followers, as well as tweets from Elon Musk, chief executive of Tesla. Such unregulated recommendations have combined to form a lethal selling combination, preying on consumers unfamiliar with the complexities of cryptocurrency.

Class actions are underway against some celebrities who advertised cryptocurrencies on social media, with claimants saying they invested in tokens which were then quickly sold down in what had the hallmarks of traditional “pump and dump” scams.

Crypto exchanges have failed to detect illegal crypto activity on their own platforms. The anonymity of such transactions provides considerable opportunities for organised criminals, as well as rogue states such as North Korea, money launderers, sex traffickers and new tech fraudsters, who can have absolute confidence that their dealings via crypto exchanges will be anonymous and that they are unlikely to get caught.

Difficulty for regulators

Cryptocurrencies and crypto exchanges are multi-jurisdictional and can operate from anywhere in the world, making it difficult for regulators and law enforcement agencies to pursue gains derived from criminal activities. The most highly-regarded coins, Bitcoin and Ethereum, are the most common payment methods for investment scams and ransomware attacks.

A recent special report from Reuters showed that the Binance crypto exchange has become a hub for hackers, fraudsters and drug traffickers, providing complete anonymity for those use the exchange.

The 2022 Global Threat Report presented further evidence of the growing criminal threat. It found that targeted eCrime continues to exploit vulnerabilities in large and small organisations, while state-sponsored adversaries such as North Korea and Russia can evade detection and access critical infrastructure. Malicious actors are intensifying attacks on critical cloud infrastructure, the report said.

Finding a solution

Cryptocurrencies and exchanges are significantly ahead of traditional financial services regulation and enforcement; while there are pockets of crypto-asset regulation, many jurisdictions lack appropriate tools to regulate cryptocurrencies. Some modern police units have a sophisticated cyber defence reach, but there is often little they can do about an attack within their jurisdiction given that the actors are in another jurisdiction and can cover their tracks within minutes.

Regulators and enforcement agencies need to have an instantaneous multi-jurisdictional reach, enabling them to cooperate immediately with other sovereign states to prevent crimes or transactions in real time.

Legislation is needed that will hold individuals and exchanges accountable for breaches of law, and protect consumers from misleading representations about cryptocurrencies. The anonymity of transactions needs to be made illegal. Those who give unqualified advice on investments and securities must be held to account, rather than being allowed to profit. In turn, social media platforms must be held accountable in the jurisdictions within which they provide the information.

The 2008 financial crisis exposed extensive problems in the traditional banking and finance system, but it has become increasingly clear that cryptocurrencies such as Bitcoin and Ethereum do not represent a panacea. They are instead becoming the method of choice for organised crime actors, giving them international reach.

Regulators need a more sophisticated “toolbox” to deal with this avalanche of 21st century crypto crime, but as a first step might also consider using traditional securities laws to prohibit such products from being advertised without full disclosure and a licence.

Niall Coburn is the Regulatory Intelligence Expert at Thomson Reuters in the Asia-Pacific region and a Barrister at the Queensland Bar.

As an expert on regulatory issues at Thomson Reuters, Niall writes articles, white papers, gives presentations in the region and liaises with the banking industry internationally concerning regulatory developments in the Asia-Pacific region.

Prior to joining Thomson Reuters, he was the regional Managing Director at FTI consulting, responsible for leading its Regulatory and Forensic Investigation Practice in Australia. FTI is a global consulting firm listed on the New York Stock Exchange with 500 offices worldwide.

Niall was also a Senior Lawyer and Specialist Adviser at the Australian Securities and Investments Commission. In this role he led high-profile investigations into complex corporate crime cases. He has also worked internationally, being part of a team that created the regulatory structure for the Dubai International Financial Centre (DIFC).

Niall was appointed Director of Enforcement at the DIFC in 2003 and worked with international law enforcement agencies to combat financial crime.

Niall has also worked in the Asia-Pacific region in his own consultancy, Coburn Intelligence in China and Hong Kong, investigating major frauds and misleading conduct in the investment industry.

Niall was awarded an Australia Day Honour from the Commonwealth Government for his work leading major criminal investigations at ASIC. He is a Barrister of the High Court of Australia and a member of the Queensland Bar Association and the International Bar Association.

 

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