October 29, 2020

Earlier this month, the Department of Justice (DOJ) released its Cryptocurrency Enforcement Framework, a product of the Attorney General’s Cyber Digital Task Force.  The report gives a primer for the types of criminal activities law enforcement are observing and a look into how the DOJ is working with other law enforcement agencies and federal financial regulators.  

The report categorized the threats posed by cryptocurrencies into three unsurprising buckets: 1) Criminal activity using crypto (terrorist financing, selling drugs, weapons, etc.); 2) Money laundering and tax evasion;  3) Crimes within the crypto marketplace (hacks, theft, etc.)

For crypto observers the most relevant part of the report may be the exploration of ongoing challenges that law enforcement are facing, and strategies that the DOJ are pursuing – or will pursue – to address them. Moreover, there appear to be some clear patterns and signals for where law enforcement are focused now and in the future.

Those include, among others, an intense focus on non-compliant foreign exchanges serving U.S. customers, primarily because of weaknesses in their anti-money laundering programs..  This won’t be surprising given the recent enforcement action against BitMEX, but it’s clear their work is not done. 

Another challenge that was repeatedly mentioned in the report is the feeling on behalf of the DOJ that there are severe weaknesses in the international frameworks regulating cryptocurrencies.  The report makes very clear that greater international cooperation on rules, guidelines, regulations, and enforcement are needed.  One can expect continued investment, focus, and leadership from the U.S. on that issue.

Other areas of interest appear to be Decentralized Finance (DeFi) applications, as well as privacy coins. Neither of which receive much in the way of praise from the report.  Instead there appears to be enormous skepticism which may be difficult to shake without concerted efforts from industry.

The strategies to address these challenges will not be surprising: More enforcement actions and arrests;

  • More law enforcement training;
  • Greater cooperation with states;
  • Supporting and urging greater international cooperation;
  • Engaging industry

Other items that may be of interest:

  • A passage that many in the crypto industry might find curious if not concerning: “Whatever the overall benefits and risks of cryptocurrency, the Department of Justice seeks to ensure that uses of cryptocurrency are functionally compatible with adherence to the law and with the protection of public safety and national security.” (Pg. 5)
  • They make it very clear that fiat to virtual and virtual to virtual exchanges are treated the same under the law.  The report says any view otherwise is, “flatly inconsistent with VASP’s BSA obligations”
  • There’s an entire page dedicated to GDPR.  The report says that some exchanges are citing GDPR as a basis for “objections to lawful requests…refusing to comply with standard grand jury subpoenas.” The report says, “the Department disagrees with such objections.” (Pg. 50)

It’s worth mentioning that perhaps the most interesting part of the report is the introductory essay from Sujit Raman, Chair of the Attorney General’s Cyber-Digital Task Force.  It’s well-written, thoughtful, and forward thinking and I’d urge everyone to take a few months to read it in full.   

In the essay he notes a number of existing challenges present by cryptocurrencies, including: jurisdictional arbitrage, “pump and dump” schemes, and decentralized finance, among others. 

But, in a fairly remarkable passage, he discusses “The Web 3.0” and its potential to evolve the internet to a state that is, “diffuse and dynamic – present everywhere at once, and therefore beyond any outsider’s grasp.”  However, he goes on to say that “however liberating the emerging glimpses of Web 3.0 might seem to be, that vision can also pose uniquely dangerous threats to public safety.”  

While there is an understanding of the arguments being made by Web 3.0 proponents, the Task Force appears skeptical that the benefits outweigh the risks.  The discussion, which closes Raman’s essay, appears to be a clear warning that Web 3.0 and the variety of decentralized platforms and applications that make it up, are being watched closely.