China, the US, Japan, the Philippines, Korea and many other countries have begun implementing regulatory frameworks and policies to regulate the global bitcoin exchange market. Bitcoin exchanges are required to comply with industry-wide standards and strict Know Your Customer (KYC) and Anti-Money Laundering (AML) policies in order to obtain licenses to operate as financial companies.

Some governments such as China and its central bank the People’s Bank of China (PBoC) have implemented more rigorous regulatory frameworks specifically for bitcoin exchanges to ensure that the government can oversee the entire bitcoin exchange market with increased transparency. With strict KYC and AML policies in place, central banks like the PBoC are essentially hoping to identify each user on bitcoin trading platforms to control the market.

When a user passes through an exchange, the wallet and the personal identification of the user are disclosed to the authorities. For instance, if a hacker successfully steals user funds from an exchange and tries to cash out in a regulated exchange, government entities and agencies will be able to track down the identity of the user by requesting exchanges to forfeit data of their users.

Most of the major bitcoin markets such as Japan, the US and China, which control over 85% of the global bitcoin exchange market share, require bitcoin exchanges to follow strict KYC and AML policies. The Chinese government recently suspended withdrawals

for users on two of the largest Chinese exchanges Huobi and OKCoin after discovering that the two exchanges didn’t have appropriate KYC and AML systems in place.

Increasing efforts of central authorities to eliminate anonymity among bitcoin users have been positive so far. The legalization of bitcoin has drastically increased mainstream bitcoin adoption in most countries, encouraging more users and the general population to take a step forward towards cryptocurrency.

However, these regulatory frameworks and ecosystems could change rapidly in the upcoming years if two-layer privacy-focused solutions like TumbleBit and MimbleWimble are introduced to bitcoin network. Because these solutions eliminate inputs and outputs stored in each transaction, it permanently deletes transaction history of bitcoin users and thus providing complete anonymity to users.

The activation of solutions like TumbleBit and MimbleWimble could be a major issue for central authorities, as KYC and AML systems governments worked hard to design and develop will be made redundant.

Andrew Poelstra, mathematician at Blockstream stated in an interview:

“Mimblewimble describes an alternate blockchain, something that could be a sidechain or altcoin, that supports a different transaction type from bitcoin, and this is a very simple, not very expressive transaction type that basically allows one person or a collection of people to send money to another person or a collection of people.”

While the identification of users will still be disclosed when purchasing or selling bitcoin, the trace of bitcoin transactions can no longer be tracked afterwards. Thus, if for instance, Alice purchases US$100,000 in bitcoin and initiates a MimbleWimble transaction to Bob, the exchange and central authorities will not be able to find a connection between Alice and Bob even with the usage of transaction untangling methods.

Image Via: VDRB

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