Entrusting an exchange with your private keys means you don’t fully control your own money.
On May 7 2019, Binance, one of the world’s leading centralised cryptocurrency exchanges, reported a hack with a total damage of 7,047.2 Bitcoin (BTC) (or about US$63 million worth of Bitcoin) stolen by hackers. The large scale security breach has shocked the cryptocurrency space due to the exchange's high level of security measures placed into the exchange platform. Although the breach was not comparable to the infamous Mt. Gox exchange case in 2014, where close to US$350 million worth of Bitcoin were stolen through a highly orchestrated attack since 2011, the recent high-profiled incident has caused a ripple of more stringent regulations from governments and law enforcement agencies. Unlike a decentralised exchange, centralised exchanges normally hold the private keys of users' Bitcoin wallets, and any unfortunate case like Binance would result in a complete loss and control of the funds. Furthermore, many of the frequently traded cryptocurrencies such as Bitcoin and Ethereum are not anonymous by design, which translate to the ease of access by anyone looking into exploring the transaction details of a specific Bitcoin wallet. Check out the best bitcoin mixer.
Centralised exchange hacks have been a growing issue especially for Bitcoin holders. The cryptocurrency was known to be a highly secured asset, but has faced a series of flaws which most often result in the loss of the user’s entire holdings of Bitcoin, which was stored in an exchange’s wallet. Earlier in the same year as Binance’s hack, Quadriga, Canada’s biggest cryptocurrency exchange, has announced its inability to retrieve the cumulative amount of close to US$145 million of Bitcoins belonging to about 100,000 of its customers, as the co-founder and CEO of Quadriga exchange reportedly died of complications arising from Crohn's Disease while traveling in India. Many of the cryptocurrencies were stored on Quadriga’s “cold wallets”, which could only be accessed by the now-deceased CEO.
Popular Choice for First-Time Crypto Buyers
Unfortunately, up until today, centralised exchanges are still the primary choice for most users when it comes to trading, buying and selling cryptocurrency assets — users were drawn to these exchanges based on the streamlined and user-friendly interface. In addition to that, many of the ‘bankable’ cryptocurrency assets were available in these exchanges, resulting in users forgoing the complicated and privacy-intrusive KYC process which is required by any exchanges looking to operate in a regulated nation like Singapore, Japan or the United States. Therefore, it is without a doubt that many leading centralised exchanges have successfully on-boarded average individuals to highly complex concepts and projects
Centralized exchanges are often the first point of contact most people have with the crypto world, and it makes sense—users can trade in fiat for crypto under a streamlined and user-friendly interface. Many of the biggest names in centralized exchanges have successfully connected ordinary people to highly complex concepts and projects.
Restrictions by Centralised Exchanges
Bitcoin is often believed by many as an untraceable method of payment that allows criminal activities to happen without being tracked. Thus, Bitcoin transactions were thought to be anonymous and protect the user’s identity from government surveillance and blockchain analysis. However, it is far from the truth, since the Bitcoin network enables transparency and immutability, revealing all transactions that have occurred in the blockchain to be recorded permanently and accessible by anyone who has a Bitcoin address. While Bitcoin does provide privacy compared to its traditional FIAT counterparts like US Dollars, it is still not as anonymous as many believed it to be. Inevitably, the well-known knowledge of Bitcoins by bad actors and hackers have paved the way for Bitcoin as an appealing target for a financial ransom and theft. Coupled with transactions done through centralised exchanges, malicious individuals or entities could then easily decode and identify their next prey for their Bitcoin heist.
Over time, Bitcoin users have sought privacy measures to protect their Bitcoin assets and attempt to remove the traces of their spending activity. One of the most popular privacy solutions to date is through a Bitcoin mixer.
Effective Privacy Control for Users
There are several popular Bitcoin mixers currently available in the market, including MyCryptoMixer (MCM) and Chipmixer, where they allow users to obfuscate the trace to their Bitcoin address, through a process known as Mixing. Similar to the aesthetics of leading cryptocurrency exchanges, trusted Bitcoin mixers like MCM enable the user to swiftly process their Bitcoin through a mostly automated mixing process easily and securely. Comparatively, Bitcoin mixing services offer a gradual learning curve, unlike other privacy solutions such as Privacy wallets and the Anonymous TOR browser. Thus, it has grown to become one of the easiest and most-effective ways to secure one’s Bitcoin transactions anonymously and ensure transactions are untraceable by anyone. But privacy tools like Bitcoin mixers are scrutinized by centralised exchanges for a specific reason— the simple and quick anonymity that Bitcoin mixing services offer have also been used for illicit activity in recent years.
This year, Volodymyr Kvashuk, a 25-year-old Ukrainian citizen and former Microsoft engineer, stole more than US$10 million worth of cryptocurrencies during his working stint at Microsoft, before converting those stolen assets into Bitcoin, and attempted to use Bitcoin mixing service in order to hide his traces. However, he was soon discovered for his crime as he transferred around US$2.8 million worth of bitcoin into his bank accounts. Ironically though, famed blockchain analysis firm Chainalysis has found that most mixed Bitcoins were from law-abiding users who were simply using the Bitcoin mixing service for anonymity and to hide their personal information which may be traced by bad actors. In fact, only 10% of Bitcoins sent to Bitcoin mixers were sourced from illicit activity.
Unfortunately, a growing number of centralised exchanges such as Paxos and Binance were forced to comply with regulations set in countries which they operate on, and therefore do not permit transactions to occur between their exchange’s wallet to Bitcoin mixers. One obvious cause of such restriction is due to the difficulty centralised exchanges may face when investigating their users' stolen funds, since there are odds where these stolen funds would eventually go to a Bitcoin mixing service, impeding their ability to trace these stolen Bitcoin effectively.
How can Exchange Users Keep Their Privacy?
Despite the security concerns by centralised exchanges, their users were increasingly frustrated as such sudden policy change from exchanges was not overtly stated. According to an account from one Binance Singapore user, the exchange initially did not include Bitcoin mixing services in the user’s terms and conditions. What the user did was to simply send her cryptocurrencies bought from Binance Singapore’s exchange, and were mixing the coins as a privacy measure before placing them in a long term cold storage wallet. As the wide circulated crypto catchphrase goes, “Not your keys, not your coins”, with more reputable centralised exchanges strengthening their grip on the use of Bitcoin mixing services, users may have to familiarise with this concept, that their asset ownership will only be truly theirs if they were to move their assets away from their exchange wallet.
Bitcoin mixers are arguably still the most preferred privacy solution for users, since its user-friendly service provides the user a peace of mind, improving the privacy of their digital assets built on open public blockchains and obscures efforts by blockchain analysis tools and bad actors from tracking their hard-earned digital assets. It has also become almost a necessity to move their Bitcoin assets into an intermediary Bitcoin address which is specially catered for mixing, before transferring them into their private Bitcoin wallet(s), through the split distribution method as commonly found in most Bitcoin mixers.
A Risky Precedent for User’s Privacy
Centralised exchanges embargo may indicate a clear attack on user’s financial privacy, but such restrictions should hardly come as a surprise. As the cryptocurrency space blossoms into a fully fledged financial market with each passing year, popular centralised exchange platforms like Binance and Coinbase will remain as regulatory-compliant as possible in order to stay in business. As the majority of users who value privacy and anonymity in their Bitcoin or cryptocurrency transactions, we should not curry the favor of global regulators like these centralised exchanges. Unless decentralised exchanges become more user-friendly and replace their centralised counterparts, users should perform their due diligence and precautionary measures to prevent their exchange account from being suspended or funds stolen. If the market demands for more privacy, such privacy-focused platforms may inherently become a mandatory step in buying, selling or trading Bitcoins anonymously and securely.