Why DeFi May Be Over-Complying With Tornado Cash Sanctions
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This week’s episode of The Chopping Block includes industry experts Haseeb Qureshi and Tom Schmidt, joined by Jill Gunter, who is CSO at Espresso Systems which is a scaling and privacy web3 solution, as well as a respected writer and pod caster in the Crypto space.
Read our notes to get an understanding of their views on the broad macro-outlook, the Ava Labs controversy, over compliance regarding sanctioned addresses, and more.
Broad Marco Outlook
Haseeb:
● Now everyone has the same view on macro
● Zero alpha in predicting where macro’s going to go
● It’s weird that the intonations we hear in speech end up moving the markets
Jill Gunter:
● In general, she skews bearish
● Points how we’ll come full circle from the QE days, FED expanding their balance sheet, to now the FED trying to drain all the liquidity from the market due to a massive pump in the money supply
● My coffee is still getting expensive every day, and so there’s more liquidity that needs to be mopped up i.e. implying that inflation is still high
● Questions if monetary policy is data-driven
Ava Labs Controversy
Haseeb:
● Gave TLDR, video surfaced of class action lawyer Kyle Roche, allegedly intoxicated, having a conversation with Dominic Williams, an enemy of Avalanche founder Emin Gun Sirer. Roche mentioned having significant amounts of AVAX and suing Avalanche competitors to deflect regulatory attention from the protocol.
● Avalanche team denied the claims and stated that they used Roche’s services early on in Avalanche’s history, they now have representation from 12 different law firms. The Avalanche team also spoke out against the lawsuit against Solana.
● Kyle Roche later claimed that this was opposition research by the ICP team, crypto leaks is funded by ICP in some way
● Doesn’t believe this is much of a story
● Roche later claimed he was giving information from other lawsuits to other people, which could land him in trouble
Tom Schmidt:
● Questions the integrity of the cryptoleaks.info platform, stating that the three articles that have been published so far are going after people that are going after ICP, so he feels their biased nature is apparent.
● Speaking of the immediate dump of 20% in the price of $AVAX, Tom mentioned retail reflexivity, wherein someone heard bad news and panics, and then others join in as well
Jill Gunter:
● The latest article’s title doesn’t mention ICP, but once you read through the article, you do realize they seem biased towards ICP
● Even with the video evidence, it doesn’t appear that Ava Labs instructed Kyle Roche to take certain actions, i.e. sue their competitors.
● Roche could have been acting on his own accord, he could have had an interest in suing Avalanche competitors if he had a significant amount of Avalanche that he wanted to gain more market share
Aftermath of the Tornado Cash sanctions
Haseeb:
● Tornado cash, a privacy-oriented mixer protocol on Ethereum was sanctioned by OFAC
● Circle, the issuer of the $USDC stablecoin, blocked addresses that had interacted with Tornado Cash
● Infura and Alchemy, which are RPC endpoints to interact within the Ethereum blockchain, blocked API requests to Tornado Cash
● The natural question arises, do we need decentralized RPC endpoints?
● Even Pocket network, which claims to be a decentralized RPC endpoint for Ethereum blocked API requests to Tornado Cash.
● Flashbots, an integral part of the Ethereum mempool, and the largest off-chain MEV (miner extractable value) auction relayer, now integrates OFAC restrictions.
Ethermine, a big Ethereum mining pool, also started blocking Tornado Cash transactions
● There was probably a snowball, in that whoever decided to block reads and writes to the contract was followed by other entities
● Tether got this one right by not complying to the OFAC sanctions, as the ideal way to control illegal activity is by preventing people from cashing out
Tom Schmidt:
● It was much simpler in the past for these projects to sanction individual addresses from using their application, whereas now they must state that by default anyone who has interacted with tornado cash cannot use their project
● Aave runs their own front end, integrates with crypto compliance tooling like TRM, and has blocked addresses that directly used TC, or were one hop away
● 95% of Ethereum addresses are four hops away from interacting with a Tornado address.
Jill Gunter:
● Despite working in close proximity to regulators, Tether is not over complying
● OFAC is potentially using these sanctions as a way to influence behaviour of the parties involved (e.g. Infura, Tether, Circle, etc.), and in most circumstances does not force over-compliance
● Empathizes with companies being overly compliant
The Role of Social Slashing, Compliance, and Privacy
Haseeb:
● Will there be OFAC complaint validators following the Merge?
● PoW enables miners in jurisdictions outside the US to mine transactions from sanctioned addresses, however with PoS the validation will be concentrated to the US
● Eric Walls’ plan to make Ethereum censorship-resistant is to use the concept of social slashing, a feature that allows the Ethereum community to come together and hard fork the chain, deciding to slash the stake of the validators who are censoring transactions
● Believes that immediately post-merge, validators (e.g. Coinbase) will stop processing Tornado Cash transactions
● Mentioned that FTX blocked users from interacting with Aztec, a privacy-focused ETH roll up
Tom Schmidt:
● Privacy may become mandatory if validators start sanctioning addresses on a mass scale and the burden of compliance grows
Jill Gunter:
● The idea of social slashing is problematic, how do you get to consensus on who the bad guys that should be slashed are?
● Case of technologists wanting to technologize
● Should instead focus on educating the regulators, and helping differentiate between what is the core tech stack, e.g. RPC endpoints, vs What protocols have specific intent to enable things like money laundering
● Need to figure out as an industry where exactly that line gets drawn
● Mentions the importance of not only transaction privacy, but also application/ protocol layer privacy
● Talks about how stablecoin providers need to implement some basic level of privacy to enable B2B payments, merchant payments, etc.