War in Europe

Cryptocurrencies and the war in Ukraine

With a market size of three trillion dollars in the meantime, cryptocurrencies have long been a serious part of the global financial world and thus also part of international conflicts. This is all the more true when this conflict is a Russian war of aggression in the middle of Europe, which is being met with the toughest financial sanctions in history for Russia and great solidarity for Ukraine. The Ukrainian government is also explicitly asking for donations in cryptocurrencies in the process.

Donations for Ukraine

357a3So9CbsNfBBgFYACGvxxS6tMaDoa1P - Behind this combination of letters and numbers, a so-called wallet address, is a crypto account of the Ukrainian government. In a message via Twitter on February 26, Kyiv published its wallet addresses for the three most widely used cryptocurrencies - Bitcoin, Ethereum and Tether (USDT) - and called for donations.

In the first two weeks since the invasion, it is estimated that over $50 million worth of crypto assets have been received. At this point, President Volodymyr Zelensky’s government still has access to the traditional financial system, but for many people, transferring crypto assets is a straightforward way to support the people of Ukraine. So far, this way is a novelty among governments that seems to work. The government's publicly viewable transactions show the exchange of donations to crypto exchanges for regular currencies. Thus, cryptocurrencies are another way to assist Ukraine, at least financially. Moreover, Bitcoin and co can be used not only to donate to the Ukrainian government, but also to support dissidents critical of the Kremlin in Russia or other human rights defenders and advocates. Russian dissident Alexey Navalny has fundraised so successfully in the past. It is becoming increasingly clear how helpful cryptocurrencies can be for funding human rights work in authoritarian states.

Using crypto to circumvent sanctions?

Observers fear that cryptocurrencies will not only be used to fund the fight against Putin's dictatorship, but could also be used to circumvent Western sanctions. Although, the Russian Central Bank has recently thought to ban cryptocurrencies, Russia is one of the top 20 crypto locations. Since the start of the war, the demand for Bitcoin and Ethereum has soared. In the past, Moscow seemingly had no fear of contact with organized cybercrime when it comes to cryptocurrencies. According to Chainanalysis' Crypto Crime Report 2022, three-quarters of all crypto ransoms captured with extortion software (ransomware) - around $400 million - have a connection to Russia. Already in the wake of the annexation of Crimea and the attack on the Donbass, separatists loyal to the Kremlin who were subject to sanctions tried to obtain funds via cryptocurrencies. The Russian government or pro-Kremlin oligarchs may now try to use cryptocurrencies to obtain regular currencies or use them to buy goods. For the latter, the Russian central bank is also working on a digital central bank money, the digital ruble, which is not a cryptocurrency but state money. This would allow for bypassing Western financial markets when trading goods. But currently, Russia simply lacks the infrastructure to use digital currencies as a means of payment. The challenge for Russia's kleptocratic elite is therefore likely to be the exchange of cryptocurrencies for regular currencies such as the dollar.

Crypto exchanges in focus

When there is talk of evading sanctions, it is usually about money laundering, i.e. the attempt to disguise the origin of the money. Many cryptocurrencies and especially Bitcoin are conceivably unsuitable for this purpose. Contrary to what the name suggests, the transactions themselves are not secret. In fact, the traceability of all transactions represents one of the basic principles on which distributed ledger or blockchain technology is based. Each coin has a transaction history that can be traced in the public blockchain, at least for cryptocurrencies like Bitcoin and Ethereum. Unlike bank transfers, however, the sender and recipient are encrypted, so the people involved would have to be identified based on their wallets. This has often happened in the past when people have tried to exchange the cryptocurrencies for regular currencies or bought goods with them. In this case, crypto exchanges are the main focus of attention. These, by exchanging cryptocurrencies into regular currencies, would allow the Kremlin or oligarchs close to the Kremlin to gain access to dollars. This is also why the Ukrainian Prime Minister, Mykhailo Fedorov, has called on crypto exchanges to block the accounts of Russian users. However, well-known crypto exchanges such as Binance, Coinbase or Kraken are having a hard time with this. After all, a complete blocking of access would also affect donations to Russian human rights activists. Instead of a blanket block, numerous crypto exchanges have announced that they will block accounts linked to sanctioned individuals. This differentiated approach seems more effective because crypto exchanges, as a transition between the crypto ecosystem and the regular financial system, are required to verify the identity behind accounts anyway, so they too must implement Western sanctions.

Implement sanctions effectively

Stories about financial institutions helping states and kleptocrats evade sanctions are widely heard. Whether in the established financial system or in the world of cryptocurrencies: There needs to be effective implementation of the sanctions package. This is more technically challenging in the case of cryptocurrencies, but it is also not impossible. In the world of traditional currencies, enforcing sanctions or combating money laundering rarely fails because of technical capabilities, but mainly because of the determination of policymakers and law enforcement. In this respect, at least the established cryptocurrencies are only marginally different from traditional currencies in terms of circumventing sanctions. What is clear is that cryptocurrencies are a good way to financially support the Ukrainian government or human rights defenders in Russia, provided they ask for donations in cryptocurrencies. A blanket crackdown on cryptocurrencies would jeopardize these funding opportunities.