Making the case for privacy in cryptocurrency

Privacy coins implement functionality to hide your identity when making transactions online. Is there a real need to promote complete privacy though? Or are these coins just a scam for users to evade taxes and hide assets?

Confidentiality cryptocurrencies, most commonly known as “privacy coins”, enable users to have complete privacy over their transactions and addresses. In essence, privacy coins implement functionality to hide your identity when making transactions online. They also keep users’ wallets anonymous and/or hide the balances of transactions as well.

When Bitcoin introduced cryptocurrencies to the world, privacy was an important underlying attribute. Of course, we know today that it’s possible to easily link IP addresses and usernames to Bitcoin and Ethereum addresses thanks to metadata. Plus, because all transactions are broadcasted publicly, users lose some privacy features there as well.

There are three main aspects of privacy in the context of cryptocurrencies:

  • The identity of the user performing an operation using the cryptocurrency
  • The transaction data specific to the operation the user is performing
  • The total blockchain state formed by combining the knowledge of all transactions

 

An easier way to understand the above points is to ask the following questions: a) Do I know the identity of the user? b) Can I see the transaction details sent by other users? And c) Can I see all blockchain transaction data and identify which addresses have which amounts?

By answering each of these questions, you can work out whether any given cryptocurrency is confidential and private or not.

For a privacy coin to be really, really private, the answer to all of the above questions should be a big round “no”.

Still, if you don’t see a need for privacy as you assume good people have nothing to hide, I would like you to consider the implications of having your financial information publicly exposed – especially when you’re just a random person with little power to protect yourself from institutions and agencies.

If the role of government is to serve its population, I argue there should be a way for any citizen to be able to hide their holdings, while at the same time being able to prove what those holdings are. The best privacy coins give users this ability.

So, let’s take a look at the technology behind privacy coins and the most widely-used privacy coins today.

Privacy coin features

It is helpful to organise approaches to privacy in cryptocurrencies by what techniques they use. There are a variety of privacy-enabling technologies in crypto with completely different working mechanics and goals. The main confidentiality technologies employed by privacy coins today are as follows. To find more information, do check out this guide on how privacy cryptocurrencies work.

  1. Layer-2 protocols like the Lightning Network, state channels, or Plasma allow small groups of users to transact among themselves “off-chain”. This means all intermediate states are stored between those users and only periodic summaries of state changes are written to the main blockchain. As a result, the intermediate states are invisible to outside observers because they never appear on the main blockchain at all. Of course, the Layer-2 protocol itself can have different levels of privacy for off-chain states among its participants, so this is more of an idea than a full-blown privacy technique.
  2. Ring signatures take inputs and outputs of different transactions and combine them into a single large transaction to obscure links between the addresses of senders and recipients. Monero is one such coin that uses ring signatures to obfuscate transaction information.
  3. TOR uses multi-layered Onion routing as a mechanism to hide users’ IP addresses. This technology is used by privacy coins such as Grin and Verge.
  4. CoinJoins is a mechanism that enables transactions from multiple senders to be batched into a single transaction, similar to ring signatures.
  5. Zero-knowledge proofs refers to data which demonstrates knowledge of a piece of information without revealing the information itself. When used correctly, this cryptographic technique can ensure both privacy of transactions and soundness of the blockchain. An example of a cryptocurrency using this technique is Zcash.
  6. Mimblewimble features confidential transactions that allow for public verification of a transaction without revealing any significant details such as amounts or addresses. This technology also uses CoinJoins and Dandelion, an improved gossip protocol network that contains increased privacy mechanics. It uses hops between nodes before publicising transactions to neighbouring nodes. Mimblewimble is the underlying technology of the Grin and Beam privacy coins.

La créme de la créme

The five main privacy cryptocurrencies in use today are Monero, Zcash, Dash, Verge, and Grin. A brief analysis of each, when facing the initial A, B, and C questions, can be seen below:

Bitcoin Monero Zcash Dash Verge Grin
Public addresses

YES

NO NO YES YES

NO

Public transaction details

YES

NO NO NO NO

NO

Blockchain analysis possible YES NO NO YES YES

NO

Looking at each individually, we can see that at the time of writing, Grin – the most recent Mimblewimble protocol implementation – seems to be the one with the most privacy features, which you can read more about in this guide.

The case for privacy coins

There are plenty of reasons why users might want to protect their financial information from third parties. The ones I believe are the most crucial are:

  1. The ability to have complete financial freedom
  2. The ability to comply with agencies chosen by the user/citizen
  3. The ability to hide assets from good and bad actors
  4. The ability to trade privately without being traced from different geographical locations
  5. The ability to bypass human laws and government-created rules

 

There are plenty more reasons to foster the adoption of privacy-enabled cryptocurrencies, if not only because giving users privacy does not equal an increase in criminality or tax evasion. What it surely equals is a direct immediate impact on financial freedom.

If you still have doubts about the need for privacy, think about it like this:

What’s more important to you: to have the freedom to transact and store value privately, or the obligation to give away all your information to government agencies so that evading taxes is harder?

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