Are Bitcoin Transactions Traceable?
A long time ago, before institutions flocked to Bitcoin, cryptocurrencies were merely thought of as assets used by drug dealers and criminals to evade authorities and launder money. Truth be told, Bitcoin was indeed used extensively on darknet markets for most of its early stage, but the temporary use case did not occur as a result of anonymity.
With a deeper understanding of how blockchain technology works, we all realize that cryptocurrencies like Bitcoin are not anonymous at all: they are in fact the exact opposite. Transactions carried out on a blockchain network are incredibly transparent, and anyone can use a blockchain explorer to analyze a wallet’s activity and payments.
The answer is clear; Bitcoin transactions are traceable. However, does the transparency engulf privacy as well, or is it limited to addresses only?
How anonymous are Bitcoin transactions?
Bitcoin is often referred to as being a pseudoanonymous network. Its blockchain is neither fully transparent nor fully anonymous. For instance, all transactions are public and distributed to everyone on the blockchain, but we do not know who issues these transactions.
If we were to analyze a wallet’s address, we would gain access to its entire transaction history. From the moment it was created to the last created payment, we can see every interaction for that specific address. Nevertheless, we do not know the person behind the address. There is no name or pseudonym that can be used to identify the wallet’s owner.
Transaction history of a random Ethereum wallet
With that in mind, we can come to an understanding that Bitcoin’s transactions are anonymous only to a limited degree. They may be traceable, but their privacy is well protected.
Can users hide their traces on the blockchain?
Despite the fact that traceability is a fundamental feature of blockchain technology, there still exist methods that can be used to hide your trace.
Since the early days, Bitcoin holders have utilized mixing services to protect their anonymity or ‘break away’ from their original wallets.
Bitcoin mixers do not use complex techniques or uncopyable technologies. In fact, the situation is quite the opposite. A mixer simply works by receiving coins from a customer and sending them to the final destination.
Image depicting how multiple individuals interact with a mixer
If address B (AB) is the mixer, address A (AA) the customer, and address C the targeted address (AC), the transaction history would go in the following way:
AA > AB > AC
At no point in time do AA and AC interact during this process, leaving the customer with a new wallet without ever having to sell his coins and rebuy them through another exchange. Since address AB receives tons of coins on a daily basis, it is impossible to discern and figure out where the original client’s coins went.
Mixing services might be ingenious, but they are perfect. Mixers are illegal in certain jurisdictions, meaning that a client is subject to regulatory scrutiny in the case that a regulatory agency detects mixing activity.
Moreover, mixing services rely on trust. If you send coins to a mixer, it is entirely possible to get scammed. The platform might decide not to carry out its end of the deal, leaving you penniless. It is also possible for the mixer to log your requests and discover your identity by tracking your IP and connecting it with the address.
In summary, mixers are simple but efficient services that help users with hiding their traces on the blockchain. However, they are quite unreliable, and users may face legal issues if they ever use one.
Are there mixers for non-bitcoin blockchains as well?
As we have noted, mixers are unreliable to some degree due to the fact that they depend on trust. An entity managing the mixer can at any time decide to hold onto the assets that it has received.
Since centralization is the main problem preventing mixers from becoming widely spread, we should look into the opposite direction - decentralization.
Blockchain networks with smart contract functionality are capable of supporting a decentralized mixer whose assets are not so easily manageable by a network’s creator. Since smart contracts are open-source, use predefined rules and conditions, and execute on their own, developers can create a mixer that is not centralized.
As the leading hub for smart contracts, Ethereum is an attractive breeding ground for mixers. Not only does it support the previously mentioned features, but it also hosts numerous ERC20 tokens that are massively used. This means that a mixer can be created not only to mix Ether tokens but to mix other ERC20 tokens as well.
With the rise of DeFi, the use of governance and voting took decentralization on Ethereum to an entirely new level, which makes mixers even safer in this environment. In one of our previous articles, we have covered one exciting project which stands out as the most popular mixing solution: Tornado Cash.
Since projects like Tornado Cash are essentially self-automated systems, the other important advantage is that they are not subject to regulatory scrutiny. However, while the platform will not shut down if pressured by the SEC, it is still possible for the regulator to target users instead.
The flipside: malicious activity
Just like in any other ecosystem, there are malicious activities in the world of blockchain technology as well. Hackers, scammers, and criminals employ cryptocurrencies for their own gain, using them to remain anonymous and perform transactions on a network outside the reach of legal authorities.
Luckily enough, blockchain analytics firms are there to save the day. Entities like Chainalysis, Coinfirm, Elliptic, and CipherTrace use their cybersecurity knowledge to discover threats. Be it money launder or terrorist financing, these firms are there to de-anonymize the flow of funds by frequently accumulating data.
By doing so, they are capable of tracking important targets who act maliciously. For example, if a scammer creates a faux DeFi project and decides to run away with funds obtained during a presale, an entity like Chainalysis could use its data and research abilities to analyze the address’s activity and connect it back to a person in the real world.
At the end of the day, stealing crypto will always lead to transferring the assets off-chain. Since all fiat off-ramps impose KYC regulations, it is difficult (if not impossible) for the anonymous scammer to remain anonymous forever.
Final word
Anonymity is a double-edged sword, especially for blockchain networks. On the one hand, anonymity helps crypto holders with protecting their privacy and staying secure. On the other hand, traceability is important since it helps with upholding notions such as transparency.
At the moment, a majority of blockchain networks are only pseudoanonymous - meaning that transparency and privacy are equally balanced. Nevertheless, that can change with the advent of new solutions which have the chance to massively improve privacy.
Mixers remain to be the number one solution for staying anonymous on the blockchain, and iterations created on decentralized networks will make them more efficient than ever. If done properly, investors on the Ethereum blockchain will be able to interact with other users in a way that makes it impossible to ever lose their anonymity.
No matter how good of a thing privacy is, we still have to say that too much can bring crypto back to its original roots of cybercriminals. Is it possible to have our cake and eat it, or do we have to make a final decision as a community? What do you think? Let us know in the comments down below!
Shrimpy is an account aggregating platform for cryptocurrency. It is designed for both professional and novice traders to come and learn about the growing crypto industry. Trade with ease, track your performance, and analyze the market. Shrimpy is the trusted platform for trading over $13B in digital assets.
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