How Tainted Can It Really Be?

In my last post, “Is there a better Bitcoin”, I dived into criticisms of Bitcoin stemming from a video by Mike Adams. While Adams’ video was somewhat positive for Bitcoin, it also raised a few points of contention that I wanted to explore further. These objections seemed to contradict my fundamental understanding of what Bitcoin is and isn’t.

This post continues our discussion from where we left off in our initial exploration of the concept of “tainted” bitcoins. This is a topic fraught with misinformation and fear, but it’s essential to explore because it affects Bitcoin’s fungibility, a key characteristic of the cryptocurrency. Fungibility, in simple terms, means 1 BTC equals 1 BTC, just like 1 US dollar equals 1 US dollar, in contrast to non-fungible tokens (NFTs) which are completely unique.

I started by examining ordinals and colored BTC, which append data to a Bitcoin transaction. While from the perspective of the blockchain this is just a transfer, it means that the BTC in that transaction have something different about them than BTC not used in this way, making them essentially non-fungible. However, you must use external tools to read that data, and if you were to transfer that BTC to another wallet to pay for a service or goods, it would spend just like any other BTC.

So, is Bitcoin both fungible and non-fungible? The truth lies somewhere in the middle. BTC, like cash, has characteristics of both fungibility and anonymity but is not completely interchangeable due to the example above, nor does it allow for completely anonymous transactions. Cash has a similar issue - a hundred-dollar bill has a unique serial number and can be traced. While the legal fungibility of banknotes was established in common law in 18th century Scotland, stating that the transactional history associated with any particular note was irrelevant, it doesn’t erase the fact that its traceability exists and is used by regulatory and law enforcement agencies.

We should note that this understanding of law is under significant legal pressure today due to Anti-Money Laundering (AML) and other regulatory obligations around Know Your Customer (KYC) and Know Your Transaction (KYT), just as it is for Bitcoin and every other exchange of value.

There’s an insightful paper that explores the fungibility of money, including Bitcoin, if you want to delve deeper. But the bottom line is, BTC is not fully fungible, and yes, the transaction history of individual BTC can be tracked. So Mike was correct about this, though what that means practically is another matter.

There are as Mike points out, alternatives and in the realm of privacy-focused cryptocurrencies, Monero stands out with its robust privacy features. It is fungible due to the nature of its currency which provides no way to link transactions together nor trace the history of any particular XMR. With Monero, 1 XMR is functionally identical to any other 1 XMR, making it more closely resemble true cash fungibility than Bitcoin does​​.

Another privacy-oriented cryptocurrency, Epic Cash, is designed to fulfill Satoshi’s vision for private permissionless payments. It is updated with the revolutionary Mimblewimble privacy protocol, ensuring complete anonymity, scalability, and fungibility. This makes Epic Cash a good choice for those prioritizing privacy and fungibility in their transactions​​.

Remember that privacy isn’t guaranteed just by using these currencies versus Bitcoin, however. Privacy begins with the user and their adherence to privacy best practices. Lazy use of good technology can equate to no privacy. This means that Bitcoin transactions can also be more private using tools and best practices, making the process of associating a person with a specific address much more difficult if this is important to you. I’m planning a post on this topic specifically for later this week, so keep an eye out!

The fear aspect of all this boils down to someone unknowingly receiving or holding BTC that is now or has been in the past associated with a crime. Well, guess what – you don’t have to be afraid of this because the truth is most BTC in circulation does have this potential. This isn’t a unique problem to Bitcoin. For example, approximately 92% of dollar bills have traces of cocaine on them, according to a study reported in Forensic Science International​​. Fungible currencies, both fiat and digital, are used for a lot of things, both legal and illegal, and even “virgin” BTC or dollars will quickly gain a history of their own. The real question is, does this practically matter?

The answer is, in almost all cases, no. BTC can be sent or received at any time without an intermediary, so there is no one to stop you from doing so. Where this matter more is when you want to exchange BTC for fiat or even fiat for BTC. This is where KYC and KYT can kick in, specifically if you are using a Centralized Exchange (CEX) though not if using a Decentralized Exchange (DEX) or BTC ATM. Be warned however – If as part of your transaction you use a bank or payment service to pay for or receive the fiat like Revolut or Wise or IBAN for example - that bank or service now has a record that you transacted with some person for something adding a layer of potential traceability.

So yes, “tainted” Bitcoin does exist and it is possible, even probable, that if you own BTC you have some. But it also doesn’t really mean that much to you unless you are specifically trying to do something illegal with it. In reality, while BTC is traceable due to the transparent Bitcoin blockchain, the final mile of tying an address to a person is the biggest hurdle and privacy-minded individuals can do a lot to make this mile even longer if they are so inclined.

…the vast majority of users will never have any issues with ‘tainted’ coins. However, it’s important to be aware of the potential risks, especially for businesses that handle large volumes of BTC.

The choice between these cryptocurrencies is a matter of balancing privacy and fungibility against the other features and benefits of BTC, such as its widespread adoption, liquidity, and established infrastructure. All of these factors play a role in determining which cryptocurrency is the “best” choice for any given individual or business.

While it is true that Bitcoin is not fully fungible or completely anonymous, it remains the most widely used and accepted cryptocurrency. However, as the cryptocurrency landscape continues to evolve, other cryptocurrencies that offer greater privacy and fungibility may become increasingly attractive to certain users under certain conditions. As always, it’s important to carefully consider your own needs and circumstances before deciding which cryptocurrency to use.