KYC, Bitcoin, and the Failed Hope of AML Policy: Preserving Personal Freedom

Over the past decade, the acronyms AML and KYC have become an inseparable part of our lives. Increasingly stringent anti-money laundering measures are being implemented around the world to help law enforcement agencies track illicit funds. Over the past 20 years, financial institutions have undertaken extensive know-your-customer obligations, requiring them to verify the identity, background, and nature of their activities. This system, based on surveillance and presumption of guilt, has helped the global financial system fight criminals effectively by cutting off the flow of their money.

Or did it really happen?

The actual numbers tell a different story. Several independent studies have shown that AML and KYC policies allow authorities to recover less than 0.1% of criminal funds. AML efforts cost 100 times this amount, but more importantly, they begin to threaten our fundamental right to privacy.

Cases of outrageous demands, such as a French man’s request to justify the source of 0.66 euros he wanted to deposit, no longer raise eyebrows. Regulators face this ridicule without batting an eye, and journalists and whistleblowers continue to expose billions of dollars laundered at the highest levels of the same agencies that subject ordinary customers to a bureaucratic nightmare.

This suggests that sacrificing our right to privacy may not be justified by the consequences.

Unlike fiat currency, which is controlled by KYC, the emergence of blockchain as a free value transfer system has brought hope to many individual freedom advocates. However, the regulator’s response has been to attempt to integrate cryptocurrency purchasing and transfer activities into current AML processes.

Does this mean that blockchain has been tamed with all entrances and exits blocked by AML regulations?

Fortunately, not yet. Or at least not in all jurisdictions. For example, in Switzerland, known for its pragmatic common sense, companies are often allowed to define their own risk exposures. This means that people can purchase reasonable amounts of cryptocurrency without KYC.

Switzerland’s example could prove invaluable in preventing global AML practices from spiraling out of control and bringing a surveillance state to a world once known as “free.” It’s worth a closer look, but first let’s look at why traditional AML approaches fail.

KYC: The worst policy ever

Few people dare to question the effectiveness of current AML-KYC policies. No one wants to appear on the “crime” side of the argument. But this debate is worth having. Because our society seems to be spending ridiculous amounts of money and effort on things that don’t work as intended.

In 2018, Europol Director Rob Wainwright commented: “Banks spend $20 billion a year to run their compliance regimes. We are seizing 1% of criminal assets every year in Europe.”

This idea was developed in one of the most comprehensive studies on the effects of AML, published in 2020 by Ronald Pol of La Trobe University in Melbourne. “The impact of anti-money laundering policy interventions on criminal funds is less than 0.1%, compliance costs exceed the criminal funds recovered by more than 100 times, and banks, taxpayers and ordinary citizens are punished more than criminal enterprises.” Turns out it’s true. Moreover, “accusing banks of failing to implement anti-money laundering laws “properly” is a convenient fiction. Rather, the fundamental problem may lie in the design of the core policy prescriptions themselves.”

The study draws on numerous sources from leading countries and institutions, but the authors admit that it is nearly impossible to reconcile them all. Indeed, it may seem strange, but despite billions of dollars and euros being spent on AML, there is no generalized practice to measure the effectiveness of AML.

But reality is difficult to ignore. Despite 20 years of modern KYC practices, organized crime and drug use continue to grow. Moreover, a number of high-profile investigations have revealed a large-scale money laundering scheme taking place within the top management of respected financial institutions. Crédit Suisse helping Bulgarian drug dealers, Wells Fargo (Wachovia) laundering money for Mexican cartels, BNP Paribas facilitating the activities of the Gabonese dictator… This is not to mention the tax fraud orchestrated by the banks themselves, with Danske Bank, Deutsche Bank, HSBC and too many others found guilty of defrauding their own countries. But the regulators’ response has been to tighten the rules around small retail-scale transfers and create extensive bureaucracy for law-abiding ordinary citizens.

Why did we choose such a cumbersome and inefficient measure? Perhaps the main reason here is that the organization that defines the rules is not responsible for their implementation or the end result. This lack of accountability may explain the increasingly absurd rules that force financial institutions to maintain armies of compliance experts and force ordinary people to struggle to conduct basic financial operations.

This reality is not just frustrating. In a broader historical and political context, this reveals a worrying trend. Increasingly intrusive regulations have established frameworks that can efficiently filter people. This means that various groups can be cut off from the financial system under the pretext of fighting terrorism. This includes people who are politically exposed, dissenting, homeless, non-conformist or involved in the cryptocurrency industry.

Cryptocurrency AML

Blockchains represent a major challenge to fiat systems due to their decentralized nature. Unlike centralized banks that are burdened with numerous AML-related verifications, blockchain nodes simply run user-agnostic code.

While blockchains like Bitcoin cannot be subject to some form of AML, intermediaries, also known as VASPs (Virtual Asset Service Providers), can. Their AML obligations now include two main categories: cryptocurrency purchases and cryptocurrency transfers.

Cryptocurrency transfers fall under the prerogatives of the FATF, and most countries tend to implement this organization’s recommendations sooner or later. These recommendations include “travel rules,” which mean that data about your funds should “travel” with you. Currently, FATF recommends that all fiat transfers exceeding $1000 must be accompanied by information about the sender and recipient.

Different countries have different standards for travel rules. In the United States it is $3,000, in Germany it is 1,000 euros, and in France and Switzerland it is 0 euros. The upcoming TFR regulation update will impose mandatory KYC for all cryptocurrency transfers starting from €0 in all EU countries.

But the great thing about blockchain is that it doesn’t require an intermediary to transfer value. However, you will need this information if you want to purchase cryptocurrency with fiat money.

The cryptocurrency purchasing framework is determined by financial regulators and central banks, where national traditions play an important role. In France, a highly centralized country, market practices are defined in great detail through a series of micro-regulations, on-site inspections and meetings. Switzerland, a decentralized country known for its consensus-based direct democracy, generally grants financial intermediaries a certain degree of autonomy in managing risk appetite.

Switzerland is also the country where Friedrich Hayek, one of the most prominent liberal economists, founded the famous Mont Pelerin Society. Even in 1947, members were concerned about threats to individual freedom. “A minority is simply trying to establish a position of power where it can suppress and destroy all views except its own.”

Interestingly, a company called Mt Pelerin currently operates on the shores of Lake Geneva and is a cryptocurrency broker.

Buy Cryptocurrency in Switzerland

Switzerland is far from the liberal tax haven many believe it to be. It bowed to international pressure by effectively canceling a centuries-old tradition of banking secrecy for foreign residents. It has now become an OECD member country on automatic information exchange, and its active application of FATF recommendations shows its will to break away from its previous sulfur image. In fact, FINMA decided to implement travel rules for cryptocurrencies starting from 0€, including non-hosted wallets, in early 2017. In contrast, the “conservative” European Union will implement this obligation only in 2024.

But even when funds do not explicitly leave the country, Switzerland prefers not to micromanage its financial institutions and does not impose a lot of paperwork on their day-to-day operations. Now it has established itself as one of the rare countries in the Old World where people can buy cryptocurrency without being registered with a profile. This means that companies like Mt Pelerin can process retail-scale cryptocurrency transactions of up to CHF 1,000 per day without requiring customers to verify their identity.

This does not mean an open bar, but rather a higher level of autonomy. For example, Mt Pelerin implements its own fraud detection methods and reserves the right to refuse transactions that raise suspicion. Unlike the highly bureaucratic procedures imposed by other countries, this approach actually boasts a high success rate in filtering out fraudulent transaction attempts. After all, companies on the front lines often understand constantly evolving fraud tactics better than government officials.

The Swiss approach to AML must be preserved and replicated for the benefit of our society. In an age where mass surveillance has become commonplace and the development of CBDCs threatens our complete control over our personal finances, we are closer than ever to the dystopia that Friedrich Hayek so feared.

By controlling our daily transactions, any government, even a well-intentioned government, can manipulate our lives and effectively “annihilate all views except its own.” This is why we buy Bitcoin, and why we want to buy it without KYC.

What about criminals? Shouldn’t access to money be blocked to curb interest in underground entrepreneurship?

Twenty years after the emergence of modern AML, this theory itself has been proven wrong. So what if we accept that criminals enter our financial streams, follow that money, and expose their activities? Continue reading Part 2 for more details.

Special thanks to regulatory and cryptocurrency lawyer Biba Homsy and the Mt Pelerin team at Homsy Legal for sharing their insights.

This is a guest post by Marie Poterieva. The opinions expressed are solely personal and do not necessarily reflect the opinions of BTC Inc or Bitcoin Magazine.