Banks and Bitcoin getting closer through forensics

Apart from investing heavily in blockchain research, banks have been wary of dealing with bitcoin-related companies. The anonymity and potential illegality of some of the transactions, as well as the generally unregulated nature of bitcoin as a “currency”, have led banks to close down accounts that they suspect of dealing in bitcoin, and to deny accounts to new bitcoin startups. Although the banks themselves would not be holding bitcoins for their clients, the (generally unfounded) fear of being caught without verifiable transaction records in the event of an audit has been stronger than the desire to capture new business.


This may be about to change.

Technically, Bitcoin is not anonymous, it is pseudonymous, and transactions are often traceable. It can be anonymous with extra effort, re-routings and mixing solutions, but for most Bitcoin businesses, that’s not an issue. Often it’s not even a feature that they offer their clients. It’s the possibility of untraceable transactions that spooks the official institutions, although they are reluctant to publicly admit this. The Bitcoin sector, and regulators, are starting to openly protest. Just last week Australia’s Competition and Consumer Commission launched an official investigation into banks’ policies regarding digital currency clients. Their findings will most likely be totally confusing.

Enter the Bitcoin forensics. Chainalysis offers the service of Bitcoin transaction tracking. Their website declares that “We built Chainalysis to spot connections between digital identities”, which means that they use transaction data to link addresses and to thus decipher the originators of certain bitcoin transactions.


Chainalysis is, as far as I know, the first to publicly offer this service, attracting considerable controversy. Its tracking methods have been accused of distorting network latency, and its de-anonymization purpose is rubbing freedom decentralists the wrong way. But, it is a service that will end up being necessary if official banks are to start opening their doors and their credibility to Bitcoin startups.

Just over a week ago Chainalysis signed a collaboration agreement with British bank Barclays, to add a layer of compliance onto digital currency transactions. This could pave the way to Barclays becoming the first large commercial bank to officially accept Bitcoin clients. This would not only be very good news for the startup sector, but it would also enforce Barclays’ reputation as being quite “with it” when it comes to Bitcoin. In June it signed a collaboration deal with bitcoin exchange Safello to try out various bitcoin-related services. And earlier this month it signed a contract with blockchain trade finance facilitator Wave.

This does not mean that Barclays will necessarily be holding bitcoins for its clients. But back in September they did say that they were looking into the possibility of helping their charity clients to collect and disburse bitcoin donations. Until bitcoin is officially declared a “bankable” currency, it is unlikely that we’ll be able to open a bitcoin-denominated account at our local branch. But regulators do seem to be heading towards declaring bitcoin official tender. Just a few days ago the European Court of Justice ruled that, for tax purposes at least, Bitcoin should be considered as money.

Hopefully, with Barclays scooping up the potentially lucrative market of Bitcoin businesses eager for respectability, other banks will take a similarly progressive stance and realize that Bitcoin is not about illegal activity, any more than cash is. And from what I gather, banks have never had any problem accepting and storing cash.

Is Bitcoin anonymous?

Much hype has been frothed about the anonymity of Bitcoin, and how that makes it ideal for illegal activities. (Let’s not even go into the illegal activities that the ever-so-anonymous cash is used for.) So it’s worth setting the record straight: Bitcoin is not anonymous. But it can be.

First, rather than anonymous, Bitcoin is pseudonymous. All your bitcoin transactions are linked to your bitcoin address (or addresses). In the Bitcoin transaction sphere, you are known by that address, no-one else can use it. It is your “pseudonym”. Totally anonymous transactions would have no attached pseudonym.

True, figuring out that that address belongs to you, specifically, is difficult. Difficult, but not impossible. How would one go about doing it? By combing through all other transactions to and from that address and looking for clues such as delivery destinations, transfers to private sidechains, links to other addresses that have been identified, donation requests in forums… Or, investigators could look for transactions that combine two Bitcoin addresses into one input. For instance, if you had 3 bitcoins in one address, 2 in another and wanted to buy something that cost 5, you’d combine your two bitcoin addresses into one transaction. If the identity behind one of the input addresses is known, then the other one is, too.

an example of bitcoin activity tracking, from An Analysis of Anonymity in the Bitcoin System
an example of bitcoin activity tracking, from An Analysis of Anonymity in the Bitcoin System

Another technique used for figuring out bitcoin ownership is patterns in activity. Parallels can be drawn between transaction activity and Twitter activity, for example. Periodic repeat purchases, even from different addresses, can be a giveaway.

And most of us get our first bitcoins on an exchange. In general, exchanges are regulated and have to comply with the local Know Your Client laws, which generally involve verifying your identity with authorised documents such as passports or ID cards. That address is linked to your real self (in theory), as are other addresses that that address transfers to. Even simple wallets (not related to exchanges) that don’t ask for your identity need to keep records of all transactions associated with your bitcoin address, in order to know how many bitcoins are rightfully yours. Records are hackable, and can be subpoenaed by the authorities.

The anonymity of Bitcoin has been one of the main barriers to banks’ willingness to work with Bitcoin-related businesses. Chainalysis (which recently signed a deal with British bank Barclays) intentionally combs through transaction data to de-anonymize the network and to provide banks with a compliance service. While this will no doubt bother many Bitcoin users who value the philosophical benefits of the freedom that anonymity brings, Chainalysis’ goal is to get banks more comfortable with working with Bitcoin users, which will help the digital currency’s spread and influence.

However, with some extra effort, Bitcoin can be anonymous. It is possible to buy bitcoins anonymously using cash and local exchangers. Bitcoin users can employ a different address for each transaction to make ownership harder to trace. The heavily encrypted network Tor makes it much harder to track transactions (among other features, IPs are not recorded), but even just using Tor can alert authorities that you are hiding something.

These aren’t foolproof anonymity methods, but they do make it harder to follow a bitcoin through the network. Mixing services, which shuffle your bitcoins with those of other users, do provide a very high level of anonymity, but are much riskier than traditional wallets in that they are unregulated and often unaccountable. If Bitcoin anonymity is important to you, your best bet would be to use a mixing service and withdraw your funds immediately, and to use a different address for each transaction. Of course, the best way to avoid getting caught for illegal activity is to simply not do it.

(For more on how Bitcoin works, see Bitcoin Basics.)