This month, Chainalysis and Elliptic announced support for Zcash in their compliance products. This post will provide clarity about our position on crypto forensics and compliance platforms and the impact to Zcash users.
Zcash privacy features
Zcash shielded addresses provide stronger privacy protection than a user can get with any other cryptocurrency today. No one, including Chainalysis and Elliptic, is able to determine how much a Zcash shielded address holds, nor are they able to see the sender, receiver, transaction amount or the contents of the Zcash memo field in a fully shielded Zcash transaction.
Zcash does support viewing keys that allow a shielded address owner to selectively share information to third parties. Zcash also supports transparent addresses and transactions. Transparent addresses are similar to Bitcoin addresses, and Chainalysis and Elliptic support is specific to this type of address. Viewing keys are not supported by either Chainalysis or Elliptic.
The growing Zcash privacy set
Users of Zcash shielded addresses gain privacy benefits whether they are interacting with services connecting with the shielded pool or the transparent pool. For example, let’s say you hold Zcash in a shielded mobile wallet and deposit it onto an exchange that only supports transparent Zcash. Analytics firms like Chainalysis and Elliptic will be able to record the deposit address of the exchange and the transaction amount, but will not have insight into the origin address of the transaction. Furthermore, let’s say you then make a purchase from your shielded mobile wallet with a merchant that only accepts transparent Zcash. Chainalysis will not be able to link the deposit on the exchange and the subsequent purchase to the original shielded address.
The larger the Zcash privacy set, the greater the privacy benefits for Zcash users. The size and growth of Zcash privacy set is reflected in the following graph. (View full size image.)
Approximately 6% of the Zcash network is held in the shielded pool, while 14% of Zcash transactions interact with the shielded pool in some way. The number of shielded Zcash transactions has been growing steadily since launch and has accelerated since the Sapling network upgrade in 2018. We expect this trend to continue as new infrastructure is developed that supports the growth of shielded addresses. The Heartwood network upgrade, which is scheduled to go live mid-July, includes support for shielded coinbase (ZIP 213). This will likely further increase the Zcash privacy set as it gives miners the option to mine coinbase rewards directly to a shielded address.
Balancing privacy and compliance
Some of the world’s most heavily-regulated exchanges, such as Gemini and Coinbase, support Zcash while fully complying with regulatory and banking requirements. These companies adhere to strict anti-money laundering and counter-terrorism-financing laws that require safeguards to mitigate risk. Analytics firms such as Chainalysis and Elliptic help these companies manage these risks and financial compliance requirements.
As stated in Elliptic’s blog:
“Crypto exchanges have developed sophisticated processes that allow them to deal with their customers’ use of mixers, and distinguish money launderers from those simply seeking financial privacy.
In the same way that a cash deposit at a bank is not automatically assumed to be proceeds of crime, neither are cryptoasset transactions from mixers – the broader context of the transaction and the customer are taken into account to decide whether further action is necessary.
… if regulated businesses such as exchanges have succeeded in managing the risk posed by their customers’ use of bitcoin and mixers, then the same can be achieved for their use of privacy coins such as Zcash and Horizen.”
Michael Moro, CEO of Genesis noted in Elliptic’s press release announcing Zcash support, “At Genesis we provide liquidity to our clients across a broad range of digital assets. As a highly-regulated entity we need to apply the same stringent compliance standards to all assets on our platform. Elliptic’s addition of these new assets enables us to further grow our business by providing the ability to assess risk on transactions and meet regulators’ expectations.”
It should be noted that even though the tooling provided by Chainalysis and Elliptic companies is limited to support for transparent addresses, there is no regulation that precludes these exchanges from supporting shielded addresses.
No evidence of illicit Zcash use
While Zcash is one of the most heavily used and supported cryptocurrencies in the world, it is not being used for any substantive level of illicit use. According to a report released by the RAND Corporation, “This research has not identified any credible evidence pointing to large-scale use of Zcash for money laundering, terrorism financing or the trade in illicit goods and services.”
The report goes on to state, “the governance of Zcash and its branding by ECC as compliant with the relevant AML/CFT regulations may make it less susceptible to exploitation for illicit or criminal purposes.”
Elliptic’s research was consistent with RAND’s findings: “To date, we have observed very little adoption of Zcash or ZEN by illicit entities. Bitcoin remains the crypto-asset of choice for criminals.”
Users of Zcash shielded addresses get stronger privacy protection than they would with any other cryptocurrency. Chainalysis and Elliptic products do not compromise that privacy. Their announcements indicate that (1) crypto and financial institutions are interested in holding or offering services for Zcash, and (2) these companies have the necessary safeguards in place to be compliant.