It seems to meet that there is something of a paradox around cash, digital cash and anonymity. The average consumer wants anonymity for their own payments because they are not crooks (and their purchasing decisions are no-one’s business except theirs and the merchant’s). On the other hand, the average consumer (not to mention the average law enforcement agent) doesn’t want anonymity for terrorists, lobbyists or fraudsters.
The Bank of England’s fintech director Tom Mutton said in a speech that privacy was “a non-negotiable” for a retail CBDC. Meanwhile, the Bank of Canada (just to pick one recent example) published a a staff analytical note on the risks associated with CBDCs stating that central banks should mitigate risks such as anonymity present in digital currencies. Note the formulation of anonymity as a “risk”. With stricter rules on the holding and exchange of cryptocurrencies coming into place around the globe. Just to give one example, South Korea’s Financial Services Commission has announced new rules to come into force in 2022, banning all anonymous digital currencies “that possess a high-risk of money laundering” (which, as far as I can see, is all anonymous digital currencies).There is a payments privacy paradox, and cryptocurrency brings it into sharp relief. Good people should be allowed anonymous cash, but bad people should not. Click To Tweet
How can we resolve this? Well, I think that we can, if we spend a little time to think about what anonymity and privacy actually mean.
The Clinton Paradox
This is a special case of a more general paradox. Let me explain and illustrate. A few years ago, I was invited me along to “an event” in London to enjoy a morning of serious thinking about some key issues in information security. They had some pretty impressive speakers as I recall: Mike Lynch, the founder of Autonomy, was one of them. Alec Ross, who was Senior Advisor for Innovation and Technology to the Secretary of State Hilary Clinton, gave the keynote address on “ The promise and peril of our networked world ”. Alec was a good speaker, as you’d expect from someone with a background in diplomacy, and he gave some entertaining and illustrative examples of using security to help defeat Mexican drug cartels and Syrian assassins. He also spent part of the talk warning against an over-reaction to “Snowden” leading to a web Balakanisation that helps no-one.
A decade back, I wrote about what I called the “Clinton Paradox”. This came about because I read a piece by Bob Gourley. the former CTO of the U.S. Defense Intelligence Agency, who framed a fundamental and important question about the future identity infrastructure when analysing Hillary Clinton’s noted speech on Internet freedom.
We must have ways to protect anonymity of good people, but not allow anonymity of bad people.
Mrs. Clinton had said that we need an infrastructure that stops crime but allows free assembly. I have no idea how to square that circle, except to say that prevention and detection of crime ought to be feasible even with anonymity, which is the most obvious and basic way to protect free speech, free assembly and whistleblowers: it means doing more police work, naturally, but it can be done. By comparison, “knee jerk” reactions, attempting to force the physical world’s limited and simplistic identity model into cyberspace, will certainly have unintended consequences. Hence, I had suggested, it might be better to develop an infrastructure that uses a persistent pseudonymous identity. I was looking to mobile operators to do this, because they had a mechanism to interact face-t0-face (they had retail shops at the time) and remotely, as well as access to tamper-resistant secure hardware (ie, the SIM) for key storage and authentication. It never happened, of course.
Why am I remembering this. Well, I challenged Alec about the Clinton Paradox —slightly mischievously, to be honest, because I suspected he may have had a hand in the speech that I referred to in that blog post—and he said that people should be free to access the internet but not free to break the law, which is a politician’s non-answer (if “the law” could be written out in predicate calculus, he might have had a point, but until then…). He said that he thought that citizens should be able to communicate in private even if that means that they can send each other unauthorised copies of “Game of Thrones” as well as battle plans for Syrian insurgents.
I think I probably agree, but the key here is the use of the phrase “in private”. I wonder if he meant “anonymously”? I’m a technologist, so “anonymous” and “private” mean entirely different things and each can be implemented in a variety of ways.
The Payments Paradox
How will the Bank of Canada mitigate the risk of anonymity and South Korea maintain a ban on “privacy coins” when faced with a Bank of England digital currency that has non-negotiable privacy? Well, the way to resolve this apparent paradox is to note the distinction above between privacy and anonymity.
In the world of cryptography and cryptocurrency, anonymity is unconditional: it means that it is computationally infeasible to discover the link between a person in the real world and value online. Privacy is conditional: it means that the link is hidden by some third party (eg, a bank) and not disclosed unless certain criteria are met.
You can own these cartoons!
NFTs available from the artist Helen Holmes at TheOfficeMuse
Surveying the landscape as of now, I think we can see these concepts bounding an expanding privacy spectrum. There will undoubtedly be anonymous cryptocurrencies out there, but I think it is fair to observe that they will incur high transaction costs. At the other end of the spectrum, the drive for techfins and embedded finance will mean even less privacy (for the obvious reason, as discussed before, that their payment business models around around data). One might argue, with some justification I think, that central banks are better positioned than banks or other intermediaries when it comes to safeguarding data, because a central bank has no profit motive to exploit payments data.
(I could go further and argue that if the central bank were to place transaction data into some form of data trust that would facilitate data sharing to the benefit of citizens, we might see some real disruption in the retail payments space. In a data trust, structure, data stewards and guardians would look after the data or data rights of groups of individuals with a legal duty to act in the interest of the data subjects or their representatives. In 2017, the UK government first proposed them as a way to make larger data sets available for training artificial intelligence and a European Commission proposal in early 2020 floated data trusts as a way to make more data available for research and innovation. And in July 2020, India’s government came out with a plan that prominently featured them as a mechanism to give communities greater control over their data.)
Digital Currency, Digital Privacy
As The Economist once noted on the topic of central bank digital currency, people might well be “uncomfortable with accounts that give governments detailed information about transactions, particularly if they hasten the decline of good old anonymous cash”. And, indeed, I am. But the corollary, that anonymous digital currency should be allowed because anonymous physical cash is allowed, is plain wrong.
No-one, not the Bank of England nor any other regulator, central bank, financial institution, law enforcement agency, legislator or, for that matter, sane citizen of any democracy, wants anonymous digital currency whether from the central bank or anyone else. The idea of giving criminals and corrupt politicians, child pornographers and conmen a free pass with payments is throughly unappealing. On the other hand, the Bank of England and all responsible legislators should demand privacy.
I think the way forward is obvious, and relies on distinguishing between the currency and the wallets that it is stored in. Some years ago, when head of the IMF, Christine Lagarde spoke about CBDCs, noting that digital currencies “could be issued one-for-one for dollars, or a stable basket of currencies”. Why that speech was reported in some outlets as being somewhat supportive of cryptocurrencies was puzzling, especially since in this speech she specifically said she remained unconvinced about the “trust = technology” (“code is law”) view of cryptocurrencies. But the key point of that speech about digital fiat that I want to highlight is that she said
Central banks might design digital currency so that users’ identities would be authenticated through customer due diligence procedures and transactions recorded. But identities would not be disclosed to third parties or governments unless required by law.
As a fan of practical pseudonymity as a means to raise the bar on both privacy and security, I am very much in favour of exploring this line of thinking. Technology gives us ways to deliver appropriate levels of privacy into this kind of transactional system and to do it securely and efficiently within a democratic framework. In particular, new cryptographic technology gives us the apparently paradoxical ability to keep private data on a shared or public ledger, which I think will form the basis on new financial institutions (the “glass bank” that I am fond of using as the key image) that work in new kinds of markets.
So, if I send ten digital dollars from my digital wallet to your digital wallet, that’s no-one business but ours. If, however, law enforcement agencies obtain a warrant to require the wallet providers to disclose the identity of the owners, then that information should be readily available. There is no paradox around privacy in payments, but there is an imperative for practical pseudonymity.
[An edited version of this article first appeared on Forbes, 6th April 2021.]