FinCEN Oversight Hearing; HFSC Hearing on Crypto and Illicit Finance

FinCEN Oversight Hearing

What Happened?

Last Wednesday, the House Financial Services Committee (HFSC) convened an oversight hearing focused on the Financial Crimes Enforcement Network (FinCEN), the federal law enforcement agency responsible for enforcing the United States’ anti-money laundering (AML) laws, and the Treasury Department’s Office of Terrorism and Financial Intelligence (TFI), which oversees the U.S. sanction program and AML/CFT laws. Andrea Gacki, FinCEN’s Director, and Brian Nelson, the Treasury Department’s Under Secretary for TFI, testified at the hearing. Illicit activity using digital assets was a focus of the hearing, as were broader topics such as the compliance costs for small businesses and individual privacy concerns.

Representative Sean Casten (D-IL), raised concerns with the calculation of illicit transactions facilitated by cryptocurrency. He speculated that the analysis done by firms such as Chainanalysis represented a “floor not a ceiling,” yet he provided no hard evidence for this claim. Instead, he provided information about exchange transaction volume and asked the American people to join him in his leap of logic.

In response to a line of questioning by Representative Tom Emmer (R-MN), Under Secretary Nelson addressed the much-discussed Wall Street Journal article from late 2023 that reported that Hamas had used digital assets at scale to finance its operations and activities. Rep. Emmer asked whether Under Secretary Nelson and Treasury believed the Wall Street Journal “misinterpreted the data.” Under Secretary Nelson agreed that the WSJ had misinterpreted the data and stated that the Treasury Department’s assessment remains that digital assets are not the “preferred means of terrorist financing.” Terrorists continue to prefer traditional financial markets. Alluding to a letter more than 100 members of Congress sent to the Treasury Department based on the WSJ’s inaccurate article, Rep. Emmer asked Nelson for the Treasury Department to “correct the record” when they know information to be incorrect in situations like this one. 

What does this mean?

In this hearing, the Treasury confirmed that hard currency and traditional markets remain the preferred vehicles for terrorist financing. Although politicians like Senator Elizabeth Warren (D-MA) have cast aspersions on digital assets, the facts fail to fit this narrative. Under Secretary Nelson confirmed what experts in blockchain analysis have continued to publicly present: digital assets play a less significant role than traditional instruments in illicit finance. 

HFSC Hearing on Crypto and Illicit Finance 

What happened? 

Last Thursday, the House Financial Services Committee’s Subcommittee on Digital Assets, Financial Technology and Inclusion held a hearing titled “Crypto Crime in Context Part II: Examining Approaches to Combat Illicit Activity.” 

In his opening remarks, Chairman French Hill (R-AR) highlighted the need for international cooperation to tackle illicit activity using digital assets occurring in foreign jurisdictions out of step with international AML frameworks. “Let's be clear, much of the illicit financing through digital assets doesn't take place here in the United States. It's done offshore, in obviously non compliant rogue jurisdictions,” Chairman Hill stated. 

In line with this perspective, Grant Rabenn, Director of Financial Crimes Legal at Coinbase, emphasized the significance of fostering crypto innovation within the United States to maintain a strong compliance and enforcement framework. “There is a national security imperative to get this right. Keeping crypto here in America ensures compliance enhances law enforcement and secures the financial system. The reverse is true. If the pipes and plumbing have a technology that moves value flow elsewhere, the US government loses its ability to shape it,” Rabenn stated. He added that “the overwhelming majority of illicit finance, to the extent that it's even in crypto, is happening at centralized exchanges where the on ramp and off ramping is happening. And almost all of that [illicit on- and off-ramping] is happening offshore because of regulatory arbitrage where other jurisdictions have not been brought up to US standards of transparency.”  

Witness Michael Mosier, Co-Founder of Arktouros and co-author of a recently-published paper on a conceptual framework for combating illicit finance in DeFi, explained the limitations of building a AML/CFT regulatory framework based on existing tools and regulatory obligations, including Know Your Customer KYC (KYC) measures. Mosier argued against the blanket application of financial institution standards to all elements of blockchain networks, as "treating every gear of code in a technological network as a financial institution... overestimates the safety of financial institutions and the effectiveness of KYC.” “The original anonymity-enhanced technology is cross-border fiat banking with nested accounts and shell companies,” Mosier continued. Additionally, in response to a question from Chairman Hill about why applying Bank Secrecy Act (BSA) requirements to miners and validators does not make sense, Mosier said that “...miners and validators are essentially producing blocks and verifying blocks... It's not something that we would subject to KYC... it's essentially a random process of allocation of processing data... There are no customers... It's mathematical processing... it just would not be effective." 

What does this mean? 

Testimony at the hearing generally emphasized the importance of creating an AML/CFT regulatory framework responsive to the characteristics of decentralized networks and software programs. Furthermore, the witnesses agreed that ensuring the compliance of crypto on- and off-ramps (usually, financial institutions) in foreign jurisdictions remains the best place to address illicit financial risks using digital assets. Approaching software infrastructure as being at all akin to traditional financial institutions will not promote financial integrity.