Blockchain analysis cannot prevent illegal schemes at the FTX level
Data transparency has been a focal point for the cryptocurrency industry, but the FTX fiasco has shown that centralized exchanges (CEX) are not transparent enough. So far, crypto analytics firms are apparently unable to track transactions to prevent collapses like FTX.
All Bitcoin (BTC) transactions are publicly available on the chain, meaning people can track transactions as they send crypto from one address to another. However, this is not the case when it comes to interacting with a centralized crypto exchange.
Cointelegraph spoke with executives at blockchain intelligence firms – including Chainalysis, Nansen and Whale Alert – to gain more insight into tracking illicit CEX transactions on the chain.
Chainalysis, a major blockchain data platform that works with many governments around the world, said there is currently no on-chain tracking tool that can trace funds through a CEX.
“Chainalysis – or any other blockchain analysis tool – cannot track funds through a centralized service because the way these services store and manage funds deposited by users makes further tracking inaccurate,” a Chainalysis spokesperson told Cointelegraph.
“Even if you could trace through a centralized exchange, chain analysis alone cannot reveal fraudulent intent behind transactions,” the representative noted. The spokesman emphasized that Alameda’s leaked off-chain balance sheet was the first to reveal that something was amiss.
While blockchain analytics can track deposits on CEXs, there is no way to access their liabilities, according to Nansen analyst Andrew Thurman. “FTX stopped withdrawals as they still had over a billion in various digital assets. We now know they had a far greater sum in debt,” he said.
Thurman also argued that a proof-of-reserves model — the increasingly popular effort by CEXs to prove transparency — is “only half a goal, but it’s a good one.”
Despite blockchain analytics so far having limited ability to track illegal CEX transactions, some monitoring services are trying to prove that the industry might one day be able to prevent problems like the FTX crash.
“We are currently doing historical balance checks on our known FTX addresses – deposits and other related addresses – to determine if this could have been detected earlier,” Whale Alert co-founder and CEO Frank van Weert told Cointelegraph in November.
Whale Alert has since had to abandon the project because it did not have enough resources to properly scan the two years of data. “It requires quite a bit of computing power, which we didn’t have available,” the CEO said.
Van Weert also noted that “it’s possible to track exchanges,” but that platforms like Coinbase and FTX make it a little more complicated to track incoming coins since they don’t use hot wallets like exchanges like Binance and Crypto.com do. He added that exchanges are “extremely reluctant to cooperate,” with many of them refusing to comment on Whale Alert’s findings for “security” reasons.
Related: What blockchain analysis can and cannot do to find FTX’s missing funds: Blockchain.com CEO
Emphasizing that the entire crypto industry is responsible for the collapse of FTX, the Whale Alert CEO said:
– So far, the industry’s focus has been on profit rather than proper infrastructure. The only way out of this mess is to regain public trust on the basis of proper transparency, which does not come from Merkle Tree audits.”
However, according to some industry leaders, blockchain analytics platforms are not interested in catching illegal actors on the chain in the first place.
“Firstly, blockchain analysis doesn’t really do anything, and secondly, they are not focused on fraud and suspicious transactions at the exchange level. Their customers are the exchanges, and you don’t bite the hand that feeds you,” Bitcoin advocate Samson Mow told Cointelegraph.
