Potent mix of art NFTs, cryptocurrencies and central bank digital currencies promises to be a regulator’s nightmare

 

By Hugh Harsono

Non-fungible tokens (NFTs) have exploded in popularity in recent years, being used to represent unique objects such as the iconic Doge meme, exclusive releases of

Additionally, NFTs provide authentication for a variety of other assets by offering a blockchain-based certificate of authenticity for such items.

The digital artwork craze tied to NFTs has created a significant market, worth over US$250 million last year. This dramatic increase in the NFT-related market has raised significant concern about these tools being used to support money-laundering operations.

Anti-money-laundering regulations have greatly restricted the flow of funds for threat actors through traditional banking mechanisms. However, the rise of the art NFT market, along with the growth of central bank digital currencies (CBDCs) in parallel with cryptocurrencies, should greatly concern anti-money-laundering specialists and the financial industry at large.

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Some examples of attempts to launder significant amounts of funds include those by the North Korean government  and Hamas’ al-Qassam Brigades, with some of this money even finding its way into the US banking system.

More specifically, the ability to transfer cryptocurrency funds instantaneously without permission or approval from the traditional banking system appeals to threat actors, even though they are actually traceable, as demonstrated by US federal officials’ recovery of funds  from the 2021 Colonial Pipeline ransomware attack.

In the same vein, art has also historically functioned as a tool for money launderers. The buying and selling of art can help provide funds for individuals seeking to launder money, regardless of their financial or political motivation. An often-cited example in the art world is Jean-Michel Basquiat’s Hannibal, which was recovered in 2008 after being smuggled into the US as part of a scheme to launder illicit proceeds.

Additional evidence of art being central to the money-laundering process in the modern day can be seen in a 2020 US congressional probe that investigated over US$18 million of high-value art purchases by Russian oligarchs for the purpose of evading American sanctions. And, in 2014, it was reported that some Mexican art galleries saw a 25-30 per cent decrease in sales after the passage of a strict anti-money-laundering law in 2012.

Art NFTs present a logical next step for money launderers seeking to cloak their financial activities from regulators. The significant interest in art-based NFTs has created a booming environment ripe for threat actors to take advantage of.

The purely digital nature of art NFTs is particularly beneficial for money launderers: their funds being tied to a decentralised currency; the instantaneous nature of digital payments; no physical artwork to move in and out of ports; and, limited government regulations – all these form the basis of a money launderer’s ideal financing mechanism.

While cryptocurrencies can be tracked, the increasing focus on privacy-oriented assets has further exhausted regulators seeking to keep pace with fintech innovation.

Privacy-oriented tokens such as monero and Zcash  have already been co-opted by threat actors, ranging from hackers and ransomware groups to Islamic State.

Additionally, privacy-focused tools such as cryptocurrency tumblers or mixers can help further obscure the true source of funds, providing another way for such organisations to move money anonymously.

The ability to use fiat or digital illicit funds to purchase art NFTs represents the first step of a money-laundering operation; the ability to then convert the proceeds into a central bank digital currency would have significant implications for money launderers and government regulators alike.

In such cases, funding could move so quickly to the point of being untraceable due to the purely digital nature of the entire transaction chain. The funds could be used in violation of state sanctions while avoiding any tax regulations.

This raises concern about CBDC interoperability between different nations, particularly if those nations are pitted against one another on political, military, economic, or social fronts. While the use of art NFTs to disrupt the standing of a CBDC might seem like a far-fetched theory to some, it remains plausible in many respects.

CBDCs have already been used to evade sanctions and disrupt other countries’ economic influences within a region, as is the case of the Venezuelan petro in Latin America. Therefore, regulators must begin to look across digital industries, to include art NFTs and CBDCs, to craft legislation to support anti-money-laundering efforts against threat actors.

Cryptocurrencies and CBDCs have a number of significant benefits, ranging from serving the underbanked to increasing societal financial inclusion, while art NFTs help capture irreplaceable aspects of our society’s ever-changing culture.

Money-laundering risks emerging from threat actors should not dissuade governments from embracing these emerging technologies. Instead, regulators must fine-tune transaction monitoring and, subsequently, legislation and policy, to account for emerging technological capabilities.

By keeping pace with innovation, financial regulators and private organisations can help provide effective policy responses aimed at maintaining the benefits of the digital world while keeping threat actor behaviour to a minimum.

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