After several days of mounting pressure, Coinbase co-founder and CEO Brian Armstrong said that he would rather shut down the company’s Ethereum staking service than comply with a government order to censor sanctioned transactions.
“It’s a hypothetical we hopefully won’t actually face. But if we did we’d go with B i think,” Armstrong tweeted in response to Rotki founder Lefteris Karapetsas, who had asked Coinbase and its peers whether they would censor or leave the staking business if pressured by regulators.
“Got to focus on the bigger picture. There may be some better option (C) or a legal challenge as well that could help reach a better outcome,” Armstrong continued.
Coinbase accounts for about 14% of all staked Ether, with more than 1.9M ETH locked on behalf of its users in the network’s Beacon chain. Ether is trading at $1,850 on Wednesday evening in New York, making Coinbase’s stake worth more than $3.5B.
Tornado Cash Fallout
The sanctions levied on Tornado Cash and the subsequent arrest of a developer who contributed to its code have kicked off an existential debate within the Ethereum community. And prominent members are demanding that billion-dollar players like Coinbase take sides.
“You had one job—ONE JOB: censorship resistance,” Lane Rettig, a former Ethereum core developer, wrote on Twitter, addressing the Ethereum community. “It’s the ONE THING that makes all the pain worthwhile: all the obnoxious, slow, painful decentralization theater. If you can’t do that one thing, then there’s no point in any of this and we should all pack up and go home already.”
Concentration Of Power
Four entities — Lido, Coinbase, Kraken and Binance — control about 60% of the Ether used to secure Ethereum’s Beacon Chain, the proof-of-stake consensus layer running in parallel with Ethereum’s current proof-of-work chain. When the two merge — a long-anticipated event currently scheduled for mid-September — the Beacon Chain will effectively absorb the proof-of-work chain, reducing Ethereum’s energy use by over 99%.
But it will also give major staking entities the power to, in theory, reject certain transactions.
That once far-fetched hypothetical scenario now seems all too real, after the U.S. Treasury Department sanctioned the Tornado Cash protocol and some four dozen affiliated crypto wallets on the grounds that they facilitated money laundering by state-sponsored North Korean hackers and other cybercriminals.
Earlier this week, Karapetsas posed a question to Lido, Coinbase and other major stakers. If regulators demand they censor Ethereum transactions, would they [A] comply? Or would they [B] exit the staking business to “preserve network integrity,” forfeiting billions of dollars in the process?
“If any of them choose [to comply] we should actively strive to move away from them as they are an existential threat to the permissionless nature of the network,” he wrote in a subsequent tweet.
The question has sparked a heated, multifaceted debate — Would regulators really do that? Could they? What would Lido, Coinbase and other staking entities have to do in order to comply? And, perhaps most importantly: if they did comply, how could the community fight back?
Crypto attorney Geoff Costeloe said centralized staking entities would have no choice but to comply with government censorship orders.
“These aren’t individuals. They are entities with shareholders and an obligation to profit,” he tweeted. “Only if A was less profitable than B (or similar) would it be a real question.”
Luke Youngblood, a developer at DeFi protocol Moonwell who formerly worked on Coinbase’s ETH staking offering, disputed the claim.
“One thing you might not know is that all of Coinbase retail Ethereum validators operate outside the US (for tax purposes). So not only will they fight censorship to their last, dying breath, it is a stretch for US regulators to censor transactions.”
Penalty For Censorship
In the event Coinbase and company do comply, however, the Ethereum community would be left with little recourse other than a “user activated soft fork,” or USAF, according to observers.
Such a move would “eliminate the stake of any entity that systematically engages in baselayer censorship to comply with government regulation,” according to Twitter personality and self-described bitcoiner Eric Wall.
In a series of threads serving as a call to action, Wall is urging his followers to pressure large stakes to take a stand against censorship.
Blake West, the co-founder of Goldfinch, believes that Circle, the issuer of the USDC stablecoin, effectively has veto power over Ethereum, given USDC’s importance in the ecosystem. To illustrate his point, he cites an attempt by some to keep Ethereum’s proof-of-work chain alive after The Merge.
Miners, the operators who contribute vast amounts of computing power to secure Ethereum today, will find their expensive equipment useless after the Merge and have pledged to “fork” the network — in other words, to copy and paste Ethereum as it exists today and continue operating it as though nothing has changed.
West believes this effort will prove futile.
“When the [proof-of-work] fork goes live, the supply of USDC will — on-chain at least — immediately double,” he wrote. “But of course, the dollars in Circle’s bank account will not. Thus Circle must choose one and only one chain. They chose Proof of Stake. And that alone kills the PoW fork. b/c the on-chain state becomes chaos if USDC value immediately drops to zero.”
Blockworks research analyst Matt Fiebach believes this could doom an anti-censorship USAF.
“Will Circle (USDC) support the censored chain or the not censored one?” he mused on Twitter. “If they choose the censored one (as is likely), well, we might be screwed my permissionless-supporting friends.”