Charlie 21MM

May 12, 2021

2 min read

Bitcoin and Layer Two Privacy

As previously discussed, there are several trustless, decentralised methods of maintaining privacy when performing simple cryptocurrency transactions. These involve moving funds from BTC to privacy coin via dex, perfuming shielded transaction, then unshielding and reverting the dex transaction before the desired final transaction. Whilst privacy can be maintained, there are drawbacks to this method.

Firstly; the volatility of alt coins presents a problem. Arguably (and believe me, I’ve argued!) Bitcoin is cryptocurrency in its purest form- decentralised, censorship-resistant, with enough utility and consumer confidence that the volatile swings of the past are becoming less and less common. As Plan B’s famous Stock to Flow model (S2F) is shown to be more accurate over time, holding Bitcoin becomes less risky over shorter time periods. The same cannot be said for altcoins. Even those with a large market cap are not immune from massive swings (DOGE briefing taking the #3 slot with a MC of $94 Billion, for example, before slumping nearly 40% in 24 hours). Therefore even if not a speculation, and you are holding an altcoin for the purpose it was intended (if it has one), you are taking a risk that your money will hold value over the time period before you redeem it for Bitcoin.

Secondly; trading fees and transaction fees at every stage reduce the sum available to be sent. While trading fees can be low depending on the dex or cex used, to go BTC > Privacy alt > Privacy Alt > BTC > BTC Tx will involve 4 sets of fees. If there is another method to achieve a cryptocurrency transaction without losing value along the way, surely this is preferred.

There is another way to achieve the same privacy using Bitcoin mixers (also called tumblers) such as CoinJoin or BitcoinMixer. These work in the same way as Monero (XMR) utilising ring signatures. When wishing to send a transaction, you send it via a “pool” of Bitcoins. Whilst in the case of CoinJoin and BitcoinMixer these are not decentralised, you are trusting a central entity with your Bitcoin and pooling it with many others, before the output transactions from many users are included in a block. Decentralised options are also available for users of Samourai wallet, using their “Whirlpool” function. These are not fool proof, as there are several methods to trace a transaction. However for small sums or the occasional user, privacy can be greatly increased.

As such, it is difficult to argue that Bitcoin cannot be a privacy coin. Using L2 solutions, BTC can act as much as a privacy coin as Monero or Zcash. With Taproot in the future possibly bringing ring signature transaction compatibility to the base layer, Bitcoin will continue to transfer the power of financial transaction into the hands of everyone.