Privacy is a public good. The iron rule of economics is that free markets undersupply public goods.
As the name implies, a "privacy coin" is a type of cryptocurrency that ensures the privacy and anonymity of its users. In the simplest terms, privacy coins rely on the same blockchain technology as cryptocurrencies like Bitcoin, Ethereum, Solana, etc. but go a step beyond in how they handle information about transactions and obfuscate some info.
Privacy coins conceal information about senders and receivers during transactions through various methods. The important part of knowing is that, unlike mainstream crypto transactions, privacy coins hide information about wallet activity or offer the feature to users.
Blockchain's Love Hote Relationship With Privacy
Come to think of it; the blockchain world is indeed far more open than Web 2; it is actually far less private. Blockchains leak all user data by default, not just to Cambridge Analytica but to anyone who glances at the blockchain. The dominant public-by-default model means users must give up control of their data by default.
Regarded as a failure by some, Web 3 is not becoming user-centric. Public-by-default systems and blockchains recentralize and converge to winner-take-all structures. Whoever has the resources to make the best use of all the publicly available data will capture most of the value. In other words, the rich get richer, and users lose control.
By just knowing a public wallet address, one can track all past and future transactions of the account. Any association between exchanges, entities or doxxed individuals – private individuals who have had publicly revealing identifying information about them published online, either intentionally or unintentionally – could give insight into who is doing what in each transaction.
Miners, the computers that secure and order blockchains, routinely front-run users based on their privileged view into publicly available data.
Privacy Focussed Solutions, a.k.a Privacy Coins
There are few projects across protocols working on privacy as their core offering. A lot of their technology is derived from the same study of cryptography which is the parent concept of all things blockchain and crypto.
Perhaps one of the most well-known privacy coins, Monero started as a fork from Bytecoin in 2014. With Monero, the addresses of both the sender and receiver are kept private on the ledger, meaning there's also no way to see the value of a user's wallet. The Monero network protects user privacy by utilizing stealth addresses (a one-time address created by the sender for each transaction), ring signatures (a method that uses multiple signatures as decoys to obfuscate address of the sender), and Ring Confidential Transactions, also known as "RingCT" (an improved version of ring signatures that hides the amount of XMR used in a transaction).
Monero further increases the privacy of transactions via a unique splitting mechanism. Each full transaction is divided into different amounts and sent as a subset of separate, smaller transactions adding to the initial amount.
Zcash was created as an alternative to Bitcoin and claims to boast enhanced privacy and security. Zcash is a privacy-focused, blockchain-based payments network that uses zero-knowledge proofs (ZKPs) to shield transactions, making the contents of a transaction private, even on a public blockchain.
Born out of the Zerocash protocol, Zcash forked from the Bitcoin blockchain in 2016. Its native token, zcash, uses the ticker symbol ZEC.
The Electric Coin Company (ECC), which created Zcash, added Zero-Knowledge Succinct Non-Interactive Argument of Knowledge, or "zk-SNARKs", to the ZKP toolkit. This cryptographic advancement allows shielded Zcash transactions to be fully encrypted on the blockchain while still verifying the transaction as valid by the network's consensus.
Mixer Protocols & Tornado
Before diving into Tornado, we need to understand what are mixers. Started as a solution for the bitcoin community to mask their transactions - mixers, also known as tumblers, are tools that jumble up an amount of bitcoin in private pools before spitting them out to their intended recipients.
The idea is that, by shuffling bitcoin through a black box, it's difficult to work out that person A sent ten bitcoins to person B. All a public explorer will show is that person A sent some bitcoin to a mixer, as did a dozen other people, and that person B received some bitcoin from a mixer, as did a dozen other people.
Now, think of Tornado as a mixer for the Ethereum ecosystem.
Tornado Cash allows ETH holders to deposit a sum of their token balance into a non-upgradable smart contract that gives them an encrypted note. Using the encrypted note, the user can withdraw the funds from another Ethereum address in single or multiple transactions.
One step further, Tornado Cash allows third parties called "relayers" to send that encrypted note verifying the withdrawal transaction to application users. In return for passing the note, relayers receive a small fee. The relayer system allows users to have their funds trustlessly withdrawn into a new wallet without needing ETH in the new wallet to pay for the claim transaction. The relayers also cover that cost on their behalf.
Half-baked Understanding of Privacy
Not everyone wants to use Privacy Coins: Few people actually want to settle debts in a special coin whose only defining characteristic is that it can be private. The problem here is that other protocols and their native currencies derive a significant part of their perceived value from features which are usually fundamental to the infrastructural frameworks that would define the future of blockchain technology. Also, protocols like Ethereum and Solana allow projects to be built on top of them, enabling an ecosystem which facilitates more extensive economic activity. Expecting something similar is difficult for now from these 'privacy coins'.
Interestingly, there's also quite some gap in knowledge about crypto among the significant chunk of people who've been untouched by the technology. They think that currencies like Bitcoin and Ethereum enable privacy, and their transactions will largely remain unknown to the world. This distortion between the ideas of 'anonymity' and 'privacy' is critical to understand and a large hindrance in mass adoption.
Persisting Regulatory Issues
Another way of looking at this is the adoption of social media and the steep increase in daily active users over the last decade. Even though almost all major publications, regulators and leaders who've been in the same room as the people behind the tech, have been struggling to spread awareness about the malpractices and the extent of privacy breaches done by these organizations. Yet, we continue to use such platforms carelessly and facilitate it with our critical information and snippets of our daily life without understanding the largescale repercussions as a society.
Also, privacy coins have always been the first target for regulatory inquisitions. On the regulatory side, we've seen a slew of privacy coin delistings in South Korea, Japan, the U.K., and the U.S. Governments are continually trying to tighten the noose on privacy coins.
Crypto lobbies have grown larger; vast swaths of retail and many institutions now own BTC and ETH. But very few institutions are willing to come to the defence of privacy coins and are somewhat ready to bear the cost of sacrificing the privacy bit for their monetary positions.