The sanctions placed on Russia following the Ukraine invasion present a “dramatic testing moment” for governments and the cryptocurrency industry to prevent misuse of the technology, a compliance expert said.

“Geopolitically, crypto is now center stage in the conversation,” said Liat Shetret, director of regulatory affairs and compliance policy at Solidus Labs, a compliance software vendor. “That has not been the case before.”

The situation thus presents “a test for crypto that’s really going to affect future growth.” Shetret said Monday in an appearance on CoinDesk TV’s “First Mover.” “It’s a dramatic testing moment.”

The worry is that Russian oligarchs will try to use cryptocurrency to get around the sanctions. But the exchanges belonging to the Crypto Market Integrity Coalition, formed by Solidus and others earlier this month, stand “willing and able” to prevent such actors from cashing out their crypto, Shetret said.

“This is really the pressure point,” she said, since sanctioned individuals and entities would usually need to convert crypto to fiat currency in order to spend it.

Crypto exchanges are actively monitoring their transactions using blockchain tracing and market surveillance, she said. And in doing so, they are trying to assess and create an evidence trail for potential illicit transactions.

Shetret's comments come as the U.S. Treasury Department formally warned crypto exchanges not to facilitate transactions for individuals and entities newly added to its sanctions list.

That said, Shetret did not sound overly concerned about Russia using crypto as an alternative to SWIFT if the West kicks Russian banks off the interbank messaging system as announced. “Crypto infrastructure is not yet as mature as we’d like it to be for it to take on the bulk of the Russian economy,” she said. Russia’s central bank digital currency (CBDC) is “not quite there” as a sanctions-evasion tool either, she said (the Bank of Russia just started testing the digital ruble this month).

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Eswar Prasad, Tolani Senior Professor of Trade Policy at Cornell University, gave a similar assessment. He acknowledged that cryptocurrencies offer some benefits in a crisis, such as a better option than a plunging domestic currency or as a conduit for capital flight, but said risks linger. “The reality is that they do not provide a reliable and scalable workaround for a national government to bypass the international monetary system,” he said by email.

Echoing Shetret, Prasad said the need to ultimately convert cryptocurrencies into more widely accepted global currencies to make international payments means that they have limited traction in evading financial sanctions.

While cryptocurrencies are garnering support at unprecedented times, Prasad said, “they cannot in any significant way prevent a country's currency from collapsing in value relative to major reserve currencies since those values are determined in formal financial markets.”

Crowdfunding warfare

Cryptocurrency’s prominent role in the Ukraine crisis is also a wake-up call for governments around the world to learn and regulate the technology, Shetret said.

Following Russia’s invasion, the Ukrainian government and private actors – including a distributed autonomous organization, or DAO – have raised millions of dollars’ worth of aid in crypto, with at least some of that paying for military equipment.

"This is something new: bringing in crypto actors, non-state actors, to crowdfund warfare,” Shetret said. “This is a new form of geopolitical complexity that we just haven't seen before.”

When asked about the long-term implications of this new form of financing war, Shetret acknowledged that “it could turn ugly.” However, “I’m opting to see it as an opportunity for governments to really step into the light on crypto.”

"Governments at this point in time really have no choice but to wrap their minds around crypto, to have clear policies, clear enforcement capabilities,” she said. "There's simply no way for governments to bury their heads in the sand."

And if they engage, they will find crypto firms cooperative, Shetret said. “The industry is ready to work with governments to make sure that policies are crisp, clear and compliant to achieve the goals of financial integrity."

On the bright side, Ukraine and its supporters asking for funding in bitcoin and ether means the funds can be traced on a public ledger, she said. “That makes life easier because you can see how the funds will be used, where they’re going and where they’re going to get cashed out.”

Daniel Kuhn contributed reporting.