Crypto’s Next Battle Is Privacy: Regulators Face Chicken-Egg Dilemma

Financial privacy is becoming the next structural battle in crypto, and neither governments nor the technology are fully prepared for mass digital surveillance or large-scale privacy.

Institutional adoption of cryptocurrencies is accelerating, as more banks and payments companies test blockchain for settlements, but the technology itself exposes transaction data to the public.

“What people are not comfortable with is having their transactions broadcast to the entire world,” Yaya Fanusie, head of global policy at Aleo Network and a former Central Intelligence Agency (CIA) economic and counterterrorism analyst, told Cointelegraph.

“That is why, even though blockchain transparency is a feature and not a bug, it does not work for large-scale use without some form of privacy.”

Blockchain payments are publicly accessible by design, but governments are beginning to engage seriously with privacy technology like zero-knowledge (ZK) proofs to reconcile transparency with existing financial privacy norms.

*The amount of Zcash held in shielded addresses has risen, reflecting growing use of privacy-preserving transactions. Source:* *ZecHub*

ZK privacy faces a chicken-and-egg problem

For regulators and financial institutions, the privacy debate often revolves around how much confidentiality can be preserved from the public while still allowing compliance, supervision and enforcement.

Fanusie said that this framing mirrors the existing financial system, where transactions are not anonymous but are also not exposed to constant online scrutiny. That becomes harder to maintain on public blockchains, where transparency is built into the architecture.

Banks, payments companies and corporations may see efficiency and programmability benefits in blockchain systems, but few are willing to conduct routine financial activity on public ledgers where competitors, counterparties or adversaries can infer sensitive business information.

“If all of those actions are public, it creates security risks and confidentiality issues. Institutions have proprietary and sensitive information that cannot be exposed, and they cannot operate at scale if every transaction is visible to everyone,” Fanusie said.

Privacy-preserving technologies like zero-knowledge (ZK) proofs have emerged as a potential compromise. ZK systems allow verification without revealing underlying data, such as identity or transaction details.

While often cited in public discussions among crypto developers and privacy advocates, ZK tech remains largely absent from major use cases such as KYC verification at major exchanges.

*ZK technology is often cited as a solution to blockchain privacy challenges, but real-world adoption has lagged its promise. Source:* *Mert Mumtaz*

According to Fanusie, regulators are no longer dismissive of ZK technology, and many have been briefed extensively on how these systems work. However, there is hesitation about the practicality of the technology. Supervisors want to see how privacy tools perform under real-world conditions, particularly at scale, before accepting them as substitutes for existing compliance mechanisms.

“Regulators are intrigued by these tools and want to see them in action,” Fanusie said. “But it becomes a chicken-and-egg problem because the industry needs regulatory clarity to deploy them.”

CBDCs and the surveillance trade-off

Central bank digital currencies (CBDCs) combine state authority with direct access to transaction data. Unlike private sector payment systems or blockchains, governments are at the center of digital money flows.

Fanusie argued that it’s important to separate wholesale and retail CBDCs in the privacy debate.

Wholesale systems, typically restricted to banks and financial institutions, resemble existing settlement infrastructure and raise fewer public privacy concerns. Scrutiny tends to focus on retail CBDCs, where transaction data tied to individuals and businesses could be monitored, aggregated or used beyond compliance needs.

*At least 137 economies have explored CBDCs. Source:* *Atlantic Council*

Europe’s and China’s approaches are often studied as two of the world’s most important economies actively pursuing CBDC developments.

China’s digital yuan is widely understood to give authorities broad access to transaction data, a design choice that aligns with the country’s existing surveillance framework. In Europe, policymakers have emphasized that a digital euro would preserve user privacy.

“The challenge, from the perspective of someone who has reviewed these proposals, is that the privacy implications cannot simply be addressed by saying it will be private,” Fanusie said.

Even with privacy-preserving techniques, Fanusie added, unanswered questions remain about who ultimately controls access to transaction records, how exceptions are handled and whether safeguards can withstand future political pressure.

In that sense, CBDCs aren’t just a new payment rail but a test of how much financial data states are willing to collect and retain in the digital age.

Acceptable privacy isn’t always absolute privacy

Financial privacy is often discussed in absolute terms. Still, Fanusie argued that privacy isn’t just secrecy but extends to control over who can see transaction data.

Even general retail users are comfortable with a system where transactions are fenced from public view, though it’s available to intermediaries and law enforcement.

Public blockchains expose transaction data beyond what users and institutions are accustomed to, while centralized digital systems, like CBDCs, raise concerns about how much access is concentrated and how it might be used over time.

*Growing privacy concerns around CBDCs have coincided with increased attention to privacy-preserving technologies. Source:* *John Foss*

“People accept that someone can see their transactions but not that everyone can,” Fanusie said.

“When you’re talking about something that operates across an entire economy, privacy becomes much more complicated.”

That doesn’t mean that public ledgers have no place in the future of finance. Blockchain’s transparency has delivered tangible benefits — such as auditability and enforcement — and remains central to many crypto use cases.

Privacy-preserving tools like ZK-proofs could help reconcile blockchain transparency with existing privacy norms, but adoption is stalled by a chicken-and-egg problem between regulators and industry.

But early movers are pushing ahead. Projects, including Aztec, the Ethereum Foundation and Fanusie’s Aleo, have promoted ZK systems as a way to enable selective disclosure rather than fully masking transactions.

Policy-focused groups are also engaging regulators on their use. The International Association for Trusted Blockchain Applications has argued that ZK-proofs could help blockchain projects comply with the European Union’s General Data Protection Regulation, and the bloc has studied the technology for the European Digital Identity Wallet.

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