Coinbase AML Reform Proposal: Balancing Innovation and Compliance

null Original Title: “Coinbase AML Reform Proposal: Balancing Innovation and Compliance” Original Source: Hong Kong Anti-Money Laundering Alliance HKAML

Recently, Coinbase, one of the largest cryptocurrency exchanges in the United States, submitted a 30-page policy proposal to the U.S. Treasury, calling for a thorough reform of the decades-old Anti-Money Laundering (AML) regulations. The core argument – “When bad actors innovate, good actors must innovate as well” – has sparked widespread discussion both within and outside the cryptocurrency industry. Coinbase advocates for a greater reliance on technological innovation rather than simply enhancing enforcement in the face of increasingly complex digital asset crimes. As an organization committed to maintaining the integrity of the financial system, the Hong Kong Anti-Money Laundering Alliance believes that Coinbase's proposal touches on the core issues of the global AML framework: how to ensure a robust and effective regulatory framework while encouraging financial innovation and preventing the expansion of risk exposure.

We acknowledge that technology is an indispensable ally in the fight against Money Laundering. However, while embracing innovation, we must carefully assess the potential risks it may bring and remain vigilant against any attempts to undermine core regulatory principles in the name of “innovation.” This article will deeply analyze the rationale and potential risks of the Coinbase proposal from a regulatory perspective, and explore the balance of future digital asset AML in conjunction with Hong Kong's practical experience in global virtual asset regulation.

The Double-Edged Sword of Innovation: The Core Demands and Potential Risks of the Coinbase Proposal

Coinbase's proposal primarily revolves around four major technological innovations: Application Programming Interface (API), Artificial Intelligence (AI), Decentralized Identity (DiD), and Zero-Knowledge Proof (ZKP), as well as blockchain-based transaction analysis (KYT). Its core demand is to establish “Regulatory Safe Harbors” for financial institutions adopting these innovative technologies, to alleviate their Compliance burdens and encourage technology application.

Coinbase explicitly stated in its response document: “The era of a person walking into a bank and presenting identification to open an account has long passed… Requiring businesses to collect copies of identification online not only poses a significant risk of identity theft but also consumes a large amount of Compliance resources.” [1]

This perspective reflects the reality of financial services in the digital age. However, the establishment of a “safe harbor” must be based on extremely prudent and clear conditions. If the standards are too lenient, it may lead to the following risks:

Hong Kong Experience: Leading Innovation under Prudent Regulation

In the wave of global virtual asset regulation, Hong Kong has chosen a prudent and forward-looking path. Starting from June 1, 2023, Hong Kong officially implemented a mandatory licensing system for virtual asset service providers (VASP), bringing all centralized cryptocurrency trading platforms under the comprehensive regulation of the Securities and Futures Commission (SFC). This framework does not sacrifice regulatory certainty and rigor in pursuit of innovation, providing a model worth emulating for the world.

Unlike Coinbase's approach of seeking a “safe harbor”, Hong Kong's regulatory philosophy is “same business, same risks, same rules”. This means that regardless of the innovative technology adopted by VASPs, their core AML/CFT obligations—including Customer Due Diligence (CDD), ongoing transaction monitoring, Suspicious Transaction Reporting (STR), and compliance with the Financial Action Task Force (FATF) “Travel Rule”—must be executed without compromise.

The Hong Kong Securities and Futures Commission clearly states in its regulatory framework that VASPs must demonstrate the reliability, security, and Compliance of their technologies to the regulatory authorities when adopting new technologies, and establish sound governance and oversight mechanisms. For example, when using AI for transaction monitoring, the platform must be able to explain the logic of its algorithms to the regulatory authorities, validate their effectiveness, and take responsibility for the final decisions. This approach does not stifle innovation, but rather guides it to develop along responsible paths.

Conclusion: Moving Towards a Path of Responsible Innovation

Coinbase's proposal has sounded the alarm for global regulators: in the face of the rapidly evolving digital asset space, adhering to outdated practices may indeed lead to regulatory failures. We support enhancing the efficiency and accuracy of AML efforts through technology. However, the core principles of AML—Know Your Customer (KYC), risk assessment, and behavior monitoring—must never be compromised by the guise of technology.

We call for any reforms to the AML system to follow the principles below:

1. Technological neutrality, risk-based: Regulation should focus on the risks of the financial activities themselves, rather than the technological forms in which they are realized. Both traditional banks and crypto platforms should be subject to regulation commensurate with their risk levels.

2. Clarify responsibilities, rather than relying on a “safe harbor”: Financial institutions should always be the primary responsible party for fulfilling AML obligations. Regulatory agencies can provide guidance, but should not establish ambiguous “safe harbors” to exempt or lessen the core responsibilities of institutions.

3. Strengthen international cooperation to fill regulatory gaps: As Coinbase pointed out, non-compliant offshore entities are a significant source of risk. Regulatory authorities in various countries should enhance cooperation under the framework of international organizations such as the FATF to jointly combat cross-border Money Laundering activities.

The Hong Kong AML Alliance will continue to closely monitor the latest developments in global digital asset regulation and work closely with the industry and regulatory bodies to promote the establishment of a healthy financial ecosystem that embraces innovation while effectively preventing risks. We believe that only through a prudent balance between innovation and compliance can the digital asset industry achieve a sustainable future.

Reference Material

[1] Coinbase. (2025, October 17). Response to Treasury RFC on Innovative Methods to Detect Illicit Activity Involving Digital Assets.