The Ripple payment network is facing criticism this week over revelations about the fungibility of its assets. It’s come to light that Ripple gateways — the onramps and offramps of the network — have the ability to “freeze” user funds at will. Furthermore, Ripple Labs has already used its influence to convince Bitstamp, a prominent gateway and exchange, to freeze $1 million worth of funds belonging to Ripple’s departed founder Jed McCaleb.
Also read: International Ripple Business Association Relaunches
Ripple “gateways” act as trusted entry and exit points for the payment network, providing users with specialized institutions for converting regular currencies and assets into IOU’s which can be traded on Ripple. However, there exists a relatively new feature in the Ripple protocol that enables gateways to freeze those IOU’s and prevent them from being traded. This feature was first implemented in August of last year and phased in over the following month.
A page on the Ripple wiki describing the feature was submitted to the /r/Bitcoin subreddit Saturday and catalyzed a heated discussion about the issue. The Ripple wiki subsequently went down, but can still be accessed via the Internet Archive.
Chris Larsen, CEO and co-founder of Ripple Labs
Gateways have two methods of freezing funds, each intended for different scenarios. The first is dubbed a “global freeze.” This would cease all trading activity of every IOU issued by that gateway across the board. The global freeze is intended for cases when the gateway’s wallets have been compromised, or when it wants to migrate users to a new issuing account, according to a bulletin by Ripple Labs.
The second method is more targeted. The “individual account freeze” enables the gateway to cease all trading of one person’s funds, preventing them from sending the IOU’s to another person or gateway on the Ripple network. This method is intended for users with “suspicious or unusual account activity,” users who have violated the gateway’s terms of service, or in the case of a dispute resolution being handled by a third party.
Essentially, this feature allows Ripple gateways to discriminate between “clean” and “tainted” currency, which jeopardizes the fungibility of the currency. Fungibility is a crucial characteristic of money, because units of a currency that are perfectly interchangeable with one another are much easier to use than units that must be verified. Furthermore, a system that devalues or withholds units of a currency based on their recent uses can effectively prohibit certain kinds of transactions, and by extension prohibit certain kinds of behaviors.
It should be noted that gateways have the option of permanently disabling their own ability to freeze funds, and were supposed to notify their users months ago if they planned on retaining the freeze feature. But it remains unclear exactly how many, and which ones, still have the ability to freeze funds on an individual and global basis. The Ripple Labs press team did not respond to a request for comment on this issue.
High-Stakes Ripple Freeze
The individual freeze was most notably used by on March 31 by the bitcoin exchange Bitstamp, which also acts as a Ripple gateway. Jed McCaleb, the original founder of Ripple Labs, was attempting to sell over 96 million XRP — the native currency of the Ripple network — which his family received when he started the company. Converted to US dollars, that sum of XRP was equivalent to over $1 million.
In order to “avoid and mitigate irreparable harm and damages” to the value of XRP, a Ripple Labs agent went on the Bitstamp gateway and placed an order paying $1,038,172 for McCaleb’s stash of XRP, according to a report by CoinDesk. Once the transaction completed, however, Ripple Labs demanded that Bitstamp use its gateway power to freeze McCaleb’s account and prevent him from withdrawing the actual cash.
Jed McCaleb, co-founder of Mt. Gox, Ripple, and Stellar
Ripple Labs then requested that the transaction be reversed — it wanted the $1,038,172 returned, and in exchange it would send the 96,342,361.6 XRP back to McCaleb. The matter was complicated by the fact that McCaleb had already used some of the cash to purchase STR, the native currency of McCaleb’s new project, Stellar.
By complying with the request to freeze McCaleb’s funds, Bitstamp effectively became the middleman in a high-stakes dispute between Ripple Labs and its former founder. With the $1 million transaction frozen in time, Bitstamp decided to file a lawsuit in California district court against all parties involved. The exchange requested the court’s assistance in determining where the disputed money should go, opening up a legal can of worms that could last for months or even years.
The entire fiasco was only made possible by an eight-month-old feature in the Ripple protocol that allows gateways like Bitstamp the ability to freeze user funds. McCaleb may or may not have had the legal right to sell 96 million XRP in one big batch, but he would’ve had the technical ability to do so if it weren’t for Bitstamp exercising its freezing power as a Ripple gateway.
Does this call into question the fungibility of assets on the Ripple network? Will we see more examples of Ripple gateways freezing user funds? Sound off in the comments below!
Photo Sources: Ripple Labs, Wired
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