But, they don't have a way to track your bitcoins. They can see how much is in each address, but they do not know whose address it is, etc.

You said the government would need to make all wallets that are not registered with some central authority illegal. That would be the same as you paying someone in cash if cash was made illegal. You would be doing something illegal in both situations. However, what is the government going to do about it if they do not know who you are?

Not to mention that making cash illegal would be a highly political issue and quite unpopular due to concerns with privacy, etc. The same would apply if the government wished to request some centrally controlled management of people's bitcoin account.