Not only our country but the whole world is troubled by the increasing trends of financial frauds. When records were kept manually, there was a different kind of risk. Frauds and errors were different at the manual level. There was some hope with the advent of computers, but new types of frauds started coming to the fore.
On hearing names like Vijay Mallya, Neerav Modi, Mehul Choksi, the big fraud figures pass in front of our eyes, in fact they are only a few %age. There are hundreds of such names. In the annual report of RBI 2019-20, it has been told that a sudden growth of two and a half times has been noted in banking frauds. If we look at the amount wise, it has reached rupees 1.85 lakh crore.
To prevent financial frauds, the regulating bodies have always been trying that there should be any such development in technology so that external attacks (like hackers) and internal frauds in which the role of employees and influential parties can be removed.
Blockchain is one such technology that has emerged in recent years. It is being highly appreciated due to transparency and decentralized controlling system. The entire volume of crypto currency is based on this and is working very effectively.
Now all the other business sectors look towards this technology with a hopeful eye. The financial sector is also eagerly studying its pros and cons.
Is this new technology capable of preventing financial frauds?
What is Blockchain technology and how does it work?
What are its special features due to which it is in discussion?
We will know all this in today’s discussion.
What is Blockchain technology?
Blockchain is a new technology in which data is stored in Distributed Ledger. Many stakeholders can access this data at the same time in a secure way. If we try to understand its definition then
“A blockchain is a shared and secure digital ledger that allows each component, or block, within a transaction to be tracked and approved by everyone who is party to the transaction.”
Blockchain is such a digital record in which every member approves every block, can track, but cannot temper / alter or delete it, that is, everyone has access to the record, yet it is completely secure.
It was started in 2009 by Satoshi Nakamoto for Bitcoin. Bitcoin is considered to be the world’s first digital currency. All its transactions are recorded in the blockchain itself. After this, all the digital currencies that came, they are also using the same blockchain.
In this, any transaction or document is inserted in the form of a block. The verification is done by the entire community. There is a completely decentralized way to maintain records. There is no involvement of any centralized authority in this, yet the data is secured.
There are also significantly revised versions of Blockchain coming up now. As usage is increasing, challenges are being detected and advancement is also happening.
How Blockchain Works
In the initial version of Blockchain, three technologies work well.
Private Key cryptography – If two members want to initiate a transaction, then both will put their own key, then the transaction will be registered in the system. It works just like a digital signature.
Distributed network with a shared ledger – After the transaction is registered, it is circulated among all the members for verification. This is called consensus. To give approval, members have to solve some tough mathematical problems first. After getting more than 50% approval, the transaction gets authenticated and gets added to the chain as a block. The updated ledger gets shared with all the members.
In addition to the details of the transaction, date and time, a hash is recorded in the block.
What is hash, we will talk about it now
First the hash of the present block is written and then that of the previous block.
All information is encrypted.
Hash Value
For example, finger prints are used for the identification of a person, because they are completely unique. In the same way, by processing any file or document in a cryptographic algorithm, a unique numerical value is obtained which is called Hash value. If there is a slight change in the file, the hash value gets changed.
An incentive to service the network’s transactions, record-keeping and security-
Some reward points are generated in the system itself as incentive for the members who participate in the process of data authentication. This is called bitcoin. Data authentication takes a lot of time and energy, so an incentive system has been put in place. This process is also called mining.
The concept of Smart Contract has been included in the revised version of Blockchain. This is called the Ethereum Blockchain. The members who record the transaction in smart contract, also record the pre-defined condition in the system. In this, the defined transaction is auto executed on the particular date or on the particular event.
How does Blockchain help fight fraud?
In Blockchain, digital data gets connected in a chain in the form of a block. It stores data cryptographically and chronologically with the help of many complex algorithms. No member can change the old record, if any new block is added, it will come only at the end point of the chain. All the members will get the information about the joining of the new block. All these are the features of blockchain, with the help of which we can get control over financial frauds.
DISTRIBUTED NETWORK
In whatever technologies are currently being used in the finance industry, fraudsters either manipulate the data, insert corrupt or fake data, delete any part of the data. Due to bulky data or sometimes due to compensatory errors it becomes impossible to trace the fraud. Even if sometimes it comes into light, it comes after a very long time. This is the reason for all the big banking frauds.
In Blockchain, all the members have a copy of the ledger, so any kind of data tempering can be monitored. It is not possible to do such manipulation for any one member or a small group of members. Any member can check the complete history of asset transfer whenever he wants.
IMMUTABILITY
Once the record is registered in the Blockchain, then it cannot be changed. Even before registering as a block, the consent of all the members is required on the transaction, which is called consensus. Only after getting the consensus, the transaction gets a timestamp and it becomes a block. After that, if anyone wants to make any correction, then a new transaction will have to be recorded.
Generally in cases of money laundering, entries are moved multiple times, which makes them very tedious to track. We can get its solution from blockchain.
BLOCKCHAIN CAN BE PERMISSIBLE
In business, a lot of information is sensitive. Giving its access in the hands of everyone can be risky. Also, blockchain is the right option to reduce the risk of an outsider, like system hacking. You can install a private blockchain in the company and can only give access to the transaction to anyone whom you want to.
Help of Smart Contract
Smart contracts are defined as “user-defined programs that specify rules-governing transactions”
If transactions are made in the blockchain by encoding smart contracts in business rules and accounting process, then frauds can be controlled.
Currently, Letter of Credit is used to settle payments. But it is taking a lot of time for settlement, efficiency is also not complete and also it is not cost effective.
Using Smart Contract, the third party can be removed from the middle and payments can be fast.
Why Banks are not quick at switching to Blockchain
Many banks have tested the blockchain by using it for some small operations like cross-border remittances, trade finance and shorter settlement processes. Till now no major change is visible in core banking.
There is a misconception among bankers that when the central bank has not approved the cryptocurrency, then the acceptability of the blockchain may raise any regulatory issues. There is also a fear regarding the aspect of money laundering and anonymity of transactions.
RBI has announced to bring CBDC (Central Bank Digital Currency), maybe after its implementation, other banks will be comfortable with this technology.
But by delaying, there will be a risk that if the market of non-banking financial services is captured by other organizations, it may be difficult for banks to compete later.
Conclusion
We can definitely get the benefit of the features of Blockchain in many industries. Most Revolutionary changes are needed in the financial sector. This revolution can be started with the use of Blockchain.
It may be that confidence cannot be built on its use in core banking functions yet. Some more R&D is needed, some more advancement is needed, yet there are many such operations where it can be used immediately. By doing this the purpose of testing will also continue to be solved and awareness and confidence will also come in the public.
It may be possible that some more R&D is needed, some more advancement is needed to build a confidence in the use of new technology in core banking functions, yet it can be used immediately in many para banking operations. By doing this, the purpose of testing will also continue to be solved and awareness and confidence in the public will also come.
With the help of advanced technology, if non-regulated currencies will build up their parallel economy, then it will neither be good for the government nor in the interest of the general public.
Thank you.
