2022 is shaping up to be a definitive year for cryptocurrency with more than 81 million Blockchain.com wallets to date, a slew of Super Bowl LVI commercials dedicated to crypto, and new regulatory discussions on the horizon. What’s more, 21% of banks have incorporated blockchain technology into their businesses in some form, including big names like JPMorgan, Citi, Wells Fargo, and PNC.
Despite the massive rush toward crypto, there are still many roadblocks that hinder the adoption by businesses and the accessibility of crypto for consumers. With the White House’s recent executive order to coordinate efforts among financial regulators to better understand the risks and opportunities presented by digital assets, now is the time for crypto exchanges, financial institutions, and fintechs to take action to address these challenges. We’ll talk about three of those roadblocks – weak verification protocols, the risk of fraud, and lack of regulation – and what needs to happen as the world of crypto changes at an unprecedented pace.
Addressing weak verification protocols
One of the primary roadblocks to wide adoption of cryptocurrency is addressing how crypto exchanges verify customer identities and accounts as a core part of Know Your Customer (KYC) and anti-money laundering procedures. A 2020 study by CipherTrace found 56% of the analyzed 800 cryptocurrency exchanges and over-the-counter trading desks followed weak or porous KYC practices. Similar to legacy financial institutions, crypto exchanges have struggled to successfully onboard users to their platform quickly, while also diminishing fraud.
Strong KYC programs are essential for traditional financial services organizations, but many crypto firms struggle with balancing anonymity and stronger verification processes. In addition, most crypto firms tend to be engineering-led organizations where the knowledge needed to build KYC, anti-money laundering (AML) procedures, and digital verification processes are not as commonplace. And, with the increased number of central bank digital currencies (CBDCs) appearing in the market, KYC regulations surrounding crypto are only going to increase.
Crypto companies may need to verify a user’s identity at several key points – from opening a new account to making a trade or transfer. And while complying with regulation is important, so is delivering a convenient user experience. The most pragmatic way to approach this challenge is to work with partners. Speed is critical in the fast-paced landscape of crypto and leveraging a proven verification technology will allow for integration to happen more quickly for the benefit of your customers. The fintech markets have seen an increase in the number of identity verification services as these problems have permeated not only cryptocurrency exchanges but also many neobanks.
Protecting consumers from fraud
Blockchain, the technology that enables the existence of cryptocurrency, allows for transactions that clear and settle as soon as a payment is made. Cryptocurrencies like Bitcoin and Ether are built on public blockchains that anyone can use to send and receive money. This stands in contrast to current banking systems, which often clear and settle a transaction days after a payment. There are pros and cons to the real-time nature of crypto transactions.
On the plus side, blockchain networks can help alleviate the high costs of maintaining a global network of correspondent banks. An Accenture survey among 8 global banks found that blockchain technology could bring down the average cost of clearing and settling transactions by $10 billion annually.
On the other hand, Blockchain, like many other consumer-facing services, are not immune to fraud and scams. Because public blockchains cut down on the need for trusted third parties to verify transactions, they can also be victims of high rates of fraud. For example, the Federal Trade Commission (FTC) received nearly 7,000 complaints of cryptocurrency investment scams from October 2020 through March 2021, with reported losses growing more than tenfold, to above $80 million.
The key is understanding the weaknesses and limitations of technologies like blockchain, and leveraging it in ways that will not play into attackers’ hands. While it is impossible to control all fraudulent actors, it is possible to better understand and manage risks to help mitigate them. Having the right data analytics and monitoring tools, as well as implementing a robust risk management strategy, can help catch problems before they occur.
Taking a stand in the crypto regulatory landscape
This March, an executive order from the Biden administration called out the need for financial regulators to coordinate efforts and better understand the risks and opportunities presented by digital assets.
The backdrop of this order is legacy banking systems struggling to match the speed of innovation that is present among more efficient networks. Cryptocurrencies and exchanges have adopted decentralized finance as a core tenet of their operation. This technology operates with smart contracts built into its structure. The open source nature of the blockchain platforms, combined with the high volume of innovative and unregulated activities on the chain, is creating efficiencies that banks can’t match with legacy technologies.
However, cryptocurrencies lack clear rules of the road from Washington. Without clear guidance, we risk disrupting significant innovation, and destroying value that many individuals and institutions currently have invested in the crypto ecosystem. Those risks could make America less competitive on the global stage, and rob consumers of the next generation of innovative, affordable solutions. Regulatory guidance will only help improve consumer safety when it comes to blockchain and other cryptocurrencies. Contributors in the financial industry should support each other in seeking regulatory clarity on the path to a free and open financial system – one that is consumer-centric, privacy-preserving, and operationally efficient, as well as financially inclusive.
According to research by Crypto.com, the number of crypto users is projected to break 1 billion by the end of 2022. With mass adoption ahead – and mainstream companies across multiple industries beginning to accept Bitcoin payments – it’s even more critical that the financial industry comes together to solve some of the privacy, security, and regulatory challenges that cryptocurrency faces.