Analysis of the Possibilities and Difficulties of Using Blockchain Technology
Is Blockchain Technology Effective Enough to Prevent the Occurrence of Financial Fraud?
Introduction
In recent years, financial fraud has been a shared network problem that endangers individuals, enterprises, and institutions’ psychology, reputation, and property safety. Blockchain has the advantages of information stability and data confidentiality brought by decentralization as an emerging technology. Financial fraud is a widespread and severe problem. It will cause psychological and economic trauma to people and hinder resource allocation and industry development, endangering information security (Commonwealth Fraud Prevention Center 2022; United States Department of Justice 2020). In PwC’s Global Economic Crime and Fraud Survey (2020), 47% of the companies have experienced a case of fraud, and each company has reported six financial frauds on average.
Moreover, the total loss of money reached $42 billion, of which 13% of the companies lost more than $50 million, according to the responses from more than 5,000 respondents across 99 territories over the past 24 months (PwC’s Global Economic Crime and Fraud Survey 2020, 3). There are many similar data and reports. PwC’s survey shows that financial fraud will endanger data privacy and property security, which should be prevented urgently. Next, this essay will research the functions of Blockchain and decentralization and examine its capability to avert fraud. I will explore the possibilities and difficulties of blockchain applications in financial anti-fraud by combining the case of Everledger and JD.COM in diamond supply chain tracking and the related literature review. As one of China’s most extensive online shopping and logistics distribution companies, JD.com actively uses the Internet and supply chain to provide better services to customers. Similarly, Everledger, a significant supply chain service company started overseas, seeks to provide better consumer services. Based on the commonalities of the two companies using blockchain technology to serve customers, I will conduct a detailed case analysis in the following paragraphs.
Big data is constantly being combined with the financial sector. Meanwhile, virtual currency and online payment are becoming more and more popular. However, while money transactions have become more convenient, potential fraud issues, like personal information leakage, also occur in the financial trading market. Therefore, this article will research the advantages and disadvantages of blockchain technology and examine its capability to prevent financial fraud. Firstly, this essay will introduce the essential functions of the Blockchain and decentralization while presenting the current financial fraud problems. Secondly, it will offer a case study on the recent development of blockchain technology and its application in a digital transparency company called Everledger. Finally, the article will discuss the strengths and weaknesses of the Blockchain, concluding that blockchain technology cannot comprehensively solve the financial fraud problem.
Background
A brief introduction to the blockchain technology and decentralization
As one of the most well-known emerging technologies at this stage, Blockchain technology also plays an essential role in financial markets and transactions. For example, blockchain technology has been used in NFT marketplaces, cryptocurrency exchanges, real estate processing platforms, and other fields (Daley 2021). The Blockchain has a series of technical advantages, such as decentralization, which significantly improves the financial market’s stability and efficiency (Tapscott and Tapscott 2017, 2). Decentralization is known as a crucial function of the Blockchain. According to the standard definition of decentralization, “Blockchain does not store any of its information in a central location,” which indicates that there would not be a central location to control all the information (Hayes 2022). It reduces the concentration of data and the possibility that external factors can crack the information by obtaining a central location. Meanwhile, decentralization can reduce the time and money spent by the third-party intermediary in the transaction, strengthen the privacy of personal information and improve the efficiency by directly linking the transaction parties on both sides of the endpoint through the anonymous system (De Filippi 2016, 4–5). Hence, using the Blockchain has gradually become the general trend in financial transactions.
The Applications of Blockchain in the Financial Market
Applications of the Blockchain and decentralization
Blockchain has been combined with finance and trading for a long time. It first appeared in the form of the digital currency “Bitcoin,” which is called “Blockchain 1.0.” During this period, the core function of the Blockchain is storing the value (Cai and Zhu 2016, 2–6). The next step, blockchain 2.0, is known as the digital economy. At this stage, Blockchain has been used in the payment clearing system and bank credit information systems.
Moreover, one innovation of the blockchain technology applied in the digital economy is intelligent contracts, described as “computer programs that can automatically execute the terms of a contract,” according to Efanov and Roschin (2018). The well-known Ethereum is one specific example. Later, Blockchain gradually merged with the fields of non-economic activities, creating the era of blockchain 3.0 and moving toward the digital society. With existing digital economic activities and more intelligent management, digital identity has become popular. More transactions are realized through virtual networks’ connections and the accuracy of computer systems (Efanov and Roschin 2018, 117–118).
Case study
Everledger and JD’s cooperation in blockchain transaction protection
This section will provide a detailed analysis of how the Blockchain can be applied to practice in preventing financial fraud based on Everledger’s supply chain tracking technology.
Everledger is an Australian digital company founded in 2015 and has opened branches in the UK, US, India, China, and Israel. The “Everledger Platform,” which is Everledger’s leading service, has established a supply chain tracking system combined with Blockchain to enhance the transparency of transactions (Everledger 2022; Mauri 2017). According to Everledger’s official website, this company uses Blockchain to cooperate with producers, manufacturers, certification bodies, and retail organizations to offer open information, show the sources of assets and commodities, and improve the credibility of products. Meanwhile, the consumers can track the above communication from mobile terminals.
The luxury jewelry industry, such as diamonds, is one of the leading tracking directions of the company’s supply chain (Everledger 2022). In China, where online consumption is developed, the trading of diamond products is gradually combined with the internet and apps like JD to maintain consumers’ loyalty: “in the Chinese market, the digitally-savvy millennials account for 68% of diamond sales compared to only 45% worldwide” (Everledger 2021). However, a negative impact on online diamond trading is the existence of synthetic diamonds and fake identification certificates. To prevent fraud, consumers may prefer not to buy diamonds online. To solve this problem, Everledger has promoted the blockchain technology to track the supply chain of diamonds and share the information with consumers: “Through an inscribed serial number that is linked to a diamond’s myriad attributes — which are recorded on the blockchain — Everledger helps banks, insurers, open marketplaces, and consumers to ensure a stone is authentic and has been obtained through reputable means” (Everledger 2022; Mauri 2017). According to Everledger (2021) and Liu et al. (2020), by using Blockchain to connect consumers with products, Everledger can share the source of diamonds and GIA’s professional certificate with users, realizing information transparency, effectively protecting brand safety, and preventing fraud. Moreover, Everledger also cooperates with Chow Tai Fook, Gübelin, and other brands to trace the source of diamonds. Furthermore, Everledger is also involved in service areas such as Avery Dennison and the wine trade network.
Hence, the case study of Everledger and JD proves that it is possible to use Blockchain to prevent financial fraud in the trading platform. In addition, the data from CB Insights (2022) also present that the Blockchain is rapidly entering major industries: “The global blockchain unicorn count jumped from 9 to 47 in 2021 and covered fields like financial services, healthcare, entertainment.” So, can blockchain technology completely solve the problem of fraud? Next, this article will discuss the feasibility of blockchain and decentralization technology in anti-fraud applications.
Discussion: Can Blockchain comprehensively prevent fraud problems?
Strengths of using Blockchain to solve fraud problems
The case study of Everledger company shows that Blockchain can prevent financial fraud according to its advantages of decentralization technology. The following summarizes the core benefits of Blockchain and decentralization:
1. Information stability: Blockchain can provide permanent, unalterable, and irreversible transaction records to stabilize the information kept in every transaction (Cai and Zhu 2016, 4–6).
2. Data security: On the one hand, Blockchain’s end-to-end encryption and access permission can effectively avoid fraud and unauthorized activities; on the other hand, anonymizing data can guarantee data privacy (Blockchain Council 2022).
3. Transaction efficiency: Decentralization technology eliminates the dependence of trading parties on the third-party intermediary since it establishes an asset transfer market without a central authority. The transaction parties can complete the payment only through a point-to-point connection, reducing time and labor costs (Mauri 2017).
Weaknesses of using Blockchain to solve fraud problems
However, the Blockchain and decentralization are not comprehensive enough to prevent financial fraud. Some technological advantages may turn into the disadvantages of Blockchain under certain conditions.
1． 51% attack: Blockchain is not indestructible. Relevant scientific research shows that “When more than 51% of the hash rate is controlled by a single node (one miner or pool of miners), the blockchain can be distorted maliciously” (Efanov and Roschin 2018, 119). Thus, the ability of the distorted Blockchain to preserve information and data will decrease, which allows the fraudsters to disrupt. It’s worth noting that this only applies to Bitcoin, not all blockchain technologies.
2. Limited private key recovery technology: Although private keys can encrypt personal information and data, they cannot be retrieved once lost. If the criminal destroys the private key, the victim will likely lose all data and property because the Blockchain can realize permanent transactions (Wang and Kogan 2018, 1–3).
3. Privacy and centralization risks may weaken decentralization: Blockchain and decentralization can ensure the transparency of transaction information but cannot guarantee that privacy will not wholly be invaded. Alternatively, individual companies can use a private blockchain to restrict access, but doing so will centralize the risk and fail to achieve the advantage of decentralization (Wang and Kogan 2018, 2). Meanwhile, third-party trading platforms, such as Binance and Uniswap, still exist and might cause centralization problems.
Based on the previous discussion, this paper finds that there is still room for developing Blockchain and decentralization technology. As an emerging technology, Blockchain has a limited speed of being put into use in large companies and chain companies, and its ability to control multiple blockchain systems is also limited. Thus, the company is likely to pilot it first. These difficulties will cause a relatively small number of Blockchain participating nodes, resulting in a weak decentralization effect and vulnerability to 51% attacks (Dai et al. 2017). Hence, although the Blockchain and decentralization have advantages in data security and stability, they would fail to prevent the fraud issues due to technical immaturity completely.
However, this does not mean denying the possibility of applying Blockchain in financial anti-fraud. With the advancement of technology, the possibility of using Blockchain and decentralization to prevent financial fraud should be higher.
Limitations
This article focuses on qualitative research. Firstly, there is a lack of discussion on data analysis, such as the percentage of financial fraud that Blockchain can or cannot prevent. Secondly, this paper does not discuss the combination of financial fraud with technical and non-technical fields outside the Blockchain, like ethical problems and social factors.
Conclusion
Blockchain technology and its powerful decentralized function have rapidly applied in financial markets and other industries in recent years. Through the case study of transaction protection between a supply chain tracking company Everledger and the JD platform, this article first confirms the possibility of using Blockchain to prevent financial fraud. Then, this essay discusses the current technical difficulties in Blockchain applications and states that it is too early to conclude that Blockchain and decentralization can comprehensively solve financial fraud cases. Notably, this article has a positive expectation for the application prospect of Blockchain shortly. Finally, this paper thinks that the future development direction and trend of Blockchain in the financial field can be studied. For example, the future research directions can include but are not limited to:
- Research the role of Blockchain and decentralization in anti-financial fraud using modeling, programming, and other methods.
- How can companies and institutions overcome the current technological deficiencies of Blockchain and put it to use?
- How can Blockchain be combined with non-tech factors to prevent financial fraud to a greater extent?
About the Author
Yuxi Jiang
Yuxi is now a rising-junior student majoring in Political Economy with the ECON track at Duke Kunshan University (DKU). She is passionate about interdisciplinary studies of economics, especially those related to Finance, Governance, and Behavioral Science. She is now a newcomer in research and wants to in-depth analyze the above areas of interest.
Acknowledgments
Executive Editor: Lewis Tian
Associate Editor: Xinyu Tian
Chief Editor: Prof. Luyao Zhang
Design: Yixuan Li
