Making crypto mainstream requires greater efforts to stop fraud

We find it easy to talk about the benefits of the digital economy, whether the internet or digital assets, but the costs are often overlooked. Whether the surge in human trafficking that has emerged on social media platforms or the rise of cybersecurity vulnerabilities, the expansion of the digital economy comes with new risks to manage.

The digital asset community is no different and, to scale and become sustainable, it must confront the prevalence of fraud. And, it’s not hard: already distributed ledger technologies are demonstrating their value by solving concrete use-cases. This week in Vienna, Austria, the Austrian National Bank — together with the Complexity Science Hub and other sponsors — are hosting a conference on advances in financial technology, with a wide array of presenters who have researched value-enhancing uses of blockchain technology.

Thanks to pioneering work by the Federal Trade Commission’s Consumer Sentinel, we now have basic statistics on the incidence of fraud, the perpetrators, and the countries that exhibit the greatest violations. Using these data on complaints, Michel Grosz and Devesh Raval from the FTC show that it is possible to identify countries with excess levels of fraud based on their level of exports and to whom they are exporting. We need this caliber of data and the processes to support its collection to make strides in countering fraud.

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Unfortunately, crypto does not have a great reputation on this frontier. The FTC released showing $114 million in reported fraud from Bitcoin ATMs (BTMs) in 2023 — and the number of crypto scams has surged in recent years. Of course, we need to view these statistics in perspective: fiat currencies remain the currency of choice for fraud across the world, so we should not compare the worst of crypto with the best of fiat – it’s not an apples to apples comparison. Nevertheless, we should still strive to establish the right incentives and processes within the digital asset ecosystem to counter fraud wherever possible.

Fortunately, there are already a wave of blockchain use-cases that are countering fraudulent activity. Consider, for instance, the role of financial auditing that helps ensure the integrity and transparency of organizations. Currently, auditors lack the ability to cross-check transactions between different organizations, a limitation that could lead to misreporting scandals involving millions of dollars and leads many crypto audits to be more for the show. To address this, new protocols leveraging blockchain, such as Cross Ledger cOnsistency with Smart Contracts (CLOSC) and Cross Ledger cOnsistency with Linear Combinations (CLOLC), are emerging that will enable auditors to verify cross-ledger transactions more efficiently with built-in privacy and security properties, such as transaction amount privacy and organization-auditor unlinkability.

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Similarly, take scalability as another example, which is recognized as necessary for institutional adoption. Layer-2 (L2) solutions such as rollups help solve the scalability problem of L1s by handling transactions off the main blockchain and then posting the results back. However, a big concern is ensuring the security of these rollups, especially making sure that the data posted is accurate.

One recent study proposed a “watchtower” system where independent actors (watchtowers) are rewarded for keeping an eye on transactions and raising alarms when something seems wrong. These watchtowers are required to prove that they’ve been diligent in their work through a system called “proof of diligence,” which ensures they’ve monitored the transactions properly. They can also challenge false data, and if they catch errors, they earn rewards. A key part of the solution is not just the technology, but also the economics of designing adequate incentives to prevent wrongdoing and promote trust.

Value-enhancing examples abound in the blockchain ecosystem, as the AFT conference in Vienna will showcase, but we need to do a better job of quantifying the benefits of real use-cases and amplifying the integral role that they play in enabling economic and social activity. Indeed, one of the greatest use-cases of blockchain technologies, drawing on its roots from cryptography, is the ability to improve security and counter malicious actors. But we need to get more serious in the way we talk about and pitch blockchain as a solution.

Christos Makridis is a guest columnist for Cointelegraph, an associate research professor at Arizona State University, anadjunct associate professor at University of Nicosia, and founder/CEO of Dainamic Banking. He holds doctorates in economics and management science & engineering at Stanford University.

This article is for general information purposes and is not intended to be and should not be taken as legal or investment advice. The views, thoughts, and opinions expressed here are the author’s alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.