While digital banking systems have built capacity for large transaction volumes and payment efficiency, fraudsters have found novel ways to execute scams. Case in point, the US$ 1.4 billion Nirav Modi case involving India’s Punjab National Bank (PNB). The loophole exploited by Nirav Modi makes a fitting case for the application of blockchain smart contracts to predict and prevent fraudulent activities. Industry experts suggest that blockchain technology’s use to manage transactions and accounts could have prevented or detected such a scam in its infancy.
The scam was based on the issuance of fake letters of undertaking worth ₹11,356.84 crores (US$ 1.4 billion) for the benefit of Nirav Modi, an Indian diamond retailer. The diamond entrepreneur who goes by the same name had the support of a former PNB employee, Gokulnath Shetty. Allegedly, Shetty had issued numerous fake letters of understanding (LoU) or letter of credits (LoC) without collateral for Nirav Modi for seven years.
According to the bank officials, rogue employees had bypassed the lender’s internal messaging system called CBS (Core Banking System) to avoid detection. They placed messaging instructions via the SWIFT global payment system and requested Indian banks’ overseas branches to pay the cash as loans.
PNB bank was using different ledgers to manage the information settlement mechanism like SWIFT and payment settlement mechanism CBS. While a bank’s internal control uses the CBS for validating transactions, regulators use it for inspection and various audits.
According to blockchain experts, a private blockchain network facilitates permissioned auditors, regulators, and payment processors to access real-time transactions. Had PNB bank implemented a private blockchain solution to reconcile its SWIFT payments then such a fraud would not have happened. Such a solution can immediately detect any malicious transactions from occurring. It can loop in all stakeholders to verify that the payment settlement information is genuine and loan requests are backed by substantial collaterals. In addition, regulators and auditors can also readily access all transaction details from end to end.
With trained machine learning algorithms, blockchain can also provide a solution to detect fraudulent patterns. It can secure all processes with cryptography mechanisms and an immutable ledger. It will make forging documents or information almost impossible while ensuring non-repudiation.
In this public sector bank fraud, a blockchain smart contract could have prevented the fake issuance of LoUs. It would have detected inconsistencies extracted during automatic reconciliation with the core banking system (CBS). It also would have denied the payment initiation over the SWIFT network by following the defined limits.
Smart contracts inherently eliminate the dependency on intermediaries, provide an immutable record of transactions, and facilitate real-time transaction execution. In the banking context, a smart contract is a program that can enable banks to digitally facilitate, verify, and enforce the negotiations of a deal. Also, it can enable efficient audit trail and procedural compliance while ensuring that all stakeholders share collective intelligence.
For sure, we can’t refer to blockchain technology as the panacea for all the banking industry’s challenges today. However, given the blockchain’s potential, industries globally are eying on how to integrate their legacy systems with it. Our blockchain application development and consultancy services might help you find loopholes in business processes and optimize them with blockchain. For the banking industry, it is the best time to embrace a revolutionary technology like blockchain.