Allegedly a former bank employee, Gokulnath Shetty, who was a deputy general manager in the foreign-exchange department in one of its branches in Mumbai, helped Nirav Modi in the INR 11,300 crore fraud.


In brief:

According to fintech experts, the Nirav Modi-PNB scam could have been averted or detected earlier, if blockchain technology was used by the banking sector.

The fraud at state-owned Punjab National Bank (PNB) has taken the whole nation by surprise. According to fintech experts, the Nirav Modi scam could have been averted or detected earlier, if blockchain technology was used for transactions and accounting. Organizations all over the world are leveraging blockchain to manage corruption, risk, and fraud and now it seems the time is just about right to start implementing blockchain technology in the Indian banking system as well.

Reuters sourced a Reserve Bank of India (RBI) report through an RTI, which says that over the last five financial years up to March 31, 2017, state-run banks have reported as many as 8,670 “loan fraud” cases totaling a mammoth INR 61,260 crore!

Allegedly a former bank employee, Gokulnath Shetty, who was a deputy general manager in the foreign-exchange department in one of its branches in Mumbai, helped Nirav Modi in the INR 11,300 crore fraud. The question arises, that how did the bank employees manage to evade the internal system and carry out transactions by issuing fake letters for seven long years.

Shetty is accused of issuing numerous fake letters of undertaking (LoUs) from PNB- without any collateral- for Modi. PNB has asserted that so as to avoid detection, the employees for seven years evaded the bank’s internal messaging system, and place instructions via the SWIFT global payment system asking overseas branches of Indian banks to fork out the cash as loans.

Vikram Pandya, the Director of FinTech, SP Jain School of Global Management, states,

 “In the recent public sector bank fraud, issuance of fake LoUs would not have been possible on blockchain as the smart contract would have identified inconsistencies based on automatic reconciliation with core banking system and following the established limits, it would have restricted the payment initiation over SWIFT network.”

With the mounting number of frauds, especially in public sector banks, can blockchain technology help in preventing such fraudulent activities? The Nirav Scam must be a case in point for banks to make documents go digital, however, if the government employ blockchain distributed ledger systems to verify every large loan transaction with a borrower, will it completely get rid of frauds from the banking system?

For this, let us first understand what a Blockchain is. A Blockchain is a digitally distributed ledger where each party is in sync while executing a transaction, enabling peer-to-peer settlement and payments. Since it is a decentralized system, the transactions on blockchain are transparent. Decentralization implies that no single authority has full control over it and there is no central point of failure. The fact that the complete system functions in the state of consensus makes the transactions transparent. Blockchain removes the risks associated with holding data centrally as it stores data across its network.

The financial industry can benefit by making use of blockchain technology so as to achieve transparent and absolute transactions. According to a Deloitte report published in April 2017, banks can explore the application of blockchain as it “inherently helps eliminate intermediaries, maintain an immutable log of transactions and also facilitates real-time execution of transactions.”

Speaking about the PNB fraud, Jesse Chenard, Founder, and CEO of MonetaGo, a US-based blockchain firm says,

 “What happened at PNB was the result of numerous systemic failures to detect simple human malfeasance. These failures would have been easily spotted and prevented on the blockchain. It’s surprisingly common for the information settlement mechanism like SWIFT to be on a separate ledger from the payment settlement mechanism which is the system more likely to be scrutinized by the bank’s internal controls, as well as the various audits, including inspection by regulators.”

It is to be noted that smart contract or blockchain contract or digital contract, helps in averting and detecting fraud. In case of banking, it is a program capable of digitally facilitating, verifying or enforcing the negotiation or performance of a contract. The technology can make transactions faster, cheaper, and bring down the cost of services. Moreover, blockchain makes it impossible to forge documents as the whole process is cryptographically secured and immutable.

“While blockchain and connected smart contracts can take care of the audit trail and procedural compliance, the connected ecosystem can ensure all the parties share the collective intelligence. If the core banking system is integrated with blockchain, wilful defaulters and clients breaching individual or group borrowing limits can be immediately identified,” said Pandya.

Undoubtedly, the advantages of blockchain technology are hard to ignore but it is not a complete solution to the problems faced by the banking and financial industries. The blockchain is still in its nascent stages and industries all over the world are still examining the optimal use of this technology. However, it is high-time that Indian banking systems begin application of blockchain technology to prevent future scams.

“Due to lack of any precedence, banks will have to opt for a trial-and-error approach either through internal trials or partnering with a specialized technology firm,” as per Deloitte report.

Many countries have already started exploring the uses and regulatory challenges of the technology, including the U.S. Federal Reserve and the Reserve Bank of India. ICICI Bank, South Indian Bank of India, State Bank of India, are among those banks that have begun testing blockchain. In addition to this, the government of India is also planning to employ blockchain technology across various sectors. Finance Minister Arun Jaitely in his budget speech said,

“The government will explore the use of blockchain technology proactively for ushering in a digital economy.”

Blockchain paradigm can eliminate or at least reduce corruption in the banking sector and other industries, however, it is important to be remember that it’s not the panacea to all the problems.


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