How blockchain addresses global money laundering




Last modified


money laundering

Money laundering is not a new vice in the financial industry. Throughout history, people have tried to conceal their wealth to evade tax or circumvent confiscation by the government. Today, organized criminal gangs, terrorist groups, and drug lords take advantage of any loopholes in the regulatory framework to conceal their illicit gains and transfer money around the world without the knowledge of government authorities.

Money laundering is an act of obscuring illegally-acquired funds while effectively concealing the real source of the funds. More often, money launderers link their dirty money to legitimate business enterprises to avoid suspicion. With the emergence of Bitcoin and other popular cryptocurrencies, many stakeholders and governments are worried that their seemingly anonymous and decentralized nature may fuel money laundering and tax evasion. However, the blockchain technology, by its very nature is not ideal for money laundering. In fact, blockchain can help in limiting the scope of money laundering, and we shall see how it achieves that.

The mindset of money launderers

Criminal entities and nefarious actors employ several tactics to conceal and smuggle illicit money. Classic money laundering often mutates through three stages. In the first stage, money is secretly stashed in a financial system. The second stage is where the money is moved around to different accounts to create confusion and lengthen the paperwork trail. With several layers of records, linking the funds to an individual entity becomes difficult. In the final stage, the “clean” money is moved into a legal financial system. Anti-money laundering laws have increasingly targeted entities that finance terror groups and nations that seek to evade international sanctions.

Although the magnitude of money laundering has not been reliably estimated, most experts believe that it accounts to about 2 to 3 percent of the global economy. This raises significant policy concerns as far as regulatory and law enforcement is concerned. The US government, for example, passed a chain of laws and regulations commonly known as AML (Anti-Money Laundering) and KYC (Know Your Customer) laws. Under these laws, financial institutions and banks are required to report any suspicious transactions happening on their platforms. They should also set up effective compliance and risk control solutions and accurately verify customer identity.

How Blockchain can help to mitigate money laundering

The blockchain technology can effectively help in reducing global money laundering in the following ways:

Improved transparency and communication

The transparency of blockchain technology allows risk management teams and regulators to access all data recorded on the ledger. Transactions, account opening, financial activities, lending activities, and much more could be instantly monitored and reported. Again, regulators and financial institutions can communicate in real time over the same platform. Risk officers could also be notified of any violations in compliance. That way, they can take quick action.

Overall, the distributed ledger facilitates a smoother and more efficient communication and reporting process. This saves time and allows actions to be taken on a timely manner. The current model often permits violations to take longer before being detected, reported, and mitigated. Some violations even go undiscovered.

High data quality and governance

It is almost impossible to alter data on the blockchain ledger. Even if someone manages to change some data, you can still track and monitor the transaction to prevent fraud and misuse. Ordinarily, financial institutions store data in a silo-based system. However, a shared ledger can combine all the data and saves it in one platform. Afterward, a software program is created to extract specific data sets and generate efficient reports. Due to improved data governance, financial institutions can identify fraud in its early stages and prevent financial crime.

Timely reporting of KYC and suspicious activities

Currently, the KYC process can last for several days or weeks before satisfying the regulatory requirements. Consequently, the cost of compliance is escalating rapidly for financial institutions as they rush to stay safe from fraudsters and terrorists. The high fines for noncompliance make the situation even worse.

The blockchain technology uses a shared ledger. This makes it easy to monitor and adjust the KYC process more efficiently from an enterprise level. Employees and the network can access the database of all client activities as well as their background information through a shared ledger. If a client updates or alters his/her status in a bid to execute a fraudulent transaction, the action is communicated and updated in real time.

Better identity management

The biggest challenge with online and mobile banking platforms is digital identity. To achieve better identity management in digital financial services, there must be an improvement in security protocols. This could be achieved with blockchain technology.

Comprehensive authentication process

Mobile devices will continue populating the market in the coming years. The need to improve security measures will become equally paramount. Currently, the background information of users is stored in separate servers in banks, IRS, and various registries. The blockchain’s distributed ledger allows all the background information and client identification data to be kept in a single network. Various regulatory institutions can tap this data for CDD processes.

Financial institutions can access sensitive client data to help in identifying individuals applying for loans, opening accounts, or accessing mortgages. Thanks to cryptographic verification, only clients who fulfill the encryption requirements and smart contract terms can be granted access to the network.

Cryptography protects sensitive data

Since the Equifax security breach last year, the blockchain community has taken data privacy and control very seriously. The blockchain’s distributed ledger could help institutions to efficiently report KYC by identifying and taking action on suspicious behaviors. The high encryption capability of blockchain could also help protect sensitive data and avoid compliance violations.

The moment a user is established on a blockchain platform, cryptographic keys are generated for him/her. This makes it extremely difficult for a fraudster to access the user’s personal data, execute identity theft, or carry our illegal transaction.

Concluding remarks

Crypto-assets have poked many holes in AML regulations. Moving forward, more regulations must be developed to address issues that arise from the blockchain ecosystem. This requires close collaboration between technology experts, academics, and legal practitioners. Blockchain could play a critical role in reducing money laundering by enhancing the transparency of transactions.