24 Nov The Second Boom of Blockchain and Digital Assets is Upon Us
Struggling against the effects of this pandemic and to remain competitive, companies all around the globe are working tirelessly to digitally transform themselves. Companies, businesses, and organizations are rigorously developing new features and offerings with the help of emerging technologies in blockchain and its applications.
The demand for digital assets pre-pandemic was mostly based on speculations, but during this pandemic, the demand is anything but speculative. It is now more about the fixed circulation of crypto and digital assets that cannot be debased.
The second boom of blockchain and digital assets is upon us!
Blockchain and Digital Assets
There are numerous implementations that are based on blockchain technology; these technologies range from:
- Virtual currencies (crypto)
- Deposits, intangibles, and accounts (wallet)
- Electronic chattel paper (digital contract)
- Digitized assets
This is not an exhaustive list. Some use cases for blockchain technologies include copyright protection for voters during voting procedures and implementations in the financial sector. The focus of this article is going to be on the implementation of blockchain technologies in the financial sector, and technologies including cryptocurrencies, DeFi, and CBDC.
As for digital assets, they are treated as actual assets and often represent the ownership assets under consideration. Examples of such digital assets include digital records, electronic chattel paper, digital recording, online tokens representing revenues, and patent documents.
Cryptocurrencies are a form of digital assets based on a decentralized distributed network outside the control of any government and authorities.
They allow for secure online payments in the form of tokens that are entered into a decentralized ledger.
Effect of Pandemic on DeFi
People around the world who may have lost their jobs are turning to online opportunities, and many others are investing online as well. There’s been an increase in the use of DeFi investment vehicles.
This year alone, mostly due to the effects of the pandemic, the DeFi ecosystem has seen a growth of over $12 billion USD.
DeFi applications have seen a surge in users and new applications are popping up left and right. Some of the most well-known DeFi applications include Decentralized Exchanges, Stablecoin, lending platforms, wrapped Bitcoins, prediction markets, yield farming, liquidity mining, composability, and money legos.
Central Bank Digital Currencies (CBDC)
Central Bank Digital Currencies, also known as Digital Fiat Currencies, are backed by government regulations, laws, and monetary authorities. It is quickly emerging and has the potential to become a new form of central bank currency.
CBDC is currently not a well-defined term, instead, it is a collection of various concepts.
A boom of interest in CBDC was first seen in 2008’s financial crisis, and now again in 2020 during the pandemic. It was further facilitated by the rise of cryptocurrencies and the growing levels of digital transactions.
People need to continue to take caution and consider risks associated with cryptocurrency transactions. There are still many unknowns in trading on DeFi platforms, which do not utilize such safeguards as KYC, are not subject to regulations, and present risk of loss due to failure of the code, hacking, and Ponzi schemes.
One of the most recent techniques to attack the Defi ecosystem is “Flash Loans”. Flash Loans allow users to initiate uncollateralized loans. The only reason for doing so is the stipulation that this loan is to be paid back in the same transaction or it reverts. This method is very much in contrast with the traditional Defi lending method that requires users to overcentralize their loans upfront. The major benefit for attackers in uncollateralized loans is that for a short while they can masquerade as someone well-capitalized.
In broader terms, there are three types of risk involved in blockchain, digital assets, and DeFi:
- Financial risk
- Procedural risk
- Technical risk
Financial risks take many forms, in terms of DeFi financial risks a lack of historical data can become one of the greatest factors that contribute toward financial risk. Although, it has been proposed that a risk-free cDai, which is a token based on Dai Stablecoin that utilizes a compound lending protocol to automatically gain variable interest, might become available in the near future. It has the potential to mitigate some of the financial risks that are involved in cryptocurrencies and digital assets.
Procedural risks refer to attacks and hacks such as:
- Phishing attacks:
Such attacks are carried out via email. Phishing attacks are regularly carried out against crypto users by hackers and attackers.
These attacks involve the “bait and switch” method for infecting an organization’s web pages.
- Spear phishing:
It involves gaining access to confidential data such as passwords and access keys to the organization’s internal system.
- Phishing attacks:
- Pretexting: Attacker posing as a representative of DeFi service providers trying to convince users to give out their account information and any other sensitive data.
- Sim swapping:
Gaining access to the sim of users and then posing as the unfortunate user in order to gain information from DeFi service providers to perform malicious actions.
- Quid pro quo: Attackers offer a huge fictional incentive in order to trick users into giving out sensitive data or to perform a specific action.
Technical risks arise due to insufficient and insecure protocols, software, and hardware. Risks of technical nature have the potential to compromise the functionality and implementation of the entire system. There are various factors that contribute to technical risks including:
- Weak APIs
- Insufficient exception handling
- Malfunctioning I/O
- Race conditions
Legal Issues and Compliance
When it comes to legal issues and compliance, both have seen a surge this year mostly due to the increase in interest by the population due to the pandemic.
New bills are being passed throughout the world in order to address the legal issues of DeFi, crypto, and digital assets. Similarly, compliance criteria are also quickly changing, which in turn, is affecting the existing system tremendously. We have recently seen new efforts by FinCEN in relation to KYC standards enhancement. In the UK, restrictions on derivatives trading in crypto for retail customers. In Europe, Criminal Justice (Money Laundering and Terrorist Financing) (Amendment) Bill 2020 was introduced as effort toward further regulation of cryptocurrencies.
In summary, while there will be increased activities in digital assets space as we’re all mostly moving all our operations on line, we will also see more regulatory efforts in this space. All participants in this space should continue to educate themselves about the technology as well as legal and regulatory developments that impact it. Reach out to your advisors in this space to address any concerns.