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How Blockchain could have stopped Nirav Modi and the PNB Fraud

By March 12, 2018 No Comments

Be it news channels, social media or newspapers, currently all sources to reach masses are filled with news of how Nirav Modi duped the Punjab National Bank and Indian Economy. It is all about how the country’s second largest public-sector bank or lender was tricked into issuing loans worth ₹11,400 Crore to India’s 57th richest person according to Forbes – Nirav Modi.
What exactly happened?
Punjab National Bank found fraudulent issuance of Letters of Undertakings or LoU (a bank guarantee against which another lender gives a foreign currency loan), while the partnership firms of Nirav Modi approached the bank to request Buyer’s credit. The firms contested that they have been availing this facility for long, but the bank could not find any records to confirm the same. One of the complaints by PNB also states that the funds raised against the payment of import bills were not used for the same purpose in a number of cases
How did it happen?
When PNB enquired and probed the records, it was found that 2 of the employees of PNB were behind this. The said employees:
* Were issuing the Buyer’s credits without following approvals and prescribed procedures.
* Made no entries in the banking system of the transmission of SWIFT instructions to overseas Indian banks. In total, 5 SWIFT messages were issued to the Hong Kong Branch of Allahabad Bank and 3 to the Hong Kong Branch of Axis Bank.
In addition, the SWIFT was not linked to the Core Banking System (CBS). Due to this and reporting related issues, the fraud ran for years without being detected. A total of 500+ LoUs were issued to Nirav Modi and firms.
Reason for this scam?
1. Lack of Transparency: The bank was unaware of the activities of its employees issuing LoU.
2. Lack of Traceability: All the transactions were made under good faith, without any provable letter of authenticity.
3. Lack of User Access Controls: The same employee continued to issue LoUs despite required rotation practice in the Banks.
What is Blockchain and Smart Contract?
The blockchain is a decentralised, immutable, distributed and shared ledger that keeps a track of all occurring transactions. All the users have their respective copy of the ledger that keeps on updating continuously with the transactions occurring globally. These transactions are recorded onto the Blockchain after the approval by a majority of the network.
A Smart Contract is a set of instructions that automatically performs the obligations under the agreement, which parties have committed to. By being immutable and cryptographically secure, a smart contract gives us the security of Blockchain Technology, that is, it provides distributed, trustworthy business logic and controls.
How could Blockchain have averted this scam?
While all the transactions are recorded on the Blockchain, one can easily follow the trail to trace the beginning. Furthermore, all the changes made to the Blockchain are available and visible to participants. Being immutable in nature, the transactions made on Blockchain cannot be tampered with, and so would create a trust-less condition. And one cannot pull out fraudulent transactions as these transactions are approved by the majority of network in the form of consensus.
Blockchain could have completely averted the PNB fraud.
This could have been done by:
* Creation of a Smart Contract for multiple parties, where the Letter of Undertaking would require the consent of different branches of the issuing bank. Once approved, this LoU would be broadcasted over the network and recorded.
* Owing to traceability, the designated bank onto receipt of LoU could check all the transactions shared by the issuing bank, before transferring the funds.
* The digital ledger would be available across banks to cross-check and confirm all necessary transactions.
* Creation of another Smart Contract to release funds for paying of bills would ensure that the loan is being used for the reason it was granted. Using this feature of Blockchain would only release funds when the consensus approves its usage.
Considering the scenario and scams that are making headlines everyday, incorporation of Blockchain Technology and Smart Contracts in banking systems is the need of the hour. This technology will lead to saving millions by creating a secure and immutable network to transact based on community consensus.

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