Since reaching a record-high value of over $70,000 earlier in the year, Bitcoin and other cryptocurrency assets have again begun to amass several controversies.
While in some quarters, it was met with great enthusiasm, in others, it engendered anxiety: an overwhelming fear of this upstart digital currency that threatens to upturn agelong traditional systems—in economics, in technology, and most especially, in banking & finance.
Key Takeaways
- Banks struggle to regulate crypto due to its decentralized nature and enforce KYC (Know Your Customer) rules. Anonymity in crypto transactions can also facilitate crime.
- Blockchain technology offers faster and cheaper global payments compared to traditional methods.
- Tamper-proof records on the blockchain enhance transaction security and reduce fraud risks for banks.
- Banks can create new revenue streams by offering crypto-related services like digital wallets, asset management, and cybersecurity solutions.
The Role of Cryptocurrency in Transforming Traditional Banking
Upon gaining popularity in 2009, crypto has constantly challenged known banking systems, transforming how people engage with money. Blockchain technology was not created to demolish the industry, but it cannot be denied that it has had some overreaching impacts on traditional banking.
- Displacement of Intermediary Functions: Unlike banks, cryptocurrency is decentralized. It also encourages peer-to-peer transactions, eliminating the need for users to rely on banks to transfer, store, and withdraw their assets.
- Reduced Transaction Fees: Banks primarily generate their revenue by deducting substantial charges for various financial services (such as currency conversion and wire transfers). Cryptocurrency, on the other hand, requires no intermediaries and, thus, involves much lower fees.
- Pseudonymity & Regulatory Challenges: Unlike traditional banks that comply with certain regulations to prevent illicit activities, cryptocurrency’s pseudonymous and decentralized finance nature makes it difficult to enforce legal requirements.
All these and more are factors that potentially threaten the existence of traditional banks as we know them to be. Safe to say, the future of banking will exclusively be for banks that are proactive enough to adapt and leverage cryptocurrency’s opportunities.
“By the end of 2023, there could be over 4 billion cryptocurrency users globally.”
Banking and Cryptocurrency: Future Potentials for Integration
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Several banks have begun to integrate cryptocurrency into their business services. As the benefits of blockchain technology become more evident, this trend will only continue. It is, therefore, crucial to understand the opportunities traditional banks will glean by integrating cryptocurrency.
Faster & Cost-Effective Transactions
One key advantage of crypto banking is that transactions can be completed more quickly than any other traditional method. Thanks to the use of distributed ledger technology (DLT), banks will no longer need the services of middlemen, facilitating faster global payments. Besides, as there will no longer be costs for maintaining and executing contracts, transaction and infrastructure costs will experience a downward spiral.
Improved Safety
The DLT also creates tamper-proof records to help banks better secure transaction information. Once the data of a transaction has been verified, it cannot be modified. As a result, the risks of third parties diverting payments or capturing transaction information will be eliminated, ensuring greater security for all parties.
Adoption of CBDCs
A Central Bank Digital Currency (CBDC) is a digital currency issued by a Central Bank as electronic cash, instead of having to print money. While the adoption of this financial innovation is still in its early stages, it promises a host of benefits to the future of banking. First, their adoption will greatly enhance transaction security and speed. Meanwhile, costs incurred by traditional systems of banking will be cut down and used to offset decline in other areas.
Revenue Generation
As blockchain technology gains more ground, institutions that want to remain in the banking business will necessarily begin to offer services like digital wallets, blockchain-based payments, asset tokenization, and other asset management services. To bridge certain gaps too, they will require certain cybersecurity services. This trend will inadvertently create new jobs and open new sources of revenue.
Better Loaning
Cryptocurrency adoption in banking affects loans in two key ways. First, it opens up the possibility of peer-to-peer loans in consumer banking, facilitating the process of lending and borrowing. Moreover, blockchain technology also helps lenders make more informed decisions by providing reliable data points on a decentralized registry of payment history. This could potentially eliminate credit risks.
“As of October 2023, over 110 countries are exploring or developing CBDCs”.
Challenges in Integrating Cryptocurrency into Banking Systems
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Despite the countless benefits that traditional banks stand to gain by adopting cryptocurrency, there are still a host of challenges plaguing their eventual integration.
- Decentralized Nature: The decentralized nature that blockchain technology prides itself upon poses a significant threat to governing bodies. As governments & regulatory agencies cannot identify the parties involved, no one can be brought to book for its wrongful use or sanctioned into compliance with legal requirements.
- Anonymity: Rather than linking to real persons, crypto transactions link to wallet addresses. This makes the blockchain technology non-compliant with Know Your Customer (KYC) procedures demanded from traditional banking systems. As a result, financial institutions can’t identify the source and destination of digital funds.
- Crime-Enablement: As a result of its decentralized and anonymous nature, several criminal syndicates have resorted to carrying out their transactions with cryptocurrency. Illegal activities such as money laundering, political funding, human trafficking, terrorism financing and tax evasion all thrive on the blockchain. Given the untraceable nature of cryptocurrencies, the perpetrators of these nefarious acts cannot be cracked down on.
- Ignorance: It is not uncommon for people to be scammed after being tricked into yielding confidential data to unknown persons. Blockchain technology is still a relatively new innovation. As such, several traditional bank users lack a proper understanding of their rights and how to use crypto banking services properly.
How Banks are Currently Adopting Cryptocurrency
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In spite of these challenges and in the face of criticism, certain financial institutions have remained resolute. Leading global investment banking firm Goldman Sachs, for instance, has embraced cryptocurrency.
The bank has engaged in trading OTC Bitcoin options since March 20, 2021, and recently began trading Ethereum-backed NDFs, marking a significant point in cryptocurrency adoption among major banks.
The likes of UBS and BBVA have also integrated crypto management services into their offerings. Meanwhile, Fidelity and JP Morgan have taken theirs a step further by creating crypto funds.
The process of transitioning from a centralized system of banking—where sensitive information is the exclusive reserve of the financial institutions—to a decentralized blockchain model can be quite tasking.
However, these banks, among others, have braved the storm, competing with more agile neobanks for a place in this novel order.
“86% of global banks are actively exploring or have already implemented blockchain technology, which underpins cryptocurrency.”
Going Forward
Even though this won’t happen overnight, the banking sector is gradually stepping into a new future. To remain competitive, traditional banking systems must, as a matter of necessity, explore new models and opportunities in an ever-evolving industry.
To succeed in cryptocurrency adoption, banks must first focus on fully understanding the ethos behind it. This will help them develop services well-tailored to their users. Meanwhile, given the risks associated with crypto banking, banks must regularly stay on top of modern cybersecurity measures and implement them to ensure the security of their customer base.
Finally, education is critical for financial institutions hoping to integrate cryptocurrency into the fabric of their operations. Customers and staff must be aware of the complexities of the crypto world to make it more inviting to all parties involved.
