A Burgeoning Crypto Market Reveals New Threats to Financial Security

The blockchain security company CipherTrace recently announced that $761 million had been stolen from digital currency exchanges in the first half of 2018. That’s substantially more than the $266 million that was stolen in all of 2017; should this rate of theft continue, we could be looking at $1.5 billion in losses by the end of the year.

Of course, cryptocurrency exchange theft is nothing new. The biggest theft to ever occur was in 2014, when the popular Mt. Gox exchange lost 850,000 bitcoin, which was equivalent to $473 million at the time.

It’s clear that exchange theft is leading to massive losses, but it has an even bigger long-term impact. Every time an exchange is hacked, the value of the cryptocurrency involved invariably plunges. As long as exchanges remain vulnerable, mainstream investors will remain skittish and cryptocurrencies will remain volatile.

The Promise of Blockchain

People who are only vaguely familiar with cryptocurrencies and the underlying technology of blockchain are probably confused by these exchange hacks. After all, weren’t these technologies supposed to offer a trustless and decentralized solution that could prevent fraud and remove the need for central storage of financial data? If so, how are hackers getting away with millions on such a regular basis?

Blockchain creates a self-sovereign digital identity that remains under a verified user’s control and can be quickly and securely validated without the need for a centralized repository. The associated information is stored in a decentralized manner, thanks to a distributed ledger, and cryptographically sealed so only that verified user can access it.

Hackers who are able to breach a single server with relative ease will find that breaking into a decentralized network to compromise this information is a different animal entirely. A distributed ledger that shows cryptocurrency transactions in this way, for instance, is almost impossible to hack.

This underlying promise of blockchain still holds, and I believe that it will change the way we do business. Financial institutions — and governments — will soon be using blockchain to secure data and historical financial transactions so the information cannot be manipulated.

The World Economic Forum estimates that roughly 10 percent of all gross domestic product will be stored on distributed ledgers within a decade, and everything from fraudulent voting practices to the manipulation of corporate accounting records can be prevented by storing the relevant information with blockchain in real time.

The Issue of Centralization

Exchange theft is one aspect of a larger tension that currently exists within the blockchain community. Decentralized exchanges that conform to the ideals of blockchain enthusiasts do exist, but they have a problem: They don’t allow you to trade “real” (or “fiat”) money for cryptocurrency.

At the moment, there isn’t much you can do with your cryptocurrency when it comes to paying day-to-day expenses. You’re probably not buying food or paying your rent in crypto yet, which means you need an easy way of exchanging a cryptocurrency for fiat money.

This is where cryptocurrency exchanges come in. They are the gatekeepers when it comes to trading fiat currency for cryptocurrency, which means that if you’re looking to invest in the market and eventually get your money out, you have little option but to trust a centralized exchange.

More Regulation on the Horizon

While the cryptocurrency market might have been built on the backbone of a decentralized system, the need for exchanges has created a centralized system on top of it. This frustrates many in the blockchain community. Ethereum founder Vitalik Buterin recently said publicly: “I definitely hope centralized exchanges go burn in hell as much as possible.”

Buterin’s frustration is understandable, but these exchanges provide a necessary function. What isn’t acceptable, though, is the level of theft that is currently taking place in them. Exchanges should be doing a better job of protecting assets, but the market has grown so quickly that many exchanges are struggling to keep up.

With interest in cryptocurrencies growing and exchange hacks receiving more attention, we’re approaching a stage in which more regulation is inevitable. The cryptocurrency market has been volatile and largely unregulated until now, but I think we’re starting to move toward a future where the industry more closely resembles other investment vehicles.

The ideal would be to reach a point where cryptocurrencies are so widely accepted that they no longer need to be exchanged for other currencies. Only then will true decentralization be practical across the cryptocurrency industry and exchange theft be a thing of the past.

Cale Moodie is CEO and director of Neptune Dash, a leading cryptocurrency company that constructs and operates masternodes of Dash, a digital currency built on the blockchain that’s designed to enable instant, private payments online or in-store. Cale’s 10-plus year career in public market finance has included roles as founder, CFO, director, and audit committee chair for publicly traded companies. He’s been an avid follower and investor in the digital currency and blockchain space since 2013.