Crypto’s Transparency Is Problematic For Institutions, But It’s Not A Deal Breaker

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Financial institutions have made no secret of their interest in digital assets, but their need for privacy is perhaps not as well known. One of the challenges faced by big businesses and banks when it comes to crypto is their transparency. While this is often celebrated as an amazing innovation, it can cause major headaches for large organizations. 

The solution, of course, is to utilize cryptocurrencies that provide all of the benefits of blockchain together with iron-clad privacy, and organizations have a number of options to choose from. 

The Appeal Of Crypto

Cryptocurrency is appealing to financial institutions and businesses because it offers a number of advantages vis-à-vis traditional fiat. These advantages include smart contracts, which can automate complex agreements and transactions. They can enable processes such as escrowed payments, automated transactions, supply chain management and regulatory compliance far more efficiently and with lower costs. 

In terms of cross-border payments, blockchain wins hands down over fiat every time. It’s much faster and far cheaper to send funds using crypto than it is to send U.S. dollars through traditional channels. The costs are virtually insignificant, transactions are processed much more rapidly, there’s no limit to the amount that can be sent and no risk of funds being frozen. 

Blockchain also provides advantages in terms of compliance. The immutability of distributed ledgers provides a secure, unalterable record of transactions, which enhances trust and makes fraud much more difficult to conceal. 

The Problem With Crypto

We can see why crypto is appealing, but the transparent nature of these instruments has become a major impediment to their wider adoption. 

Financial data is extremely sensitive. For instance, some financial institutions manage vast portfolios and engage in complex trading strategies that give them an advantage over their competitors – and so they have a vested interest in ensuring these remain secret. They may also be subject to strict regulatory requirements that necessitate confidentiality. They may be making acquisitions that they don’t want their competitors to know about, or engaging in lending and borrowing activities that could expose their financial health. 

Moreover, both consumers and businesses demand a certain level of secrecy. Imagine a bank processing loan applications and making all of its client’s financial statements available for everyone to see. It’s just too much transparency, and the very thought underscores why certain cryptocurrencies are unsuitable for institutional use cases. 

Traditional Privacy Coins Won’t Work

Although there are numerous privacy-focused cryptocurrencies available, very few are actually suitable for these kinds of organizations. One of the most famous privacy coins is Zcash, and its secrecy is undeniable. It employs zk-SNARKs, which use cryptography to obscure transaction amounts and the addresses of senders and receivers. In theory, that should make it ideal, but the ZEC token faces significant hurdles that will likely prohibit institutional adoption. 

The problem with Zcash is its utility. It’s really only useful for basic transactions, but the real potential of blockchain lies in its ability to support complex financial instruments and automatic processes with smart contracts, which fall outside the scope of Zcash. The lack of smart contracts also means ZEC has limited utility in decentralized applications. 

It’s a similar story for another popular privacy token, Monero. While its robust privacy mechanisms ensure that transactions can never be traced, thanks to techniques such as ring signatures and stealth addresses, it also lacks support for smart contracts. In addition, Monero faces an even bigger challenge due to its notoriety. The XMR token is often used for illicit transactions due to its favored status among cybercriminals, which raises giant red flags for enterprises. 

Another problem with Monero is that privacy is always enabled. With Zcash, users can choose to make transactions private or public, but XMR does not offer selective disclosure. This means there’s no way for transactions to be audited, even if they are legitimate. 

Programmable Privacy Is The Answer

What institutions need is a more balanced privacy token that supports regulatory audits along with smart contract functionality, and that’s why newer privacy coins like COTI might prove more attractive to institutional users in the long term. 

COTI utilizes a novel mechanism called “garbled circuits” to enable privacy. They’re a fascinating new cryptographic technique that allows two or more parties to cooperate on computing a function (such as a transaction) with private inputs. In other words, they’ll process a transaction together, using only half of the information each. They don’t reveal the other half to the other party, ensuring that all of the details of that transaction remain secret, yet verified by each party. 

Garbled circuits are an attractive concept for institutions. For one thing, their use of mathematics enhances the privacy of inputs during computations. Because the raw transaction data is never disclosed, it’s a stronger degree of confidentiality. 

COTI also supports “programmable privacy”, where institutions can define the specific privacy parameters they require for different types of transactions. For instance, a bank might want the highest level of privacy to protect its trading strategy, but at the same time, it needs to selectively reveal certain transactions to auditors to be compliant. COTI’s granular controls mean it can disclose full details of specific trades to auditors, without anyone else prying on its trading secrets. 

Because COTI is EVM-compatible and supports smart contracts, the token can be integrated with any DeFi protocol that lives on the Ethereum network. This means institutions and businesses can engage in decentralized activities such as borrowing, lending and yield farming without revealing to anyone else what they’re up to. 

A final advantage of COTI is its scalability. According to COTI, its Directed Acyclic Graph architecture supports high transaction throughput and low latency, enabling it to process up to 80 confidential transactions per second. In contrast, Zcash can only process around 12 confidential transactions per second, while Monero is even slower, with speeds of just 17 transactions per minute on average, due to its heavy computational requirements. 

Financial institutions have made it clear that they want to adopt crypto and blockchain, but they can only do so if these technologies are able to satisfy their privacy requirements. Public blockchains like Bitcoin are unable to do this, and traditional privacy coins lack the advanced functionality and regulatory clarity needed for institutional adoption. 

This is why the emergence of more sophisticated privacy techniques like garbled circuits are such a critical evolution. They’re a more innovative and flexible approach to blockchain privacy that caters to all of the needs of institutions, and may be just the thing that’s required to bridge the gap between crypto and the traditional financial system.