Is it possible? - China designs auditable – permission blockchain payment system

Recently People Bank of China (PBoC) said that it will keep a balance between users’ privacy and regulator need for an audit. Meaning users who transact in digital currency will have their anonymity preserved, just as the case with cash transactions. At the same time for regulators, it will provide just enough auditable information to combat money laundering, terrorist financing, tax evasion, online gambling transactions and financing criminal activities.

This was confusing for me that how it can be achieved unless it partially uses blockchain technology and still relies on the old centralized method. This open question made me put together pieces of the puzzle to figure out how this is even possible, what are they hiding, can anyone achieve auditable - permission blockchain.

Here is what I think is happening behind the scenes. Please feel free to share your thoughts:

Disclaimer:
Since little is known about China’s digital currency design, this post is an Op-Ed.

User’s security will be the main focal point for PBoC which depends on one piece of information. An information user must protect and not loose: Private key. If the user loses the private key, s/he also loses all the assets. PBoC may greatly reduce the risk by using a simple idea: use more than one key to sign a transaction. A “multi-layer” arrangement known as the ‘Threshold signature scheme’ to protect the user’s private key. For example, requiring 2 out of 3 signatures to successfully sign a transaction.

In such an arrangement, each participant gets a separate private key for each user’s public-address. These participants could be – users themselves, Institutions, and auditors (or regulators). For ease of use, a mobile app will store the user’s private key and through biometric fingerprint sign the transactions. Note this mobile app is not a wallet, but more like an encrypted messaging app.

For users, the front-end interface would more or less look like a transaction app while in reality, it triggers an encrypted message. Each time the user initiates a transaction, the initiator’s institute receives the details of the transaction (like payee address, amount) in an encrypted message. A copy of this encrypted message is also saved in a private database 1 -‘Records’ for audit reference.

This strange relationship between Institute and user:

As we know that China’s digital currency will be distributed by 7-8 institutes. Most of them are established financial institutions where their customers have already been through the KYC process. Therefore, any customer (user) from these institutes will use the provided mobile app to register, get added to database 2 – ‘White-list’ (explained later) and start initiating the transaction.

Now institutes with their set of private-key decode the message. Takes the information (like amount, recipient address, etc) and finds the receivers institute. Once found, the institution sends the currency to the receiver’s institution along with an encrypted message which adds the recipient’s address. This transaction between institutions happens in a real blockchain-based transaction system much like Bitcoin.

The receiving institution will look for the encrypted message and decrypt to know the recipient’s address. Then sends a confirmation message to the payee-payer and the mobile app syncs to reflect the new amount. Such an arrangement hides the payee-payer relationship as the public ledger only shows the institutions transacting with each other.

In addition to the above system, there might also be another private database 2 – ‘White-list’ to keep a record of all public addresses along with user identity associated with it. Before the institute processes the transaction, they may check the authenticity of the user in this database like KYC verified user, etc.

Now for audibility, auditors would refer to the private database 1 – ‘Records’. Each user will have an auditor assigned who can decrypt the message. Remember, the use of a threshold signature scheme. This auditor could be the third participant in this multi-layer arrangement who holds separate private-key associated with the user.

By coordinating with the respective institute, the auditors decrypt the transactions and check compliance of the user’s financial transaction. If a user is using the digital currency for illegal purposes, the authorities will lock-up his/her address by changing user status as ‘not valid’ in the database 2 – ‘White-list’.

So finally, here we have partial use of blockchain technology. What you think. Does it make sense or there could be another way of achieving auditable-permission blockchain?