Economic Analyses of Security Investments on Cryptocurrency Exchanges

TL;DR

This paper develops an economic model to analyze how cryptocurrency exchanges decide on security investments and transaction fees, highlighting the impact of market volatility on their security strategies.

Contribution

It introduces a novel economic model capturing exchanges' incentives for security investments and fee setting, with insights into their decision-making under market volatility.

Findings

Security investments scale horizontally with loss exposure reduction.

Model provides optimal decision insights for exchanges in volatile markets.

Graphical analysis based on real-world data illustrates key conclusions.

Abstract

Cryptocurrency exchanges are frequently targeted and compromised by cyber-attacks, which may lead to significant losses for the depositors and closure of the affected exchanges. These risks threaten the viability of the entire public blockchain ecosystem since exchanges serve as major gateways for participation in public blockchain technologies. In this paper, we develop an economic model to capture the short-term incentives of cryptocurrency exchanges with respect to making security investments and establishing transaction fees. Using the model, we derive conclusions regarding an exchange's optimal economic decisions, and illustrate key features of these conclusions using graphs based on real-world data. Our security investment model exhibits horizontal scaling properties with respect to reducing exposure to losses, and may be of special interest to exchanges operating in markets with high price volatility.