Modern technology now allows people to communicate directly. From emails to voice calls, digital services help individuals communicate and maintain trust across the globe. But when it comes to money, people have to trust and go through a third party to complete a transaction.
Growth of Bitcoin
To combat this, the virtual currency Bitcoin and its supporting technology, blockchain, were designed to operate very differently from other currency systems. There would be no ‘Central Bank’, no interference or control from governments or financial corporates, and the system would be controlled, processed and managed by pretty much anybody who wanted to be involved.
Six years later on and Bitcoin has grown massively, spawned many imitators and led to a huge development of associated technology. Blockchain technology has a number of significant benefits compared to traditional technologies:
- Trust: Applications of blockchain make trust between parties better than before (integrity). It works by equipping the data and distributing across organisations. The traditional route is to have intermediaries between organisations who want to buy and sell. In the financial world, there are a number of big payment intermediaries who will generate trust and process transactions between banks and merchants. The idea behind blockchain is to get rid of those intermediaries and just get groups of organisations to deal with each other directly, using blockchain to build trust.
- Security: The concept of blockchain has a high level of encryption. Every time someone adds to the ledger saying a transaction has taken place, it ties it to the last transaction – that’s why it’s a chain. It’s then encrypted and distributed among different parties. It is unbreakable and means transactions will take time to execute, compared to one single database that is not encrypted.
- High transactions: Blockchain is a perfect fit for companies that regularly trade with large transactions. It has the benefit of speeding up transactions between organisations, getting rid of intermediaries – or at least reducing costs of intermediaries – and having an indisputable version, because of encryption and the information in the group. Blockchain is fantastic technology for changing the way organisations transact with one another, especially for those that transact regular volumes of big money.
At the same time, a number of the ideals have failed. Bitcoin is now effectively controlled by a small group of powerful ‘Bitcoin mining’ consortiums based in China, and its rapid expansion has outgrown its original design. Consensus on the way forward has to be marred by conflicting interests over influence, security, income generated and ideology.
Blockchain was conceived with high ideals: no centralisation, no individual control, and most importantly, a pure, immutable record of the historical truth, protected by algorithms, encryption and distribution of the records amongst the masses. Once again in the wild world of innovation outside regulation and compliance, it too has come unstuck.
Following on from a targeted theft in June 2016 of US$50m of ‘Ether’- another digital currency like Bitcoin – when its Decentralised Autonomous Organisation (DAO) was hacked the founders of the currency decided to ‘hard-fork’ the underlying blockchain; effectively rolling back the transactions until before the theft and re-writing history – just what the blockchain was designed to prevent.
Once again this has caused a major division between the key stakeholders of Ether; some arguing that the blockchain should have remained as it was and the criminals dealt with in a more conventional way. This contingent has now split and formed its own ‘Ether Classic’ digital currency.
As the blockchain has become more interesting in the corporate and institutional world, these problems have been put into sharp focus – before any more failures have occurred. There are still various obstacles to overcome:
- Regulation and compliance: In the financial world we have the regulatory frameworks that are structured for the systems of today, but not the systems of tomorrow. Regulation is an issue that applies to any financial trading; blockchain needs to comply with that. Realistically, the regulation needs to evolve to deal with blockchain. However, regulation alone cannot be left to the masses to ensure compliance and more importantly, somebody has to be responsible should problems occur.
- Updating the standards: A number of blockchain-based technology companies/service providers that have their own version of blockchain that has its own standards. We are in danger of having a range of different standards that aren’t standards at all. We need to start thinking about this as an industry (as in tech companies, not banks). There is a lot of churn in the marketplace about the technology they are using, with new organisations coming into play all the time. Equally, a number of organisations that were trying to exploit Bitcoin have recently collapsed – something similar could happen in blockchain.
- Fighting with tradition: What is stopping traditional intermediaries from finding another technology? There could be a better service with a better cost. Blockchain may not be the technology that supplies the service that organisations will develop to meet the challenges. When you introduce something new, traditional suppliers always react.
Future work with blockchain
As the commercial world begins to experiment with blockchain, consortium-only private blockchains are expected to become the norm; especially in financial services. This is for a number of reasons, including manageability, standards definition, regulation and compliance – and of course to prevent fraud.
As consortiums increase in size and the trade between themselves they typically need a central function, supported by all the players. This central function needs to be responsible and accountable, to manage the way forward and to provide some of the associated operations.
With the use of blockchain for regulated financial services continuing to rise, the industry will only reduce some of the technology’s perceived original value, and it will be implemented in a more evolutionary rather than the expected revolutionary way. It will still, however, reduce transaction times, costs, complexities and risks, and almost certainly enable new business models. As such, now is the time for organisations to start running blockchain pilots.
The BoE launching digital currency on blockchain tech would be international payments ‘game changer’
The Bank of England may be the first major central bank to put its currency on a blockchain which would be a ... read more
The industry consensus is that the best way to select a treasury management system is by analysing the 'Requests for Proposals' criteria. But is it? Does this lead to the best solution? If you adopt this methodology will you have a TMS that meets your operational needs?
Despite their importance to the world economy, SMEs often face problems accessing credit when and where they need it. Their banking needs are often more complex than the usual retail banking customer and they don’t offer banks the revenue potential of larger corporations.
Whether responding to questions from other stakeholders or seeking to monitor the effectiveness of their risk management processes, treasurers and FX managers in growing companies with expanding foreign currency exposures need solid analytics to support their decision making.