Block Chain Technology: Dawn of a new Era
Early bitcoin enthusiasts hailed the cryptocurrency as a
revolutionary way to side line banks in a libertarian drive to upend the
traditional order of capitalism.
Since then the banks have fought
back. Nowadays most people attending conferences about the block chain
technology that underpins bitcoin are more likely to be wearing suits than the
hoodies and ripped jeans of a few years ago.
Having kept their distance from
bit-coin, fearing the risks of fraud and criminality, big banks now see huge
potential benefits from harnessing block chain to make the existing financial
system more efficient.
In today’s banking world, it is
all about cost savings, as they are all struggling with low returns, and that
is why they are all locking on to the block chain.
The four banks UBS, Santander,
Deutsche Bank and BNY Mellon, which are working with UK broker ICAP and
developer Clearmatics Technologies stress that they are not creating a new
cryptocurrency but will revolutionize the way payments are made and develop a
utility settlement coin a new form of digital cash.
Instead, the system they are
developing uses block chain technology to create different coins that are each
directly convertible into existing currencies deposited at central banks. In
essence, it is a way of putting dollars, euros and pounds on the block chain.
While other digital cash projects
are being examined by banks such as Citigroup’s “Citicoin” or Goldman Sachs’
“SETLcoin” this is the first time several institutions have teamed up to create
a digital cash utility for use in financial markets.
So how
does it work? And what problem is it trying to solve?
Coins are stored on a network of
computers, all of which must approve that a transaction has taken place before
it is recorded in a chain of computer code. Cryptography keeps transactions
secure and costs are shared.
Details of transfers are recorded
on a ledger that anyone on the network can see, eliminating the need for a
central authority, which is why the technology has been dubbed a distributed
ledger.
The aim is to speed up clearing
and settlement in financial markets by allowing institutions to pay for
securities, such as bonds and equities, without waiting for traditional money
transfers to be completed in the so-called delivery versus payment process.
By switching clearing and
settlement of financial markets on to a distributed ledger, the banks hope to
do away with much of their costly back office operations that process trades
and keep records up to date.
Quicker settlement should also
free up capital that banks hold against trading risk.
Every bank, exchange and clearing
house, have their own sets of the same data, which get out of sync and have to
be updated and reconciled. The distributed ledger is the first technology which
could implement a shared golden copy of that data.
Total savings from using block chain
technology in payments, securities trading and regulatory compliance could reach
$15bn-$20bn a year by 2022.
The consortium behind the
universal settlement coin is aiming for a commercial launch by early 2018, by
which time it expects to add many new members.
The project still faces
challenges. One is transaction speed. Bitcoin is often criticized because its
block chain can handle only about seven transactions a second, as opposed to,
say, the 24,000 that Visa can. There is also a question over whether the banks
will lose almost as much revenue as they save in costs. They make $1.7tn a
year, or 40 per cent of total revenue, from global payment services. How much
of that could be replaced by a block chain payments solution?
Finally, the proliferation of
various block chain projects among banks, already numbering in their hundreds,
raises fears of whether they will coalesce around a single standard or end up
using several incompatible technologies.
Some people in the financial
markets feel that the banks are missing the point. This is banks talking to
each other and the point of block chain is to establish consensus in the
presence of potentially untrusted actors, as with bit-coin, on the internet. It would be a sorry state of affairs, that
technology is not going to fix, if the banks don’t trust each other.
$20bn is the potential savings from using block chain in payments,
securities trading and compliance by 2022 and $1.7tn is what banks make from
global payments services, offsetting the potential savings so in times to come
it will be seen if block chin technology implemented and integrated well will
change the face of making payments and money transfer.
_ Farzan Ghadially
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