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The winds of change from blockchain have arrived in financial services, but there are bigger storms on the horizon

September 5, 2018 by Lape Runsewe

The winds of change from blockchain have arrived in financial services, but there are bigger storms on the horizon

Blockchain is the buzzword in the financial services sector and big changes are on the way for the sector; but what sort of benefits and changes is it bringing to financial services? Let’s firstly remind ourselves what blockchain is and its role for cryptocurrencies.

Bitcoin was blockchain’s first application

Bitcoin is a type of unregulated digital currency that was first created by someone called Satoshi Nakamoto in 2008. Also known as a “cryptocurrency,” it was launched with the intention to bypass government currency controls and simplify online transactions by getting rid of third-party payment processing intermediaries. Of course, accomplishing this required more than just the money itself. There had to be a secure way to make transactions with the cryptocurrency. Bitcoin transactions are stored and transferred using a distributed ledger on a peer-to-peer network that is open, public and anonymous. And blockchain is the underpinning technology that maintains this bitcoin transaction ledger.

Blockchain, also created by Nakamoto, is a digital, distributed transaction ledger with identical copies maintained on each of the network’s members’ computers. All parties can review previous entries and record new ones. ‘Peer to peer’ transactions or payments are grouped in blocks, recorded one after the other in a chain of blocks (the ‘blockchain’). The links between these blocks and their content are protected by cryptography, so previous transactions cannot be destroyed or forged. This means that the ledger and the transaction network are trusted without a central authority, the ‘middleman’, such as a bank or trading exchange. Pre-blockchain, organisations like banks injected the continuity that the ‘virtual world’ of email and the internet lacks by verifying individuals, things, transactions and ownership. This was and is a very inefficient process and drives up transaction costs. With the blockchain network itself establishing continuity, network participants can trust in the authenticity of transaction data and directly exchange value between each other, resulting in lower transaction costs.

The reason for other excitement over blockchain is it’s not just one gigantic database.  It is more like several databases of blocks, sequenced in time, where each block is hashed. In bitcoin, this matters a lot because it uses something called ‘proof-of-work’. The proof-of-work is the arbitrary rule that everyone agrees is a designator of ‘the truth’. And by chaining the proofs-of-work, it becomes exponentially more difficult to modify old records because modification of an old record would mean re-generating all the proofs-of-work in the blocks that came after it, to match the blockchain pre-modification. So in other words, if a value is written to the bitcoin blockchain, then it’s not changing. Ever. This is also exciting because it’s the first genuinely immutable public record.

Blockchain is driving multiple benefits across multiple financial service areas

Blockchain is re-shaping the financial services industry by making transactions faster,  cheaper and critically, more accurate. For example, in securities trading, a three-day handling time is common; also friction is plentiful in trading with an estimated 20% of all transactions generating errors that require human intervention. There are other multiple benefits, including:

  1. Speeding up and simplifying cross-border financial payments.

The transfer of value has always been an expensive and slow process. This is particularly true for cross-border payments. Blockchain technology is able to speed up and simplify this process – and also reduces the costs significantly

  1. Changing the dynamics of share trading.
    Share trading will soon be impacted by blockchain technology. Utilizing blockchain technology allows for greater trade accuracy, and a shorter settlement process.
  2. Bringing cost benefits from ‘smart’ contracts.

One of the most promising applications of blockchain technology is the smart contract. It can execute commercial transactions and agreements automatically. It also enforces the obligations of all parties in a contract – without the added expense of a middleman.

  1. Improving online identity management.
    When identity management is moved to blockchain technology, users are able to choose how to identify themselves and who will be informed. They still need to register their identity on the blockchain somehow, but after that, they can re-use that identification for other services.
  2. More captivating loyalty and rewards programmes.
    Blockchain technology offers many benefits, including transparency and traceability of transactions. This will help banks and insurers to create a more captivating loyalty and rewards program that fits 24/7 performance management and enhances engagement.

 

In the overall scheme of things, blockchain is still pretty new and businesses are still in the early stages of exploring what they can do with the technology, especially in non-public blockchains where inefficiencies can be avoided. A self-verifying platform like blockchain opens up a whole new world of new business models for the industry, the most tangible of which will exploit micro and multi-party transactions. Yet this is only the start, and the real excitement comes from knowing that blockchain’s ‘killer apps’ have yet to emerge. These are the storms we see on the horizon that will not just reshape, but turn the world of financial services on its head!

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