Traditionally, the financial services industry is known for its legacy systems and some banks have stacks of legacy systems, some of which are 30–40 years old. It is, therefore, not surprising that the financial services industry has embraced Blockchain to improve many of their outdated systems and, along the way, save a lot of money (which, not surprisingly, might be the main reason for them to adopt blockchain).
5 Blockchain Benefits for the Finance Industry
Using a distributed ledger, banks can trade faster and cheaper and become more efficient. Some of the benefits are:
1. Instant Settlements
Transactions can be done in minutes or seconds, while currently, settlements can take up a week. With Blockchain, settlements become user-optimised, which will save a significant amount of time and money, for both parties involved. Blockchain will remove the need for a lot of middle-office and back-office staff at banks, as transactions settle instantly. As such, banks have an important drive to explore Blockchain for improving settlements and some banks explore internal options first, while others explore options between banks first.
Many banks are experimenting with instant settlements, including the Bank of Canada that ran a test in 2018 together with the Toronto Stock Exchange operator TMX Group, and non-profit organization Payments Canada. Their test showed that automating instantaneous securities settlements becomes possible with blockchain, thereby enabling direct swapping cash from buyers to sellers, resulting in instant settlements. In addition, when transactions are settled near instantly, it will remove a significant part of the risk that the counterparty cannot meet its obligations, which could be a substantial expense for banks.
2. Improve Capital Optimisation
One of the main features of blockchain is that it removes the need for a trusted intermediary and makes peer-to-peer transactions possible. When Blockchain is applied in the financial services industry, it could render useless the fee-charging intermediaries such as custodian banks (those that transfer money between different banks) or clearers (those vouching for counterparties credit positions).
Blockchain offers better capital optimisation, due to a significant, reduction in operational costs for banks. In addition, when banks share a blockchain, the total costs of that blockchain and the surrounding ecosystem might be higher than individual costs of managing transactions at a bank. However, the costs are shared among all participating banks and as such, there is a significant cost reduction.
3. Improved Contractual Performance due to Smart Contracts
When banks and financial institutions are using smart contracts, it will improve contractual term performance as smart contracts execute automatically once certain pre-set conditions have been met. It is important that those smart contracts are firmly rooted in law and comply to any regulatory compliances, across jurisdictions if needed.
Consequently, R3CEV had to tailor-make the smart contracts within their distributed ledger platform. Especially complex financial asset transactions can benefit from Blockchain, due to automatic settlement using smart contracts under the control of an incorruptible set of business rules.
4. Increased Financial Solutions in terms of Crisis
Increased options for financial solutions in times of crisis due to the availability of new financial products. In 2016, Bitfinex, one of the largest crypto exchanges, was hacked and 120.000 bitcoins were stolen. When the Bitfinex hack happened, the solution that they developed was compensating the customers, who all shared equally in the loss, with a tradeable Recovery Right Token (RRT).
One token was valued at $1 loss and each token could be seen as an IOU. Customers could trade the token for the market price (if they did not believe in the recovery of Bitfinex or if they did and wanted to make a profit), they could exchange it for equity (which happened with nearly half of all tokens) or they would be bought back by Bitfinex for $1 at some time in the future. An interesting example of an innovative financial solution, thanks to the Blockchain. It is quite likely that without it, Bitfinex would have gone bankrupt and all customers would have lost all their money.
5. Reduced Error Handling and Improved Transparency
A key feature of Blockchain is that any data recorded is immutable. Any data that is recorded on a blockchain can be tracked in real-time, leaving a very detailed audit trail. As such, it eliminates error handling and reconciliation. In addition, it improves transparency across the industry. This could lead to improved regulatory reporting and monitoring by central banks if the regulators also have access to the blockchain.
Almost all banks are currently experimenting with blockchain, one way or another. They focus on multiple blockchain networks cryptocurrencies to investigate which technology offers the best solution for an improved financial industry. It is vital for the financial services industry to innovate and to investigate new technologies to improve their products and services. If the incumbents don’t change their offering and innovate, newcomers will disrupt their business as we have already seen with a variety of Blockchain FinTech startups that are building new ways to handle your financials.
Banks and Cryptocurrencies
Unfortunately, while almost all banks are investigating blockchain, most of the banks are not very fond of working with crypto startups. Most of them simply refuse any company that has something to do with cryptocurrencies, whether you are a trading company or doing an ICO or STO. These banks rather stay away from cryptocurrencies, being afraid of criminal activities such as money laundering.
There are only a handful of traditional banks that allow cryptocurrency companies to open a bank account with them and the process to open such an account can easily take between 6 months to a year. In addition, the fees charged by these banks are often a lot higher than for normal accounts. Although you could argue that the entire point of a crypto startup is not to have a bank account, almost always you still need a bank account, for example, to pay your taxes or your employees. Fortunately, there are also disruptors in the market that do welcome crypto startups:
Change, a crypto bank based in Estonia and Singapore, with the objective to revolutionise banking. They offer crypto wallets and a cryptocurrency credit card to make ATM withdrawals and payments.
Revolut, a UK-based FinTech company that has recently moved into crypto. They allow you to buy, exchange and hold Bitcoin, Ether, Litecoin, Bitcoin Cash and Ripple.
Bitwala, a German bank aiming to offer crypto-first current accounts. They also offered a Bitcoin debit card via Visa, which Visa recently blocked again.
You wonder if banks are not digging their own grave by refusing to work with companies that offer a cryptocurrency. After all, the FinTech startups working with cryptocurrencies often offer far better services than traditional, slow and bureaucratic banks.
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Dr Mark van Rijmenam is the founder of Datafloq, he is a globally recognised speaker on big data, blockchain and AI, strategist and author of 3 management books: Think Bigger, Blockchain and The Organisation of Tomorrow. You can read a free preview of my latest book here. Connect with me on LinkedIn or say hi on Twitter mentioning this story.
If you would like to talk to me about any advisory work or speaking engagements then you can contact me at https://vanrijmenam.nl