Blockchain between Banks: Use Cases to Watch
Blockchain has ruled the tech and investment conversation for nearly two years. Since its inception and because of its start with a revolutionary kind of currency — cryptocurrency — like Bitcoin, the clearest visible path to mainstream blockchain disruption has always seemed to run through the financial services sector. Yet, while many have seen the rise as a direct threat to incumbent businesses, it could be that the players at the center of the centralized financial world actually stand to gain the most. Banks are often a key part of discussion on embedding disruptive technologies, and their capacity to own the revolution early could dictate much of the evolution of the industry.
We’ve broken down three ways, outside of payments, that blockchain — or distributed ledger technology (DLT) could be uniquely impactful in the commercial banking sector. This by no means implies these three are the only financial services which can be made better by DLTs, but certainly would be in a position to benefit immediately.
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Interbank Clearing
When it comes to interbank transactions, blockchains would immediately save time and money in terms of fees. Considering blockchain has been developed as a method of payment validation, extending its use to more sophisticated or complicated transactions is an obvious first step to expanding the technology’s footprint.
Surprisingly, though transfers of this kind are regular occurrences, they at still may take days to clear. It isn’t just a case of avoiding consumer frustration or improving efficiency; the banks themselves must set aside reserve assets to back transfers, funds that could themselves be put to use elsewhere if they were not required for this process. Additionally, the multiple steps involved also include several manual stages that are prone to human error.
By leveraging blockchain technology, risk is reduced while speeding up the process and reducing cost. Significantly, the use of smart contracts — the code that would automatically execute a transaction as soon as both parties digitally sign off on it — removes a myriad of unnecessary steps.
The transaction is executed immediately and, in turn, a record is available to the relevant regulatory authorities. As an added benefit, this latter event also eliminates the need for periodic reporting by banks, saving even more valuable resources.
A Blockchain Alternative to KYC
Know-Your-Customer (KYC) is a critical regulatory tool that requires banks to solicit proper documentation and proof of identity. This also requires several technical and human systems of verification and then storage, the latter being required by law. The process itself is bureaucratic, made even more inefficient since every financial institution must do it regardless of the process having been carried out by another financial institution because of confidentiality concerns between banks.
Shifting KYC to a blockchain-based alternative, where banks, acting as a sort of subcontractor for regulatory bodies, approve documentation as it is submitted to a distributed ledger, would remove the need both for cumbersome internal KYC infrastructure and redundant KYC checks by multiple financial entities.
While one central entity might be involved in the initial approval as a sort of data validator, the benefits are immediately clear as customers can simply approve access to that data for any financial institution which requests it. That eliminates the need to redundantly fill out forms and regulatory checks at every new bank, brokerage, or institution that is mandated by law to conduct KYC.
Cryptographic Wallets
A new form of value storage, cryptographic or digital wallets are seeing a surge in use to secure digital-only cryptocurrency. However, they also represent a potential threat to traditional banking by diminishing bank access to customer data and eliminating the payment services conduit banks provide (which historically builds a relationship of trust between customers and their respective banks).
The rise of digital wallets necessitates that banks explore the use of these wallets while the industry is still young. There is, as of now, no clear industry leader for their production. Only two companies are producing hardware versions in any significant quantity — Trezor and Ledger — while numerous software or app-based solutions possess significant security flaws.
At the moment, the number of credit card holders globally is still 40 times the size of the public holding cryptographic wallets (1 billion vs. 25 million). Yet, as the potential user base grows over time, banks could step in to supply new demand, including and perhaps especially from enterprise customers. By diving into the process early, banks can help influence the evolution, improving usability for consumers while maintaining the critical financial relationship.
An Inevitable Shift
There are definitely other promising applications for this technology not featured here, but this is is meant to be a clear sampling of its potential. Dozens of banks are now exploring blockchain, but few have come so far as to implement what would be groundbreaking changes in service and efficiency. The sooner this occurs, the sooner the general economy can adopt blockchain’s proven applications and the sooner the banks who embrace it first will be seen as true innovators by a new customer base.
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