Barely a day goes by without a fresh announcement about how banks are seeking to use blockchain technology to transform sizeable chunks of their business.
Combining shared databases and cryptography,blockchain technology allows multiple parties to have simultaneous access to a constantly updated digital ledger that cannot be altered.
The technology, which underpins cryptocurrencies such as bitcoin, was initially treated with scepticism by banks. However, this has changed dramatically. Blockchain isthe hottestbuzzword in the sector, even if the recent flurry of cryptocurrency fundraisings via "initial coin offerings"is attracting intenseregulatory scrutiny.
Blockchain firms raised more than $240m of venture capital money in the first six months of2017, much of it from banks, including $107m raised by R3, the New York firm owned by 40 of the world's biggest lenders. That follows an almost doubling of venture capital investment in blockchain firms last year to $367m, according to KPMG's Pulse of Fintech Q2 report.
Many of thenew venturesby banks involve them setting up a consortium of like-minded companies or carrying out a "proof of concept" to test the potential of the new technology. In almost all cases there islittle to show in terms ofcommercialsignificance.
So which the areas of bankingstand a serious chance of being transformed by blockchain? The Financial Times has spoken to almost a dozen bankers, consultants and analysts to come up with five areas of the industrymost likely to see aneffect.
1. Clearing and Settlement
It is not the sexiest area of banking, but the tangled webthat records loans and securities costs investment banks billions of dollars to run.
Accenture hasestimated that the biggest investment banks could save $10bn by using blockchain technology to improve the efficiency of clearing and settlement. Richard Lumb, head of financial services at the consultancy, says: "The first place we will see it have an impact is clearing houses, such as Deutsche Börse, the Australian Stock Exchange and Depository Trust & Clearing Corporation [DTCC]." He adds: "Today it is managed through a myriad of messages and manual reconciliation. There is a big opportunity for blockchain to seriously restructure that industry."
One of the best-known examples of this restructuring is theAustralian Securities Exchange, which aims to shift much of its post-trade clearing and settlement on to a blockchain system. The project is being implemented byDigital Asset Holdings, the company led byBlythe Masters, the former senior executive with JPMorgan Chase.
In the US,DTCC is working with IBM, R3 and Axoni to shift post-trade clearing of single-name credit default swaps on to a blockchain system by the end of next year. If this goes well, the plan is to do the same with other derivatives processed by the giant US clearing house.
There aremany different projects but Stuart Graham, chief executive of financial analysis company Autonomous Research, believes the industry willcoalesce aroundone solution. "Over the next couple of years, as the winning tool becomes clear you will see the whole industry line up behind up it," he says. “It is in none of their interests to keep all the bureaucracy and inefficiencies of the current back-office set-up.”
2. Payments
Central banks across the world are exploring the potential for shifting parts of their payments systems on to blockchain technology or even using it to launch digital currencies. This is partlya response to the challenge that standalone cryptocurrencies such asbitcoin could pose to their control of monetary policy. It also underlines how central bankers are waking up to the potential benefits of the technology for the payments system.
"Everyone is looking at it, experimenting and waiting to see who moves first," says Simon Whitehouse at Accenture. "There is a great complexity involved to put in a new payments infrastructure with enough players to make it worthwhile."
Commercial banks, meanwhile, are growing tired of waiting forcentral bankers to take the lead and are pressing on with their own projects. Switzerland's UBS has come up with the "utility settlement coin", which aims to create a digital currency for use in financial markets by issuing tokens convertible into cash on deposit at central banks.
"We accept that it will be quite a few years before central banks could be in the position of issuing their own digital currencies, so therefore we would look for them to be issued via an alternative means and yet be able to still retain settlement finality because they are assets backed by funds at a central bank," says Lee Braine in the chief technology office of Barclays' investment bank, which is working with UBS on the project.
In the field of cross-border payments there is an increasingly bitter tussle under way. On one side isSwift, the bank-owned messaging system used to send trillions of dollars worth ofpayments, and on the other a growing number of firms aiming to use blockchain technology to cutcosts and time, led by Ripple in San Francisco.
Swift isexperimenting with blockchain technology but its rivalry with Ripple remains intense. Ripple has arranged a conference in Toronto for October 16-18, with former Federal Reserve chairman Ben Bernanke as its keynote speaker, that clashes with Swift'sSibos event at the same time and in the same city; it is a clear case of an upstart parking its tanks on theincumbent's lawn.
3. Trade finance
Trade finance is still mostly based onpaper, such as bills of lading or letters of credit, being sent by fax or post around the world, and seems to many bankers to be crying out for modernisation. Manybelieve that blockchain is theobvious solution especially as numerousparties need access to the same information.
"It is literally Dickensian, because it is so paper-based," says Mr Whitehouse at Accenture. "This is a very important element of the supply chain and blockchain can offer a vastamount of elements in this area. For instance, if you are shipping goods from China, as many as 50 people need to access the data."
Charley Cooper, managing directorof R3, says: "Trade finance is an obvious area for blockchain technology. It is so old it's done with fax machines and you need a physical stamp on a piece of paper."
Banks will be unable to achieveblockchain benefits, however, if they act alone, experts say. "It could take you a day to ship oil from Singapore to Malaysia and a week to deal with a the paperwork," says Vivek Ramachandran, head of innovation for commercial banking at HSBC, the world's largest trade finance provider. "Digitising trade finance is quite a pointless exercise — you need to digitise trade."
He says: "You have to include not only the shipping companies, theagents and the freight providers, but also the ports, the customs and the insurers," says Mr Ramachandran. "The moment you need a physical stamp on a document, it can't be digital. This has to be ecosystem driven."
There are several start-ups working to digitise the bill of lading process, such as Wave of Israel, EssDocs of Malta and Bolero of the UK. Mr Ramachandran predicts that it will take five years to digitiseentire trade ecosystems, such as sugar or energy, but blockchain technology has the potential to be “genuinely game changing".
4. Identity
Verification of customers and counterparties is a vital for banking. Without it, lenders would quickly lose their roles as trusted guardians of people's money. Regulators hold banks responsible for checking thatcustomers are not criminals or illicit actors, and fine themif they getit wrong.
Banks have been trying for years to set up a shared digital utility to record customers' identities and keep them updated. They have failed to find the right formula, undone byconflicting demands and the problem of deciding liability. Some believe that blockchain could offer a solution because of its cryptographic protection andits ability to share a constantly updated record with many parties.
"We think identity could be big," says Mr Whitehouse at Accenture, which recently worked with the UN and Microsoft on a blockchain identity system for people with no identity papers. "We can easily see how you could move this to the massive area of ‘knowyour client’ and anti-money laundering, where the costs are huge for banks and the costs of messing it up are also huge."
Dozens of start-ups are working on building blockchain systems for customer identification, including Cambridge Blockchain, Tradle, Credits and Blockstack.
Identity is also a central part of R3’s efforts to build Corda, its blockchain-based operating system for banks. "Identity is a core component," says Mr Cooper. "If you haven't solved identity then the blockchain doesn't work on any application. Imagine building a ledger and you don't know who is on the ledger."
5. Syndicated loans
When a US company raises money via a syndicated loan it takes on average 19 days for the transaction to be settled by the banks. When a loan changes hands between banks or a borrower repays a loan early, much of the communication is still done by fax. Emmanuel Aidoo, head of blockchain at Credit Suisse, says: "This is an area that hasn't had an awful lot of innovation."
Credit Suisse is one of 19 financial institutions that have formeda consortium, working with Synaps to start putting syndicated loans on blockchain systems.
"It is the perfect vehicle for managing the lifecycle of loans," says Mr Aidoo, adding that the consortium expects to have put one or two loans on its platform within the next year.
He says a key challenge is to find a way for separate blockchains to talk to each other so thatchanges to a loan's ownership can be quickly reflected across all systems.
The new project would involve the different agent banks each providing a "golden source record" of the loans they administer whichcould then be accessed by other lenders.
However, like trade finance, he saysblockchain technology alone will not solve allthe inefficiencies in the syndicated loan market. "Blockchain is not a silver bullet, it will not fix it itself, it will take business process changes," he says.
