Category: Digital Disruption

ASIC’s Innovation Hub: Regulatory sandbox proposal

ASIC today provided a further update on its Innovation Hub. ASIC’s Innovation Hub has now been operating for just over a year and is continuing to assist financial technology (fintech) start-ups navigate the regulatory framework.

See the Background section of this release for an overview of the Innovation Hub activity, which involves a comprehensive program of engagement with industry initiatives, providing tailored guidance and a significant range of support measures.

Commissioner John Price said that, ‘ASIC will continue to prioritise assistance to fintech start-ups to promote market efficiencies and benefits for consumers and investors. We will build on our first year’s Innovation Hub experience with a variety of initiatives.’

In June, ASIC will issue a public consultation paper on a proposed regulatory sandbox licensing exemption and other measures. Important features of the proposals are set out below but will be described in detail in the consultation paper.

‘This consultation paper will seek feedback on additional steps that ASIC may take to facilitate fintech innovation while maintaining protections to ensure investor and consumer trust and confidence’.  Mr Price said.

‘ASIC’s consultation proposals have been prepared after input from representatives of the fintech industry (including ASIC’s Digital Finance Advisory Committee and the Treasurer’s FinTech advisory group)’, he added.

Consultation paper – additional steps to facilitate fintech innovation

In ASIC’s upcoming Consultation Paper, we will seek feedback on proposals to provide:

  • greater clarity and guidance on how we assess whether new businesses have the skills and experience required to be granted a licence from ASIC (especially where that business seeks to rely on Option 5 in Regulatory Guide 105 Licensing: Organisational competence);
  • additional flexibility around the skills and experience requirements –  including whether some licensees with restricted authorisations should be able to rely more on appropriate third parties to show they have the ‘organisational competence’ required to be granted a licence; and
  • a class-wide licensing waiver for new businesses to run early-stage tests and trials (the ‘regulatory sandbox exemption’).

Important features of the regulatory sandbox exemption to be consulted on will include:

  • a six-month window for testing of certain financial services conducted without the need for a licence;
  • restrictions on the types of services that can be provided in a testing capacity and the products those services can relate to (for example, advice and dealing in relation to liquid investments);
  • an ability for sophisticated investors to participate, along with a limited number of retail clients (e.g. up to 100 retail clients), as well as separate monetary exposure limits for those clients;
  • consumer protections, such as membership of an external dispute resolution scheme and adequate compensation arrangements that should apply; and
  • modified conduct and disclosure obligations that will apply to the testing business.

“ASIC anticipates that the proposed regulatory sandbox exemption may bring better financial services to market quicker while being mindful of consumer protection concerns,” Mr Price said.

Background: ASIC’s Innovation Hub (what have we done to date)

The Innovation Hub has five elements:

  1. Engagement with other fintech initiatives, including physical hubs and co-working spaces for startups. ASIC has had over a 100 meetings with stakeholders (including existing licensees) and presented at a range of fintech ‘meetups’ including recently with four other regulators.

  2. Informal assistance – ASIC helps new businesses consider the important regulatory issues. Eligible businesses can request guidance from ASIC through our website (innovationhub@asic.gov.au). ASIC has worked with over 80 entities, including 55 that have requested assistance from ASIC. Of these, 14 have now been granted a new licence to operate a financial services or credit business.

  3. A dedicated website – the ‘Innovation Hub’ webpages provide tailored guidance and signposts for innovative businesses to access information and services targeted at them.

  4. Coordination – ASIC has established an overarching senior internal taskforce to coordinate our work on new business models. The taskforce draws together dispersed knowledge and skills from across ASIC. This taskforce is complemented by internal working groups on automated financial advice (roboadvice), digital marketplace lending, equity crowdfunding and blockchain technology.

  5. Establishment of the Digital Finance Advisory Committee (DFAC) to provide ASIC with advice on its efforts in this area. DFAC is about to have its fourth quarterly meeting. Members of DFAC are drawn from across the fintech community, as well as academia and consumer backgrounds. Other financial regulators are observers on DFAC.

ANZ Offers Apple Pay In Australia

The first major Australian bank to offer Apple Pay, ANZ, today announced it will offer the service to its five million customers in Australia.

ANZ customers in Australia are now able to use Apple Pay to make quick and secure purchases wherever contactless payments are accepted with either an ANZ Visa debit or credit card or an ANZ American Express credit card.

ANZ Chief Executive Officer Shayne Elliott said: “The introduction of Apple Pay is a significant milestone in our strategy to use digital technology to provide our customers with a superior experience and will be a watershed moment in the adoption of mobile payments in Australia.

“I’m proud we’re the first major Australian bank to offer Apple Pay and we are confident the convenience, security and privacy will be well received by our customers.

“With the high adoption rates of contactless payments in Australia, our customers will be world leaders in their ability to use their mobiles to make the vast bulk of essential payments,” Mr Elliott said.

More than 60% of all card transactions in Australia are now contactless and accepted across in excess of 70% contactless merchant payment terminals.

Security and privacy is at the core of Apple Pay, so when used with a credit or debit card, the actual card numbers are not stored on the device, nor on Apple servers. Instead, a unique Device Account Number is assigned, encrypted and securely stored in the Secure Element of the device. Each transaction is authorised with a one-time unique dynamic security code.

Apple Pay is easy to set up and users will continue to receive all of the rewards and benefits offered by credit and debit cards.

In stores, Apple Pay works with iPhone SE, iPhone 6s, iPhone 6s Plus, iPhone 6, iPhone 6 Plus and Apple Watch.

Online shopping in apps accepting Apple Pay is as simple as the touch of a finger with Touch ID, so there’s no need to manually fill out lengthy account forms or repeatedly type in shipping and billing information. When paying for goods and services within apps, Apple Pay is compatible with iPhone 6 and later, as well as iPad Air 2, iPad mini 3 and iPad Pro.

A digital crack in banking’s business model

Mckinsey says low-cost attackers are targeting customers in lucrative parts of the banking sector.  The rewards for digital success are huge. Capturing even a tiny fraction of banking’s more than $1 trillion profit pool could generate massive returns for the owners and investors of “fintech” start-ups. Little wonder there are more than 12,000 on the prowl today.

The rise of digital innovators in financial services presents a significant threat to the traditional business models of retail banks. Historically, they have generated value by combining different businesses, such as financing, investing, and transactions, which serve their customers’ broad financial needs over the long haul. Banks offer basic services, such as low-cost checking, and so-called sticky customer relationships allow them to earn attractive margins in other areas, including investment management, credit-card fees, or foreign-exchange transactions.

To better understand how attackers could affect the economics of banks, we disaggregated the origination and sales component from the balance-sheet and fulfillment component of all banking products. Our research (exhibit) shows that 59 percent of the banks’ earnings flow from pure fee products, such as advice or payments, as well as the origination, sales, and distribution component of balance-sheet products, like loans or deposits. In these areas, returns on equity (ROE) average an attractive 22 percent. That’s much higher than the 6 percent ROE of the balance-sheet provision and fulfillment component of products (for example, loans), which have high operating costs and high capital requirements.Mck-FintechDigital start-ups (fintechs)—as well as big nonbank technology companies in e-retailing, media, and other sectors—could exploit this mismatch in banking’s business model. Technological advances and shifts in consumer behavior offer attackers a chance to weaken the heavy gravitational pull that banks exert on their customers. Many of the challengers hope to disintermediate these relationships, slicing off the higher-ROE segments of banking’s value chain in origination and sales, leaving banks with the basics of asset and liability management. It’s important that most fintech players (whether start-ups or China’s e-messaging and Internet-services provider Tencent) don’t want to be banks and are not asking customers to transfer all their financial business at once. They are instead offering targeted (and more convenient) services. The new digital platforms often allow customers to open accounts effortlessly, for example. In many cases, once they have an account, they can switch among providers with a single click.

Platforms such as NerdWallet (in the United States) or India’s BankBazaar.com aggregate the offerings of multiple banks in loans, credit cards, deposits, insurance, and more and receive payment from the banks for generating new business. Wealthfront targets fee-averse millennials who favor automated software over human advisers. Lending Home targets motivated investment-property buyers looking for cost-effective mortgages with accelerated time horizons. Moneysupermarket.com started with a single product springboard—consumer mortgages—and now not only offers a range of financial products but serves as a platform for purchases of telecom and travel services, and even energy.

Across the emerging fintech landscape, the customers most susceptible to cherry-picking are millennials, small businesses, and the underbanked—three segments particularly sensitive to costs and to the enhanced consumer experience that digital delivery and distribution afford. For instance, Alipay, the Chinese payments service (a unit of e-commerce giant Alibaba), makes online finance simpler and more intuitive by turning savings strategies into a game and comparing users’ returns with those of others. It also makes peer-to-peer transfers fun by adding voice messages and emoticons.

From an incumbent’s perspective, emerging fintechs in corporate and investment banking (including asset and cash management) appear to be less disruptive than retail innovators are. A recent McKinsey analysis showed that most of the former, notably those established in the last couple of years, are enablers, serving banks directly and often seeking to improve processes for one or more elements of banking’s value chain.

Many successful attackers in corporate and investment banking, as well as some in retail banking, are embracing “coopetition,” finding ways to become partners in the ecosystems of traditional banks. These fintechs, sidestepping banking basics, rely on established institutions and their balance sheets to fulfill loans or provide the payments backbone to fulfill credit-card or foreign-exchange transactions. With highly automated, scalable, software-based services and no physical-distribution expenses (such as branch networks), these attackers gain a significant cost advantage and therefore often offer more attractive terms than banks’ websites do. They use advanced data analytics to experiment with new credit-scoring approaches and exploit social media to capture shifts in customer behavior.

Attackers must still overcome the advantages of traditional banks and attract their customers. Most fintechs, moreover, remain under the regulatory radar today but will attract attention as they reach meaningful scale. That said, the rewards for digital success are huge. Capturing even a tiny fraction of banking’s more than $1 trillion profit pool could generate massive returns for the owners and investors of these start-ups. Little wonder there are more than 12,000 of them on the prowl today.

Consumers Eat More Data For The Same Price – ACCC

The Australian Competition and Consumer Commission has published its annual reports on the telecommunications sector for 2014–15. This year’s reports show that consumers continue to benefit from competition in the sector. However consumers in regional areas are less well served.

“Consumers are reaping the benefits of competition in the form of increased data allowances, new services, and lower prices,” ACCC Chairman Rod Sims said.

“Consistent with the trend in recent years, consumer demand for data is continuing to increase and is affecting both fixed and mobile networks.  On fixed networks, data consumption grew by 40 per cent to 1.3 million terabytes (TB) of data. On mobile networks, data consumption increased by 35 per cent to 110 000 TB.”

“The increase in demand for data is largely due to the popularity of audio-visual streaming services, including the introduction of subscription video on demand (SVOD) services such as Netflix, Presto, and Stan,” Mr Sims said.

Industry members have responded to the increase in demand by investing in their fixed and mobile networks to make sure that they have sufficient capacity to meet the data traffic.

Service providers have also responded by increasing data allowances. During 2014-15, data allowances increased by over 70 per cent for DSL internet services and more than doubled for post-paid mobile services.

At the same time, overall prices fell by 0.5 per cent in real terms in 2014-15.

“While a smaller reduction than in the previous eight years, which has seen a 3.3 per cent fall each year on average, this indicates that competition on factors other than price has been a feature of the market,” Mr Sims said.

“Given this, the ACCC will continue to take a particular interest in ensuring consumers receive accurate information about network performance.”

A number of important mergers and new alliances occurred in the past year, including TPG’s acquisition of iiNet and NBN Co’s acquisition of Optus’ hybrid fibre coaxial (HFC) network.

“The fixed broadband market is now relatively concentrated and further consolidation would receive close attention from the ACCC,” Mr Sims said.

The recent industry consolidation may reflect a desire to grow not only in response to increasing data traffic, but also to the growing presence of the National Broadband Network (NBN). The rollout of the NBN is one of the most significant features of the telecommunications market with nearly 700, 000 active services in 2014–15. The scale and complexity of the multi-technology mix NBN and its implications for competition and consumers continues to be a major area of ACCC interest.

“The communications sector faces a number of challenges in the transition to the NBN and as network operators manage increasing data traffic. We will continue to watch these developments closely and work to ensure that consumers continue to benefit from competition”, Mr Sims said.

 

Mobile First IS Banking’s Imperative

We recently released the latest 2016 edition of our banking channel report ‘The Quiet Revolution”, which is available on request. Our April Video Blog summarises the main findings.

The Quiet Revolution highlights that existing players need to be thinking about how they will deploy appropriate services through digital channels, as their customers are rapidly migrating there. We see this migration to digital more advanced among higher income households but momentum continues to spread. So players which are slow to catch the wave will be left with potentially less valuable customers longer term. Players need to adapt more quickly to the digital world. We are way past an omni-channel (let them choose a channel) strategy. We need to adopt a “mobile-first” strategy. Such digital migration needs to become central strategy because the winners will be those with the technical capability, customer sense and flexibility to reinvent banking in the digital age. The bank branch has limited life expectancy. Banks should be planning accordingly.

 

 

Fintech Investment in Asia-Pacific more than quadrupled in 2015 to $4.3 billion

According to Accenture, Global investment in financial technology (fintech) ventures in the first quarter of 2016 reached $5.3 billion, a 67 percent increase over the same period last year, and the percentage of investments going to fintech companies in Europe and Asia-Pacific nearly doubled to 62 percent.

Global Fintech Investment Grew 75 percent in 2015, Exceeding $22 Billion
The report shows that global fintech investment in 2015 grew 75 percent, or $9.6 billion, to $22.3 billion in 2015. This was driven by relatively moderate growth in the US fintech sector – the world’s largest – which received $4.5 billion in new funding (a 44 percent increase); rapid growth in China’s fintech sector which increased 445 percent to nearly $2 billion, as well as in India ($1.65 billion), Germany ($770 million) and Ireland ($631 million).

Fintech Investment in Asia-Pacific more than quadrupled in 2015 to $4.3 billion. It is now the second biggest region for fintech investment after North America, accounting for 19% of global financing activity and up from just 6% in 2010.

China has the lion’s share of investment,accounting for 45% in 2015, but India makes up 38% and is growing fast. Mumbai, Bangalore, Tokyo and Beijing are the major fintech hubs in the region by the number of deals.

Looking at deal volumes, 78% went to fintech companies targeting the banking industry, 9% to wealth management and asset management companies and 1% to the insurance sector. Payments is the most popular segment for fintech deals in Asia-Pacific, accounting for 38% of the total.

“The drive for fintech innovation is spreading well beyond traditional tech hubs,” said Accenture. “New frontiers like robotics, blockchain and the Internet of Things are bound less by geography than by the industry’s ability to adopt and scale clever ideas that improve service and efficiencies. The so-called ‘Fourth Industrial Revolution’ is a global phenomenon that brings new innovation and digital companies that compete and collaborate with traditional financial services. Bank customers stand to gain from this.”

‘Disruptive’ vs. Collaborative
According to the report, collaborative fintech ventures – those primarily targeting financial institutions as customers – are gaining ground over so-called “disruptive” players that enter the market to compete against those institutions.

Funding for collaborative fintech ventures, which accounted for 38 percent of all fintech investment in 2010, grew to 44 percent of funding in 2015, with the remaining investments made in ventures that compete with financial institutions. During that six-year period, the percentage of funding for collaborative fintech ventures in North America rose even more dramatically, from 40 percent to 60 percent. In Europe, however, the reverse was true: Funding for “disruptors” there rose from 62 percent of all fintech investments in 2010 to 86 percent in 2015.

“The proportion of competitive fintech ventures in Europe and Asia is much higher than in North America, which largely reflects the earlier stages of maturity of fintech markets, particularly outside of London,” said Accenture. “London’s welcoming regulatory environment has made a preferred market for competitive fintech ventures to test their propositions. Banks too stand to benefit from this, as it drives momentum to re-imagine their own capabilities.”

According to the report, so-called “disruptors” may compete against banks at first, but often end up aligning with them through investments, acquisitions and alliances, such as BBVA’s recent stake in Atom, a mobile-only bank developed in London that launched last week.

But while a growing proportion of collaborative fintech ventures have emerged, the report cites “relatively low participation” in venture-investing by the banks themselves, which in 2015 invested $5 billion of the $22.3 billion of reported investments. That compares to an estimated $50 billion to $70 billion that banks spend on internal fintech investment each year, according to the report.

“Banks that excel in assessment and adoption of external fintech disruptions, be they collaborative or competitive, can leapfrog the competition by providing the kinds of digital innovations that consumers have grown to expect from retail and technology giants.”

Marketplace Lender Enthusiasm Confronts Market Realities – Fitch

After an extended period of rapid growth and increasing acceptance for marketplace lenders globally, several market dynamics are testing the business model’s long-term viability, Fitch Ratings says. These changes are forcing marketplace lenders to seek alternative funding sources, expand their product offerings, modify their underwriting approaches and address heightened regulatory scrutiny.

The challenges underscore the unproven nature of the marketplace lender business model – which was originally premised on funding loans primarily via retail investor demand – through the economic cycle. The extent to which marketplace lenders can navigate these challenges without adversely impacting their risk profiles and profitability will determine the sector’s long-term success.

A sustained period of historically low interest rates prompted an increased funding appetite among banks and other institutional investors for marketplace loans. As institutional demand waned in recent months, marketplace lenders began to seek alternative funding sources to sustain loan originations. For example, Social Finance (SoFi) recently launched a quasi-captive hedge fund purposed with investing in loans originated by SoFi as well as other marketplace lenders.

Some marketplace lenders also responded to reduced funding availability by raising loan pricing to attract funding; however, this reduces the competiveness of marketplace lenders’ lending rate (if the cost is passed to the borrower) or adversely impacts profitability (if the lender absorbs the cost). Passing higher funding costs through to borrowers is also harder to implement for lenders targeting higher quality borrowers.

The marketplace lender business model has yet to endure either a full interest rate cycle or credit cycle, so the resilience of current models under rising interest rates and/or rising credit losses is uncertain. Pockets of recent credit underperformance beyond initial expectations have likely contributed to the ongoing refinement of underwriting models, including further de-emphasizing of the use of traditional FICO scores in certain instances. Marketplace lenders are also exploring product expansion into adjacent lending products such as mortgages, small business loans, and autos, which Fitch views as tacit acknowledgement that business models, as currently constituted, may not have the diversity to flourish if core product growth is constrained.

Marketplace lenders’ rapid growth has attracted heightened regulation and legal risk (Madden v. Midland), which may force changes to loan pricing and risk sharing, as evidenced by recent changes implemented at Lending Club with respect to its relationship with WebBank. In this case, LendingClub gave up a portion of its revenue to WebBank in an effort to preserve its exemption from state-specific usury rate caps.

Fitch considers greater regulatory oversight to be inevitable with the distinctions between marketplace lenders and traditional lenders continuing to blur as marketplace lenders adapt their funding models to economic realities.

Several US federal and state regulators have begun to seek more information about the marketplace lending industry with the expectation of producing a more formal regulatory framework. LendingClub, Prosper Marketplace and Funding Circle established an industry trade group, the Marketplace Lending Association, to respond to regulatory scrutiny and establish certain industry operating standards.

Likewise, the regulatory environment has begun to evolve outside of the US. For example, regulators in China seem poised to tighten oversight of the industry given the rapid growth in loans originated in that region over the past few years and the degradation in credit performance that has ensued, driving some lenders out of business.

Distributed Ledger Technologies in Payment, Clearing, and Settlement

Fed Governor Lael Brainard spoke about emerging distributed ledger technologies at the Institute of International Finance Blockchain Roundtable, Washington. She said today, many industry participants are experimenting with distributed ledger technology. She warned it will be important to address the challenge of how they would scale and achieve diffusion and how the different distributed ledger technologies interoperate with each other, and legacy systems.

She said new and highly fragmented “shared systems” may create unintended consequences even as they aim to address problems created by today’s siloed operations. Since distributed ledgers often involve shared databases, it will also be important to effectively manage access rights as information flows back and forth through shared systems.

It may require a trade-off between the privacy of trading partners and competitors on the one hand, and the ability to leverage shared transactions records for faster and cheaper settlement on the other hand.

Sound risk-management, resiliency, and recovery procedures will be necessary to address operational risks.

Financial products, services, and transactions lend themselves to successive waves of technological disruption because they can readily be represented as streams of numerical information ripe for digitization. However, as technological tools used by the industry change over time, it is important to keep sight of their impact on the public, whether it be on families seeking to own their own home, seniors seeking financial security, young adults seeking to invest in education and training, or small businesses attempting to smooth through volatile revenues and expenses.

Current developments in the digitization of finance are important and deserving of serious and sustained engagement on the part of policymakers and regulators. The Federal Reserve Board has established a multi-disciplinary working group that is engaged in a 360-degree analysis of fintech innovation. We are bringing together the best thinking across the Federal Reserve System, spanning key areas of responsibility, from supervision to community development, from financial stability to payments. As policymakers, we want to facilitate innovation where it has the potential to yield public benefit, while ensuring that risks are thoroughly understood and managed. That orientation may have different implications in the arena of consumer and small business finance, for instance, as compared with payment, clearing, and settlement in the wholesale financial markets.

Today, I will focus on newly emerging distributed ledger technologies and related protocols, which were inspired originally by Bitcoin, and their potentially important applications to payment, clearing, and settlement in the wholesale markets.

Successive waves of technological advance have swept through payment, clearing, and settlement over the past two centuries. In the 19th century, railroads and the telegraph helped improve speed and logistics. In the second half of the 20th century, computers were introduced to deal with the clearing of overwhelming volumes of paper checks and stock certificates stimulated by post-war growth. Starting at about the same time and continuing through today, new electronic networks have been established to allow high-speed computerized financial communication. As automation has evolved, payment, clearing, and settlement systems have been developed for conducting and processing transactions within and between firms. However, many of these systems have historically operated in silos, which can be hard to streamline or replace. In some areas, business processes may still rely heavily on manual or semi-automated procedures.

Over time, banks and other firms have organized various types of clearinghouses to coordinate clearing and settlement activities in order to reduce costs and risks. The adoption of multilateral clearing in the United States was a key organizational innovation that began with the founding of the New York Clearing House in the 1850s. This led to notable efficiencies and risk reduction in the clearing of checks. Multilateral clearing was also used early on to improve clearing in the securities and derivatives markets. By the 1970s, the United States turned to technologies based on the centralized custody and clearing of book-entry securities in order to respond to the paperwork crisis in the equities markets. Following the recent financial crisis, the United States–along with many other countries–expanded the scope of central clearing to help address problems in the bilateral clearing of derivatives contracts.

Today, the possible development and application of distributed ledger technology has raised questions about potentially far reaching changes to multilateral clearinghouses and the roles of financial institutions as intermediaries in trading, clearing, and settlement for their clients. In the extreme, distributed ledger technologies are seen as enabling a much larger universe of financial actors to transact directly with other financial actors and to exchange assets versus funds (that is, to “clear” and settle the underlying transactions) virtually instantaneously without the help of intermediaries both within and across borders. This dramatic reduction in frictions would be facilitated by distributed ledgers shared across various networks of financial actors that would keep a complete and accurate record of all transactions, and meet appropriate goals for transparency, privacy, and security.

At this stage, such a sea-change may sound like a remote possibility, particularly for the high volume and highly regulated clearing and settlement functions of the wholesale financial markets. But profound disruptions are not unprecedented in this arena. In the early 1960s, the use of computerized book-entry securities systems to streamline custody, clearing, and settlement in the securities markets may have seemed like a technologist’s pipe dream. But these technologies became an important part of industry-wide changes in the 1970s. Today we rely on these types of systems for the daily operation of the markets.

Given this backdrop, it is important to give promising technologies the serious consideration they merit, seek to understand their opportunities and risks, and actively engage in dialogue about their potential uses and evolution. At the Federal Reserve, we approach these issues from the perspective of policymakers safeguarding the public interest in safe and sound core banking institutions, financial stability, particularly as it pertains to the wholesale financial markets, and the security and efficiency of the payment system.

Distributed ledger technology was introduced for the transfer and record-keeping of Bitcoin and other digital currencies. The essential advantage of the technology is that it provides a credible way to transfer an asset without the need for trust in intermediaries or counterparties, much like a physical cash transaction. To do that, a transfer process must be able to credibly confirm that a sender of an asset is the owner and has enough of the asset to make the transfer to the receiver. This requires a secure system or protocol to transfer assets (the rails), protection against assets being transferred twice (the so-called double spend problem), and an immutable record of asset ownership that can be automatically and securely updated (the ledger). The tokenization of digital assets can facilitate the transfer process.

The genuinely innovative aspect of the technology combines a number of different core elements that support the transfer process and recordkeeping:

  • Peer-to-peer networking and distributed data storage provide multiple copies of a single ledger across participants in the system so that all participants have a shared history of all transactions in the system.
  • Cryptography, in the form of hashes and digital signatures, provides a secure way to initiate a transaction that helps verify ownership and the availability of the asset for transfer.
  • Consensus algorithms provide a process for transactions to be confirmed and added to the single ledger.

While Bitcoin was originally associated with the concept of a universally available, publicly shared digital ledger technology without any central authority, many of the use cases that are currently under development and discussion rely on “permissioned” ledgers in which only permitted, known participants can validate transactions. These in turn can be either public or private in terms of access to the ledger.

The resulting Internet of Value holds out the promise of addressing important frictions and reducing intermediation steps in the clearing and settlement process. For example, in cross-border payments, faster processing and reduced costs relative to current correspondent banking are cited as specific potential benefits. Reducing intermediation steps in cross-border payments may help reduce costs and counterparty risks and may additionally improve financial transparency.

In securities clearing and settlement, the potential shift to one master record shared among participants has some appeal. Having one immutable record may have the potential to reduce or even eliminate the need for reconciliation by avoiding duplicative records that have different details related to a transaction that is being cleared and settled. This also can lead to greater transparency, reduced costs, and faster securities settlement. Likewise, digital ledgers may improve collateral management by improving the tracking of ownership and transactions.

For derivatives, there is interest in the potential for digital ledger protocols to enable self-execution and possibly self-enforcement of contractual clauses, in the context of “smart contracts.”

As we engage with industry and stakeholders to assess the potential applications of digital ledger and related technologies in the payment, clearing, and settlement arena, we will be guided by the principles of efficiency, safety and integrity, and financial stability.

I want to close by remembering a simple point that central bankers and markets have learned through hard lessons over many years. The daily operation of markets and their clearing and settlement functions are built on trust and confidence. Market participants trust that clearing and settlement functions and institutions will work properly every day. Confidence has built over time that when market participants trade, accurate and timely clearing and settlement will follow. Any disruption to this confidence comes at great cost to market integrity and financial stability. This is a matter of fundamental public interest. In safeguarding the public interest, the first line of inquiry and protection will always rest with those closest to the technology innovations and to the organizations that consider adopting the technology. But regulators also should seek to analyze the implications of technology developments through constructive and timely engagement. We should be attentive to the potential benefits of these new technologies, and prepared to make the necessary regulatory adjustments if their safety and integrity is proven and their potential benefits found to be in the public interest.

Why Australian governments should embrace the growing peer-to-peer economy

The rise of the sharing economy can save Australians more than $500 million on taxi bills, help them to put underused property and other assets to work, and increase employment and income for people on the fringe of the job market, according to a new Grattan Institute report.

Peer-to-peer pressure: policy for the sharing economy shows that the prize for getting this new online economy right is large and governments should not try to slow its growth in order to protect vested interests.

Peer-to-peer platforms such as Airbnb and Uber use online technology to help strangers interact and do business. Platforms host markets in accommodation, travel, art, finance and labour, among other fields.

Grattan Productivity Growth Program Director Jim Minifie says that while the private sector will drive the peer-to-peer economy, government has an important role to play in supporting its growth while reducing any downsides.

‘Some say peer-to-peer platforms bring hidden costs by risking work standards, consumer safety and local amenity, and by potentially eroding the tax base,’ Dr Minifie says.

‘These worries are not groundless but they should not be used as excuses to retain policies, such as taxi regulation, that were designed for another era and no longer fit.’

The report calls on state and territory governments to follow the lead of New South Wales, the Australian Capital Territory and others, and legalise ride-sharing services such as Uber.

In peer-to-peer accommodation, the report urges local councils to allow short-stay rentals run by platforms such as Airbnb, but recommends that state governments give owners’ corporations more power to limit disruptions caused by short-stay letting.

Tens of thousands of Australians are already working on peer-to-peer platforms. These platforms will mostly improve an already flexible labour market, but governments must strengthen rules to prevent employers misclassifying workers as contractors, and bring some platform workers into workers’ compensation schemes.

Tax rules must be tightened to ensure that platforms based overseas pay enough tax.

‘Not all traditional industries are happy with the rise of the peer-to-peer economy, but if governments act fast, consumers, workers and even the taxpayer can come out ahead,’ Dr Minifie says.

How blockchain could be used to make trusts more transparent

From The Conversation.

Amid the outcry over David Cameron’s tax affairs is the UK prime minister’s intervention in 2013 to block EU transparency rules regarding offshore trusts. It was decided that trusts should not be held to the same standards as companies when it came to making the end owners and beneficiaries publicly known.

But now the Panama Papers raise important questions as to whether trusts ought to be more open to public scrutiny. A major reason for this relates to fairness when it comes to paying taxes. Blockchain may provide a solution to this problem, enabling trusts to be more transparent, while ensuring the security of their holdings, too.

Trusts are often highly complex legal arrangements; but they tend to work on the same fundamental basis. First conceived many hundreds of years ago, trusts provide a unique method of property management. This uniqueness relates to how wealth is used, and relies on the separation of beneficial ownership from the responsibilities of property management that come with holding legal title.

Trusts come in both public and private forms. But their history points to an intimate desire for individuals and families to be able to preserve their wealth and, importantly, pass it on to the next generation.

One popular story of how trusts came into being involved the Crusaders of the 11th and 12th centuries who, before leaving to fight in the Middle East, arranged for their land to be tended and managed by a friend in trust (a trustee), on behalf of their family (as beneficiaries). This method of property management and transfer had not previously been recognised by Common Law, which viewed the friend as taking the land absolutely when given charge of it. But Equity, at the time a separate body of law in England and Wales, saw things differently.

David Cameron’s shares in an offshore fund were kept secret. Dan Kitwood / PA Wire

Based on fairness, Equity developed rules that protected the beneficial interest of the family, while at the same time applying strict fiduciary duties and obligations of trust and loyalty to the friend. This meant that the friend had to look after the property as they had been directed to by the Crusader.

Trusts now appear in the form of international commercial investment and trade vehicles; public and private pension funds; and charities, to name but three of the more economically significant. Yet those same foundations and consensual principles between the Crusader, the friend and the family fundamentally remain.

This means that trusts conform to traditional privacy models found elsewhere in banking and finance, insofar as they shield from public view the identities of the objects of the trust, as well as the nature of many of the trust’s investments and transactions. It is primarily in regard to where this “shield” is positioned that greater levels of transparency apply on the blockchain.

Smart contracts

As part of some recent research, I have been considering how blockchain technology (most famous for its role in the cryptocurrency Bitcoin) and other legal-like processes that blockchain facilitates, namely computer programs called “smart contracts”, might be mapped onto trusts law and trusteeship.

The key to the question of whether or not blockchain can make trusts more open to the public lies in its fundamental characteristics. Blockchain is essentially a peer-to-peer, distributed ledger system that is able to register information in an immutable way. This could take the form of a register of legal titles to property and beneficial interests, both of which are central to trusts.

In this sense, blockchain is a highly reliable witness regarding the information it deals with. Furthermore, as part of the process of adding or registering information on blockchain, that information is announced publicly, providing an entire, transparent history capable of public scrutiny. This does not mean that the blockchain is not private – cultural as well as commercial sensitivity around the privacy of financial information can still be maintained – but it is achieved in a different way.

Using two sets of encrypted keys, one public and one private, to validate transactions provides the possibility for secure, private spaces that nevertheless remain in public view. Unlike other methods that maintain privacy of investments and transactions by shielding the entire process from public view, including the identities of individual parties, the blockchain breaks the flow of information in another place: by keeping public keys anonymous.

So a trust could take the form of a “private space”. More specifically what is legally defined as a trust could be mapped onto the blockchain processes behind that “private space”. This would create, what I call a “smart trust” – a secure private space, yet one primed for public scrutiny.

The potential of the blockchain as described here is something of a “third-way” to existing privacy models. Because trusts come in many shapes and sizes, blockchain “smart trusts” would undeniably suit some types more than others – it is not a case of one size fits all. While trusts have a very long history, the blockchain has a very short one. It will take time to understand if and how the two might work together. But if greater levels of honesty and transparency are needed, the blockchain could provide an answer.

Author: Robert Herian, Lecturer in Law, The Open University