Blockchain – Page 4 – Digital Finance Analytics (DFA) Blog

Blockchain: Implications for Payments, Clearing, and Settlement

A speech by Fed Governor Lael Brainard “Distributed Ledger Technology: Implications for Payments, Clearing, and Settlement” contains a number of interesting use cases, discussed in their blockchain working party.

Let me briefly mention a few of the use cases that we have explored in our discussions with industry stakeholders in order to illustrate the potential of distributed ledger technologies to improve payments, clearing, and settlement, as well as the considerations that are important to us in our assessment of benefits and risks.

In cross-border payments and trade finance, significantly faster processing and reduced costs relative to the long and opaque intermediation chains associated with current methods of correspondent banking are promising potential benefits of the technology. Reducing intermediation steps in cross-border payments may help decrease time, costs, and counterparty risks and may materially diminish opacity, for instance by enabling small businesses or households remitting payments across borders to see the associated transfer costs and processing times up front.

In trade finance, where document-intensive processes are not fully automated, distributed ledger technology may be able to reduce significant costs and speed up processing associated with issuing and tracking letters of credit and associated documents. To see the full potential of this technology realized for cross-border payments, it will be important to identify and track identities associated with the transactions, which in itself may be facilitated by the use of distributed ledgers, depending on their design.

In securities markets, the industry is exploring activities ranging from the issuance of securities on a distributed ledger, to the clearing and settlement of trades, to tracking and administering corporate actions.

For securities clearing and settlement in particular, the potential shift to one master record shared “simultaneously” among users of a distributed ledger-based system could be compelling. Sharing one immutable record may have the potential to reduce or even eliminate the need for the reconciliation of multiple records linked to a single trade among and between dealers and other organizations.

In concept, such technology could lead to greater transparency, reduced costs, and faster settlement. Likewise, distributed ledgers may improve collateral management by improving the tracking of ownership and transactions. Nonetheless, as is frequently true in the complex arena of payments, clearing, and settlement, we can also expect that practical details covering a host of technical, business, and market issues will have an important role in determining how new technologies ultimately perform.

For commodities and derivatives, there are projects to streamline some of the more antiquated corners of the markets. In markets that are heavily paper-based and lack any central means for coordination, distributed ledger technology could potentially be leveraged to provide coordination that facilitates exchange, clearing, and settlement of obligations.

A related development is the potential coupling of distributed ledger protocols with self-execution and possibly self-enforcement of contractual clauses, using so-called “smart contracts.” To take a familiar example, for a corporate bond with a specified par value, tenor, and coupon payment stream, a smart contract would automatically execute payments on the specified schedule to the assigned owner over the life of the bond. Although the idea of automating certain aspects of contracts is not new, and banks do some of this today, the potential introduction of smart contracts does raise several issues for consideration. For example, what is the legal status of a smart contract, which is written in code? Would consumers and businesses rely on smart contracts to perform certain services traditionally done by their banks or other intermediaries? Could the widespread automated interaction of multiple counterparties lead to any unwanted dynamics for financial markets? These and other considerations will be important factors in determining the extent of the application of smart contracts.

Regardless of the application, much of the industry is at a “proof of concept” stage of development. These proofs of concept are often simple, experimental uses of the technology on a small scale that help stakeholders understand the potential and limitations of the technology for a specific purpose, which in turn typically lead to refinements and more developed proofs of concept. As such, many potential applications are in their infancy, and the industry may still be several years away from an application that is ready to be fully implemented. Even so, the industry seems to be making announcements daily on new proofs of concept and progress that may lead to pilots, so that timeline could accelerate. In some cases, there have been announcements the technology will be used within the next year or two in actual production environments. The initial relatively simple proofs of concept must be followed by much more complex demonstrations in real-world situations before these technologies can be safely deployed in today’s highly interconnected, synchronized, and far-reaching financial markets.

Although many private and inward-facing projects are being explored, the industry has also recognized the need to collaborate at early stages of development. An important positive development is that industry participants are actively engaging with each other to look for common approaches. Some groups are creating standards that facilitate common platforms to enable greater interoperability of often proprietary applications that are built on them and interoperate through application program interfaces, or APIs.

In coming months and years, innovators, investors, and financial practitioners will no doubt make important strides in addressing key challenges such as adopting common standards, achieving interoperability between and among legacy systems and evolving distributed ledgers, improving scalability and computational throughput, and improving cryptographic security. These are positive developments that we will monitor closely.

ASX FY16 Result Strong, Blockchain Experiments Progress

The ASX released their results for FY16, with revenue of $746.3m, up 6.5%, and Net Profit of $426.2m, up 5.7%.

Mr Rick Holliday-Smith, ASX Chairman, said: “ASX delivered strong financial results in FY16, with growth in all key business areas, supported by higher market activity. This was driven by a rise in secondary capital raisings within the financial sector and increased trading activity due to heightened volatility, particularly in the second half of the year, culminating in the surprise of Brexit. Revenue was up 6.5% to $746.3 million and profit after tax rose 5.7% to $426.2 million.

“ASX continued to invest in the infrastructure critical to Australia’s financial markets throughout the period. This included successfully introducing T+2 settlement, significant progress on the delivery of a new futures trading platform, and the assessment of distributed ledger technology or ‘blockchain’ as a potential post-trade solution for the equity market. These initiatives aim to improve market efficiency and reduce risk and complexity for investors, intermediaries and other market stakeholders. They help keep Australia at the forefront globally of innovative market developments”.

ComputerWorld reported on the Blockchain initiatives.

ASX has completed the first phase of work on a potential blockchain-based replacement for its CHESS system, which providers clearing and settlement services.

The operator of the Australian Securities Exchange announced earlier this year that taken a stake in US company Digital Asset Holdings with an eye to potentially developing technology inspired by the distributed ledger that underpins the Bitcoin cryptocurrency.

“We’ve completed our initial analysis of the technology and have begun work on the next stage of this journey,” ASX CEO Dominic Stevens said today during a full year results presentation.

“We’ve made good progress” in exploring the use of distributed ledger technology over the past year, said deputy CEO Peter Hiom.

“The initial phase of development has been completed,” Hiom said. “We’ve increased our investment in Digital Asset Holdings and we have commenced the next development phase. Over the next 18 months ASX and Digital Asset Holdings will build an industrial strength platform that could be used as the basis to replace CHESS over the longer term.

“ASX is now commencing engagement with customers and stakeholders on the requirements for that platform, with a final decision by ASX on whether to use the technology being made later in FY18.”

Hiom said that there were some key differences between the “permissioned disturbed ledger technology” ASX is experimenting with and the public blockchains employed by cryptocurrencies.

“The main difference I want to highlight is public blockchains are operated largely in unregulated marketplaces where anyone can join and access those markets anonymously via a public, or unpermissioned, network,” he said.

“Network security is public to scrutiny and if compromised it could allow someone to anonymously and unilaterally transfer cryptocurrency on the public network. This is clearly unacceptable in the types of highly regulated markets within which the ASX operates.”

“Not withstanding this, the underlying blockchain technology has inspired new applications that can be tailored for use in highly regulated markets such as those operated by ASX,” he added. “It is the database architecture, or distributed ledger technology, which interests us.”

He said that ASX didn’t seek to change the existing regulatory framework it operates in.

“What we do change is the way that data is authenticated, authorised, accessed and stored,” Hiom said. “It is this that creates the single source of truth that could remove complexity and deliver significant benefits to the industry.”

The deputy CEO said that there had so far been no “red flags” around scalability or performance.
Read more: Blockchain is useful for a lot more than just Bitcoin

ASX reported growth in its operating expenses for FY16 of 6.5 per cent to $170.6 million, which the company attributed in part to investment in its technology transformation program.

“We’re in the midst of a major transformation,” Stevens said. “Specifically we’re replacing or upgrading our trading, monitoring, risk and clearing systems, exploring post-trade innovation through the use of distributed ledger technology, [and] improving connectivity for our customers, here and abroad.”

Identifying Blockchain Opportunities

Juniper Research has released a brief report on where Blockchain might be leveraged.

The emergence of Bitcoin and an array of alternative cryptocurrencies (‘altcoins’) has been a true phenomenon of the past 7 years or so. In that time, billions of dollars’ worth of these currencies has been traded on the dedicated exchanges that have sprung up to support them, while a number of merchants now support Bitcoin as a payment option.

However, with only a small, dedicated base of users, attention is turning away from their usage as an alternative to fiat currencies and to the wider potential of the blockchain technology that underpins them.

Numerous banks are now trialling the technology as a means of reducing settlement costs, while a host of other use cases, eg smart contracts and ID verification, are also seeing their first deployments.

Selected Blockchain Opportunities

Settlement & Remittance
It is increasingly envisaged that blockchain technology will have a significant role to play in the future evolution of transaction settlement solutions. Many clearing houses processes tens, or even hundreds, of millions of financial and commodities derivatives and securities transactions per annum. At present, the clearing firms involved in the transaction have independent processing systems; the introduction of a blockchain-based system would substantially reduce the risk of error and indeed the time taken for error checking.

Cross-border remittance in particular is viewed as an area where blockchain technology could have a profound impact. The total value of official cross-border remittance in 2015 (latest World Bank data) was $582 billion, of which $436 billion was sent to emerging or developing economies.

However, a substantial amount is additionally sent through unofficial channels, chiefly in the form of cash in envelopes. One reason for this is the high cost of remitting through the most popular official channels. The average cost of sending $200 via MTOs (Money Transfer Operators) was 6.6% in October 2015; via banks, this rose to 11%. Furthermore, several leading remittance corridors charge rates significantly higher than these average figures, in some cases up to 25%.

With blockchain technology able to significantly reduce the costs to the remitting organisations, the hope is that the savings enabled by this will be passed on to consumers and enable average prices at or below the 3% average price which the World Bank is targeting. The hope is that not only will it then result in more ‘grey’ remittance transferring to official channels, but also in a net increase in remittance flows, helping to boost economies which are in part dependent upon remittances from migrant workers.

Smart Legal Contracts: Current & Future Use Cases

While there are a number of definitions for ‘smart contacts’ per se, smart legal contracts may be defined as:

Contracts in the form of computer protocols with the ability to verify their own conditions, emulating the logic of contractual clauses.

Smart contracts can self-execute by, for example, triggering the release of payment when certain conditions are fulfilled. These contracts run on networks beyond the control of the contract’s participants, thereby providing a record of the terms of the contract and ensuring its fulfillment. Furthermore, smart contracts can offer an array of additional benefits to participants, including:

Reduced cost – less human intervention in the procedure implies a lower resource cost;

Real-time updates – as the contract exists on the blockchain, tasks, including transaction fulfillment, are automated and can occur instantaneously.

Smart contracts could be particularly useful for governments in that they automate manual processes which are time-consuming and expensive.

i. Real Estate
In June 2016, Lantmäteriat (the Swedish National Land Survey) confirmed that it was working with the blockchain start-up ChromaWay, the consultancy firm Kairos Future and fixed/mobile network operator Telia to consider how blockchain technology ‘could reduce the risk of manual errors while creating more secure processes for transferring documents.

Several other agencies are understood to be working on PoCs (Proofs of Concept) in this field, including the Republic of Georgia’s National Agency of Public Registry (with BitFury as its blockchain partner).

ii. Internet of Things
The ‘Internet of Things’ represents the combination of devices and software systems, connected via the Internet, that produce, receive and analyse data with the aim of transcending traditional siloed ecosystems of electronic information to improve quality of life, efficiency, create value and reduce cost.

It may be possible to integrate blockchain technology in an M2M (Machine-To-Machine) environment, to provide real-time data and authorise access. Given that one of the blockchain’s capabilities is to allow Event Y to occur Given that Condition X is fulfilled, it could also lead to equipment which needs data to fulfil a task being able to locate and self-order that data.

Blockchains could help restore trust in the food we choose to eat

From The Conversation.

If the food industry is not in crisis, it certainly contains an increasing level of complexity and associated risks. A recent analysis suggested 50% of US food production is wasted, with global estimates above 30%.

Retailers want perfect produce, leading to wastage occurring throughout the food supply chain. They also seek low prices, leading to industrialisation of processes.

Food scares such as mad cow disease (BSE) and cross contamination mean many consumers have less trust in their food, increasingly seeking information on authenticity and production practices.

Over 80% of antibiotics used in the US are used in food production. Farming practices lead to environmental issues and may exacerbate to climate change. Alternate “real world” models are being developed to address some of these issues. For instance, farmers’ markets can reduce food miles, and demonstrate localism. Gleaning, where people collect leftover crops from farmers’ fields after they have been commercially harvested, is becoming popular. There is ever increasing legislation and standards, though these tend to be national or regional, and often onerous to implement.

Recent developments in the digital economy could help. Among these are a growing use of sensors providing information to allow more intelligent practices to reduce costs and improve flexibility. Real time temperature monitoring and smart fridges in homes can help reduce waste. But a relatively new innovation, the blockchain, is seen by many as offering significant opportunities within agricultural supply chains.

Blockchains are the technology that underpin cryptocurrencies like bitcoin, but they have uses other than currencies. They record information in a distributed ledger in a way that is both secure and immutable; by being distributed among many users these ledgers are resilient with no single point of failure, and they can be (depending on design), transparent to all users.

Blockchains and trust

Described by the Economist as “the trust machine”, blockchains provide supply chain transparency and data integrity, allowing a visible assurance of authenticity.

A number of startups are exploring the potential for blockchains in agriculture. Most notable is Provenance.org, a small UK B2B software startup using the blockchain to establish the authenticity of high value goods, including food. They are experimenting with proving the supply chain of tuna caught in Indonesia being delivered to Japanese restaurants. They will use information on sensors or RFID tags and local certification, recorded in the blockchain, to track the fish along its journey from “hook to fork”; creating in the words of one of their founders, a “reputation system”.

Other software firms are developing similar off the shelf solutions for global tracking. Innovators are researching ways in which DNA can be recorded and tagged to an animal, and recorded in the blockchain. This information can easily be made available to end users and customers using mobile phones and apps.

BlockCrushr Labs is a Canadian startup addressing issues of local food poverty and is using the currency and transparency aspects of blockchain technology to increase donations to homeless people, and also to ensure these donations are responsibly spent.

Farmshare is using blockchain to evolve community-supported agriculture, where a local “currency” can be used to purchase locally produced food within a natural community.

Farmers continue to look for ways to certify their crops. U.S. Department of Agriculture/Flickr, CC BY

A wireless sensor firm, Filament, is developing sensors to monitor crop health and recording results in a blockchain. Others are embedding sensors in the harvested crop to record temperature and humidity. These make it easier to trace damaged crops. Linking these sensor records to other connected equipment in the internet of things, such as transport and storage coolers ensures end to end monitoring and safe handling.

Skuchain is developing improved barcodes and RFID tags, and blockchain technology with the aim of protecting end to end global supply chains against counterfeiting.

Firms such as sandwich chain Subway have pledged to remove antibiotics and preservatives from their ingredients. If the wish to deliver these promises, a transparent blockchain where product origin and contents are visible to all would seem to be a suitable approach.

We may typify these proofs of concept and ideas as using the blockchain to provide a permanent audit trail, where visibility leads to accountability and trust, without the need to establish local reputation. This philosophy is obviously not restricted to agriculture.

However blockchain solutions have their own limitations. Principal among these are the need to ensure a tight coupling between the product and its digital representation, and the ongoing need for some form of reputable local certification system in the first mile to, for example, establish the fact of ethical practices.

The inevitable mixing of products and supply chains is another factor complicating easy adoption and implementation. For these reasons current proofs of concept tend to be high value and low volume, and often stimulated by strong social motivations of their founders. Blockchains can only be part of a wider solution, and may remain limited to niche markets where establishing provenance can command higher returns.

Author: Phil Godsiff, Senior Research Fellow, University of Surrey

Blockchains: Focusing on bitcoin misses the real revolution in digital trust

From The Conversation.

In 2008, short of sending a suitcase full of cash, there was essentially just one way for an individual to send money between, say, the United States and Europe. You had to wire the money through a mainstream financial service, like Western Union or a bank. That meant paying high fees and waiting up to several days for the money to arrive.

A radically new option arose in 2009 with the introduction of bitcoin. Bitcoin makes it possible to transfer value between two individuals anywhere in the world quickly and at minimal cost. It is often called a “cryptocurrency,” as it is purely digital and uses cryptography to protect against counterfeiting. The software that executes this cryptography runs simultaneously on computers around the world. Even if one or more of these computers is misused in an attempt to corrupt the bitcoin network (such as to steal money), the collective action of the others ensures the integrity of the system as a whole. Its distributed nature also enables bitcoin to process transactions without the fees, antiquated networks and (for better or worse) the rules governing intermediaries like banks and wire services.

Bitcoin’s exciting history and social impact have fired imaginations. The aggregate market value of all issued bitcoins today is roughly US$10 billion. The computing devices that maintain its blockchain are geographically dispersed and owned by thousands of different individuals, so the bitcoin network has no single owner or point of control. Even its creator remains a mystery (despite many efforts to unmask her, him or them). Bitcoin’s lack of government regulation made it attractive to black markets and malware writers. Although the core system is well-secured, people who own bitcoins have experienced a litany of heists and fraud.

Even more than the currency itself, though, what has drawn the world’s attention are the unprecedented reliability and security of bitcoin’s underlying transaction system, called a blockchain. Researchers, entrepreneurs, and developers believe that blockchains will solve a stunning array of problems, such as stabilization of financial systems, identification of stateless persons, establishing title to real estate and media, and efficiently managing supply chains.

Understanding the blockchain

Despite its richly varied applications, a blockchain such as bitcoin’s aims to realize a simple goal. Abstractly, it can be viewed as creating a kind of public bulletin board, often called a “distributed ledger.” This ledger is public. Anyone – plebeian or plutocrat, baker or banker – can read it. And anyone can write valid data to it. Specifically, in bitcoin, any owner of money can add a transaction to the ledger that transfers some of her money to someone else. The bitcoin network makes sure that the ledger includes only authorized transactions, meaning those digitally signed by the owners of the money being transferred.

The key feature of blockchains is that new data may be written at any time, but can never be changed or erased. At first glance, this etched-in-stone rule seems a needless design restriction. But it gives rise to a permanent, ever-growing transactional history that creates strong transparency and accountability. For example, the bitcoin blockchain contains a record of every transaction in the system since its birth. This feature makes it possible to prevent account holders from reneging on transactions, even if their identities remain anonymous. Once in the ledger, a transaction is undeniable. The indelible nature of the ledger is much more powerful and general, though, allowing blockchains to support applications well beyond bitcoin.

Consider, for example, the management of title to a piece of land or property. Property registries in many parts of the world today are fragmented, incomplete, poorly maintained, and difficult to access. The legal uncertainty surrounding ownership of property is a major impediment to growth in developing economies. Were property titles authoritatively and publicly recorded on a blockchain, anyone could learn instantly who has title to a piece of property. Even legitimate anonymous ownership – as through a private trust – could be recorded on a blockchain.

Such transparency would help resolve legal ambiguity and shed light on malfeasance. Advocates envision similar benefits in blockchain recording of media rights – such as rights to use images or music – identity documents and shipping manifests. In addition, the decentralized nature of the database provides resilience not just to technical failures, but also to political ones – failed states, corruption and graft.

Smart contracts

Blockchains can be enhanced to support not just transactions, but also pieces of code known as smart contracts. A smart contract is a program that controls assets on the blockchain – anything from cryptocurrency to media rights – in ways that guarantee predictable behavior. A smart contract may be viewed as playing the role of a trusted third party: Whatever task it is programmed to do, it will carry out faithfully.

Suppose for example that a user wishes to auction off a piece of land for which her rights are represented on a blockchain. She could hire an auctioneer, or use an online auction site. But that would require her and her potential customers to trust, without proof, that the auctioneer conducts the auction honestly.

To achieve greater transparency, the user could instead create a smart contract that executes the auction automatically. She would program the smart contract with the ability to deliver the item to be sold and with rules about minimum bids and bidding deadlines. She would also specify what the smart contract is to do at the end of the auction: send the winning bid amount from the winner to the seller’s account and transfer the land title to the winner.

Because the blockchain is publicly visible, anyone with suitable expertise could check that the code in the smart contract implements a fair and valid auction. Auction participants would only need to trust the correctness of the code. They wouldn’t need to rely on an auctioneer to run the auction honestly – and as an added benefit, they also wouldn’t need to pay high auctioneer fees.

Handling confidentiality

Behind this compelling vision lurk many technical challenges. The transparency and accountability of a fully public ledger have many benefits, but are at odds with confidentiality. Suppose the seller mentioned above wanted to conduct a sealed-bid auction or conceal the winning bid amount? How could she do this on a blockchain that everyone can read? Achieving both transparency and confidentiality on blockchains is in fact possible, but requires new techniques under development by researchers.

Another challenge is ensuring that smart contracts correctly reflect user intent. A lawyer, arbiter or court can remedy defects or address unforeseen circumstances in written contracts. Smart contracts, though, are expressly designed as unalterable code. This inflexibility avoids ambiguity and cheating and ensures trustworthy execution, but it can also cause brittleness. An excellent example was the recent theft of around $55 million in cryptocurrency from a smart contract. The thief exploited a software bug, and the smart contract creators couldn’t fix it once the contract was running.

Bitcoin is a proof of concept of the viability of blockchains. As researchers and developers overcome the technical challenges of smart contracts and other blockchain innovations, marveling at money flying across the Atlantic will someday seem quaint.

Authors: Ari Juels, Professor of Computer Science, Jacobs Technion-Cornell Institute, Cornell Tech, and Co-Director, Initiative for CryptoCurrencies and Contracts (IC3), Cornell University; Ittay Eyal, Research Associate, Computer Science and Associate Director, Initiative For Cryptocurrencies and Contracts (IC3), Cornell University.

Blockchain technology could be a game changer for developing communities

From The Conversation.

Blockchain technology is being developed in everything from financial technology companies to the GLAM industries. Some, such as Backfeed, are using blockchain for decentralised coordination through smart contracts. As the recent attack on the DAO has revealed, blockchain-based innovations can also create social harm by being difficult to fix when things go wrong. While it is likely that platforms such as Ethereum will evolve to deal with these risks, a further consideration is who will reap the benefits of blockchain applications in the long term. To understand that, we need to consider the infrastructures on which these technologies are run and accessed, not just the code.

Originally developed to support bitcoin, Blockchain is essentially a public ledger. It’s like a giant spreadsheet for recording assets, which can be utilised for any form of exchange and which no individual entity controls. By providing a secure and distributed means of authentication and recording, Blockchain eliminates the need for intermediaries that pull information to verify transactions. The technology can therefore be used for autonomous machine-to-machine communications, taking the Internet of Things and the sharing economy to the next level (for instance, cars that manage their own rental and re-fuelling).

The benefits of blockchain technology for developing economies have so far only been discussed in terms of remittance payments and providing an alternative currency in unstable fiscal environments.

However it could also be applied in sharing economies that are present in some developing communities, just like the one I observed during field work in the Kedaya Telang Usan area in Sarawak, Malaysia.

The sharing economy of the Orang Ulu

In a sharing economy, people make use of their excess assets by charging others to access them – houses for holiday accommodation, garages for storage, cars (and their drivers) for rides.

During British colonial rule, the Orang Ulu began to grow crops for profit not just for subsistence, and out of this came the kinds of payment for services that characterise the sharing economy. One of my fellow researchers, Simpson Njock, a Kenyah man from the region, said it was once the case that you had to share a wild boar, but now if someone asks you for some of your wild boar you say to them “how much?”

Until logging roads were built a decade ago, it would take the Orang Ulu days to get to their kampung (village) by longboat. As only a small number of people in each kampung own a car, the Orang Ulu developed a ride-sharing system, whereby you pay someone with a ute to take you where you need to go – a lot like ride sharing service Uber but without the internet platform. In another example, the house of the headman may include rooms for those on their way upriver.

These systems have also developed in a region where many fall into the unbanked category (those without bank accounts or credit) and live a largely subsistence lifestyle, but where money is required for schooling, medical treatment, and home maintenance. Many make that money from handicrafts or food they have grown on their padi farms. Some goods are bartered rather than sold.

A different form of international development

Using technology in development projects has been controversial, with research showing some projects reinforce exploitative economic and political hierarchies whilst claiming to encourage entrepreneurship from the so-called “bottom of the pyramid”.

Blockchain will not necessarily resolve the complexities of the development industry, but it might assist the coordination of existing systems, making them more efficient, rather than imposing different ones. For instance, it could make possible a shift from forest industries, such as logging and oil palm, to economies that rely on a healthy forest, where natural heritage and culture are valued rather than diminished. In the nearby Bario region, a technology project has helped facilitate local tourism since 1998, primarily through websites that promote home stays.

Technology is already changing life in remote Sarawak, enabling people to coordinate car rides and handicraft sales through instant messaging and social media. Emerging peer-to-peer platforms could be of significant further economic benefit through more efficient and automated systems, without the high transaction costs or standards required by commercial platforms.

The most interesting and important blockchain transformations could be those built for economies that have been underserved by established financial institutions and classified as ‘informal’. Current blockchain debates are focused on the conflicts between law and automated governance. We need to remember that there are many spheres of interaction that have not be well served by markets, regulations and institutions, which could benefit from technologies that reduce the need to interact with them while providing simple, trusted transactions.

Such possibilities are a long way off, and not just because of bugs in the code. For these technologies to run, there must be reliable connectivity and infrastructure. While some communities have mobile broadband base stations, we found that these are often poorly maintained or suffering from congestion. The possibilities for economic development via blockchain applications will be nothing more than an idealistic and novel concept unless more fundamental digital infrastructure needs are addressed.

Author: Ellie Rennie, Deputy Director, Swinburne Institute for Social Research, Swinburne University of Technology

Without smarter governance, blockchains will fall victim to more attacks

From The Conversation.

Ethereum, a network designed to extend blockchain technology to uses beyond crypto-currencies, has been gaining traction around the world.

Billed as “a decentralized platform that runs smart contracts…without any possibility of downtime, censorship, fraud or third party interference,” Ethereum has been enthusiastically embraced by organisations like Microsoft, IBM and Azure.

How then does the equivalent of tens of millions of dollars get stolen in one day, from an individual account?

This is the situation that those affiliated with The DAO (Decentralized Autonomous Organization) awoke to on June 17 as transactions were made from their Ethereum account to an account whose owner is unknown.

It was a timely reminder that sometimes “smart” technology acts stupidly. Bitcoin suffered a near-death experience in 2014 when the equivalent of US$450 million in bitcoins went missing after Mt. Gox declared bankruptcy. Ethereum now faces a similar moment.

Important lessons about the risks, true capabilities and need for better governance of blockchain networks unfortunately have to be learned once again.

How Ethereum and The DAO work

Started in 2014 by teenage programming prodigy Vitalik Buterin, the Ethereum network is unique for its pioneering use of “smart contracts”. Just like regular contracts, terms and conditions are developed and agreed upon by consenting parties. What makes them supposedly “smart” is that, when the conditions of the contract are met, the contracts execute automatically.

The DAO is an online, investor-directed venture capital fund built on the Ethereum blockchain network. The DAO’s goal is to collectively channel investment into new projects, similar to the way that crowdfunding works, but using Ether, the crypto-currency that underpins Ethereum. It uses specialised code (based on Ethereum’s Solidity language) to allow its members to execute automated investment decisions.

The DAO has no single leader, though there is a group of overseers who are elected by holders of special DAO tokens (which people purchase with ether). Voting rights are determined by one’s DAO token holdings.

After raising 10.7 million ether (the equivalent of US$120 million in May 2016) in an initial crowdfunding effort, one of the biggest in history, hopes were high for The DAO.

Then, on June 17, crisis struck. An unknown person or group of people funnelled out about one-third of The DAO’s ether holdings the equivalent of between US$45 million and $77 million (the value depends on whether one uses the pre- or post-incident ether market price).

Within days, the market price of ether crashed around 50%. A good deal of soul searching for both projects has been underway ever since.

Smart thieves or dumb programming?

In the fallout of the incident, much was made about how The DAO was “hacked”. Upon closer examination though, The DAO was not hacked at all. The attacker(s) used two features of The DAO’s specialised code to siphon out ether in amounts small enough to not result in the destruction of their DAO tokens.

Moreover, The DAO’s terms and conditions do not permit theft or fraud. In short, it is perfectly legitimate to do whatever a smart contract’s code permits, even if this is beyond the original intention of those who wrote the code.

Like all technologies, “smart contracts” are dual use and might be used in ways that their creators did not intend. The complexity of the technology only compounds this issue.

When considered in this context, not only is what occurred above board (though not in the spirit of The DAO), funnelling money out of The DAO’s account ironically turns out to be a feature, not a bug.

Important decisions now face the Ethereum community. The fate of the network and the equivalent of hundreds of millions of dollars hang in the balance.

Sensibly, a backstop mechanism was built into the Ethereum network for incidents such as this one. The account holding the (mis)appropriated funds (a so-called Child DAO) has been frozen for 27 days and soon the Ethereum community will hold a referendum of sorts, “voting” on what course of action to pursue. This will determine whether holders of DAO tokens will be able to recoup their lost ether, or see it remained locked in limbo forever.

Lessons for blockchain enthusiasts

This episode introduces nuance to Ethereum’s pitch on enabling applications to run “without any possibility of downtime, censorship, fraud or third party interference”. Similar claims are made by the promoters of crypto-currencies and blockchains more generally.

Smart contracts may run exactly as programmed but this does not mean that they will run as the creators intended. The DAO incident demonstrates how the complexity of these contracts is outstripping the comprehension of the people who wish to write them. This in turn introduces bugs and vulnerabilities, some of which are known, but others will only become known when something goes wrong.

While the Ethereum network’s users might be decentralised, certain features of the network are not. For instance, the decision as to what changes will be made to the code as a part of the upcoming referendum is determined by a small group of Ethereum developers. The check on this concentration of control is that 51% of nodes in the network must agree to the changes.

However, a 51% threshold is not ideal given the network’s tendencies towards centralisation. The difference between the Ethereum blockchain network vs a referendum is that the former is not “one person, one vote” it is “one node, one vote”.

For Ethereum, there is no telling how many people control how many nodes. This is because the account holders are pseudonymous. What is known is that the distribution of ether holdings is heavily skewed across accounts. At present, of a total of 440,741 accounts, the top five Ethereum accounts alone possess 25% of the total outstanding ether. Moreover, the distribution of mining is also not uniform. Three mining pools currently occupy more than 50% of Ethereum’s mining capacity. Amassing 51% of the required resources for control becomes relatively easier under such a configuration. For Bitcoin, where votes are determined by the distribution of mining, and mining is similarly distributed, the ability to game the network is even greater.

Smart contracts require smarter governance

If blockchains are to be sustainable in the long run, serious consideration of appropriate governance mechanisms is needed.

A skewed distribution of mining power and crypto-currency holdings is combined with pseudonymity of account holders and a strong incentive to game the system. This has all the makings for deceptive, unaccountable, fraudulent, and self interested decision making.

Until hard questions around governance of blockchains are asked, and solutions implemented, we should brace ourselves for more incidents like that which has befallen The DAO. At stake is not just the fate of projects like Ethereum but the future potential of blockchain technology more generally.

Author: Benjamin Dean, Fellow for Cyber-security and Internet Governance, School of International and Public Affairs, Columbia University

Demystifying the blockchain: a basic user guide

From The Conversation.

Most people agree we do not need to know how a television works to enjoy using one. This is true of many existing and emerging technologies. Most of us happily drive cars, use mobile phones and send emails without knowing how they work. With this in mind, here is a tech-free user guide to the blockchain – the technology infrastructure behind bitcoin, and many other emerging platforms.

What does the blockchain do?

The blockchain is software that stores and transfers value or data across the internet.

What can I store and transfer using the blockchain?

To use the blockchain, you will need to set up an account or address (a virtual wallet). At this time, the most popular use for the blockchain is to make micro-payments with virtual currencies. For example, you can buy bitcoin with real money and then spend it on the internet using the blockchain.

Authorising a payment using the blockchain is similar to using a credit card to buy something online. Instead of a 16-digit credit card number, you provide the vendor with a unique string of numbers and letters generated for each transaction. With this unique identifier, the blockchain can verify and authenticate the transaction.

Can I use the blockchain to transfer real money?

Not yet. Some companies are using the blockchain to make international financial transfers, but most of these transactions are enabled by bitcoin or other digital currencies. Exchanging real money for bitcoin incurs fees for the sender, but the benefit is speed, security and convenience.

How is transferring value or virtual currency on the blockchain different from transferring money from my bank account?

Depending on the amount and the destination, when you transfer money from your bank account, your bank will limit the amount you can transfer. Most banks impose daily limits for all transactions. When you use virtual money on the blockchain, there are no limits.

When you transfer value or currency from your bank account to an account with a different bank or other financial institution, the transfer can take days. When you use the blockchain, the transfer is immediate. If a transfer from your bank account puts your account into debit, your bank will charge you a fee. The blockchain will not allow a transfer in excess of your balance and so your virtual wallet will never be in debit.

How is storing value using the blockchain different from keeping my money in a bank account?

Bank accounts and credit cards are vulnerable to attack from fraudsters and hackers. The blockchain is a more secure way to store and transfer funds, particularly if you keep a modest value in your virtual wallet. Hacking the blockchain is difficult, time-consuming and expensive. No one breaks into Fort Knox for just $500. Of course, value stored on the blockchain will not earn you interest or improve your credit rating; and the blockchain will not lend you money to buy a house or car. The blockchain does not replace your bank, but very soon banks will be using the blockchain too.

How is transferring data using the blockchain different to attaching a file to an email?

Unlike emails with attachments, the blockchain enables the immediate transfer of data no matter how big the file. Also, there is less danger of spam or viruses and no need for firewalls or junk folders.

How is storing data using the blockchain different to storing my files on my computer?

If you lose or break your computer or if it is attacked by a hacker or virus, you could lose that data. The blockchain resides in the cloud. Like any web-based storage, you just need your username and password to access your data from anywhere anytime.

What else can I use the blockchain for?

Very soon the blockchain will be used for online transactions. It will enable smart contracts, crowdfunding and auctions. It will verify the provenance of artworks and diamonds; transfer title to real estate and other assets; and store information about people, products and property. Apps for music distribution, sports betting and a new type of financial auditing are also being tested.

Why is the blockchain described as “riskless”?

The blockchain verifies and authenticates both ends of each transaction. It will not release a purchaser’s funds until it has checked that the vendor will deliver as promised.

Is the blockchain safe?

Standards and regulations are needed so that the technology can be readily used across different organisations, industries and jurisdictions. Blockchains can be private (like an email) or public (like Facebook), so users need to know which type is being operated before joining a new blockchain.

My tips for safe use of the blockchain are: keep your virtual wallet details secure; do not let an unknown third party hold virtual currency or data for you; and do not provide your online banking details to anyone. As seen in a recent attack on a crowdfunding project, the blockchain is at its most vulnerable when significant value is stored in a single address. The blockchain may be trustworthy, but the people on it might not be.

Author: Philippa Ryan, Lecturer in Civil Practice and Commercial Equity, University of Technology Sydney

How Will Blockchain Technology Disrupt Financial Services Firms?

A new article from Knowledge@Wharton highlights the potential disruption to the financial services industry from blockchain technologies. The decentralised approach enabled by blockchain has the potential to change customer relationships, offer new services, and challenge the role of central banks, and core financial systems. Start-ups and incumbents are squaring up in a fight for the future of the industry.

The basic rules of the game for creating and capturing economic value were once fixed in place. For years, or even decades, companies pursued the same old business models (usually selling goods or services, building and renting assets and land, and offering people’s time as services) and tried to execute better than their competitors did. But now, business model disruption is changing the very nature of economic returns and industry definitions. All industries are seeing rapid displacement, disruption, and, in extreme cases, outright destruction. The financial services industry, with its large commercial and investment banks and money managers, is no exception.

“Silicon Valley is coming,” JPMorgan Chase CEO Jamie Dimon warned in his annual letter to shareholders. He said startups are coming for Wall Street, innovating and creating efficiency in areas that are important to companies such as JPMorgan, particularly in the lending and payments space.

The payments startup Stripe has a multibillion-dollar valuation and a partnership with Apple Pay. Bitcoin companies and exchanges such as 21 and Coinbase are attracting tens of millions of dollars from venture capitalists. Peer-to-peer lending is booming in the small loan market with many players, including Upstart, Prosper, Funding Circle, and more. And the financial-planning startup LearnVest just got acquired for more than $250 million.

Many of these organizations are in the lending business, but are using big data and cloud technologies rather than tellers and branches to speed lending and customer acquisition. Others are leveraging network business models, such as peer-to-peer lending, to bring together would-be lenders and borrowers. According to Dimon, “We are going to work hard to make our services as seamless and competitive as theirs.” His underlying thought is this: If his company doesn’t keep pace with today’s well-capitalized upstarts, they will begin to lose relevance in a platform-centric world.

“In lots of areas, it looks like the blockchain will replace the current centralized business model of the financial services industry.”

There are many innovative, network business models that are coming after traditional financial services and banking organizations, and big banks are beginning to realize they must evolve in response if they want to remain viable in a digitally centric world — whether it comes by acquiring, partnering or developing leading-edge technologies. But what’s less clear is why, exactly, these new entrants are so disruptive and powerful. What enables them to skirt perceived constraints of these once ‘too large to fail’ incumbents and exploit unseen possibilities? In short, it is network-centered thinking with platform-based business models.

Control Shifting Away from Central Banks

In London’s Canary Wharf, a team of technologists and executives are trying to understand how to use blockchain technology to change the future of banking globally. Their leader is Blythe Masters, an ex-Wall Street commodities trader turned digital entrepreneur focused on turning the mental model and business model of the massive financial services industry and all its related parties (consumers, lawyers, accountants) on its head.

Bank executives worldwide are trying to figure out what this evolution in technology will mean for their firms. “We could go the way that file transfer technology changed music, allowing new businesses like iTunes to emerge. That is why there is such feverish activity at the moment,” said Michael Harte, chief operations and technology officer at Barclays, according to a recent article in The Financial Times.

For the massive financial services sector, blockchain technology (the software behind the digital currency, Bitcoin) offers an opportunity to overhaul its existing business model, including its banking infrastructure, approach to settlements and customer interactions. But acting on this opportunity, and making the most of the blockchain, is no easy task given the core beliefs and reinforcing systems that are embedded in the industry.

Networks Are Taking Over

What is the blockchain? It is a distributed database of computers that maintains records and manages transactions. Rather than having a central authority (such as a bank), blockchain uses the network to approve “blocks,” or transactions, which are then added to the “chain” of computer code. Cryptography is used to keep transactions secure, and the distributed nature of transaction approval makes the system harder to tamper with.

“It is only a matter of time before the broader financial services and banking industries shift to blockchain and network-based approaches.”

Blockchain technology has been hailed by its VC supporters as having revolutionary promise for all involved. “You should be taking this technology as seriously as you should have been taking the development of the Internet in the early 1990’s. It’s analogous to email for money,” said Masters, according to The Financial Times.

And blockchain enthusiasts believe that the application possibilities are endless — improving the way we hold and transfer secure goods from money to deeds to music to intellectual property. In fact, blockchain, as a pure platform technology, may be able to cut out the middlemen (or middle companies) everywhere, even disrupting other disruptors like Airbnb or Uber.

In the present financial services business model, a central ledger most often acts as the custodian of that information (such as the Federal Reserve and its member banks). But in a blockchain world, the information regarding each transaction is transparently held in a digitally shared database in the cloud, without a single central body acting as the middleman. This lack of central authority is the very feature that is turning the current mental and business models of traditional financial institutions on their heads.

In a lot of areas, it looks like the blockchain will replace the current centralized business model of the financial services industry and it is easy to see how it could revolutionize all of Wall Street. The ability of the technology to provide an unforgeable record of identity, including the history of an individual’s transactions, is one area being eagerly explored. David Grace, head of global finance at PwC, said that “if you have a secure distributed ledger, it could be used to store validated ‘know your customer’ data on individuals or companies. … It’s a potentially global application that could provide more security over identity data and where that data are stored.”

“It seems that the code can perform better than a real middleman in most cases.”

Clearly, we are entering a period of rapid evolution, as the financial services industry determines blockchain and what it means for their business models. Or, another scenario: A slew of startups identifies the possibilities and pulls the rug out from under big institutions. Traditional perceptions about the roles of financial players are already under attack — as it seems that the code can perform better than a real middleman in most cases. Old business models will soon fall prey to the quickly evolving technology and mental models. The network is about to do its magic: Grow and evolve without central control.

Network Business Models Will Dominate

Blockchain is already seeing use outside of the financial services sector, where it got its start. Technology and services giant IBM is adapting the blockchain methodology to develop a currency-less system that could be used for any purpose — for example, executing contracts upon delivery.

Arvind Krishna, senior vice president of IBM Research, believes that in the long run, this technology could facilitate transactions between banks or international businesses. “I want to extend banking to the 3.2 billion people who are going to come into the middle class over the next 15 years,” he said. “So I need a much lower cost of keeping a ledger. Blockchain offers some intriguing possibilities there.” A firm-centered or centrally controlled banking system clearly will not get him there, and the blockchain will allow him to leverage a digitally-enabled network as the way forward.

Join the Network Revolution

With companies such as IBM and JPMorgan Chase, as well as preeminent venture capitalist firm Andreessen Horowitz, backing this new way of facilitating financial transactions, it is only a matter of time before the broader financial services and banking industries shift to blockchain and network-based approaches Twitter to complement, or replace, the current centralized approach. The question is not whether network business models supported by blockchain technology will disrupt these organizations, but when. So if you are a member of the current financial services industry elite — or a local bank or credit union — it’s time to become part of the digital revolution and join the network and platform-emerging world.

The Disruptive Potential of Blockchain

Blockchain has the potential to become a powerful and disruptive force across financial services, calling into question the future role for financial intermediaries and offering the potential for profound innovation.

On 10th May, Blockchain Revolution – How the Technology Behind Bitcoin Is Changing Money, Business, and the World By Don Tapscott and Alex Tapscott will be published. From the introduction:

The first generation of the digital revolution brought us the Internet of information. The second generation—powered by blockchain technology—is bringing us the Internet of value: a new, distributed platform that can help us reshape the world of business and transform the old order of human affairs for the better.

Blockchain is the ingeniously simple, revolutionary protocol that allows transactions to be simultaneously anonymous and secure by maintaining a tamperproof public ledger of value. Though it’s the technology that drives bitcoin and other digital currencies, the underlying framework has the potential to go far beyond these and record virtually everything of value to humankind, from birth and death certificates to insurance claims and even votes.

This technology is public, encrypted, and readily available for anyone to use. It’s already seeing widespread adoption in a number of areas. For example, forty-two (and counting) of the world’s biggest financial institutions, including Goldman Sachs, JPMorgan Chase, and Credit Suisse, have formed a consortium to investigate the blockchain for speedier and more secure transactions.As with major paradigm shifts that preceded it, the blockchain will create winners and losers. And while opportunities abound, the risks of disruption and dislocation must not be ignored.

Tapscott was interviewed by Mckinsey. Its worth reading their article.

What if there were a second generation of the Internet that enabled the true, peer-to-peer exchange of value? We don’t have that now. If I’m going to send some money to somebody else, I have to go through an intermediary—a powerful bank, a credit-card company—or I need a government to authenticate who I am and who you are. What if we could do that peer to peer? What if there was a protocol—call it the trust protocol—that enabled us to do transactions, to do commerce, to exchange money, without a powerful third party? This would be amazing.

The financial-services industry is up for serious disruption—or transformation, depending on how it approaches this issue. For the research for Blockchain Revolution, we went through and identified eight different things that the industry does: it moves money, it stores money, it lends money, it trades money, it attests to money, it accounts for money, and so on.

Every one of those can be challenged.