The banking and financial services sectors are familiar to all of us. Most of us use their services regularly and have experienced high transaction costs/fees, lengthy transaction times, and slow processes. What most of us don’t realize is that these issues are due to significant inefficiencies that are passed on to the consumer. Banks and financial services companies pride themselves on their technology, but this technology is commonly mediated by large numbers of people and intermediaries that drive up costs. The banking and financial services sectors are now undergoing a great digital transformation. Many large US, European and Asian banks and well-known financial institutions such as JPMorgan Chase, Bank of America, BNY Mellon, Morgan Stanley, BNP Paribas, Deutsche Bank, UBS, HSBC, Bank of China, and others are leveraging enterprise-grade blockchain frameworks to solve systemic ‘trust’ and technology issues and bring greater efficiencies to these critical sectors. Enterprise blockchain experts, Radhika Iyengar (TEDx speaker and Silicon Valley Woman of Influence) and Jorden Woods (Silicon Valley serial entrepreneur and Caltech-trained astrophysicist), recently published their critically acclaimed book, Enterprise Blockchain Has Arrived, that discusses this digital transformation across banking and financial services as well as other key sectors.
The book has a dedicated chapter on enterprise blockchain solutions for banking and financial services (Chapter 10) plus an interview with a leading financial practitioner that has deployed blockchain solutions at scale. Here is an excerpt from Chapter 8, which presents an overview of blockchain’s value proposition at a high level.
“In regulated sectors, centralized systems can create the following systemic problems:
- Need for trusted intermediaries
- High costs and slow processes
- Multiple versions of the ‘truth’
- Need for record matching or reconciliation
- Centralized data silos that create single points of failure
Blockchain-based systems provide a shared ledger of decentralized, trusted transactions across an ecosystem that can provide the following benefits:
- No need for (or fewer) trusted intermediaries (trustless transactions)
- Low costs, real-time processing (especially with smart contracts)
- Shared ‘secure source of truth’ for all
- Low fraud risk, high accountability
- Eliminates costly record matching or reconciliation
- Low-security risk
Let’s examine the ecosystem-level centralized infrastructures in more detail across banking and financial services. The most intense pain points occur when multiple centralized systems try to work together. To solve these key pain points, the largest players in each of these sectors are now actively involved in deployed or soon to be deployed blockchain consortia.
Banking and Financial Services
The global banking sector handles trillions of dollars in transactions every day and is generally overseen by a central bank, which is a centralized entity that establishes trust. Though it may not be a government entity, it is overseen by the country’s federal government. In the US, the central bank is known as the Federal Reserve System or the ‘Fed’.
Due to the use of centralized systems that are mediated by central bank intermediaries, domestic transfers can generally be either immediate and high cost (wire transfers), or slow and low cost (ACH). The largest pain points occur in cross-border transactions, especially across currencies, where multiple centralized systems and intermediaries need to interact with each other. In these cases, transfers are both high cost and very slow. Many blockchain-based solutions are focused on solving this high pain point, by providing low-cost, immediate cross-border transfers.
Like with banking, trillions of dollars in securities transactions take place every day. In the financial services sector, these transactions are typically mediated by centralized clearinghouses. Clearinghouses and centralized counterparty clearinghouses (CCPs in Europe) act as intermediaries to securities transactions on most regulated exchanges, like stock markets. They bring together transaction information from many different centralized parties to settle and record transactions accurately. In the US, most securities transactions use The Depository Trust and Clearing Corporation (DTCC).
The DTCC, and most clearinghouses, are operated by the financial services and/or banking industry. Due to the need to reconcile the transactions from many different players simultaneously (‘reconciliation’), settlement can be slow and costly. Currently, all transactions must be settled within 2 days of transaction completion, however, the majority of DTCC customers favor same-day settlement. Many blockchain-based solutions are focused on enabling low-cost, real-time settlement and eliminating the need for costly reconciliation.”
The transition to blockchain-based systems will unfold over multiple years resulting in greater efficiencies, leading to lower costs and faster transactions. Just as the Internet laid the foundation for low cost, instant communication such as email and chat, blockchain is laying the foundation for low cost, nearly instantaneous financial transactions.