If financial firms are planning to launch any kind of blockchain product, what approach should they take? And why?
There are a few key questions that should be answered before any blockchain/distributed ledger project gets initiated—regardless whether that is in financial services or not.
Do we have a clear understanding of what the problem is that we are trying to solve?
Too often with new technologies we have a solution looking for a problem, and when the two don’t quite fit we end up bending the problem to fit our desired technical solution. This is obviously the wrong way around; making sure that you have a clear understanding of the problem to be solved, irrespective of the technical solution, is key.
Have we identified all of the technical designs that are capable of solving the problem?
Having identified the business problems we are trying to solve, we should then identify the different technical options that could help solve those problems. blockchain/distributed ledgers may be just one of a series of possible technical solutions to any given problem.
Have we selected the best technical solution for the problem?
Having identified all the technical options for solving the business problems, we need to go through a thorough process of selecting the best one under these particular set of circumstances.
Is there a business case?
For most projects we need to be able to articulate a sound business case. What will be the benefits delivered by and the cost of delivering the project? In the majority of financial services organisations this will need to be a hard cash based business case.
What challenges can financial services come across when working with blockchain?
A big challenge often faced when making a business case for a project in financial services, is that there will be an existing infrastructure in place that the new platform will replace.
The business case needs to take account of the costs for building the new platform and also for ‘plumbing it in’ to all the existing parts of the financial infrastructure (the latter should include the significant testing cost).
Another challenge is that often the specific design of the blockchain platform does not take account of the set of problems that we are trying to solve. For example, broadly there are two aspects of the blockchain design that can be distributed to each node of the network; functionality and/or data. In financial services many organisations operate a private network.
In such cases, the business case for distributing functionality to the nodes of the network is very hard to make; it does not address any specific problems in the existing environment and the model of using a centralised trusted service provider is often more appropriate. However, I still see solutions proposed, for private networks in financial services, that incorporate the distribution of complex processing functionality to the nodes of the network.
Why can blockchain and distributed ledger technology (DLT) provide a good solution to financial services firms?
In financial services there is a huge amount of technology and operations spend on reconciliations between the various parties to a deal: clearing houses, central counterparties, service providers and regulatory reporting hubs.
The sweet spot for DLT, I believe, is in the model whereby data is distributed to the nodes of the ledger, but functionality is provided by centralised service providers. This way the members of the network can be sure that they all see the same data at the same time and the need for expensive time-consuming reconciliations is removed.
This not only lowers the operational costs for the members of the network but can also help shrink the balance sheet as often capital needs to be set aside against non-reconciling items. So this technology can deliver real financial gains.
Are there any opportunities to progress the adoption of DLT in the financial services industry?
The key challenge is always going to be making the business case for implementing such a radical change when there is an existing infrastructure in place. Thus, the likely areas are going to be:
Where there are regulatory drivers for a radical change or new process—in such cases the business case is less important, things just have to get done
Where there is a new service being brought to market
Where mismatches of data across the market bring such a big technology costs, operational costs, balance sheet expansion and other levels of risk, the result being the business case becomes easier to make.
