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Regulation is One Obstacle for Blockchain Technology

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The World Economic Forum recently released a report on blockchain’s potential to transform the financial infrastructure. The blockchain is the spinal cord of Bitcoin, the first decentralized digital currency, and this technology can profoundly change the traditional financial model.

The report is the most recent phase of the Forum’s ongoing Disruptive Innovation in Financial Services project. It draws on over 12 months of research, engaging 200-plus industry leaders and subject matter experts through interviews and multi-stakeholder workshops.

According to the report ‘Opportunities & Obstacles: Blockchain and the Future of Financial Infrastructure‘, blockchain technology is here to stay. Therefore, there is a need to understand both the positive and negative impacts that this technology will have over the current model of financial intermediation.

The World Economic Forum’s analysis is based on six key findings regarding the implications of distributed ledger technology (DLT) on the future of financial services:

  • DLT has great potential to drive simplicity and efficiency through the establishment of new financial services infrastructure and processes
  • DLT is not a panacea; instead it should be viewed as one of many technologies that will form the foundation of next-generation financial services infrastructure
  • Applications of DLT will differ by use case, each leveraging the technology in different ways for a diverse range of benefits
  • Digital Identity is a critical enabler to broaden applications to new verticals; Digital Fiat (legal tender), along with other emerging capabilities, has the ability to amplify benefits
  • The most impactful DLT applications will require deep collaboration between incumbents, innovators and regulators, adding complexity and delaying implementation
  • New financial services infrastructure built on DLT will redraw processes and call into question orthodoxies that are foundational to today’s business models
  • The WEP Report explored these key findings in depth, based on the use case deep-dives conducted across financial services. These use case deep-dives led them to outline a comprehensive approach over the business-process-level views of the blockchain technology and other distributed technologies within each financial service.

Project Lead for Disruptive Innovation in Financial Services, World Economic Forum, Jesse McWaters stated,

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“The financial services infrastructure will be radically changed by blockchain technology. It will redraw processes and call into question policies that are the groundwork of today’s business models. Our research looks to the future state of blockchain technology and by starting this conversation we believe this will help further build perspective for what is to come.”

 

An assessment of the potential for blockchain technology is presented in the report for several financial services; Payments and Global Payments, Insurance, Deposits and Lending, Capital Raising, Investment Management, and Market Provisioning were some of the use cases highlighted in the report.

Among the major benefits mentioned in the report, one of the most notable beneficiaries will be global correspondent banks; by implementing DLT, banks can unlock benefits and increase efficiency in the value chain, while also enabling next-generation competitive services to local banks. Settlement and servicing activities can also be executed via smart contracts, which can eliminate costly fees and lower operating costs.

The report also takes a look at the way how adoption is being made – the adoption of blockchain-based technologies may be driven by key information technology providers; as they integrate DLT into their core banking platforms, they might play a key role in setting standards.

DLT enables simultaneous settlement of cash and equity executed via smart contract reduces the likelihood of manual errors and the resources required to execute the process, and this is one of the considerations that financial institutions are interested in.

On the downside, the report mentions some concerns over the errors in the design of this new technology since there is still issues with the code; also, there is opportunity for malicious behavior, a widening use of digital currencies for criminal and illegal activities and potential gaps in security.

One prevalent theme is regulatory issues and the report outlines the conditions for implementation of blockchain technology in various industries. For example, in the payments industry, there needs to be a standardized KYC (Know Your Customer) process and a legal binding between cryptographic hashes and exchange value. Also, providing, or even rewriting, the legal and regulatory framework is required to achieve the benefits of blockchain technology in the areas of trade finance and insurance.

With the advent of the blockchain, the implications of making KYC information public remains to be seen and could be a key step toward mutualizing this information between financial institutions. Furthermore, given the lack of legal precedent with regards to smart contracts, the procedures for reporting the use of such contracts to regulatory agencies will be difficult to establish.

Blockchain looks certain to disrupt the structure of the financial environment as well as back-end administration. Besides allowing banks to offer new and improved services, blockchain technology could also allow buyers to pay less for a wide range of services, from global installments to the exchanging of stocks and bonds.

However, this new technology also comes with challenges and therefore it is considered that regulatory divergence could hamper the development and implementation of the blockchain.