The ECB has reported recently that it is looking towards new innovations such as Blockchain (also known as distributed ledger) technology to help run payment and settlement systems saying;
“As part of its vision, the Eurosystem intends to assess their [“blockchain” or “distributed ledger technologies”] relevance for the different services it provides to the banking communities (payments, securities settlement as well as collateral). This investigation will identify opportunities that these new technologies may provide, as well as the challenges that they create.”
The ECB made the revelation in a recent consultation report where it looked to the future of Europe’s financial market infrastructure and Eurosystem’s part in it. The ‘Eurosystem’ is a collective consisting of the ECB and the central banks of all member states that use the euro as their national currency.
What is the Blockchain?
The Blockchain is an online record of all payments made in the Bitcoin network. For those who haven’t heard of it, Bitcoin is a type of currency which is generated online and is accepted as a payment method almost globally. Some of the advantages of Bitcoin are that it is a peer to peer payment system that does not require a financial institution as an intermediary. Payments are almost instant and cheaper than traditional payment methods. Bitcoins can be traded and exchanged with other currencies in the FOREX markets. Bitcoins are generated when Bitcoin network users verify payment entries on what is called the Blockchain, using cryptography to do so. The Blockchain is a ledger which records every payment made through the Bitcoin network. Users are incentivised to verify transactions as they earn Bitcoins for doing so. (At date of writing 1 Bitcoin = circa €385.00). The Blockchain is used to make sure that double payments using Bitcoins don’t take place.
What are the advantages of Blockchain technology?
The integrity and the chronological order of the Blockchain are enforced with cryptography. It is almost impossible to alter the data once it has been verified. If a fraudster wants to make any change to the Blockchain, they cannot do so unless they control 51 percent or more of the participants on the network. This is next to impossible in the case of any large network. Traditional networks contain thousands of individually motivated members dispersed globally.
Through the use of Blockchain technology, banks and financial institutions will be able to reduce fraud, increase transparency and reduce costs in transactions for all parties, whether financial institutions or consumers. They will be able to track customer repayment histories more accurately across borders and banks, reducing the risk of defaulters. Nine banks, including Barclays and Royal Bank of Scotland, announced last year that they may adopt the Blockchain system, due to the fact that “it is hard to fool, making fraud more difficult, could speed up trading systems and make deals more transparent”.
Blockchain technology has already been adopted in the diamond industry to prevent diamond fraud. Everledger, a permanent ledger for diamond certification, has adopted its use as a mark of authenticity providing transparency for all parties involved. Funding has also been raised by a company called Ascribe for a project which aims to use distributed ledger technology as a “notary and timestamp for intellectual property and creative works”. There is also talk around using Blockchain technology for recording personal identity credentials and passports.
The ECB’s change of heart in relation to Blockchain
In the past the ECB and the Eurosystem have been skeptical about Blockchain technology. Last year Erkki Liikanen, the head of the bank of Finland, described Bitcoin’s anonymous nature of transactions as “problematic.” Liikanen further opined that Bitcoin “isn’t subject to the most basic principles governing payment systems,” with a nod to the banking industry’s fervent know-your-customer (KYC) principles. Skepticism of this sort is to be expected with the advent of any sweeping change in an established system. The recent indication by the ECB that it is open to adopting the technology is a welcome announcement as it has the potential to increase transparency and reduce fraud in banking transactions across the globe. However there has been some speculation about the reason for the ECB’s change of heart. Cryptocoinnews.com has cited the ECB’s ‘Target2-Securities’ initiative as the reason for their recent embracing of the technology. They say that the initiative, implemented in June 2015 as a single settlement platform across the Eurosystem, isn’t going well after significant technical concerns were raised.
What does the future hold?
In Ireland, it’s safe to say that any policy given the seal of approval by the ECB is sure to filter down into Central Bank regulation. Regulators in a number of other countries such as the UK and the US are taking steps to understand, contextualise and regulate digital currencies. The news that major banks are open to Blockchain technology is an indicator that it may soon be universally green lighted. While it is not yet clear how Blockchain will ultimately be adopted in the financial services industry, it is certain that the future will look very different.
Businesses need to keep a close eye on Blockchain and be prepared to adapt and transform their services accordingly. Ogier Leman will continue to report on these developments. Contact Ronan McGoldrick or Laura Daly in our dedicated financial services regulation team to find out more.