How Blockchain Technology Spawned Virtual Currencies
Blockchain technology, less commonly known as distributed ledger technology (DLT), is the underlying foundation that can create shared digital databases of entries that are unchangeable.
Initially, the tech's developers conceived it as a way to centralize record-keeping (particularly of financial transactions) without the need for authorization by an third party. Instead, multiple users with access to the data confirm the records.
Blockchain started to gather mainstream attention in 2009 when it became the underlying technology that powers the cryptocurrency Bitcoin.
Banks and Finance Industry Take Notice
Blockchain technology proponents believe it can be used to create secure and convenient alternatives to time-consuming and expensive banking processes. And this theory seems to be gaining traction, as almost every major bank around the world is testing it.
For example, banks are trying to create systems that decrease the number of participants involved in transactions. But some have invested more heavily than others. Some are investing in blockchain startups. Others are partnering with fintech companies that use blockchain (in fact, nearly all blockchain-based proofs of concept (POCs) developed by banks have been undertaken in conjunction with fintech partners.)
And finally, multiple global banks — including UBS, Goldman Sachs, and Morgan Stanley — have published research on blockchain technology through in-house efforts; however, this research is mostly limited to explaining technical details and exploring theoretical use cases. Few banks to this point have constructed their own blockchain-based systems or in-house technology without the aid of banking or fintech partners. But a handful of large global banks with the necessary resources to research and build large-scale projects have started to patent their own blockchain-based systems or their underlying tech.
Advantages to Blockchain Technology in Banking
Banks are exploring blockchain technology for several reasons, primarily cost savings and efficiency. But let's dig into blockchain in finance a bit more to examine the major factors behind this push.
- Cost savings and efficiency: Blockchain's strengths are highly attractive to banks, which are dealing with rising costs for maintaining or replacing their aging infrastructure and ensuring compliance with heavy regulatory burdens. Furthermore, banks must deal with increasing economic instability. To that end, blockchain-based solutions could generate cost savings of up to $20 billion per year, according to Santander.
- Competing with startups: Fintechs are using blockchain tech to offer services (such as remittances and international payments) at reduced costs, with greater speed, and with more user-friendly interfaces than major banks. As a result, banks have started to construct their own blockchain-based solutions to better compete with these up-and-comers.
- New business models: Banks can use blockchain-based systems to circumvent central bodies or legacy infrastructure (keep in mind this was the original blockchain use case). Banks could potentially develop these systems to create brand new business models that disrupt the financial ecosystem.
Future of Blockchain in Banking and Finance
The most obvious application of blockchain in finance in the future is through cryptocurrencies, specifically Bitcoin.
Since its creation, Bitcoin has seen its fair share of ups and downs, surges and crashes. But consider its boom in 2017 — and a forecast by Snapchat's first investor, Jeremy Liew, that it would hit $500,000 by 2030 — and it's understandable why Bitcoin could be so attractive to investors and financial institutions.
But to reach new heights on the back of blockchain tech, banks will need to keep the following three factors in mind:
- Narrowed focus: Several banks have begun to focus their blockchain efforts on projects that will be materially beneficial to their businesses. This is likely to be a more effective strategy than a broader, catch-all approach.
- Fewer participants per project: As a result of the narrowed focus, companies should streamline their approaches to their blockchain projects in order to generate quicker results.
- Cooperation with regulators: The blockchain-based solutions that banks develop might be similar to current solutions with regard to regulatory compliance. But financial organizations will need to make sure that lawmakers understand how these new solutions work in order to gain their approval.