New Principles to Explore Banking Blockchain Use Cases Effectively

A new breed of blockchains are being developed to become identifiable, controllable and asset-agnostic. This evolving architecture demands new rules to explore use cases in the financial industry. Here we outline three use-case principles for bank CIOs that can potentially guide their blockchain investments in 2017.
FIs are cautious by nature. Blockchain technology has the potential to revolutionize financial transactions but several challenges have to be overcome – one of the fundamental question from FIs is where to start for ‘proofs of concept’ of blockchain use cases.
In 2016, Moody’s published a whitepaper that identified 25 important use cases from over 100 use case candidates, most of which are still valid in 2017 – but a collection of 25 use cases is still far more than sufficient to give a clear view of exactly which use case fits most to a bank’s business. The new blockchain architecture – identifiable, controllable, and asset-agnostic – demands FIs to explore further what are the right use cases. In this chapter, we introduce three fundamental principles to help identify best-fit blockchain use cases, so that FIs can move forward to operationalize the technology and integrate it into current processes and systems.

Principle #1: Non-Monetary

In an era of cybercrime and stringent regulatory requirements, blockchain regulation is a gray area in the financial industry, creating some uncertainty around its implementation. Regulators are keeping an eye on blockchain technology, especially in the area of:

• The basic tenets of a KYC/AML compliance program (for instance FINRA 3310) require the customer identifies (who, where, and which organization) must be traced by blockchain payment system
• The general ledger integrity must be assured – all distributed ledgers that reflect account changes must be reconciled to bank’s enterprise GL

In such a context a blockchain, when tied to fiat or virtual currency, creates extra complications with compliance and legacy integration. Instead, documents, records, financial instruments and even private equities carried by blockchain could be an ideal way forward to avoid the compliance hurdles and regulation uncertainties.
However, central banks are catching up quickly. In countries where regulation supports blockchain innovation – for instance, the Monetary Authority of Singapore is testing blockchain for a new payment transfer project – FIs could adopt an aggressive approach to try blockchain payments in sandbox environments.

Principle #2: Contained

R3 CEV, as one of the largest blockchain consortium, stated early on, that the initiative will, ‘seek to establish consistent standards and protocols for this emerging technology across the financial industry’.
However, the question for financial firms is whether they should work together on a standardized consensus model that everyone agrees on or work independently on different versions and let the market decide. The other side of the coin is it takes time for a consortium to reach an agreement, and extra efforts to implement – any initiative of this scope to harness a standard in a fast pace environment is definitely not easy, and sometimes a road block not a catalyst to innovation. What happened to R3 in recent year has shown the difficulties of building an ambitious consensus among a large group of key stakeholders.
Therefore, FIs could first look at use cases that could be implemented inside the organization, or within a much smaller scale of consortium – it enables them to test the technology in a time-to-market manner, and start small with niche-market use cases. Most FIs are interested in blockchain but have not participated in major consortiums – for instance, regional and small-medium-size banks. Such FIs can go ahead with this light-weight approach, and even global multinational banks could run a bi-model strategy to try both contained and consortium relevant use cases.
Having said that, a bank should consider all these factors in a local context to determine the best-fit approach. There are exceptions where agreement can still be efficiently made among a group of banks. It could be achieved by a powerful centralized organization, for instance, a financial holding company that includes a family of banks, or a strong state-owned banking association that represents a group of local credit unions.

Principle #3: Distributed

It is essential to understand that from a business perspective, blockchain doesn’t fundamentally change how payment or money market works. However, blockchain as a technology platform can be adapted to a business context – and potentially transform the whole process and operations.
The dispute of the pros and cons between a centralized database and decentralized database has been continued for decades. Centralized system has approved its efficiency in many business scenarios to handle mass volume transactions, for instance, core banking. On the other hand, although no formal benchmark released to indicate any serious capacity issues for blockchain, efficiency (for instance network scaling problems) is a general concern to not just blockchain but many other types of distributed databases – where significant overhead or replication associated with these protocols exists.
However, blockchain, by its nature as a distributed record-keeping database, could demonstrate its true value, especially in a collaborative, distributed business environment. Typical scenarios include trade finance, international remittance, and syndicated loan. For these use cases, and with careful planning, FIs should have the confidence to deploy a scalable blockchain solution not only in a sandbox environment but also in a production environment.