ECB report: Distributed ledger technology could bring incremental change

The European Central Bank (ECB) has published a working paper on blockchain technology, examining its potential role and impact in securities markets.

The paper, co-authored by ECB economists Andrea Pinna and Wiebe Ruttenberg, explores various possible blockchain market applications and the possible impact of distributed ledger technology on markets, while examining different uses of smart contracts in the foundations of securities markets.

In a paper titled “Distributed Ledger Technology and Post-Trading Securities,” published on April 17, the authors state:

“The current debate on distributed ledger technology (DLT) is very focused on the technology itself and the extent to which it will disrupt the current post-trade market and its market players. However, it is important to remember that for the securities industry, some functions of the post-trade market will always need to be performed by institutions.”

Markets may drive change

Overall, the paper provides a bird’s-eye view of the current post-trade settlement environment, identifying some of the pain points that blockchain advocates hope to improve with the technology.

“Current market conditions, with low interest rates and expected increases in collateral demand, have squeezed profits for financial intermediaries,” the authors wrote, adding:

“Financial intermediaries are therefore hoping that distributed ledger technology will allow them to avoid certain reconciliation processes and reduce collateral and capital constraints in the settlement cycle.”

Nevertheless, problems remain, the authors go on to assert in their paper.

Discussion on adoption

The paper’s focus section explores the potential outcomes of industry experimentation with blockchain technology.

In one scenario, post-trade institutions using blockchain applications are able to improve their overall efficiency, but their infrastructure remains unchanged. In this case, so-called “siloed” distributed ledgers will help operators cut costs while still encountering interoperability challenges.

In more extreme cases, peer-to-peer networks would have the potential to cut out clearing and settlement firms entirely, placing the functions of securities issuance and trading squarely in the hands of investors and the companies that sell those assets.

Ultimately, the paper's authors note that it's still too early to tell the exact impact of this technology, however, they speculate that any changes would likely occur over a longer timeline.

The paper concludes:

“Distributed ledger technology may find its way into the mainstream, but it is more likely to cause an evolution rather than a revolution in the process.”