Challenges and opportunities of blockchain applications from a banking perspective

Blockchain technology has attracted the attention and research of major financial institutions around the world. Goldman Sachs, Citigroup, ANZ Bank and others have explored and practiced in cross-border remittances, points, equity registration and other aspects.

1. The essence and characteristics of blockchain

As the underlying technology of Bitcoin, Blockchain emerged with the birth of Bitcoin. It is a string of data blocks generated using cryptographic methods. In the Bitcoin system, each data block contains information about all Bitcoin network transactions in the past ten minutes, which is used to verify the validity of its information and generate the next block.

Under ideal conditions, blockchain replaces the current Internet's reliance on central servers through data blocks, and is a perfect mathematical solution for building a trust mechanism for all parties involved in a transaction. Under this mechanism, anyone who does not know each other can join an open and transparent database to achieve peer-to-peer accounting, data transmission and authentication, without the need for an intermediary to reach a credit consensus. All transaction records, historical data, etc. are distributed and transparently accessible, and cryptographic protocols are used to ensure that they will not be illegally tampered with. Specifically, blockchain technology has the following characteristics:

1. Decentralization: The rights and obligations of each node in the system are equal. There is no need for a central management and operation organization. The system functions are maintained uniformly by each node. The damage or failure of any node will not affect the normal operation of the entire system.

2. Openness: The system information and operation rules are highly transparent, and the data is open to everyone. Blockchain data can be queried and related applications can be developed through public interfaces. At the same time, the system program is open source, and more institutions and individuals are attracted to participate in the operation of the entire system through the open source community, thus forming a network effect and rapid collaborative development.

3. Privacy protection: Nodes establish mutual trust through an encrypted and tamper-proof mechanism. Only the interaction information needs to be open. The nodes themselves do not need to disclose their identities, and transactions can be completed anonymously.

4. High degree of autonomy: The blockchain adopts a public consensus-based protocol or algorithm, enabling all nodes in the entire system to automatically and securely exchange data in a trustless environment without any human intervention.

5. Tamper-proof: By publicly distributing the database, each participating maintenance node can obtain a copy of the complete database. Unless more than 51% of the nodes in the entire system can be controlled at the same time, modifications to the database on a single node are invalid and cannot affect the data content on other nodes. Therefore, the more nodes in the system and the stronger the computing power, the higher the data security.

2. Innovation and Positioning of Blockchain

1. Promoting the innovation of the economic form of social organizations

In nature, there are centralized organizational forms centered on the Monkey King or the lion, or represented by the current human society. There are also phenomena such as fish schools and ants that achieve collective wisdom through unified rules between individuals. Blockchain adopts the concept of distribution and uses technical means and rule settings to ensure the stable operation of the system. This decentralized form is a simple and efficient way of social and economic organization. Its concept is similar to the market mechanism advocated by the classical school of economics - the "invisible hand" to ensure that the economy and society will eventually reach a balance; but the market also fails sometimes. Keynesianism advocates that the government coordinates and regulates and controls the market. In short, blockchain is neither software nor hardware. It is a way of human economic trade. It is completely subversive and will promote the innovation of social and economic organizational forms.

2. Promoting cost reduction and value transfer

Based on the characteristics of distribution, mutual trust and non-tamperability, blockchain can abandon the management and guarantee provided by the center or authority. In economic trade, it means reducing transaction and circulation costs and expanding the market scope; in the financial field, it means that blockchain can create new credit through a new way, allowing both parties to the transaction to carry out economic activities without the need for authoritative third-party credit intermediaries, thereby achieving low-cost global value transfer.

3. Disruptive substitution still has high costs and limitations

At present, the existing economic and trade organization forms have not encountered serious crises, and the subversive adoption of blockchain technology lacks persuasiveness and endogenous motivation. At the same time, with the continuous improvement and upgrading of the managed and centralized economic and financial system itself, the opportunity cost of abandoning the existing system mechanism and adopting blockchain technology will also increase day by day.

At the same time, blockchain has not yet truly achieved its theoretical characteristics and still has certain limitations. In the early stages of blockchain technology application, it was mostly implemented at the private chain and alliance chain levels, and higher-level institutions or systems could control the entire blockchain. Its decentralized and tamper-proof characteristics were limited; relying on the system's encryption sharing technology, blockchain cannot yet achieve absolute security; the credit created by blockchain technology still requires technical recognition and endorsement from authoritative institutions or platforms for the public.

3. Challenges faced by the domestic banking industry in introducing blockchain

Based on the analysis of existing blockchain technology and the actual development of my country's banking industry, the introduction of blockchain technology requires detailed demonstration and preparation in order to draw up a clear blockchain transformation and development roadmap.

1. Banks’ own data governance mechanisms and capabilities

Blockchain technology is a disruptive application of data. The premise for banks to use blockchain is to do a good job of data management and to explore and prepare for the transition to a distributed management model. The application of blockchain technology requires commercial banks to make good plans in terms of systems and mechanisms, especially to have centralized and manageable big data application capabilities, a sound data governance mechanism and unified and clear data standards, to achieve data connectivity, to use big data, to further reduce costs, improve efficiency, to break up data, to implement blockchain technology, and to ensure data security and effectiveness.

2. Physically centralized single ledger architecture

Foreign financial giants such as HSBC and Citigroup have grown through continuous mergers and acquisitions, and have basically adopted a decentralized ledger architecture. Unlike foreign banks, China's banking industry generally adopts a physically centralized single-ledger architecture. The introduction of blockchain technology requires the provision of necessary soil, and exploring and innovating the traditional single-ledger structure will bring high opportunity costs, which will become an important obstacle to the application of blockchain technology.

(III) Prudent operating attitude of the banking industry

Since blockchain technology is still to be improved and tested by time, and the financial sector has extremely high requirements for the stability and security of systems and technologies, the banking industry is also cautious when introducing new technical architecture applications. Blockchain technology also needs successful experience that has been tested in practice in other fields. At the same time, the current banking industry has sufficient and reliable credit support, and there is no urgent need to solve the credit shortage problem through blockchain. However, in areas with high information barriers such as medical fraud and fiscal and taxation, blockchain technology is needed to provide support for relevant parties.

(IV) External factors such as regulatory attitude

Since their emergence, blockchain and Bitcoin have received the focus of attention from financial regulators in various countries. Although some officials have a positive attitude, most of them are cautious, and there have been incidents of Bitcoin being used for money laundering. At present, financial regulators are generally cautious about the development and promotion of blockchain, paying close attention and strict approval, which to a certain extent restricts the application of blockchain technology in the financial field.

4. Opportunities faced by the domestic banking industry in introducing blockchain

Although the application of blockchain technology still faces certain challenges and limitations, its positive significance and future development potential are still worthy of attention and research from financial institutions. Domestic banks should actively seize the opportunity and try to achieve breakthroughs in some businesses.

1. Controlled Distributed Accounting

Blockchain decentralization emphasizes the wisdom and decision-making of the shared group. Theoretically, the application of blockchain in the financial field requires the government and banks to relax their control over financial business and distribute the management rights of accounting and transactions to various social and economic entities such as enterprises, government agencies, and individuals. In view of the government's comprehensive consideration of financial security, social stability, and combating crime, it must have a certain degree of control over finance and currency. Therefore, it is recommended that a controlled authorized distributed accounting system can be considered at a certain level at this stage.

Under this controlled distributed accounting system, the central bank has the highest authority to query, modify, and determine the legality of each block's ledger, and has the right to determine the access qualifications and operating permissions of participating institutions. The accounting rights and bookkeeping rights of the distributed clearing system and monetary payments are only open to authorized financial institutions.

2. Blockchain application of bookkeeping rights

To ensure that blockchain ledgers cannot be tampered with, distributed accounting needs to be implemented, that is, multiple accounting nodes keep a copy of the ledger, which means that a single institution has changed from keeping one account to multiple institutions keeping multiple accounts. Compared with the number of participants and transaction frequency of Bitcoin, the magnitude of financial transaction data and transaction frequency is much larger. Distributed accounting will first lead to an exponential increase in storage and transaction processing costs for central banks and large institutions, while small and medium-sized institutions will not be able to bear the load of accounting tasks.

In the actual application of blockchain, the centralized storage method of existing ledgers can remain unchanged, and the accounting authority can be used as blockchain content and distributed among authorized institutions for storage. This will avoid the problem of excessive storage and transaction data while ensuring the security of the ledgers.

(III) Application exploration in non-capital transaction fields

1. Collateral management: Use blockchain technology to manage the bank's collateral. The ownership and transaction records of the collateral are distributed and recorded in various institutions, which can solve the cost and efficiency problems in the existing collateral management and ownership conversion process.

2. Points platform: At present, the points platforms of various banks have restrictions on the purchase and management of redemption items, which requires a lot of procurement and maintenance work. After the establishment of the Points Blockchain Alliance, all institutions will uniformly adopt the same mutually trusted points system and provide their own or integrated redemption resources, thereby improving the convenience of using points, expanding the scope of use, and increasing the market value of points.

3. Credit system: Currently, credit reporting agencies collect transaction records and identity information of individuals and enterprises to evaluate their credit ratings. However, when a blockchain-based credit system is built between various credit rating agencies, there will be no need for a dedicated credit reporting agency to collect and store credit information. The new credit reporting system has the advantages of being open, fair, and unalterable.

Conclusion

We can foresee that blockchain technology will release more wisdom, bring about an explosion of innovative potential, and revolutionize the future financial industry landscape. From the evolution of papyrus in ancient Egypt to today's digitalization, the development of human civilization has been accelerating. It is our fortune to live in the Internet era where innovation is flourishing. As a banker, we can glimpse the beam of light that will change the future. Starting from reshaping ourselves, we look forward to the industry landscape and hope that it will illuminate the future.