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Since 2015, there has been a wave of research and investment in blockchain technology in the financial technology field. This basic technology that supports digital currencies such as Bitcoin is profoundly changing the current financial industry and business model by reconstructing the credit formation mechanism, and may become the direction of future financial industry upgrades.
Characteristics of blockchain technology
1. What is blockchain? In layman's terms, blockchain is a public distributed ledger system. Taking the Bitcoin blockchain as an example, every trader is a node in the blockchain network, and each node has a complete public ledger backup, which records all transaction information since the birth of Bitcoin. Any node that initiates a transaction needs to pass the relevant information to every node in the blockchain network, so that the ledgers on all nodes can verify the transaction and update it accurately. In addition, the ledger is stored in partitioned blocks. As transactions increase, new data blocks will be attached to the existing chain to form a chain structure. By extension, blockchain can verify, transfer and record any fact that can be converted into data through a consistent mathematical algorithm.
(II) Main features. First, decentralization. Due to the use of distributed accounting and storage, there is no centralized hardware or management agency. The rights and obligations of any node are equal, and the data blocks in the system are jointly maintained by all nodes with maintenance functions in the entire system. Second, openness. The system is open. In addition to the private information of the transaction parties being encrypted, the data of the blockchain is open to everyone. Anyone can query the blockchain data and develop related applications through the public interface, so the information of the entire system is highly transparent. Third, autonomy. The blockchain uses consensus-based specifications and protocols (such as a set of open and transparent mathematical algorithms) to enable all nodes in the entire system to automatically and securely exchange data in a trustless environment without any human intervention. Fourth, information cannot be tampered with. Once the information is verified and added to the blockchain, it will be stored permanently. Unless more than 51% of the nodes in the entire system can be controlled at the same time, the modification of the database on a single node is invalid. Therefore, the data reliability of the blockchain is very high. Fifth, anonymity. Since there is no need for mutual trust between nodes to exchange data (the blockchain will determine whether the economic activity is valid on its own), there is no need for counterparties to disclose their identities, and each participating node in the system is anonymous.
(III) Significance. At present, most Internet finance is essentially the electronic version of traditional finance, and the way of credit creation has not changed. Specifically, under the current business model and social organizational structure, value creation and exchange activities require a centralized system (such as government credit endorsement) and an institutional system (such as banks, payment institutions, etc.) to establish credit, otherwise strangers cannot gain trust and then trade. Blockchain technology has fundamentally changed this centralized way of credit creation. It uses a set of consensus-based mathematical algorithms to establish a "trust" network between machines, thereby creating credit through technical endorsement rather than centralized credit institutions. In other words, blockchain technology is a revolution in the creation of credit in human society. In theory, if the technical recognition ability is sufficient, it can enable both parties to the transaction to carry out economic activities without the help of a third-party credit intermediary, thereby realizing global low-cost value transfer. Supporters believe that it may reconstruct the production and organization of human society like the Internet. Of course, the technical recognition ability itself has a threshold, and for the general public, it still needs the technical recognition endorsement of a third-party institution or platform.
Current status of blockchain technology application in commercial banks
(I) The motivation for commercial banks to actively participate in the research and development of blockchain technology. Although blockchain has brought an impact on the traditional financial business of commercial banks, there are many old-fashioned banking giants that have taken the lead in developing and applying this technology. A typical example is R3 CEV. As of the end of November 2015, this enterprise founded by the financial technology company R3 has 30 multinational banking groups participating, including Bank of America, Barclays Bank, Citibank, HSBC and Goldman Sachs. It is mainly committed to the development and application of blockchain in the financial field and the formulation of industry standards and protocols. What these financial giants are really interested in is how blockchain technology can improve operating efficiency and reduce costs. Blockchain has the ability to create large, low-cost networks, which can simplify and automate a large number of manual financial service processes, greatly shorten transaction time and reduce transaction costs. Secondly, under the new business model, banks need to find ways to create profits. For example, since blockchain can realize small payments at a low cost, banks can develop financial products and open up markets for a large number of people who cannot obtain bank accounts but have access to the Internet.
In addition, facing fierce market competition, commercial banks dare not take it lightly. Competitive pressure comes from peers on the one hand, and from the rapid development of Internet financial business of financial technology companies on the other. With the facilitation of transactions, the income of each transaction may decline in the future. Commercial banks can only maintain profits by seizing the initiative and striving for a larger business share. As for the latter, existing commercial banks have two advantages in developing blockchain. One is the advantage of regulatory costs, that is, compared with start-ups with tight funds, commercial banks can better digest the huge costs of dealing with regulatory authorities and obtaining and maintaining relevant licenses. The second is the advantage of consumer trust, that is, for most consumers who do not understand blockchain technology, the long-term accumulated reputation of established commercial banks can reduce their concerns about using these financial innovation products.
It can be seen that the main reason why commercial banks embrace blockchain technology is to improve the current centralized banking system, making it a tool for transforming the bank's back-end and optimizing the infrastructure, thereby enhancing their own competitiveness and providing impetus for the modernization of the financial services system.
(II) The application of blockchain in large international commercial banks. At present, the most extensive and successful application of blockchain technology is digital currency represented by Bitcoin. In theory, the open source system around blockchain can create a very rich range of services and financial products. Melanie Swan pointed out in her new book "Blockchain - Blueprint for the New Economy" that if blockchain 1.0 refers to currency, that is, encrypted digital currency related to cash in applications, such as currency, transfers, remittances and digital payment systems, then blockchain 2.0 refers to contracts, such as stocks, bonds, futures, loans, smart assets and smart contracts, and other more extensive non-monetary applications; in the future, it may evolve to the 3.0 stage, that is, it will be applied in government, health, science, culture and art.
Since 2014, the discussion on blockchain has gradually transitioned from 1.0 to 2.0. At present, the main application areas of commercial banks based on blockchain are: first, point-to-point transactions. Such as cross-border payments and remittances based on p2p, trade settlements, and the purchase and sale of securities, futures, and financial derivatives contracts; second, registration. Blockchain has the characteristics of trustworthiness and traceability, so it can be used as a reliable database to record various information, such as storing anti-money laundering customer identity information and transaction records; third, right confirmation. Such as the authenticity verification and transfer of contracts or properties such as land ownership and equity; fourth, intelligent management. That is, using "smart contracts" to automatically detect whether various environments are available for effectiveness. Once the pre-set procedures are met, the contract will be automatically processed, such as automatic interest payment and dividends.
(III) Investment and R&D of international commercial banks. In addition to the R3 CEV mentioned above, many large international banks have also carried out a series of explorations in the field of blockchain in various forms. In summary, there are three ways: First, commercial banks set up internal blockchain laboratories. For example, Citibank, UBS, Bank of New York Mellon, etc. have successively established R&D laboratories, focusing on testing the application of blockchain in payment, digital currency and settlement models, and some have even expanded to testing in their employees' internal systems. Second, investing in financial technology startups. Since 2015, many large multinational financial groups have entered the blockchain field in the form of venture capital. For example, Goldman Sachs teamed up with other investment companies to inject 50 million US dollars into the Bitcoin company Circle, and the Spanish Banco Bilbao participated in Coinbase's C round of financing through its subsidiaries in the form of equity venture capital. The third is to cooperate with startups. For example, Barclays Bank cooperates with blockchain startups in technology incubation and accelerator projects, and the Commonwealth Bank of Australia and the open source software Ripple have teamed up to create a blockchain system for mutual payment and transfer between its subsidiaries.
Challenges
Judging from the progress of practice, most of the applications of blockchain technology in commercial banks are still in the stage of conception and testing, and there is still a long way to go before it can be used in life and production. There are also many difficulties in gaining recognition from regulators and the market.
(I) Development is constrained by the current system. On the one hand, the decentralized and autonomous characteristics of blockchain have weakened the concepts of state and regulation, bringing a profound impact on the current system. For example, digital currencies represented by Bitcoin not only pose a challenge to the country's currency issuance rights, but also affect the transmission mechanism and effect of monetary policy, weaken the central bank's ability to regulate the economy, and cause monetary authorities to be cautious about the development of digital currency. On the other hand, regulatory authorities also lack sufficient understanding and expectations of this new technology, and the establishment of laws and systems may be very lagging, resulting in the lack of necessary institutional norms and legal protection for economic activities related to the use of blockchain, which invisibly increases the risks of market entities.
(ii) The cost of integrating the technology into the existing banking system is high. For any financial innovation, banks must ensure that it can create economic benefits, comply with regulatory requirements, and connect with traditional banking infrastructure. In particular, when deploying a basic system, the time cost, manpower and material resources consumed are very high, and the resistance encountered within the bank is not small.
(III) On the technical level, blockchain still needs to solve many problems. For example, network security issues. Since the development of digital currency, security incidents such as loss and theft have occurred from time to time, which not only exposes the drawbacks of its safe use, but also undermines the confidence of market players in further holding and using it. Another example is the block capacity issue, that is, in some applications, blockchain cannot support the use of millions of users. In addition, the lack of widely used programs, high technical barriers and considerable professional knowledge may reduce the market players' cognition and acceptance of blockchain applications.
Implications and countermeasures for my country's banking industry
my country's current economic and social credit environment is still relatively weak, and the credit cost is high. Blockchain technology proposes a set of low-cost "trust" solutions to reduce the credit cost of the whole society, which is of great significance to promoting the development of my country's credit economy. Although this technological innovation in the field of Internet finance is still immature, many large banks in the world have already invested resources in research and development, which should attract the attention of my country's banking industry and regulatory authorities.
(I) Commercial banks should do a good job in technology and talent reserve and actively participate in the formulation of international standards. In order to prevent digital currency risks, my country's commercial banks are currently unable to trade digital currencies, and the research on the technological innovation behind digital currencies is relatively lagging behind, which is slightly asymmetric with the enthusiasm of the Chinese people for blockchain research and development. Nowadays, the development of blockchain technology and emerging disintermediation models such as P2P is gradually moving from concept to application under the joint innovation of large global financial institutions. my country's major banks should also pay close attention to the latest innovation trends of international peers, join the ranks of researching and developing blockchain products as soon as possible, and adjust development strategies in a timely manner to adapt to the business operation model of Internet finance under the new situation. First, they can set up R&D laboratories or cooperate with financial technology companies. In addition to developing different blockchain application scenarios, they can also combine national conditions with inclusive finance, such as studying how to use blockchain technology to achieve low-cost fund transfer payments in economically underdeveloped areas and improve financial services in these areas. Second, they should actively participate in the formulation of international standard agreements, strive for the right to speak, and avoid being a passive follower.
(II) Regulatory agencies should also continue to pay attention to the development of the latest Internet technologies and be prepared to respond. First, the "decentralization" brought by blockchain technology does not mean that centralized organizations are not needed in economic operations. Blockchain technology hopes to break privileges and human manipulation and allow computer algorithms to achieve "credit freedom notarization." However, from a practical point of view, theoretical deductions cannot be fully mapped to real life. For example, due to the lack of supervision, the speculation and money laundering risks faced by digital currency transactions such as Bitcoin are very high. Therefore, if blockchain technology wants to become a new channel for capital circulation, it needs supervision and implementation of standards to protect the interests of all parties in the market. In this regard, regulatory authorities should formulate relevant standards and specifications, especially operational specifications, and use power to ensure that financial innovation products are used reasonably; at the same time, they should also improve the protection of consumer rights, strengthen education on the protection of financial consumer rights, and enhance consumers' risk prevention awareness. In short, even in a "decentralized" business system, centralized departments are needed to provide norms and guarantee support.
Second, regulators should be prepared to deal with possible changes in regulatory methods. At present, new technologies have a profound impact on the monetary systems of various countries, and the traditional policy frameworks and means of regulating the economy and finance are increasingly unable to keep up with the changes in the situation. Regulators should keep pace with the times and make full use of the convenience of financial technology to improve regulatory methods and perfect regulatory means. For example, in the future, if securities lending, repurchases, and margin trading can all be traded through transparent and open blockchains, then regulators can consider using the information in this public ledger to monitor systemic risks in the market, which is not only efficient but also reliable.
Third, regulators can proactively embrace new technologies in Internet finance. Central banks can have two responses to the financial landscape that is being changed by technology: monitor and respond to progress or take the initiative. Kara Stein, a member of the US Securities and Exchange Commission, believes that regulators need to be in a leading position, taking advantage of the advantages of blockchain technology and responding quickly to its potential weaknesses. The Bank of England's research further stated that central banks could consider issuing blockchain-based digital currencies in the future, which, if done properly, could increase financial stability.
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