08 Feb5 things learned about FinTech and Blockchain last week

Hype. There is plenty of it around Blockchain. Nothing I do, or say, will make it go away, but perhaps I can help drive a realistic perspective on. These five lessons are the result of some conversations in London last week and some research. I hope they help others’ understanding of the shifting sands.

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#1. It’s not just about Blockchain. Existing rails offer opportunity

The folks at Earthport are making a big difference in the payments world. Their offering operates within the confines of existing payments infrastructure.  It is an alternative to the traditional correspondent banking services offered by the major banks. Earthport’s services are cheaper, simpler to use and, in some cases, faster.

This ability to squeeze more out of the existing infrastructure is something which has attracted the attention of the world’s central bankers.

Widespread availability of digital currency would make this service even better. In the meantime, it is worth paying attention to now.

#2. The Blockchain is already tangible

I was lucky enough to see a working demonstration of a Blockchain platform last week. This working model had multiple chains operating in parallel and was able to process volumes equivalent to a day’s worth of volume in CHAPS, the UK payment system.

This is a great start. Progress will need a lot of consensus. On standards and on how to bridge between fiat currencies and the digital world of Blockchain.

#3. Experimenting with digital currency is possible without Central Banks

IBM and Finextra have just published a super paper on things Blockchain: “Banking on Blockchain: Charting the Progress of Distributed Ledger Technology in Financial Services”. This is well worth a thorough read. Amongst many useful contributions, it cites the example of an Estonian bank, LHV, which is creating digital currency balances based on secured receivables.

This looks like it has some similarities with the way balances are moved from fiat currency to digital on the M-Pesa platform in Kenya. The amounts put onto the M-Pesa platform are put into segregated accounts, so they cannot be used in two places at once.  In the Kenyan model, the money is controlled by the mobile operators. If they go broke, the monies are lost.

Still, even if the Estonian practice is not as safe as using central bank money, it offers a clear route to support experimenting. A large transaction bank could create “Transaction Bank Dollars” and put the equivalent in fiat currency in a segregated account. This process would be very similar to what is done for “client money” today.

#4. Existing utilities could do more

An old friend who works for one of the major utilities in financial services called me last week to talk about the Blockchain and SSI’s. Standard Settlement Instructions. These things are one of the bugbears of our industry. See previous post.

“Wouldn’t it be great if we could use the Blockchain technology to provide a central bible of all SSI’s which people could update themselves? Then we could distribute that to everybody. One version of the truth”.

Only the Blockchain aspect of this is new. Actually, trying to have a golden source is a hunt for the holy grail in many areas in banks: SSI’s, instrument data, corporate actions.

My answer was a simple one: ”Yes and No”. Blockchain technology brings something new and very useful to the table. It will enable a distributed community to create a shared version of “immutable data”.

So, yes, we could use Blockchain to create an SSI phonebook with every participant maintaining their own data in real-time, or close to. But, no, we do not want to distribute that data. My own view, is that for any financial services instruction I do not want to have to care about the recipients’ instructions:

All that is needed is that the instruction process can draw on this immutable process. The operator of the “SSI phonebook” has to be trusted. This offers a more private way of maintaining instructions. Only the recipient knows them and they are only used when an instruction is sent.

Today

The future

Treasury Payment I want to make a payment to BIC CRESCHZZ80A favour of BIC NOMAGB2L for USD 100’000 on value date Feb 8 I want to make a payment to LEI ABC12345 for USD 100’000 on value date Feb 8
Commercial Payment I want to make a payment to BIC CRESCHZZ80A favour of BIC NOMAGB2L for a/c BMW Switzerland 600592-21, for USD 100’000 on value date Feb 8 I want to make a payment to LEI ABC98765 for USD 100’000 on value date Feb 8
Securities I want to settle 1mm of ISIN CH0038863350 with BIC CRESCHZZ80A favour of BIC NOMAGB2L, for CHF 73,000, 000, trade date Feb 3, value date Feb 8 I want to settle 1mm of ISIN CH0038863350 with LEI ABC12345, for CHF 73,000, 000, trade date Feb 3, value date Feb 8

My old friend from the utility was duty bound to think about all the various needs of the last 1% of 1% of the his community. “What about if somebody wants principal in account A and interest in account B?” My response was simple. Firstly, the recipient should do his own cash management and not impose on everybody else. Secondly, some degree of this could be accommodated by having payment types: commercial, treasury, principal, interest. Then recipients could set up SSI’s themselves. Thirdly, that need represents some small fractional percentage of the needs. Forget about them, for now. Solve for the masses, help the masses.

#5. Today’s problems are not the Blockchain

Liquidity costs. For banks, these are like house contents insurance. Liquidity buffers have to be kept in order to ensure that banks can meet their operating obligations.

The regulators are imposing new obligations and new calculations. LCR, NSFR and BCBS 248 on Intraday Liquidity Monitoring. The net result is that liquidity costs are going up and these costs are now being directly allocated down into the businesses. In some cases, this is right down to the trading book.

The numbers are really huge. Big enough to cause trading businesses to want to look closely at how cash is moved and when. As ever, inter-company movements are one of the drivers of cost and operational effort. So too are gross versus net payments and the timing of actual payments. The banks have already started working on implementing control tools and know there is some potential to optimise their operations.

But, there are limits to what they can achieve on their own. Today, if they buy 1mm TRL from Banks A, B & C vs. USD and sell 3mm TRL to Client Q vs. USD, they will have to make gross payments and will be pretty much dependent on their correspondent offering an intra-day overdraft limit. Any one bank can only be as efficient as the market infrastructure.

Lessons Learned:  

There is a creative tension here. Industry wide change will take time and money. Banks are not good at long-term planning; they focus their energies on the must-do and the short-term.

To attract focus and investment spending, there needs to be a strong business case. That will be made up of savings, which might be outright costs or regulatory capital, or new revenues.

In the meantime, there is still potential with existing infrastructure, as the folks at Earthport are showing. Banks need to and can optimise, as the liquidity example shows.

Progress could be accelerated if our utilities were more aggressive in pushing new solutions. They need to show the courage of their convictions and to avoid trying to have a day 1 product that is all things to all men.

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