By: Hickman Beckner
You have probably heard about blockchain, Bitcoin, and cryptocurrencies, and wondered what is this all about. We will try to explain blockchain and how it will impact lending, payments, and collateral.
First, what is “blockchain?” It has been used and misused to explain a variety of activities. The Blockchain is a public ledger where transactions are recorded and confirmed anonymously. It’s a record of events that is shared between many parties. Once information is entered and confirmed, it cannot be altered. So, if the blockchain is the public record, what is being recorded? What are all of these “transactions”? The transactions may be payments on a loan. It may also be a disbursement of funds from a loan or line of credit to a borrower to a third party such as the car dealer who originated the loan. These transactions are assembled into “blocks.” The blocks are loaded into the public record and become the “chain” of events to arrive at a balance. Each block is encrypted and contains control amounts to ensure that blocks cannot be altered.
The transactions may record the collateral for a loan such as negotiable securities or car titles. A security may be recorded as pledged for a loan in the blockchain public record and all other lenders would know the lien position they have on the collateral. A car title may also be tracked in a blockchain. The lien holder can be recorded and removed when the loan is paid off with no delays. Loans can be syndicated using blockchain technology to circulate the loan documents, notify syndicate members of events, distribute payments and allow trading of the loans.
The blockchain technology can lower the cost of a transaction. The settlement of payment instruments such as checks and ACH items is eliminated. Once a transaction is recorded and confirmed, the transaction is settled and the funds are available. The clearinghouse function that is performed by the Federal Reserve or NACHA will be replaced by the blockchain process. Settlement costs represent a large part of the overhead of a financial institution. Funds exchanged through a blockchain process can be made immediately available and there are no refused items such as a returned check or a declined credit card advance. Float and delay is eliminated from the process.
What will be the impact on our financial institutions? Since the blockchain can be operated outside of our traditional financial and governmental institutions we have seen the rise of Bitcoin and other cyptocurrencies. These currencies are not issued or controlled by a government. The cryptocurrencies do not need financial institutions in order to exchange or transmit funds. This presents compliance issues when regulated institutions are required to “know your customer.” Since transactions are anonymous and cannot be traced, the anti-money laundering statutes and rules become harder to enforce. Traditional cash may be exchanged for a cryptocurrency and exchanged through a series of accounts to hide the source of the funds.
Cryptocurrencies also present a problem for governments to control their economies. Fiscal and monetary policies become harder to enforce since the new currencies are outside the traditional government institutions. The electronic movement of funds in a blockchain environment can bypass government institutions and their controls.
So when will we see the deployment of blockchain? Today, over 150 financial institutions have active blockchain projects. The projects range from settlement of securities trades, loan syndication, securitization, collateral monitoring and movement of funds. The technology has been endorsed by the major technology suppliers. Groups have been formed to create and enforce standards for blockchain systems.
Shaw Systems has been watching this new technology. We are excited for the opportunities that will benefit our customers and how our solutions will be used. When the regulatory issues are addressed, blockchain technology will bring new efficiencies to financial services and create better services for our clients.