Topic: [2015-12-04] How this blockchain reaction could lead to fairer transactions (Read 247 times)

How this blockchain reaction could lead to fairer transactions


Goldman Sachs is betting on blockchain. This week the US investment bank filed a patent application last year for “SETLcoin”, a virtual currency that it plans to use to offer “nearly instantaneous execution and settlement”.

Goldman is one of many financial groups seeking to exploit the technology that is best known for powering bitcoin, the controversial cryptocurrency. Bank of America filed a patent about the same time for a money transfer system that uses similar technology. Nasdaq recently launched Linq, a blockchain-powered system to help private companies keep track of their share ownership.

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At base, blockchains are digital ledgers. But rather than having one record keeper, the information sits in a shared database that all participants have access to. It works a bit like a Lego set. Each transaction is bolted on to the next one and all the data are passed around. The system is meant to be impossible to edit or forge. That means one could theoretically follow a particular piece of currency or share of stock as it travels from account to account. Enthusiasts say the system could also be used to set up future transactions that automatically trigger — if stock index A hits level B, that triggers derivative contract C requiring D to pay E.

In theory, eliminating the central record keeper could speed transactions and cut costs. It might also eliminate much of the need for clearinghouses, which protect against the risks of a counterparty collapse.

A blockchain system might also help level the financial playing field. If all participants can see prior transactions and what others have paid, hedge funds would struggle to get an edge on ordinary traders. Banks would also have a harder time charging different prices to different customers, potentially squeezing profits. Increased transparency would also make it harder to rig prices or trade ahead of large orders.

But there are significant hurdles. Decentralised record keeping could make the data easier to store, but the sheer volume of information could bog the system down. Many experts believe blockchain will never work fast enough to satisfy high-frequency equity traders. Security is also a big issue. Some blockchains are open to all comers. Like Wikipedia, they rely on consensus and collective memory to weed out fakes and errors. With bitcoin, this has led to large numbers of fraudulent transactions.

Most banks prefer a closed system where only approved participants have permission to add transactions to the blockchain. But for this to work, banks have to work with their competitors to develop a common system. So far they seem to acknowledge this is an issue — more than 30 global banks including Goldman and BofA, have joined a blockchain development project known as R3 CEV. Banks have another reason to work together. A closed blockchain system would partly preserve their information advantage and might also help deter challengers.

If it works (a big if), society could benefit along with the banks’ bottom lines. The information chains should make it easier to prevent terrorism financing and money-laundering, as well as freeing up precious bank capital. They should also speed the recovery of proceeds of crime.

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