I must say, I tend to agree with Andy Haldane on the wisdom of crowds. These are crowds which, in the UK at least, are wrong about almost everything*. There is no hope, to be honest, unless the robots take over pretty sharpish. But that’s by the by. Andy is once again on the money (literally – he’s the Executive Director, Monetary Analysis & Statistics at the Bank of England) commenting on the public’s opinion on matters of high finance:
“The public should not have a direct say in setting interest rates because they can show ‘madness’ when making collective decisions – just look at Boaty McBoatface, the Bank of England’s chief economist has warned.”
Now, as a general rule, I don’t think that the general public should have a direct say in anything at all, including who should run the country. More evidence for the triumph of shameless populism over the reasoned arguments of actual experts came at the recent CityChain17 event in London.
“it was Gideon Greenspan CEO CoinSciences and brains behind MultiChain that for me stole the show, although Dave Birch at Consult Hyperion was the audience’s favourite “
As I said, it is important not to listen to the wisdom of crowds. Had I paid to go to the event, it would have been to listen to Gideon, not me. His excellent presentation on the difference between a blockchain and database and the niches that the former ought to fill stole the show for me, and illustrated clearly why Multichain is growing in the corporate market.
The point of my presentation, on the other hand, wasn’t to discuss which particular shared ledger architecture was best or which particular kind of blockchain implementation of a shared ledger architecture might be most appropriate in different circumstances, but to draw on Consult Hyperion’s practical experiences advising clients in the financial sector to ask where the biggest impact of shared ledger technologies might be.
I used the example of supply chain applications in my talk because it was something that I happened to write about a few days ago and made the point that shared ledger technologies make more sense as a regtech rather than as a fintech, Since these technologies are about sharing information between companies, and between companies and regulators, then it seems to me that they will be more effective at reducing the aggregate costs of a market than the private costs of individual stakeholders.
How, though, can we create a new kind of market where competitors can share sensitive information yet keep it confidential? The idea of translucent transactions is key to all of this. Companies trading with each other may not want the details of those trades to be public, but the public may want to know that those trades are legal. Hence we need to find a way to audit information that remains hidden from us. This is an idea that I first heard expressed a couple of decades ago by one of the cypherpunk founding fathers, Eric Hughes.
I had the pleasant experience of having dinner with Nicholas Negroponte, John Barlow and Eric Hughes, author of the cypherpunk manifesto, at a seminar in Palm Springs. This was in, I think, 1995. I can remember Eric talking about ‘encrypted open books’, a topic that now seems fantastically prescient.
And here’s the off-chain proof…
Eric’s ideas date back to 1993. A decade on, Nick Szabo was inspired by these ideas to write about confidential auditing, which in turn inspired my colleagues and I to explore ideas of ambient accountability a decade later. Now in the 1990s and 2000s, techniques such as homomorphic encryption and zero-knowledge proofs may have seemed for the lab only, but shared ledgers need these technologies and can exploit them to create new ways to solve old problems. And the business case is there too. For all the talk of the blockchain being instant and free (it isn’t), the ability to send money across the internet as quickly and as cheaply as, say, M-PESA doesn’t create anything like the cost-benefit disruption as the ability to reduce compliance costs does.
RegTech has been supplying some of the best use cases in banking. From the early customer engagement stages like KYC and Identity to compliance management, risk and reporting, the potential to reduce costs and create new customer engagement opportunities is tremendous for RegTech. Banks are also actively looking for solutions to better interfaces with regulators.
This idea makes sense to me much more than using a blockchain for (for example) payments. The idea of shared ledger that allows the FCA to continually monitor a bank’s books to see that it is solvent without being able to see the private information of creditors or debtors is very, very appealing. And it doesn’t shoehorn this fascinating new technology into emulating existing structures but allows us instead to create new and more efficient markets.
By the way, the blockchain as a regtech is something that will be explored at Consult Hyperion’s 20th (yes, twentieth) annual Tomorrow’s Transactions Forum in London next week where my colleague Steve Pannifer and our good friend Vasily Suvorov from Luxoft will be presenting a white paper on the use of shared ledger technology to cut KYC costs and reduce the risks of fraud. And that’s not all. Thanks to the generous support of our Platinum sponsors Vocalink and Worldpay, our Gold sponsor Paysafe and our Silver sponsor CMS (and with the help of our superb communication partner ccgroup) we will be continuing our tradition of information discussion, expert comment and honest debate with a variety of leading-edge perspectives on topics ranging from W3C web payments and KYC in developing markets to zero-knowledge proofs and PSD2. And, thanks to those sponsors once again, the closing keynote on the first day will be Professor Lisa Servon from the University of Pennsylvania, a leading thinker on financial inclusion and the author of “The Unbanking of America”. There are also speakers and panelists from Lloyds, Visa, IBM, Discover, Onfido, Omidyar Network, SecureKey, QED-it, the Cabinet Office, HSBC, Sovrin, MasterCard, Masabi, Transport for the North, the Dutch Payment Association, Zopa and Yandex.
You’d be mad to miss it, so head on over here and grab yourself one of the few remaining delegate places. See you first thing next Wednesday, 26th April for another great Forum.
Estonia. Land of saunas, shepherds and song festivals. I keep hearing about Estonia all of a sudden and not for any of these reasons but because of the blockchain. At meetings and conferences, I keep hearing people talking about the Estonian national identity scheme that uses a blockchain. Only this week, for example, in the Harvard Business Review, I read that…
“since 2007 Estonia has been operating a universal national digital identity scheme using blockchain.”
I think this is a misinterpretation of the technical infrastructure of our neighbour to the north. The Estonian national digital identity scheme launched in 2002. Way back in 2007, my colleague Margaret Ford interviewed Mart Parve from the Estonian “Look@World” Foundation in Consult Hyperion’s long standing “Tomorrow’s Transactions” podcast series (available here). Mart was responsible for using the smart ID service (both online and offline) to help Estonia develop its e-society. If you listen carefully to them talking, you will notice that they never mention the blockchain, which is unsurprising since Satoshi’s Nakamoto’s paper on the subject was not published until October 2008. This only the most recent example of what I see to be a virulent strain of blockchainitis though.
Another Estonian outbreak of the same disease occurred just before Christmas when I was invited along to a blockchain breakfast (seriously) at the Mother of Parliaments.
After a while, the discussion moved on to the Estonian electronic identity system. I expressed some scepticism as to whether the Estonian electronic identity system was on a blockchain. The conversation continued. Then to my shame I lost it and began babbling “it’s not a blockchain” until the chairman, in an appropriate and gentlemanly manner, told me to shut up
As it happens, a few days ago I had breakfast with the new CIO of Estonia, Siim Sikkut. What a nice guy!
I asked him where this “Estonian blockchain ID” myth came from, since I find it absolutely baffling that this urban legend has obtained such traction. He said that it might be something to do with people misunderstanding the use of hashes to protect the integrity of data in the Estonian system. Aha! Then I remembered something… More than decade ago I edited the book “Digital Identity Management” and Taarvi Martens (one of the architects of the Estonian scheme) was kind enough submit a case study for it. Here is an extract from that very case study:
Long-time validity of these [digitally-signed] documents is secured by logging of issued validity confirmations by the Validation Authority. This log is cryptographically secured by one-way hash-function and newspaper-publication to prevent back-dating and carefully backed up to preserve digital history of mankind.
Mystery solved! It looks as if the mention of the record of document hashes has triggered an inappropriate correlation amongst less technical observers and as Siim observed, it may indeed be the origin of the fake news about Estonia’s non-existent digital identity blockchain.
So there we have it as far as I can see. If there are any other crypto-sleuths out there with alternative theories, I’d love to hear from them.
Well, that was the fun. The nice people at the Meaning Conference gave me 13 minutes to try to explain what a blockchain technology is, what blockchains might do, and what the implications might be, to an audience of largely creative people. Quite a challenge.
Since they were creative types, I thought I ought to frame my explanations with poetry rather than mathematics. I decided to start with the Ur-statement of ordered immutability, the Rubiyaat of Omar Khayyam (1048-1131):
“The Moving Finger writes; and, having writ,
Moves on: nor all thy Piety nor Wit
Shall lure it back to cancel half a Line,
Nor all thy Tears wash out a Word of it.”
You can see a revised version of the slide deck here (we accidentally sent the wrong version on the day, but it really didn’t matter). It sets out the revised “4x4x4” model of shared ledgers, so that there is context for talking about the blockchain, and then quickly works through how there are different kinds of blockchains (and bitcoin is only one) and then gets to what I think will be the lasting impact: ambient accountability and new kinds of transaction environments where traditional auditing and policing are taken care of by the environment itself.
In order to explain my focus on ambient accountability, we went back to poetry, this time with T.S. Eliot and choruses from The Rock (1934).
“They constantly try to escape
From the darkness outside and within
By dreaming of systems so perfect that no one will need to be good.”
The point here is to frame shared ledgers as as much of a regtech as a fintech. The technology may well not cut the cost of financial transactions at all — as I constantly point out, when people tell me about bitcoin’s incredible ability to move money around the world instantly and for free, the blockchain isn’t instant and it isn’t free — but it has the potential to cut the cost of regulating financial transactions substantially. We can, I think, see ways to dissolve traditional notions of auditing and replace them with infrastructure that embodies auditing instead. If there’s no way that your view of the ledger and my view of the ledger can differ, then there’s no need to reconcile them.
You can watch the presentation here on YouTube (where it takes 19 minutes – I failed). They were kind to me with their feedback, although going back over the presentation I’m a little disappointed with it. I think I can do better to bring the new world of the shared ledger to the general audience. So I’d appreciate your feedback on two elements of the presentation. First, does the “real world ledger” model help with the discussion or is it an unnecessary complication and second do the example ledgers presented across those six layers make sense? I want to quickly show the different types of ledger in one slide, so I want a decent graphic comparing Bitcoin, Ethereum, R3, Hyperledger, DAH and so on. If someone has one I’d love to use it (fully credited, of course).
Now we all know what the bitcoin blockchain is, don’t we? It’s just one particular version of the general class of blockchains, which share the characteristics that data is stored in blocks and because of some cryptographic jiggery-pokery the blocks are chained together, so that you can’t go back and change the contents of a block without having to then change the contents of every subsequent block. And depending on the consensus protocol that is used, you can’t change the blocks without everyone else agreeing to let you do it. Thus it is, as my colleague Salome Parulava describes it, “mutable by consensus”.
Whereas auditing at present entails the confirmation of transactions and balances on a company’s accounting ledger at the end of the period, a transaction on the blockchain would provide a permanent and immutable record of the transaction almost immediately.
The reason that this kind of structure is called immutable, even though it is mutable by consensus, is that it is computationally infeasible to go back post-consensus and make a change. Even if you obtain consensus and co-ordinate more than half of the “hashing power” in the case of bitcoin, and could in theory go back to the very first block, change it to send the bitcoins in it to yourself, and then go forward rewriting all of the subsequent blocks, it would take years and years of massive computing power. Someone could, in theory, treat all of the bitcoin transactions from the last checkpoint up until now as the wrong side of a fork. (For all we know, secret mining pools are As my good friend Gideon Greenspan pointed out to me, just because you could see that corrupt agents were rewriting history in this way it doesn’t mean that you could stop them. But it’s not a realistic attack. We can live with the description “immutable” to mean “theoretically mutable but not mutable under any practical circumstances that we can envisage”.
If you had a different kind of blockchain, however, you could design it work in a different way. It could be mutable by consensus, or mutable by a dictator, and it could be mutable in a computationally feasible way. This is what some researchers in the US and Italy have put forward in a paper called “Redactable Blockchain, or Rewriting History in Bitcoin and Friends” (5th August 2016). Giuseppe Ateniese, Bernado Magri, Daniele Venturi and Ewerton Andrade say:
We put forward a new framework that makes it possible to re-write and/or compress the content of any number of blocks in decentralized services exploiting the blockchain technology. As we argue, there are several reasons to prefer an editable blockchain, spanning from the necessity to remove improper content and the possibility to support applications requiring re-writable storage, to “the right to be forgotten”.
We don’t need to go into the clever mathematics behind this. Just take forward the idea that you can use that clever mathematics to substitute for massive amounts of computing power that I mentioned above and can rewrite a block without having to go forward and rewrite all subsequent blocks. The well-known and well-respected outsourcing company Accenture has filed a patent on this idea with Professor Ateniese.
By allowing a central administrator to amend or delete information stored on a blockchain, the [outsorucing company, Accenture] says that its prototype will make the technology more attractive to the financial services industry.
This announcement was met with widespread derision on social media, and I can understand why. One of the key reasons for considering a blockchain to implement certain kinds of financial services is that the state of the blockchain, the shared world view, is locked down and the end of each block. If the shared world view can be changed, it wouldn’t be useful for these services any more. Now, I can see why some people might want an accounting system that works this way (see, for example, the case of Kingfisher Airlines in India) but I wouldn’t have thought that society wants accounting systems that work this way at all. Why would you want a ledger that can be edited either by some group or subgroup of the consensus forming stakeholders or by some central authority? I can think of a few reasons, but none of them make any sense.
The financial services industry needs to face the question of how to balance the appeal of pristine accounting with the demands of the real world, where some things simply need to be struck from the records.
Nothing ever needs to be “struck from the records”. If a bank makes a mistake — let’s say it accidentally opens a couple of million bogus accounts — then it can’t just go back and scrub the backup tapes and pretend it never happened. The way to correct a wrong debit is with a correct credit. The Financial Times quotes blockchain entrepreneur and serious player Blythe Masters, the former JPMorgan banker running Digital Asset Holdings, as saying of Accenture’s approach that “we think it is innovative and can strike the right balance between preserving blockchain’s key features and adapting it for real-world requirements within some permissioned systems.” But what are these real-world requirements within some permissioned systems that Ms. Masters is referring to?
I don’t think anyone would use the bitcoin blockchain consensus protocol that was designed for an open, permissionless blockchain (i.e., proof of work) for a closed, permissioned blockchain so you would never need to edit it this way. My reading of the paper, from a not-a-cryptographer perspective, is that it does not deliver against the real-world requirements for permissioned systems in financial markets. The use cases that are set out in the paper are the need to remove child pornography from a public blockchain, the “right to be forgotten” and the need to consolidate records financial transactions. My feeling is that none of these are real-world requirements.
As for the first use case, this is not something that our clients need consider since none of them are proposing to implement critical national financial infrastructure on a public blockchain with arbitrary content controlled by unaccountable consensus groups. If, for example, a stock exchange were to implement a blockchain settlement system, it would not be of such a type as to allow members of the general public to store child pornography on it (or at least it wouldn’t be if it had people such as Consult Hyperion designing it).
What’s more, if a stock exchange were implemented on an editable blockchain, it would be utterly chaotic since at the execution of any transaction, no-one could be certain about the state of the ledger (since it would be possible for some future intervention to change it). My granny dies and leaves me IBM shares. I sell you my IBM shares. I use the money to buy a car. Then a decade later a court order overturns my granny’s will as it turns out she had a son that we’d never heard of. So we go back and change the blockchain so that the IBM shares belong to him instead of me. So now I didn’t have the money to buy the car. So I have to give the car back. But the car was scrapped… and so on. Interstellar overdrive… then I go back five years later because it turns out he wasn’t her son at all and now I want the blockchain changed to give me my IBM shares…
Richard Lumb, global head of financial services at Accenture, told the Financial Times that financial institutions and regulators would need a means to quickly correct errors on the blockchain before using it in securities markets. He gave the example of a “fat finger” trading error, or a trade assigned to the wrong counterparty.
That’s not how you correct errors, by just rubbing out mistakes. These are regulated financial institutions, not the mafia. No-one is going to build a financial services market on top of a mutable blockchain. In one of the comments I saw about this proposal, someone said that it would be OK because the market participants would keep an audit log of the changes and who agreed them. I thought that perhaps such an important log might need to be stored on an immutable ledger. Uh oh, blockchain Inception.
As for the next use case, I am not a lawyer, but I think that the paper misinterprets the so-called “right to be forgotten”. However misguided the European Court’s decision on this might be, it does not demand the rewriting of history. If you publish an article about me that I think contains “old, inaccurate or even just irrelevant data“, and I manage to persuade Google that it should be harder to find, then the article is not deleted. The link to the article is removed from Google search results but the article is still there. Here, for example, is the Daily Telegraph’s full list of stories that have been removed from search results.
Newspapers are not required to go back and tear out articles from their archives, they are exempt (but in Europe, Google opted not to be regulated as media company so is not exempt). And I’m sure none of us what would to live in a world where politicians could obtain court orders to go back a change the historical record! When it comes to the serious use cases (e.g., revenge porn) it is already impossible to purge the matrix and it won’t make any difference whether they are stored on a blockchain or not (although with a permissioned blockchain you would at least know who had put them there and therefore who to arrest).
The third use case, the consolidation of financial records is not clear to me at all. Since the invention of double-entry bookkeeping, the whole point of keeping a ledger has been that you have a record of all of the credits and debits that contribute to the current world view. Companies do not delete old transactions every few months to save space. In fact the law requires them to maintain the transaction records for years. Here’s one example: in the UK, the “direct debit guarantee” has no time limit at all, so all records relating to direct debits need to be kept forever. If there is something about this use case that I haven’t understood, I would be genuinely interested to be corrected.
In summary, then. We all appreciate the clever mathematical tricks behind the mutable blockchain, but when it comes to the serious world of banking and financial services, it seems like (in the casual demotic of our unlearned age) a bit of a chocolate teapot.
Yesterday we were chatting about the Governor of the Bank of England’s comments about central bank digital currency. I said I thought this was a good thing. Other people think the same.
The new Positive Money report on Digital Cash recommends that central banks should issue digital cash for six main reasons: it widens the range of options for monetary policy, it can make the financial system safer, it can encourage innovation in the payment system, it can recapture a portion of seigniorage, it can help to develop alternative finance businesses and it can improve financial inclusion.
As it happens, Dr. Ben Broadbent, who deputy governor of monetary policy at the BofE, appeared before the Lords economic affairs committee today. He was scheduled to
“explore the prospect of a central bank digital currency and the effect it could have on commercial banks”.
This was part of a session that also included evidence from my good friend Simon Taylor, formerly of Barclays Bank, and the noted financier Blythe Masters who is in charge of Digital Asset Holdings (DAH) and you can see it all online here.
OK, so far so good. I’ve written about this topic in exhausting detail before, and the truth is I’m rather a fan of a strategic and planned shift towards digital currency. But the article goes on to say…
Earlier this year Broadbent floated the idea of using distributed ledger technology to enable individuals to hold digital currency accounts with the central bank.
Surely use or otherwise of distributed ledgers is tangential and irrelevant to the issue of digital currency. The payment mechanism has nothing to do with the currency. So, if Dr. Broadbent means that the Bank is thinking of using a shared ledger to manage personal accounts for individuals, where account transfers are settled instantly in central bank balances, then all to the well and good.
I simply do not see the efficiency of “a digital form of legal tender” as being evidence that the government might issue a UK cryptocurrency as some in the Bitcoin world have said.
On the other hand, if Dr. Broadbent means that the Bank his going to set up a shared ledger that will be implemented using a blockchain that incentivises consensus-forming work with an on-chain asset (i.e., a Bitcoin-like Britcoin) then I think he must have been inadequately briefed. Why on Earth would a central bank abandon its money supply management duties to a cryptographic algorithm? That makes no sense at all.
Since the latter explanation is implausible — and if you listen to his evidence to the Lords you will notice that deputy governors of the Bank of England are very well-briefed indeed — the only explanation for the “Britcoin” tag is journalists confusing digital currency and cryptography and jumbling up the use of double-permissionless shared ledgers with double-permissioned shared ledgers. I suppose it’s an easy mistake to make, so let’s put it to bed once and for all. Here is a handy cut-out-n-keep guide:
Would the Bank of England get behind a Sterling-backed Bitcoin? I think not. In fact, I think I’m coming round to Robert Sam’s thinking about the role of Bitcoin in the greater scheme of things with respect to the co-evolution of money and technology. Robert wrote a very good note about this called “Some crypto quibbles with Threadneedle Street” in response to one of the early Bank of England research notes about Bitcoin back in 2014, suggesting that, as he put it, “digital currency with a deterministic money supply function” is not a feature but a limitation of early cryptocurrency designs (and that a capped supply function such as Bitcoin’s is a “bug” on economic grounds).
As to the key question of whether a central bank or someone else should provide money, Robert alludes to the problem with the marginal cost of the production of competing private monies, what I often refer to in blog posts and talks as the big problem of small change. The problem is this. If privately produced money is successful as a means of exchange and earns a profit for its producer in the form of seigniorage (it is hard to see how cash replacement can earn transaction fees so in the long term I imagine these to be asymptotic to zero) then it will invite competitors and those competitors, provided the monies they produce are reasonable substitutes for each other, will drive down the cost of the private money to its marginal cost of production. In our digital world, however, the marginal cost of production is to all intents and purposes zero and so that private companies will bail and only the state can deliver the a sustainable money as a means of exchange (remember, this has nothing to do with it being a currency or not).
Hence it is very difficult to imagine how competing private currencies that are nothing more than direct substitutes for national fiat currencies can obtain any traction at all. This nudges me further towards thinking that if the imperfections of fiat currency are to be addressed in the free market it will be by currencies that are more closely linked to the communities that use them and that embody some values of those communities. I often use the example of a gold-backed interest-free electronic currency for the Islamic diaspora as a simple thought experiment, a sort of hard ECU for the new millennium, a currency that will be widely used but never exist in physical form. But that’s for another time.
Suppose, however, that we stay with fiat currency and central banks. Now, if Bitcoin is to be used in that role (i.e. as a medium of exchange) it’s volatility is undesirable but that does not mean that it needs to display the long-term stability that is required of a store of value. That’s a different function of money and can be implemented in a different way. It does however mean that Gresham’s Law will come in to play and drive Bitcoins out of the marketplace (to speculators, at least in the short term) and that no-one will hold them for transaction purposes. As far as I can tell, this is where we are now anyway.
So what does all of this mean? Well I’m not sure I have any more insight into this than any other commentators but my take on it is that while the marginal cost of production of Bitcoin is undeniably higher than the marginal cost of production of other kinds of private money, that doesn’t really mean anything because Bitcoin will never be used as money in the same way. On the other hand it does mean that it is hard to imagine why anyone who wants to produce private money, and in particular a digital version of a fiat currency, will use it even if they want to use a shared ledger for other reasons (something I personally favour). On the contrary, since we have no reason to suspect that the proof-of-work and blockchain structure is the best consensus mechanism, it seems more likely that if (say) the Bank of England were to decide to implement a digital sterling, then it is highly likely that they would use some other mechanism that relies on validators (e.g., commercial banks) rather than miners. Let’s come back to this in a minute.
I don’t think there’s ever going to be a Britcoin. Central-bank digital currency is about balances and an appropriately private protocol for moving value between accounts. My prediction is that this would look more like the bastard child of Ripple and M-PESA than a blockchain cryptocurrency with a 1-1 reserve in Sterling. And guess what…
As I was sitting down to finish off this post, what should flow in through the internet tubes but Bank of England Staff Working Paper No. 605 by John Barrdear and Michael Kumhof, “The macroeconomics of central bank issued digital currencies”. This is referred to in Dr. Broadbent’s evidence to the House of Lords. It says that (amongst other things) that
We study the macroeconomic consequences of issuing central bank digital currency (CBDC) — a universally accessible and interest-bearing central bank liability, implemented via distributed ledgers, that competes with bank deposits as medium of exchange. In a DSGE model calibrated to match the pre-crisis United States, we find that CBDC issuance of 30% of GDP, against government bonds, could permanently raise GDP by as much as 3%, due to reductions in real interest rates, distortionary taxes, and monetary transaction costs. Countercyclical CBDC price or quantity rules, as a second monetary policy instrument, could substantially improve the central bank’s ability to stabilise the business cycle.
Did you see that? Permanently raise GDP by as much as 3%. Scatchamagowza. Permanently raise GDP by as much as 3%. Why aren’t we doing it right now! Let’s draw a line under the money of the past and focus on the money of the future.
I’ve read the working paper and while I don’t understand the economic model at the heart of it (I have no idea what “credit cycle shocks policy rate corridors” are) I do understand the implications and the observations of the authors. I have come to similar conclusions but from the technological direction. Since the observations of the Bank from an economic perspective correlate so closely with my observations from the technological perspective (I think I may have mentioned that I’m writing a book about this at the moment) I think I’ll finish here just by highlighting a few key points that I have mentioned on the blog before.
A monetary regime with central bank-issued national digital currency (i.e., digital fiat) has never existed anywhere, a major reason being that the technology to make it feasible and resilient has until now not been available.
The monetary aspects of private digital currencies (a competing currency with an exogenous predetermined money supply) are undesirable from the perspective of policymakers. Also the phrase “digital currency” is perhaps a regrettable one as it may invite a number of misunderstandings among casual readers.
Digital fiat means a central bank granting universal, electronic, 24 x 7, national currency denominated and interest-bearing access to its balance sheet. The Bank says that they envisage the majority of transaction balances will continue to be held as deposits with commercial banks and observes as I did above that digital currency has nothing to do with shared ledgers, distributed ledgers or blockchains.
The cheapest alternative for running such a system would clearly be a fully centralised architecture (M-PESA in Keyna is the obvious example) but as the Bank notes this will come with increased resiliency risks that are likely to be deemed unacceptable. However, options that are distributed but permissioned would provide an improvement in the efficiency of settlement and serve to improve resiliency relative to the status quo, both of which would represent a reduction in cost the real economy.
The key feature of such a permissionless shared ledger system is that the entire history of transactions is available to all verifiers and potentially to the public at large in real time. It would therefore provide vastly more data to policymakers including the ability to observe the response of the economy to shock sort of policy changes almost immediately.
There is no sane argument against digital fiat. Let’s get on with it. And let’s have no limit on the number of different currencies that the ledger might hold.
Like many of you I am sure I never miss The Economist “Money Talks” podcast, which is how come I happened to hear about the bankruptcy of an Indian airline. A first glance a normal, run of the mill corporate failure…
Inaugurated in 2005, Kingfisher Airlines… never made money, not in one year. On 20 October 2010, the Directorate General of Civil Aviation (DGCA) suspended its licence to fly. Some 3,700 employees were left contemplating their future. More importantly, a clutch of largely public- sector banks is looking at writing off loans worth roughly Rs 6,000 crore as bad debt.
Well, these things happen. The more cynical among you might just note this as another example the subverted corporatist version of capitalism that we are familiar with today, where profits are privatised and losses are socialised, and put it to one side. But the story has a particularly fascinating trajectory and one of that is relevant to the kinds of discussions going on at executive level amongst some of Consult Hyperion’s customers. Here’s why. It’s the story of an unshared ledger. Kingfisher Airline’s corporate records have vanished.
The airline’s missing accounts—apparently stored on servers seized by a vendor who had gone unpaid—is an unwelcome complication for those who had hoped the Kingfisher saga might be inching towards some sort of resolution.
Now, I hate to say it, but this is one of the few news stories that I have seen recently that actually points out a genuine use case for shared ledger technology and as far as I can see (from my single source of truth, my Twitter feed) no-one picked this up. Set against the common vague management consultant stuff about how “the blockchain” is going to transform the health care industry, the refugee crisis and insurance, this is a real example of a use case that is not based on fantasies about reduced costs or improved performance or the eradication of intermediaries or “code is law” but the solid reality of a consensus computer in operation.
So, imagine that Kingfisher had adopted something along the lines of Ian Grigg’s “triple entry” system. There’s a permissioned shared ledger that is maintained by, amongst others, the airline itself, the 17 creditor banks and the airline industry regulator. The airline and the banks update their own double-entry accounting systems using the data from the shared ledger.
If the airline goes bust or vanishes into a black hole or is infiltrated by ne’erdowells, it doesn’t matter, because everyone has a copy of the shared ledger. The banks can see that there are transactions with other banks, but may or may not see what those transactions are without permission. I assume that when a bank lends a few million quid to a company one of the first things it does is send in expensive finance-type persons to find out what other loans are outstanding and under what terms, so I don’t see my the transactions would be encrypted but I know nothing about corporate finance. But even if they were, then under warrant the regulator and law enforcement agencies would be able obtain the escrowed transaction keys needed to decrypt transactions of interest. You can sort of see how it would work. Back here to my fantasies about encrypted open books, translucent databases and shared ledger applications. Everyone would be able to see that assets exceed liabilities even though no-one (other than the relevant parties) could see what those assets or liabilities were.
If I were casting around for a practical proof-of-concept in the world of the shared ledger, I would certainly consider such an example. In this case we have a system where there are trusted participants who may become untrusted, records that must be immutable beyond the lifetime of their creator and real money to shared amongst the stakeholders. Think of all the money that could have been saved on auditing, forensic accounting and compliance! Money that could have instead been spent on customers, employees and suppliers of discretionary services.
So that’s why I used this particular story to help develop narrative in a couple of client meetings this week. As it happens, though, the story has even more to it as an exemplar. But first, a word about identity… Remember, names are attributes not identifiers. I’m a Dave Birch, but that doesn’t necessarily make me the Dave Birch in any specific instance. Now back to the story. The creditors want their money back so they are going after the guarantors of the loans made to Kingfisher where they have some evidence of the loan and the guarantor. Fair enough.
Last month it emerged that one of the aggrieved banks froze the accounts of three customers it alleged had guaranteed loans to the carrier in their role as board directors of Kingfisher. In fact, it blocked a destitute farmer, a vegetable stallholder and a security guard with similar names.
Ruh roh. So much for Know-Your-Customer (KYC). I’m sure this kind of problem will not recur, because India now has the Aadhar universal identity service. I’m sure that future loan guarantors will have to present their Aadhar card and be biometrically-identified as part of the loan process. This was, after all, part of the original vision for the Indian UID service, made clear back in 2010.
“Lack of identity is hurting people and blocking progress. Aadhar (the brand name for UID) can serve as the know your customer guidelines that banks have. It can reduce friction for the poor person who is trying to access public services like banking,” Nilekani said…[From UID can be an enabler of financial inclusion: Nilekani-Finance-Economy-News-The Economic Times]
But in other jurisdictions where universal identity is not yet the rule, some alternative might be needed. Perhaps here the shared ledger, which may in the long term be seen as a #regtech revolution and not a #fintech revolution at all, might also provide the necessary infrastructure (as I suggested in my presentation on “CRUDchains” at the Dutch national blockchain conference earlier this year). So now we have an interesting — but practical — model to work with. A shared ledger for the accounts that is linked to a shared ledger for the KYC. Anti-money laundering implemented as a process that constantly traverses both chains, not a set of expensive procedures.
I’m think I might use this example to test some of the ideas we are developing around shared ledger structures and blockchain (and other implementations) with some of our clients and partners, but as always I’m genuinely curious to hear what you have to say about the potential here.
Well, the paper that Richard Brown of R3, my colleague Salome Parulava and I put together what seems like an age ago (a year is a long time in fintech) has finally been published! Hurrah! Here’s the reference for you:
Birch, D., R. Brown and S. Parulava. Towards ambient accountability in financial services: shared ledgers, translucent transactions and the legacy of the great financial crisis. Journal of Payment Strategy and Systems 10(2): 118-131 (2016).
The paper itself is not online (you have to subscribe to the Journal for that) but I’m sure that the fine people from Henry Stewart Publications will have no objection to me reproducing the abstract for you here:
The consensus in the finance sector seems to be that the shared ledger technology behind Bitcoin, the blockchain, will disrupt the sector, although many commentators are not at all clear how (or, indeed, why). The blockchain is, however, only one kind of shared ledger and the Bitcoin blockchain works in a very specific way. This may not be the best way to organise shared ledgers for disruptive innovation in financial services. So what is? And why would financial services organisations want to do exploit it?
This paper sets out a simple shared ledger taxonomy and layered architecture designed to facilitate communication between technologists, businesses and regulators in the financial services world and explains why the various forms of shared ledgers might be attractive to financial services organisations, borrowing the phrase “ambient accountability” from architecture to suggest a new way to organise a financial sector.
The paper sets out the “4×4” model that we have used for exploring shared ledger technology with a variety of clients (and have found it to be a very useful tool to help clients develop their strategies around shared ledgers) and then uses this model to discuss the application of shared ledgers to financial services.
We finish by putting forward the idea that the legacy of the great financial crisis of the last decade might be the creation of more transparent financial markets. Our focus on transparency was reinforced by the discussions at Money 2020 in Copenhagen, where I think I detected the emergence of “regtech” as a distinct from “fintech” as a paradigm and organising principle. I spoke to a few people about this during the course of those sessions and it seems to me that for many of the financial services delegates their number one problem, the place where costs are out of control and apparently growing without limit, is compliance not technology. Yes, there is great new technology out there but it can’t help unless it has a regulatory context in which to flourish. The idea that there might be new categories of technology (and actually I think that the shared ledger might be one of them because of its potential for a new kind of transparency and a regulatory win-win) where the impact is to reduce the cost of complying with regulation rather than to reduce the cost of delivering a functional service sounds is potentially revolutionary.
What would transparency mean in our context? We envisaged a new kind of financial marketplace where “translucent” transactions that are clear to counterparts, clear in outline to regulators and opaque to others might allow us to set up a transactional environment with ambient accountability. We use the “glass bank” example to create a narrative, and it’s an example that I’ve used before to illustrate the relationship between transparency and trust. Here’s something about it from six years ago:
Transparency increases confidence and trust. I often use a story from the August 1931 edition of Popular Mechanics to illustrate this point.
The legacy of a crisis is often regulation. If we view the shared ledger not only as a fintech (a technology that changes the cost/benefit landscape around financial services) but also as a regtech (a technology that changes the cost/benefit landscape around the regulation of financial services) then we might be able to make the legacy of the last crisis a better and more effectively regulated financial services sector that is a platform for radically new products and services. At a time when so much money is going on compliance and so much momentum is going into “legacy” regtech we realise that the use of shared ledgers may seem radical, but we are convinced that it is time for a new approach.
Speaking at the Dutch National Blockchain Conference back in June, I remarked in passing that I thought bank customers would be storing their money (their wealth) in all sorts of places in the future – from a small percentage in demand deposit accounts, through investment accounts of one form or another, P2P marketplaces and who knows what – but that they would be storing their identity back at the bank.
This was picked up on Twitter and a few people commented on it, so I thought I’d expand on what I meant here. First of all, it is neither a new idea nor my idea: other people have been saying this and they’ve been saying it for a while. I might have expressed it in a better soundbite, but it isn’t my concept.
Britain’s high street banks believe their future role will be as repositories of more than just money: they want to be the safe place where customers store their digital identities.[From Banks want to keep your digital ID in their vaults – FT.com]
That’s from a couple of years ago. It is not some out-of-left-field edge thinking or me spouting aphorisms for a conference stream either. Round about this time, the European Banking Association (EBA) said something similar and you can’t get much more mainstream than them.
Banks are well positioned as is explained in a recent white paper of the European Banking Association (EBA).[From Digital Identity: how banks can position themselves in their customer’s online lives | Innopay]
So what might banks do with your identity once they’ve got it safely locked away in their vaults? Well, one idea, particularly popular with me, is that they might give you a safe, pseudonymous virtual identity to go out an about with.
Some suggest that digital identity verification by banks could ultimately end the need to type in a credit-card number on an ecommerce website[From Banks want to keep your digital ID in their vaults – FT.com]
Some others (uncharitable persons, of which I am not one) also suggest that banks will pratt about and muck this all up and hand digital identity ownership over to Apple, Facebook, Google, Amazon and Microsoft on a plate. But if banks were to develop some common strategy around this topic (perhaps related to the financial services passport concept that’s been discussed here before) then where should they start?
Well, what about the “adult identity”? Why doesn’t my bank put a token in my Apple Pay that doesn’t disclose my name or any other personal information, a “stealth card” that I can use to buy adult services online using the new Safari in-browser Apple Pay experience? This would be a simple win-win: good for the merchants as it will remove CNP fraud and good for the customers as it will prevent the next Ashley-Madison catastrophe. Keep my real identity safe in the value, give me blank card to top shopping with – a simple use case that will test the viability of the concept.