Shared ledgers, shared laughs and shared learning

Well. The lovely people from FinTechStage, principally my old friends Matteo Rizzi (who was one of the co-founders of SWIFT Innotribe) and Lazaro Campos (who used to run SWIFT), persuaded me that Consult Hyperion’s more technological perspective on the potential for shared ledger technologies (SLTs) in financial services might be of interest to the delegates at FinTechStage Luxembourg in February. So off I went to dinner with, amongst others, the Minister of Finance for the Grand Duchy of Luxembourg, Pierre Gramenga. Indeed, I found myself sitting next to Pierre who, it turns out, is a very smart and interesting person. Unlike our own Minister of Finance, he is actually an economist and he spent a decade as the Director General of the Luxembourg Chamber of Commerce so he understands the relationship between regulation and business very, very well.

Yes Minister

Since I’d been chatting to Pierre, when I was asked to give a few words about the potential for SLTs to the assembled CEOs I decided to put my prepared remarks to one side and talk instead about the way in which Ministers of Finance can change the course of history. I used the example of the Golden Horde to make my point.

When Genghis Khan took control of China in 1215, his fiscal policy was confused. His pacification plan was to kill everyone in China, no small undertaking since China was then, as now, the world’s most populous country. Fortunately, one of his advisors, a man who ought to be the patron saint of Finance Ministers everywhere, Yeliu Ch’uts’ai, pointed out that dead peasants paid considerably less tax than live ones, and the plan was halted. Under Pax Mongolia, China prospered. In 1260, Genghis’ grandson Kublai Khan became Emperor and with his financial advisors determined that it was a burden to commerce and taxation to have all sorts of currencies in use, ranging from copper “cash” to iron bars, to pearls to salt to specie, so he decided to implement a new currency.

A paper currency.

This must have been as shocking to contemporaries as the idea of digital currency is today. It was certainly a shock to Marco Polo, who wrote about it in his travels (I expand on this in a piece on Medium).

I explained to the Minister and the CEOs that Kublai’s monetary policy was refreshingly straightforward and robust. If you didn’t accept his new paper money, he would kill you. Naturally, in a short time, the new single currency was established and paper money began to circulate instead of gold, jewels, copper coins and metal bars. I wasn’t suggesting that Luxembourg institute capital punishment for those refusing to accept Bitcoin, but I was suggesting that a juridiction such as the Grandy Duchy might want to explore creating new kinds of financial markets founded on shared ledger technologies and the ambient accountability that will, as my colleague Salome Parulava puts it, dissolve the boundaries between auditing and compliance to the form a better, cheaper and safer market for asset management, transfer and settlement.

FINLUX 99

I think it went down OK.

Dave Birch gave one of the the most hilarious and original talks I ever listened to.

From Seven facts about FinTechStage Luxembourg and announcing Milan and Amsterdam! |

Matteo is much too kind, of course, but it was a fun event. One thing I particularly enjoyed (and this is a genuine sentiment) was disagreeing with my old friend Chris Skinner. Chris gave a thought-provoking presentation around his new book “Value Web” 

Using a combination of technologies from mobile devices, wearables and the bitcoin blockchain, fintech firms are building the ValueWeb regardless

From ValueWeb: Chris Skinner: 9789814677172: Amazon.com: Books

Chris’ thesis is that out of the blockchain of bitcoin will come a new shared database on the internet that banks will use that will be far cheaper and more geared to real-time than the proprietary structures they use today, but I think I disagree. Whether the blockchain is either instant or free I will leave as an exercise for the reader, but in my presentation on SLTs I chose to focus on a different set of emergent properties around transparency. My point was that even if the blockchain, to use Chris’ example, isn’t cheaper or more real-time than current asset transfer, clearing and settlement systems, it delivers a win-win-win for customer, service providers and (crucially) regulators. I made similar point when I was invited to take part in Lazaro’s panel with Simon Taylor of Barclays and Jon Matonis, formerly of the Bitcoin Foundation.

FINLUX 54

We didn’t agree about everything either. I think audiences get bored with bland backslapping on stage. Personally, I learn more from seeing smart people disagree about something than I do from sitting through a bunch of marketing slides. So, as you can imagine, I was delighted to be invited by Chris to take part in tonight’s Financial Services Club debate.

For the past year, banks have become really excited about blockchain technologies. The claim is that these technologies will allow banks to create instantaneous exchange over the internet for near free. But is this true?

From Is the blockchain really faster and cheaper? – Tuesday, 1 March 2016

Under Chris’ guiding hand as chairperson, I’ll be debating the issue with Jon and trying to convince the audience that financial services organisations should be learning about, playing with and planning for SLTs whatever they think about the speed or cost of the blockchain (or, indeed, a blockchain).

Is the blockchain smarter than an estate agent?

There has been a spate of property crimes in London, apparently, with houses being sold by fraudsters who rent houses and then pretend to be the lawful owner or acting on behalf of the lawful owner. Here’s an example. Note that in all of these cases it is the purchasers who are defrauded (the real owner of the property retains the title).

This young woman — who paid the full amount with no mortgage — had been duped into handing over £1.35 million to the alleged vendor. The money was last seen on its way to a bank in Dubai.

[From Max Hastings on the thieves who stole his wife’s house and sold it for £1.3m | Daily Mail Online]

Well, that should be no problem then. Since banks have to comply with expensive and stringent KYC procedures, the bank in Dubai will of course know who the account belongs to and will be able to direct the police as to who to arrest. So there’s really nothing to worry about. That’s the good news. However, I couldn’t help but wonder how this situation had come about.

Obviously the agents and the solicitor acting for the purchaser have to carry out appropriate identity checks. Or, if they couldn’t be bothered to do that, they could at least have looked on LinkedIn, where there is only one Kevin Hafter listed and he works for TfL, so I would imagine he is reasonably easy to track down. At which point it would have been obvious that the person renting the house is not Mr. Hafter at all but a fraudster. But the dopey sods seemed to have missed this and also missed another rather obvious aspect of the renter’s behaviour that would naturally attract opprobrium in polite society.

However, one aspect of the deal that would have rung alarm bells — if we had known of it — is that ‘Mr Hafter’ made all payments to the agent in cash.

[From Max Hastings on the thieves who stole his wife’s house and sold it for £1.3m | Daily Mail Online]

Bizarre, isn’t it? He might as well have been wearing a striped jersey, carrying a bag marked swag and wearing a black face mask. Gazillions wasted on KYC, but Mister X can rent a £1.3m house for cash and no-one bats an eyelid. Paying rent in cash should be illegal, obviously, and that would also have the additional benefit of generating more tax revenues, I’m sure. But it’s not the point of this post.

The most interesting part of this story comes further down. The house belongs to a woman called “Penelope Hastings”. Now, presumably, at some point the buyer’s solicitors had asked for “proof” that she had instructed Mister X to act on her behalf. So…

We learned that a woman from Catford, South-East London, had changed her name to ‘Penelope Hastings’ by deed poll. Having done this, she secured a passport declaring her to be ‘Penelope Hastings’.

[From Max Hastings on the thieves who stole his wife’s house and sold it for £1.3m | Daily Mail Online]

Brilliant. So, because someone with a passport in the name of Penelope Hastings turned up, the solicitors naturally assumed that this must be the Penelope Hastings listed as the property owner by the Land Registry. Well, it’s a simple mistake to make in a country that has no identity infrastructure. Had the solicitors phoned up to ask if the passport was valid, they would have been told that it was. End of. They would not have been told that it had just been issued to someone who had just changed their name. The passport office aren’t running some sort decentralised and shared data structure that shows all state changes and the history of all credentials like a… well, you know.

So, as someone asked me, could the blockchain solve problems like this? Is there an actual use case here, for providing some form of security in places with no reliable identity infrastructure?

Well, in essence, it might. The problem comes about because the personal name on the land registry is an attribute, not an identifier. There is nothing to connect the ledger entry on the house with the individual, just a limited attribute correlation that you probably wouldn’t accept for an online bingo game, much less a house sale.

Now, of course, a replicated distributed shared ledger could fix all of this. Consider a blockchain version of a registry. Imagine that the house is essentially a “coin” in my wallet. The ledger will tell you which wallet the coin is in. So to prove I am the owner of the house, I have to prove ownership of the wallet. Assume for the time being that this means that, essentially, I have to prove ownership of the private key. Personally, I have all of my private keys tattooed on my scrotum, but other people may prefer alternative approaches. Perhaps the key could be held not by me, since I do not want the responsibility, but by a regulated financial institution that I trust. My bank, for example. Then when the solicitors need proof of instruction by the owner of the property, they are really asking to see something that has been signed with that private key. My bank asks me for permission, I give it to them, they use the key to sign a message to the solicitor. When solicitors are ready to proceed, they ask the bank to transfer the house to their client, which the bank does by sending the coin the address specified by the buyer’s solicitors.

Under this kind of scheme, everyone can see who the house belongs to at any one time, but only the owner or owner’s “key holder” (which in my scheme could only be a regulated institution of some kind) can actually sell it. And what’s more, if the bank allows someone other than me to instruct the transfer, then they are liable.

But…

Why would you do this? Why doesn’t the Land Registry just store a public key certificate against each entry, the public key of the title owner signed by the private key of the Land Registry? Or maybe just a picture of the title holder? Or a pointer to their LinkedIn profile (after all, it’s much harder to create a fake LinkedIn profile than to change your name by deed poll) ?

Broadly speaking, I’d say there are three reasons for looking at a shared ledger solution here. The first is robustness, because every estate agent could have a complete copy of the ledger (in fact, taking part in the consensus-forming process might become a pre-requisite for being licensed to practice as an estate agent). The second is transparency, because all parties (and regulators) can see the state of the ledger at any time. The third, and potentially most important, is that the ledger would then become a platform for innovation, moving into the world of APIs, smart contracts and apps.

Let’s be clear. I don’t know whether a shared ledger is the best way to implement a Land Registry or not, but anyone who says that it is not worth considering as an implementation option is almost certainly wrong.

The blockchain won’t make everything better, but it might make identity better

A friend of mine went to open a savings account with a UK building society. She had had an account there for more than 20 years, but wanted (for purposes of administrative convenience) to have a separate account to put cash in for her son’s college money. Armed with a passport, she went to her local branch only to be told that the would have to go home and come back with a copy of a recent utility bill — because her passport was not a proof of address (I think) — which, naturally, she couldn’t be bothered to do. So she went home and opened an online savings account with her bank, which did not ask for a copy of a recent utility bill and just had to put up with the several days delay in transferring money from the old to new account. This is not to complain about the building society. The nutty rules are government KYC/AML/ATF rules, not the building society’s. But what seems odd to me is that while people like my friend are being annoyed and inconvenienced about an account that will hold something in the region of five or six grand maximum, actual theft and money laundering appears to continue at a grand scale. The cost and inconvenience for the little people is not part of the equation. My old chum Matteo Rizzi raised a similar point about the tremendous worldwide waste of money there is in not doing much about money laundering and related crimes.

Yesterday I had to go to a notary to notarise my utility bill to proof my address for a company in our portfolio, which bank asked (rightly) for KYC … And I am ALREADY a customer of that bank.

[From I miss Three Things in Fintech today.. | Matteo Rizzi | LinkedIn]

On the one hand, this sort of nonsense is funny and provides useful anecdotes to support conference presentations, but on the other hand it makes me wonder what the point of these rules is, particularly the rules around AML. I’ve written before about the lack of cost-benefit analysis around the unelected and unaccountable Financial Action Task Force (FATF) rules and I’m certainly not the only person questioning the approach.

Though the regulations have limited impact on criminal activities, they still cost money. Tracking illicit money flows requires a considerable bureaucracy. Enforcing the regulations cost an estimated $7 billion in the U.S., and probably far more.

[From Why the World Is So Bad at Tracking Dirty Money – Bloomberg Business]

The amounts of money spent on KYC are still rising and may be about to get even higher. Still, I suppose, at least it means that fraudsters cannot open bank accounts any more. No, wait… according to the Cifas, the UK’s fraud prevention bureau the number of bank accounts opened using stolen or fictitious identities doubled last year. Doubled. The public end up paying for this, in more ways than one.

In the best of cases, anti-money-laundering efforts are likely to do no more than raise the cost of transactions. A system that misses all but a fraction of a percent of criminal financial flows is almost guaranteed to miss terrorism finance in particular, which involves very small sums

[From Why the World Is So Bad at Tracking Dirty Money – Bloomberg Business]

HHhhhmm. So no impact on money laundering and no impact on terrorism. Yet the costs continue to spiral out of control. As do the fines associated with non-compliance (see chart). Barclays has just been fined $100m+ for customer due diligence (CDD) failures relating to a multi-billion dollar fund deal back in 2011. I’m not picking on Barclays by choosing this example, it just happens to be in the news today. It does, however, help to make a useful point about the spiralling cost and complexity of CDD.

At one point, the clients agreed with Barclays to make a change to the Trust Deed, which related to who ultimately got a pay-out from the transaction and under what circumstances the beneficiary could be changed [but eventually] it gave up trying to check who would or could get paid by this mammoth transaction.

[From FCA fines Barclays for financial crime failings on ‘deal of the century’ – Business Insider]

This is the sort of thing that shared ledgers ought to end forever in a world of ambient accountability. The idea that a regulated financial institution would be able pay money to person or persons unknown would be consigned to the database of history. And, of course, it would certainly be possible to construct a translucent consensus computer system (of which a replicated distributed shared ledger might be an excellent example) in such a way as to partition knowledge of identities: in other words, the trading bank might not know who owns a particular wallet (for example) but it would know for sure that another regulated financial institution does and, more importantly, that regulators can find out if needs be.

fom_panel

There was a panel about this sort of thing at the San Francisco Future of Money and Technology Conference last week. The kind people there had invited me on to a panel to discuss issues around the blockchain and identity with StellarR3CEV and MaidSafe [video]. It was actually Paige Peterson from MaidSafe who raised the point about partitioning, and she was spot on: this is a fundamental mechanism for managing identity in a connected world. Incidentally, during the panel I drew the distinction between taking external identities (such as a passport or driving licence) and storing these in a shared ledger and “growing” identities on a shared ledger. Top down versus bottom up identity or, as my old chum Giyom Lebleu tweeted during the panel, uppercase identity versus lowercase identity. I really like this useful characterisation and will undoubted start using “ID” vs “id” in presentations henceforth! Anyway, it was a very thought provoking discussion, so many thanks Joyce, Tim, Paige and chairperson Dan for a great panel.

Ambient accountability as a narrative for the blockchain

The fintech flavour of the month is the blockchain. This is an amazing new technology that will completely revolutionise our entire industry and make the world a better place.

“Blockchain, as the digital ledger, will heavily impact the way we do business in the financial services industry” [Oliver Bussmann, CIO of UBS] [From CIO says blockchain ‘will heavily impact’ financial services | CIO]

The article is not specific as to how the blockchain will heavily impact financial services, but I’m sure Oliver is barking up the right tree and, while I haven’t spoken to him about this, I imagine that he means some form of shared private ledger rather than the Bitcoin blockchain. The super smart Vitalik Buterin, who some of you will have met at our annual Tomorrow’s Transactions Forum this year, wrote about this on the Ethereum blog a while ago.

…there is good reason for the focus on consortium over private: the fundamental value of blockchains in a fully private context, aside from the replicated state machine functionality, is cryptographic authentication, and there is no reason to believe that the optimal format of such authentication provision should consist of a series of hash-linked data packets containing Merkle tree roots

[From On Public and Private Blockchains – Ethereum Blog]

He must be correct. For most of the businesses that I am interested in (i.e., the ones who pay Consult Hyperion money for services rendered) the use of what Vitalik calls a “consortium” blockchain, or what I referred to as an open private replicated decentralised shared ledger at NextBank in Barcelona, is the way forward but it is far too early to say exactly how that ledger should work and anyone that says they know otherwise should be treated with some suspicion.

Note that by creating privately administered smart contracts on public blockchains, or cross-chain exchange layers between public and private blockchains, one can achieve many kinds of hybrid combinations of these properties. The solution that is optimal for a particular industry depends very heavily on what your exact industry is.

[From On Public and Private Blockchains – Ethereum Blog]

Indeed. And we don’t yet know what is optimal for our industry. We can all agree that the use of shared ledgers, of which the blockchain is an example, is going to transform financial services. But why? Well, in an absolutely brilliant King’s Review piece about the relationship between the use of ledgers, the law and enterprise, Quinn DuPoint and Bill Maurer make explicit the relationship between the technology, the private maintenance of the technology and the public use of the technology. They go on to say that:

Blockchain systems occasion a reconsideration of two of the central legal devices of modernity: the ledger and the contract.

[From Ledgers and Law in the Blockchain | King’s Review – Magazine]

This insight around private maintenance and public use is critical to the development of a narrative around the blockchain that can help engineers, investors, businesses and regulators to construct a paradigm for the use of the blockchain in financial services. This is what Richard Brown, Sally Parulava and I argue in a paper called “Toward Ambient Accountability: Shared ledgers, glass banks and the legacy of the great financial crisis” that is in draft at present but that we will be sharing soon.

More than the robustness of shared ledgers or their potential for innovation, for the financial services the ability of technology to deliver “translucency” through cryptography is (I am convinced) far more radical than it seems at first and there are plenty of reasons to believe that building glass institutions around replicated shared ledgers is the first step to a new kind of financial system. I’m spoke about this at NextBank Barcelona today (you can see my slides here at Slideshare), and was interested to see the feedback from the pretty well-informed folk there.


If my suspicion is correct, and transparency is more important than computational efficiency then we are at the dawn of a new era and ambient accountability might be the real technology legacy of the last financial crisis.

Reading between the blockchain headlines

If you are a bank, it must be very difficult it to work out what your strategy on the blockchain is. On the one hand, banks and accounting firms and analysts are saying that the blockchain is going to disrupt everything, but on the other hand it’s not entirely clear what any of these commentators actually mean. Here’s an example. A big story in Forbes on the investments in Chain.com is headlined “Bitcoin’s Shared Ledger Technology” and then goes on to point out that the company in question is not using Bitcoin’s shared ledger technology:

Rather than using the public Bitcoin blockchain, it uses what is called a permissioned ledger

[From Bitcoin’s Shared Ledger Technology: Money’s New Operating System – Forbes]

The implementation here is a blockchain, but it’s not the blockchan (which most people take to mean the public Bitcoin blockchain). Here’s another example from last week. A cover story from Bloomberg Markets, featuring Digital Asset Holding’s Blythe Masters, one of the most important women in finance. The cover story says that “the blockchain” will disrupt everything but in the article Blythe refers to private blockchains (i.e., again not “the blockchain”) and then the article points out that her company bought Hyperledger, which uses a different kind of consensus method to create shared private ledgers.

bloombergblockchain

It might be more accurate, I suppose, to rewrite the headline to say that “replicated decentralised shared ledger technology has the potential to revolutionise some parts of the finance industry and one part might be clearing and settlement because they are hopelessly inefficient” but I can see this is not as catchy. But let’s take on board that it is correct. It then leads us to pose a rather obvious question:

If clunky old procedures haven’t been replaced by computers by now, why would they be replaced by blockchain computers in the near future?

[From Blockchain for Banks Probably Can’t Hurt – Bloomberg View]

This is a very good question and it wasn’t really answered in those articles, so I thought that I would mull it over in a coffee break to see if I could come up with an answer that makes sense to me and has some consistency. The place I began was the not immediately obvious world of multi-application operating systems for smart cards. I remember that many years ago I was talking to one of our clients in the financial services world and I was observing that despite the existence of multi-application smart card platforms such as Javacard it was extremely rare to find schemes in place where applications from more than one issuer were side-by-side on the same card (as was the original dream of the smart card world). I asked our client why they had chosen to go down the multi-application route even though all of the applications were going to come from the same financial services institution. There were two parts to the answer. First, by using something like Javacard rather than a proprietary operating system they hope to reduce their development costs. Second, by using something like Javawcard they hoped to stop applications from interfering with each other, reading each other’s data or worse still messing up each other’s data. They weren’t worried about dedicated teams of crack Eastern European hackers wrecking the code, they were worried about their own development teams.

This imperfect analogy I think provides a window into the thinking implied in the Bloomberg article. Yes, it is perfectly reasonable to observe that all of the financial institutions working together could have simply put some money into a pot and built a big database that they could all connect to. However the history of such enterprises is littered with huge failures and fraught with large-scale risk. In the decentralised alternative, each institution can build applications that use its copy of the ledger to do whatever they want, safe in the knowledge that whatever they do won’t subvert what other institutions (or indeed other departments within their own institution) want to do with their copy of the ledger.

You can take this argument even further: why use a private ledger? Well, even if the ledger is wholly private it might still add resilience and transparency and some kind of standardisation that make it appealing in the round. Instead of putting all of the eggs in one basket, a more innovative and experimental environment is created where different companies and departments can work together in a safe way. Of course there will need to be some agreement on the language for ledger entries and so forth but I’m sure in these modern times it ought to be possible to create some sort of XML dictionary that can be inspected, expanded and exploited effectively.

All of this, of course, doesn’t answer the question as to why you would want to use a blockchain even if you decide you do want to use a shared ledger. That’s a much more difficult question to answer and while it’s not really the topic of this post (I will return to it soon, however), I think it is fair to observe that modern cryptography and modern computing might come together to deliver shared ledgers using protocols far more efficient for some contexts (and I suspect that securities settlement might be one of them) than the permissionless proof-of-work block chain that was designed to support the very specific use case of a censorship-resistant value transfer system.

The replicated distributed shared public ledger formerly known as the blockchain

I had a lot of fun at the FinTech Storm event in London last week. Having been dragooned into being the Q&A ringmaster by the very persuasive Arifa Khan @misskhan), I found myself really enjoying the range and depth of questions coming from the audience. And I had a fantastic panel to work with, with Safello, Coin Sciences, Barclays, Everledger and Coinsilium joining in an open and entertaining (and informative) debate.

fintechstormpanel

I was particularly interested in Gideon Greenspan’s (Coin Sciences) presentation of private blockchains, a subject dear to the heart of many of our clients and the focus gof a great deal of activity at present. The well-known venture capitalist Fred Wilson wrote about this recently, noting that financial institutions might be early adopters of private versions of blockchains for specific, industry-wide applications. As he notes, financial institutions may not be entirely comfortable with the blockchain as it is now.

One concern I hear, though, is that banks like to know who is managing their infrastructure and they are uncomfortable with miners they don’t know, located in parts of the world that make them nervous, providing the transaction processing infrastructure for these applications being built on the blockchain. To me, that is the perfect reason for banks and brokerage firms to take a bit of their data processing infrastructure and point it to the blockchain and start mining it. They could even create a mining pool among the large money center banks. And it is relatively simple for a blockchain application to route its transactions to certain miners to process.

[From Banks and Brokerages Should Be Mining The Blockchain – AVC]

Why would they create such a pool? It would not be to profit from the mining process, a process that (as Gideon pointed out) is enormously expensive and hugely inefficient, because it was created to deliver a specific kind of robustness and censorship-resistance in order to deliver a form of digital cash substitute. But, as he said, some people want to use the blockchain as a tool, not as an ideology.

If you think of the blockchain as an open source, peer to peer, massively distributed database, then it makes sense for the transaction processing infrastructure for it to evolve from individuals to large global corporations. Some of these miners will be dedicated for profit miners and some of them will be corporations who are mining to insure the integrity of the network and the systems they rely on that are running on it. Banks and brokerage firms are the obvious first movers in the second category.

[From Banks and Brokerages Should Be Mining The Blockchain – AVC]

I don’t think this is necessarily the way forward though. It seems to me that “mining” presupposes a particular blockchain architecture. That architecture has been developed, as noted, to deliver a modus vivendi unrelated to the world of financial services, where banks are supposed to trust each other and to know their customers (and their customers’ customers). Financial services do not want, or need, any such thing. This is why it is not at all surprising to see this kind of proposition emerging.

ItBit has revealed new details about its formerly top-secret Bankchain project, a private consensus-based ledger system aimed at appealing to enterprise financial institutions […] without using bitcoin or its blockchain.

[From ItBit Reveals Bankchain Project Won’t Use Bitcoin]

The chap from ItBit who is being interviewed in this article goes on to say that their architecture is “inspired by” the blockchain even it is not actually the blockchain (or, for that matter, a blockchain at all). I love this, and I expect to see more of it in the near future, because there must be a lot of people who think that a replicated, distributed shared ledger is an excellent architectural concept but they don’t want to use a cryptocurrency and nor do they want to use a proof-of-work protocol to defend against subversion by unknown actors since all of their actors are already known and trusted. In fact, I think it may be possible to be argue that most financial institutions, even if they don’t realise it right now, will want to use a different kind of ledger. Blythe Masters of Digital Asset Holdings, who really does understand financial markets in a way that I really do not (she was rather impressively called “the woman who invented financial weapons of mass destruction” by The Guardian) said when speaking at the recent American Banker conference on “Digital Currencies and the Blockchain” that “It’s important to be aware as you think about this that there is more than one distributed ledger technology, not all of them share the same strengths and weaknesses and furthermore, that the thinking in this space is evolving very rapidly” (my emphasis). Absolutely.

In her book “Blockchain“, Melanie Swan points in the same direction. She says that even if all of the infrastructure developed by the Bitcoin blockchain industry were to disappear then its legacy could persist. The blockchain has provided new larger-scale ideas about how to do things. She goes on to say that even if you don’t buy into the future of Bitcoin as a stable long-term crypto-currency, or blockchain technology as it currently is conceived, there is a very strong case for decentralised models. I strongly agree with her view here that “decentralisation is an idea whose time is come” and her characterisation of the Internet as a new cultural technology that opens up techniques such as distributed public ledgers that could allow more complicated coordination across society than those through centralised models. Whether this will, as she says “speed our progress toward becoming a truly advanced society” I cannot say (although I have my doubts!).

So why, I can hear you asking, bother with the replicated shared public ledger formerly known as the blockchain at all if financial institutions already have databases and such like? I think you can see three broad lines of reasoning that add up.

The first is robustness. If some or all of the participants in some marketplace each has an instance of the complete ledger, then the system as a whole might be expected to be more resistant to individual failures, errors and attacks. Think about the recent ATM and debit card system crashes that plagued one of the UK banks.

The second is innovation. When innovative and imaginative people have access to ledgers built from post-1960s components (e.g., APIs and XML), then they will no longer create accounting packages (and laws) that use the virtual world to simulate paper. They will use shared ledger technology to create a new kind of accounting not to do conventional account quicker.

Common sense dictates specialized distributed ledgers will better address specific assets via specialized algorithms and specialized scripting frameworks.

[From Distributed Ledgers Part III: Tokenization of Assets | FiniCulture]

The third is transparency. As I mentioned in the discussion about the “glass bank”, transparency may be the defining characteristic of the new financial order and I expect this to be a focus of our clients’ attention in the near future. I advance the theory here that the next generation of financial applications will focus on transparency as the key to the new way of doing things: the robustness and the innovation are great, but it is in area of transparency that new cryptographic techniques make it possible to create a new kind of ledger. I’ll write more about this in the future, but I will exploring the idea that transparency may be the lasting legacy of the financial crisis in my keynote at Next Bank Barcelona on September 22nd.

You might  add a fourth line of reasoning, which is to do with marketing, herd investors and fast-talking consultants, but we’ll put that to one side for the time being. So for now, let’s just focus on applications that can be “inspired by” the blockchain.

You can’t rob a glass bank, even if you work for it

At the Imperial College (packed) discussion on “Distributed Ledgers – Future Research Challenges“, chaired by Professor Bernard Silverman FRS, the Home Office Chief Scientific Adviser (and a mathematician), a series of speakers (including yours truly) sparked a valuable and fascinating series of discussions around the topic and, in my case at least, left me feeling as if I’d actually learned something.

In the morning, Iain Stewart from Imperial College introduced us to his “Nonsense Watch”. It turned out that his nonsense watch only had two things on it:

  • We hate Bitcoin but we love the blockchain.
  • The blockchain is efficient.

In a memorable presentation, elaborating on these topics, he told the assembled group that the a good way to think about the blockchain is to compare it to somebody swallowing condoms full of heroin and carrying them through customs in your stomach. It’s a really inefficient way to transport heroin around but you have to do it because “powerful forces” (as Iain called them) are trying to stop you from doing it!

I will never forget that example! Anyway, just to explain the background. Consult Hyperion were asked to become part of a consortium bidding to examine the potential for Bitcoin, the blockchain and suchlike across a variety of sectors in response to the Treasury’s decision to allocate £10m in funding for the topic. In this context I (along with a couple of my colleagues) took part in discussion at Imperial that brought together academics, technologists, government and a number of different businesses (including banks), which is why we were listening to Iain.

I thought it would be helpful, with such a mixed group, to use a narrative that would help people to communicate effectively and share ideas. This is why I used the “glass bank” example that I’ve used before and built on the presentation that I gave to the Dutch National Bitcoin Congress in June. As it turned out, it worked very well on the day and after discussing it with a couple of other people I’ve decided to expand it as clients might find it a helpful way to think about the new technology (as they get a bit bogged down in Bitcoin and cryptography). I have to say that it worked largely because Richard Brown from IBM had set things up so nicely for me with his discussion about “Creation Myths and Shared Ledgers” that immediately preceded my talk.

The actual purpose of my talk, narrative aside, was to put forward three solid ideas for research threads that could form part of the project. I’ll blog about this, but I was looking for examples of areas for genuine research, areas where the answers aren’t known, that could complement shared ledger technology in some way to deliver something special or different groundbreaking.

In the end the three examples I settled on were:

Homomorphic encryption. Although I wouldn’t say I was absolutely up to speed on the state-of-the-art in this field I do understand the rudiments and it strikes me as an area where any small improvements could lead to pretty significant benefits. This is an area where pure mathematics is needed and I would’ve thought that most businesses and even technology companies just do not have that kind of research going on.

Publicly-private records. This builds on the idea of “translucent” databases to use homomorphic encryption encryption to put data on public blockchains that can be audited in necessary ways but remain private. I don’t think it’s enough just to store encrypted data on public blockchains. If we can agree on the use of the word translucent to mean data that can be audited while remaining encrypted, then I genuinely do feel that a new kind of financial services industry could be on the horizon.

Bottom-up identity. It occurs to me that if it was possible to use homomorphic encryption to store publicly private records about an individual then the cryptographic techniques that are currently used to demonstrate attributes without revealing them (e.g., interval proofs) might be transformed to help creates a shared infrastructure for identity built on very different foundations (e.g., testing that an age is >18 without decrypting the age).

As I say, these are areas for research. I don’t know what might be discovered in these fields any more than anyone else does, but I have a feeling that it might be both important and of immediate practical application. Now imagine that we bring those technologies together to create “glass institutions” in the financial services world. This would be utterly transformational, in a way that making payments cheaper and quicker (even if this were true) is simply not.

The idea of glass institutions may seem paradoxical but with the advances in technology and our evolving understanding of how replicated shared ledgers might transform a variety of different kinds of systems, I think we can begin to explore their impact. I rather like the language of translucent transactions and I think it works well with the glass bank narrative to open up sensible discussions at the business (and regulatory) level.

So where does this take us? Well, as Richard said in his talk, a replicated shared ledger in financial services is unlikely to be “permissionless” in the censorship-resistant sense that Iain was talking about at the start of the day. However, it is entirely possible and highly desirable to construct replicated shared ledgers that allow for permission and innovation in the use of the ledger even if the ability to create transactions on the ledger is permissioned. Of course, this is not to say that both permissioned and permissionless ledgers cannot co-exist. Michael Mainelli provides an excellent narrative for this perspective, talking about the “Temple of Financial Services” in comparison to the “Souk of Sharing Economies”.

While my heart is with the Souk of Sharing Economies, my head recognises that there may be room for both. A sensible union would be a few, competing, ‘blockchain-type’ services encircling the globe providing end-of-day validation and recording of transactions, while thousands of mutual distributed ledgers do the busy work of serving thousands of shared economies. In effect, the merchants of the Souk bring their ledgers up to the Temple to be validated and timestamped by whichever priests occupy the Temple of Financial Services. It may not be orthodoxy, but it’s not heresy either.

[From iGTB – Liquidity Management – The Temple & The Souk – The Future Of Mutual Distributed Ledgers]

The permission, distributed shared ledger of the Temple will mean disruptive change. I can show this by giving a couple of obvious examples: what if a company chose from a group of regulator-certified auditing applications instead of from a competing group of auditors? Auditing banks’ books would become a continual process and you might even have multiple different applications constantly auditing the same bank on behalf of regulators, shareholders, customers, pressure groups and even rival banks. Anti-money-laundering processes would shift from expensive and rather useless gatekeeping combined with floods of suspicious transaction monitoring to being a variety of different anti-money-laundering applications combing through the shared ledger entries to find transactions indicative of misbehaviour (at which point, law enforcement agencies could apply for warranted access to the unencrypted ledger entry or relevant meta data).

This is why I don’t think it is an exaggeration to say that the shift to shared ledger technologies might be one of the most important innovations of our image of our age, and I will close by making another historical analogy to support that point.

In Victorian Britain, the collapse of railway companies led to a colossal crash in 1866. It was caused (and here’s a surprise) by the banking sector, but in that case it was because they had been lending money to railways companies who couldn’t pay it back rather than American homeowners who couldn’t pay it back. The British government then, as in 2008, had to respond. It suspended the Bank Act of 1844 to allow banks to pay out in paper money rather than gold, which kept them going, but they were not too big to fail and the famous Overend & Gurney went down. When it suspended payments after a run on 10th May 1866 (as frequently noted, the last run on a British bank until the Northern Rock debacle), it not only ruined its own shareholders but caused the collapse of about 200 other companies (including other banks). The directors were, incidentally, charged with fraud but got off as the judge said that they were merely idiots, not criminals.

The reason I choose this example is that railway companies then held the same commanding position in the economy as banks do today, so the impact on UK plc was substantial. Bear in mind that the first railway service in the world started running between Liverpool and Manchester in 1830 and less than two decades later (by 1849), the London & North Western railway was already the biggest company in the world. When the Directors of these gigantic enterprises went to see the Prime Minister in 1867 to ask for the nationalisation of the railway companies to stop them from collapsing (with dread consequences for the whole of the British economy) because they couldn’t pay back their loans or attract new capital, they didn’t get the Gordon Brown, investment bank advisers, suspension of competition law and the tea and sympathy of 2008. Disreali sent them packing as he didn’t see why the public should bail out badly run businesses, no matter how big they might be.

Needless to say, the economy didn’t collapse. As you may have noticed, we still have trains and tracks. A new railway industry was born from the ruins, the services kept running and the economy kept growing. And there was another impact. Andrew Odlyzko’s paper The collapse of railway mania, the development of capital markets, and Robert Lucas Nash, a forgotten pioneer of financial analysis argues that the introduction of basic corporate accounting standards following the collapse of the railway companies was a significant benefit to Britain and aided the development of Victorian capitalism.

So, with the well-worn maxim about not letting a good crisis go to waste in mind, I would like to advance this hypothesis: the long-term impact of the financial crash of 2008 will be a shift to the replicated shared ledger as the central organising principal for financial services. An entirely new way, as Richard Brown notes, of building financial institutions based on common ledgers and APIs.

Francis Keally’s vision will be realised and to the great benefit of society as a whole. After all, you can’t rob a glass bank, even if you work for it.


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