Financial institutions are intermediaries of financial assets and liabilities. Their functions include investments (store of value), credit (borrowing of value), risk transfer and advising on these matters.
Ledgers are critical to finance, as they record economic activities and financial relationships. Payment and settlement systems are just the means of amending these ledgers. Because of this, where we require immutable records of transfer of value, blockchain may find use cases.
Some opportunities include:
- Reducing costs
- Reducing concentrated risks
- Privacy
- Censorship resistance
- Kick-starting projects and incentivising behaviours through tokenomics
At the end, we will also look at some minimalist arguments against blockchain.
Reducing Costs
Blockchain can help reduce transaction costs, costs of reconciling multiple ledgers and costs of auditing.
While there are transaction costs involved with using cryptocurrencies, the processors are decentralised and technical features may be added to reduce this in the future.
Since blockchain can guarantee everyone in the network has the same verified ledger updated real time, it reduces reconciliation and auditing risks.
Reducing Concentrated Risks
Blockchain can also find use cases in mitigating concentrated risks. Some recent crises in the financial sector include:
- Latin American Debt Crises — late 1970s
- Continental Illinois — 1984
- Black Monday — 1987
- Saving & Loan Crisis — 1986–1995
- Asian & Russian Debt Crisis — 1997–1998
- Subprime Mortgage Crisis — 2008
- European Debt Crisis — 2009
For example, the 2008 financial crisis was partly due to weak underwriting and predatory lending. Add this with easy credit, derivatives that tied the economy together and poor incentive structures in banks and rating agencies, the result was the famous crisis that we know well of.
While blockchain is not guaranteed to be fail-proof, clever applications can certainly diffuse the current single points of failure.
Privacy
The main revenue stream for tech companies are collecting and using transaction data for marketing purposes. Using machine learning, you can narrow down an individual’s profile to incredible details just by looking at their spending history.
Blockchain can be applied in use cases where this is not desired. Although ledgers are public, identities are anonymous and we can apply zero-knowledge proofs to make them more private.
Censorship Resistance
Central authorities have the ability to censor any information on their platforms. This can be prevented on decentralised systems on blockchain.
Kick-starting Projects And Incentivising Behaviours Through Tokenomics
Issuing tokens are a new way of crowd funding. This has proven to be an effective way to fund projects before development, despite its obvious risks.
Clever tokenomics can also encourage certain behaviours. Consider games where players behave in a certain way to earn in-game tokens with no intrinsic value. Bitcoin miners solving the cryptographic puzzle is no different.
The Minimalist View
There are many minimalist arguments on why these use cases might not be feasible:
- Cryptocurrencies are not a great store of value (high volatility)
- Tokens also hold no intrinsic value
- Authorities are centralised on exchanges, development and mining pools
- Subject to 51% attack, especially for small cap projects
- Technical challenges (transaction speed)
- Loss of private keys cannot be recovered
- Difficulty of achieving network effect
There are plenty of merits in both the possible use cases and the minimalist view. If we can learn anything from the past, it’s that adoption of technology come in the most unpredictable ways.
Blockchain does not need to solve every problem to take off, and there are plenty of specific use cases already.
