Blockchain is considered to be the next disruptive technology after the Internet in the 21st century. This is due to its potential to change the fundamental infrastructure of core banking and other financial services. While most financial services operate on a centralised consensus model, blockchain’s underlying strength is that it is a decentralised ledger system and each transaction requires consensus from each node or device that are part of a particular blockchain.
The transparency and the immutability of blockchain has made the major financial giants invest heavily into research and development projects leveraging blockchain. The reduction in administrative processes due to its decentralised architecture reduces the associated costs for verifying transactions and further incentivises companies to research the potential of blockchain technology.
Trust is everything!
Due to the transparent nature of blockchain where transactions are known and verified by all the blocks in a chain, there is great potential to resolve some key problematic areas within Fintech. This include mutual distrust, fraud, cyber threats and other operational inefficiencies especially overrunning time and cost with cross border transactions which involves several layers of communication among participants.
Being in its infancy, there are a lot of areas both SMEs and large companies invest into R&D to be able to pioneer niche areas of the blockchain revolution. Authenticity of transactions is a key factor in making blockchain based solutions very lucrative to a variety of industries especially Fintech. Although the chains cannot be tampered with once they are validated and registered in the chain, it is vital to ensure that the associated parties are completely validated before the transaction even takes place. CFO of Patio, Irina Berkon says, "The future is in blockchainization and tokenization of the finance industry. Blockchain is the most convenient environment in which AML regulation can be applied. All transactions have trusted track records. The wide spread of blockchain in the finance industry results in self-regulation of the financial system and the best option for further development”1. Development is underway for software that computes various AML regulations based on forensic analysis of data transactions in a blockchain.
Companies have started investing into developing analytic software to understand intricate connections between the chains in a blockchain and perform sophisticated data analysis which is key to the Fintech and law enforcement sectors. Developing compliance and regulatory tools for blockchain is another area of R&D which is still in its infancy, but when fully developed, will enable blockchain to be embraced as a common medium for transactions.
Smart contracts is yet another vital area of interest in the blockchain world especially for Fintech. Smart contracts are self-executing computer code based on the mutually agreed terms and conditions and they existed prior to the blockchain revolution. When implemented on the blockchain platform, they eliminate the need for updating various parties involved as and when changes occur. By the very nature of blockchain, any changes to the clause are automatically updated by all parties involved and the contract self-enforces itself. This reduces transaction management costs as well as provides near real-time settlement. Furthermore, automation of transactions management based on immutable blocks of publicly verified data increases trust and eliminates post trade settlement latencies in the fintech sector. As such, these lucrative aspects of blockchain based applications have inspired companies to invest heavily into niche development activities 2.
How secure is a secure blockchain?
Nothing is unhackable including blockchain. Even then it provides one of the most robust technologies that have existed so far. This is due to the fact that no single entity can carry out a transaction without the entire network agreeing to it. As more resources are invested into blockchain based opportunities, hackers spend more time and resources developing ways to steal public and private keys that are necessary for data access. Due to the strength of the cryptography involved in blockchain, it is easier to develop ways to steal the keys than attempting to guess or compute them. Problems such as majority attacks where a significant number of participants conspire together to commit fraud providing consensus to carry out transactions is another potential security threat. These are some of the clear vulnerabilities where more research needs to be carried out 3.
What does the future hold?
Blockchain can be the make or break technology that will rewrite the fundamental architecture of Fintech. The key question is, blockchain being the antithesis to a centralised regulatory system, how well does it currently respond to the regulatory standards that are vital to the functioning of financial institutions? Not very well, currently as it stands. Although innovation is fuelled by freedom, the key industries that blockchain is currently disrupting requires some form of regulation or the other. Lack of regulations could mean that at the point where multiple chains need to be integrated, unforeseen security risks could evolve. There remains questions about its scalability and sustainability due to the high energy consumption facilitated by the participation of multiple nodes, more notoriously in the blockchain based cryptocurrency mining. Maybe that there is still research to done to identify sustainable cryptocurrency mining and other blockchain based transactions. Maybe that more innovation in this area will lead to not only a highly technologically advanced world but also one where even climate change will be reversed as a result 4. Only time will tell.
BDO’s Fintech team and experience
The BDO Fintech team are all financial services and technology specialists. We are a cohesive team covering audit and assurance, tax, cyber-security, governance, risk management, internal audit, compliance, and regulatory advice. We will guide you through the demanding regulatory environment that typifies the market as well as helping you with any other business challenges you face.