Blockchain and its role in capital markets has reached a fever pitch. Nearly all market participants – be they major fund managers, regulators or service providers – will have some semblance of a Blockchain strategy in their business development or at least thinking about having one. Whether it is a meaningful effort, or simply tokenism is yet to be determined, but distributed ledger technology is something that industry professionals are considering and analysing. Implementing Blockchain will take years, possibly even decades. Its integration into financial technology and systems could even be usurped by another disruptor.
Distributed ledger technology is certainly not the panacea it is purported to be. It will not replace every manual process that is endemic in fund management or market infrastructure. It may certainly complement certain aspects of financial services by streamlining processes and creating a single source of truth, for example. Reporting to regulators is perhaps the best example of how Blockchain could be leveraged onto a wholly manual driven process. The disintermediation of custodians, central counterparty clearing houses (CCPs) or central securities depositories (CSDs) from the post-trade space is a distinct possibility, but Blockchain faces many flaws, which must be overcome before any disruption becomes a reality.
Nearly every industry conference will reference Blockchain’s flaws. These include concerns about scalability. Blockchain has been experimented in a few, select small markets and asset classes such as equity crowdfunding. Its disruptive impact on a sizeable bond or equity market could be undermined by an inability to deal with transactional volumes. Equally, Blockchain proponents need to argue more succinctly about their cyber-security protections. A typical response from Blockchain supporters is that it is immune to hacking. This is not credible. Countless financial and non-financial institutions have been hacked by various organisations including nation states, criminal gangs or former employees. Blockchain should not be treated any differently.
One of biggest challenges facing Blockchain is standardisation or copious lack of. International agencies such as IOSCO have spent years attempting to harmonise the processes at CSDs and CCPs globally with varying degrees of success. Countless industry forums and working groups are dedicated to bringing uniformity to this fragmented market. There have been successes, but it has come at considerable time and cost. Blockchain’s revolutionary potential is not in doubt, but market participants’ ability to reach consensus on its usage is far from guaranteed. Market utilities including SWIFT have bemoaned Blockchain’s development as it has not included industry-wide standards in its evolution. This needs to be fixed if Blockchain is to succeed.
Blockchain is not harmonised. Numerous providers offer Blockchain infrastructure and the technology is not shared but private. Blockchain in its purest form must be a public utility. Instead, fund managers and banks are developing their own private Blockchains, utilising proprietary tools. The lack of harmonisation across CSDs and CCPs across individual countries has caused widespread inefficiency in the post-trade space for years. Imagine a scenario where not only countries adopt different Blockchain protocols, but individual companies within those jurisdictions. Instead of simplifying the current market operating model, Blockchain could well complicate it beyond reproach. A failure to encourage the development of a public Blockchain utility will mean the status quo is likely to remain for a while.
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