March 2017 – Volume 1, Issue 1
Blockchain: Breaking Down the Next Frontier in Financial Technology
In the advent of an era where technology ultimately works in tandem with everything we do, a new technology has surfaced which possesses the power to change the way we in which we transact with one another. To understand this technology, recall one of the most basic tools in accounting: the ledger. The fusion between the ledger and our technological innovation has created an opportunity for people to use a ledger online. Only now, an intermediary is not required to facilitate transactions between individuals. Confused? Welcome to the Blockchain.
The Building Blocks of the Blockchain
Before reading any further, understand this: The Blockchain is distributed. There isn’t any one mainframe or entity who controls the use of the technology. Instead, the Blockchain is comprised of several computers (called nodes) that all connect to one another which thereby creates a distributed network; each node equally owns the data that is uploaded to the Blockchain. To stay consistent with the ledger example, if someone bought an asset, the transaction (part of a block) would be added onto the ledger (the Blockchain) and every transaction within a 10-minute period would be coded into a block and uploaded to the chain. This new block would have a specific timestamp and identification key on each transaction that becomes essential in the validation process which will be discussed later.This concept is comparable to cloud services such as Google Docs or Google Sheets, whereby everyone with access can add to the existing document. However, the difference emerges with the fact that unpermissioned (public) Blockchains are visible to everyone; not only to those in which you personally invite. At first you may question why anyone would want their transactions publicly listed on a global ledger, yet the answer lies within creating competition amongst the public to validate every transaction.
The Magic Behind the Madness
Without the existence of any intermediaries, a reasonable question you may have is how exactly is the ledger updated? Another, may be, who ensures that the transaction is valid? Since the ledger is distributed and public, transactions are validated and updated by anyone who has access to the Blockchain. In fact, people called miners are competing to be the first ones to validate a block of transactions and successfully add that block to the Blockchain. With cryptography (mathematical equations), miners create equations that connect the current block to the ones before it. The process is quite difficult and requires vast amounts of computing power to do so. To incentivize people to invest in mining, the first party to find the one correct key that properly links the prior blocks to the current block receives 25 Bitcoin. As a result, this develops a network that is competitive and ultimately efficient as miners will continually invest in their systems to be the most proficient in the industry. If no link can be found between the current block to the current chain, the transaction is considered invalid and will not be added to the Blockchain. In this context, we can now picture the Blockchain as a string of transactions within a ledger that is constantly growing through the scrutiny and inspection of the public. Of course, the growing popularity of any new technology brings forth malicious attempts to destroy, hack or steal assets. Fortunately, it’s not so easy.
Hacking the Blockchain is a concern of the majority as people want their assets to be safe when they transfer them to other parties. When transacting assets, such as Bitcoin or even intellectual property, it is imperative that the party isn’t sending copies of an asset to several different groups and collecting a reward. For obvious reasons, if this happened, the asset would have little economic value and people would not want to participate in such a network. Once again, we revisit the concept of a distributed network. Since everyone has a copy of the current, updated ledger, if an individual tries to hack, alter or send false information, they will immediately be shut down by the miners. To successfully hack a transaction, someone would essentially need to hack all the previous blocks of transactions, from every computer that these transactions are held on, simultaneously, to alter the current balance of the ledger. Due to the unimaginable sums of money, computing power and other resources to accomplish suck a task, for now we can declare with a high degree of confidence that transactions made within the Blockchain will be free from corruption.
Building on the Blockchain
Solely understanding the theory behind Blockchain is similar to simply memorizing the equations before a math final. Although necessary, the equations alone won’t get you to your desired goal. It is imperative that you understand the potential uses for Blockchain. Some that you can explore on your own in greater detail are as follows:
- Private vs Public Blockchains
- Smart Contracts
Currently, Blockchain’s consequence on the financial services industry is seemingly the most pressing. The industry certainly invests heavily in studying and embracing the technology. In fact, the Chamber of Digital Commerce and the Structured Finance Industry Group created a partnership on February 27, 2017 that seeks to invest resources to simplify the $1.9 Trillion U.S securitization market. A study by Deloitte mentioned that implementing Blockchain technology has the potential to increase the certainty behind trading securities and to remove the current state of opacity from the market. As a result, the study states that the market will see improved liquidity when trading on the U.S markets because securities will be available on the market much faster than current methodologies. With such large investments across multiple large financial institutions, Blockchain’s debut into the financial services space is rapidly approaching. However, a key question that remains unanswered is, how will you embrace the change?
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