Innovation | 03.29.22
Contemplating Blockchain, Banks Have Choices – None of Them Easy
Cryptocurrency comes with a ton of jargon. The sector is awash in abbreviations. Take, for example, "FOMO." That's the fear of missing out. And it is not to be confused with "FUD" (fear/uncertainty/doubt), often used as a catch-all to explain any given drop in the price of Bitcoin. These phrases also come to mind when it comes to small- and medium-sized banks as they explore blockchain technology.
"Two years ago, you might get a few conversations going with community banks and credit unions, but blockchain was on their periphery, something on which to perhaps keep an eye," said Kevin Greene, chairman and CEO of Tassat, a private blockchain solutions provider to banks.
Such conversations have dramatically shifted.
"In the past 12 months, the leaders of these banks are more often starting to say, 'We have to do something,'" according to Greene.
Digital Money in Demand
Basic technology infrastructure at legacy banks is under siege from disruptors. At the same time, the pandemic has accelerated demand for digital experiences and digital money.
Earlier this year, some 300 banks, abetted by NYDIG, launched a service together to let customers trade crypto via mobile banking apps, according to the American Bankers Association (ABA), which has made an investment in NYDIG. A provider of Bitcoin-centric solutions for banks, NYDIG is pushing into the community bank market, establishing partnerships with providers, such as Alkami, Allied Payment Network, CSI, FIS, Fiserv, Jack Henry, NCR and Q2.
"Cryptocurrency, in particular, is a topic where we find a mix of views among members," ABA CEO Rob Nichols said in January. "We understand that expanding into [it] won’t be for every bank, and that’s okay."
Actual adoption of blockchain can be daunting. Complexities increase when factoring in dedicated financial advisory segments, building on legacy technology to intersect with digital assets. Tassat’s Greene believes banks and financial advisors should look well beyond cryptocurrencies and more fundamentally embrace the underpinning blockchain technology as a platform for growth. Tassat built the blockchain-based real-time payments solution Signature Bank (private labeled as Signet).
Not every bank is leaping on the trend, though. Many are ignoring it and hoping for more clarity down the road, possibly not a tenable course, considering the risk of losing market share to so-called neo banks. Partnering with a fintech provider has been a conventional approach, but it has drawbacks.
"You end up sharing your franchise of customer relationships with a fintech who ultimately wants to compete with you," Greene said.
Some larger institutions might seek to acquire a fintech, either entirely or by way of an outsized stake. Another path, which Tassat recommends to banks, is to incorporate blockchain technology internally.
In the case of Signature Bank's bid three years ago to create their own real-time payments platform, Signet turned to Tassat to build their blockchain based solution for them, according to Greene.
Be Not Afraid
Blockchain connotes something hard to fathom and futuristic, but it’s just software with roots tracing to decades-old computerized database protocols. The blockchain is a form of distributed ledger technology (DLT), which has come to describe a decentralized, peer-to-peer network in which information is put into digital blocks (in a chain.)
Building the Signet platform on the blockchain afforded Signature Bank the ability to use “smart contracts.” This bit of crypto jargon is often thrown around in conjunction with the Ethereum blockchain and myriad of decentralized finance (DeFi) applications. What are smart contracts? Automated, self-executing contracts. They allow for more automated functionality when various entities can let their data systems talk to each other and share information.
Payments Space Explodes
More automation is generally associated with faster, less cumbersome to execute (i.e. less costly) transactions compared to, say, the RTP Network.
Launched by The Clearing House in 2017, RTP is a proprietary real time payment system. RTP, which does not rely on blockchain technology, began in 2020 with 19 institutions. It now has more than 200. According to The Financial Brand, citing an EY Global article, there are at least 40 active real-time payment schemes in operation around the world. Dozens of others are in the works.
Not all financial technology involves the blockchain. But the winds in finance are generally blowing in a much more decentralized direction, which ties into the rise of networks that facilitate the creation and deployment of smart contracts. One of the largest and best-known cryptos, XRP, is closely associated with Ripple Labs, which is using blockchain technology to aggressively compete in the global wire remittances market, with a particular emphasis on building a presence in Asia. However, Ripple is ensnarled in a regulatory fight in the U.S.
The Securities and Exchange Commission filed a lawsuit against Ripple, charging the San Francisco-based company with the unlawful sale of a security. Ripple vehemently insists XRP is a currency, not a security.
Banks in the U.S. will have to weigh the risks of getting involved with a public blockchain. Although, it’s worth noting that regulators do seem to be shifting their tone.
U.S. Treasury Secretary Janet Yellen recently told CNBC that she expects a set of regulatory recommendations that protects consumers but allows for innovation. The U.S. Federal Reserve is studying launching a digital version of the dollar. Big banks are using blockchain for complex trade finance deals undergirding the freight shipping industry (and which are notoriously paperwork-authentication intensive).
"Embrace blockchain and put it to work for yourself," Greene said. "Blockchain technology is simply a more sophisticated data management tool just like the first PCs were 40 years ago. Not scary if you learn how to use it."