Credit Suisse has identified what it sees as 8 “key challenges” for the mainstream adoption of blockchain, the innovative database technology first developed to underpin digital currency Bitcoin.
Banks and financial institutions have been going crazy for blockchain technology over the last year and a half.
Institutions are spending thousands on proof of concepts using the technology, issuing countless white papers, and joining industry-wide bodies to figure out how to use the protocol.
Blockchain, also known as distributed ledger technology, is a kind of decentralised database system. Instead of one central database of who owns what in a settlement house somewhere and duplicate records in banks based on this master ledger, blockchain is a network of identical databases that talk to each other and are updated simultaneously.
Every time someone wants to make a change or add something onto the blockchain, the majority of members of the network must sign off on it. This cuts out the need for middle men in transactions, because the fact that everyone signs off means trust is built into the system. Bitcoin’s original blockchain is used to record bitcoin transactions — but the tech could theoretically be used to record just about anything.
In essence, blockchain helps cut out a lot of admin, and has the possibility to reduce costs and increase simplicity in finance. Goldman Sachs went as far to say that blockchain has the potential to “change, well, everything.”
But in a note on the technology sent to clients this week, Credit Suisse analysts Charles Brennan and William Lunn says they are “less sanguine” about the technology, and identify 8 key barriers to blockchain’s successful transition from interesting, leftfield technology to mainstream, financial services core technology.
- Security vs Cost trade-off: Basically, the current set-up either means your blockchain is cheap but risky or expensive and secure. In bitcoin’s blockchain, the integrity of the records is guaranteed by the fact that the majority of the network are signing off on each transaction — more eyes are inspecting it. Bitcoin incentivises this by rewarding people with bitcoin for the job of inspecting and cryptographically sealing off the transactions. This is costly. Permissioned networks are the alternative and operate like a private members club. There’s a doorman but once you’re in, you can do what you want on the network. The fact that there are fewer people on the network means there’s less oversight of transactions and potentially room for abuse by one of the members.
- Do you actually need blockchain? Credit Suisse says: “‘If it ain’t broke, don’t fix it,’ for a blockchain to be relevant you must: (1) require a database, (2) need shared write access, (3) have unknown writers whose interests are not unified, and (4) not trust a third party to maintain the integrity of the data.”
- Critical mass is essential: Blockchain is, after all, a network. What use is it being the first one to join if you can only really use it when there are lots of members? There is some progress on this problem with various industry-wide bodies, such as R3 and the Hyperledger foundation, but getting people together is one thing — getting them to agree and work together is another.
- The input problem: Pretty much the same as problem one. A blockchain is only as good as the information on it, and so far good processes haven’t been developed for vetting anything other than bitcoin transactions. Vetting people who are allowed on the chain needs to be sorted too.
- Hackable: The more people on the network, the more entry points, and the more vulnerabilities for hackers. Of course, part of blockchains appeal is that once data is logged it can’t be changed but bad actors could place false trades, for example. Even proprietary data about who’s trading what with who could be valuable.
- You have to see it to believe it: Credit Suisse writes: “Although identity can be encrypted relatively easily on a blockchain, transaction data are not for the simple reason that nodes have to see it to verify it. This may be an issue for those concerned about data privacy.”
- Identity problems: Basically, what if you lose the private key that unlocks ownership of a specific asset registered on the blockchain? Credit Suisse: “The issue with bearer instruments is you can lose them; cash being the most salient example. A better solution to reconciling on and off-chain identity appears necessary.”
- The DAO attack: The Decentralised Autonomous Organisation, which holds hundreds of millions of dollars worth of digital currency Ethereum, was hacked in June, forcing it to “fork” its network to stop thieves taking more. But the problem is Ethereum, like bitcoin, is a decentralized network and so needed the consensus of the community before it could make the immediate change. Credit Suisse says: “The ‘hard fork’ undertaken by the Ethereum community also shows that blockchains are only immutable when consensus wants them to be.”
Despite all the above, Credit Suisse says they see blockchain as potentially “disruptive” technology that should be embraced. Just don’t get too caught up in the hype.
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