Julio Faura is the head of blockchain R&D at Santander.
There has been significantly debate about the potential positive aspects of blockchain technologies to improve the globe of payments — especially international payments.
This is a organization exactly where a lot of diverse parties need to have to reach consensus to route the payments, perform currency conversions, and deploy and handle liquidity in distinct jurisdictions, all topic to heterogeneous regulatory constraints.
One of the main concerns blockchain can tackle is the higher complexity of payments networks, due to the fragmentation of the financial market itself, which tends to make it impractical for person banks to deal directly with all other banks on the planet.
For instance, when a bank gets a payment instruction from a client, it demands to find a correspondent bank that is willing to take the client’s funds and terminate the payment locally at the receiving bank. And in order to do so, the correspondent bank wants to have a nostro or vostro account with the getting bank (or with one more correspondent bank that has access to the getting bank, therefore adding an added hoop), ideally with enough pre-funded liquidity to comprehensive the payment on the client’s behalf.
But when this happens, the getting bank has no way to confirm that the incoming transfer from the (final) correspondent bank, in reality, corresponds to the original client sending the funds. That is why a SWIFT message from the sender is necessary, so the receiving bank can understand the purpose of the incoming funds, do suitable due diligence or anti-money laundering checks on the payment, and inform the receiver of the funds.
All the parties involved have different ledgers, i.e. they do not share a single version of the truth, and the coordination in between all these parties is slow and error-prone, numerous occasions relying on manual interventions by back-office teams. In addition, someone needs to execute currency conversion at either finish, and diverse parties want to handle liquidity levels at nostro/vostro accounts, which includes settling against central bank accounts as properly.
Blockchain’s big guarantee is precisely supplying that single version of the truth that is missing in the image above.
Certainly, a true, smart contract-enabled blockchain gives a single ledger and transactional engine where balances can be maintained and transacted upon and exactly where payments can live as single, typical digital objects that make messaging and reconciliation unnecessary.
By making use of sensible contracts, distinct parties can not only register tokenized funds and payments, but they can also set in stone the guidelines applying to all elements of the finish-to-finish payments processes, eliminating errors and misunderstandings, escalating transparency and auditability, and reducing fraud and cyber risk. The result: Every thing on the exact same ledger, with the same smart contracts for all, and with the very same computational engine, with no possibility of errors or tampering.
Now, most of the (so-named) decentralised options getting proposed these days frequently concentrate on improving payments processes either by digitizing the messaging layer described above or, even better, eliminating it by making single, digital representations of payments that can enforce transactions on proprietary ledgers, connected to one particular an additional with some sort of inter-ledger protocol. This is certainly a important improvement on today’s message-driven payments processes.
But a important problem arises when one tries to scale such systems, particularly when big payments issued by corporate clientele are at stake: management of liquidity.
Certainly, quickly (overnight) payments rely on pre-funded nostro accounts, so the correspondent bank has the cash at hand to terminate the payment, as a result eliminating any settlement danger. And when these nostro accounts need to be rebalanced more than the course of the business day, massive sums of cash want to be moved by way of central banks. Once again, this is a slow and error-prone procedure — at least compared to the actual-time transactions, with finality within seconds, promised by permissioned blockchains.
A low velocity of liquidity internationally ends up tying up liquidity at nostros at levels that are higher than truly essential. This is a large problem due to the substantial opportunity costs of these funds — mounting from tens or hundreds of basis points to tens of percentage points in emerging economies.
The possibility of possessing digitally native tokens that act as a store of value inside the same ledger where payments, industrial bank balances and nostro balances are stored represents a fundamental, revolutionary solution to enhance this predicament. These tokens can be employed to exchange liquidity among liquidity providers and market makers globally in actual time.
Through this, it is achievable to implement token-primarily based secondary markets for liquidity exchange, which allow liquidity providers to trade with one particular an additional with considerably significantly less friction and improved transparency and reduce the levels of liquidity deployed in nostro accounts in diverse locations due to considerably larger capital velocity.
With these tokens and the use of smart contracts, participants can even post unused liquidity in certain geographies as collateral to borrow liquidity in places exactly where it is a lot more urgently needed, in true time.
The essential right here is creating these tokens as universal as feasible, and capable of supporting all the liquidity necessary these days in the currency markets &ndash which amount to a lot more than $7 trillion per day, according to the Bank for International Settlements. A significant portion of this marketplace is deliverable and as a result liquidity-associated.
There are proposals to use cryptocurrencies or unbacked crypto-assets to play this part, but this method suffers from a number of limitations.
The marketplace risk of such assets is fairly tough to hedge, due to substantial volatility, and the total liquidity in circulation is tiny in comparison with what is necessary in the marketplace — a market place which works fairly effectively with a rather universal and hyper-liquid asset available right now, the U.S. dollar.
As a pragmatic alternative, several top institutions are functioning towards generating tokenized, digital central bank income.
Some, like the Utility Settlement Coin project (which my bank, Santander, is portion of, alongside with UBS, Deutsche Bank, Bank of New York Mellon and a lot of other folks), do this via intermediate autos that hold the backing funds on a true-time gross settlement (RTGS) account. Other folks, like project UBIN in Singapore or project Khokha in South Africa, recently implemented and demonstrated by ConsenSys, directly implement RTGS accounts on intelligent contracts.
Either way, these initiatives show a viable strategy to improving liquidity management for industrial banks and market place makers, with the promise of supplying significantly higher liquidity velocity and transparency, with the prospective outcome of enabling a considerable reduction in liquidity levels within the entire financial system.
As these initiatives mature and flourish, we believe they will become a essential enabler of the decentralized, tokenized economy the world is so intrigued about.
Globe image through Shutterstock
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Published at Sat, 09 Jun 2018 11:30:15 +0000