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Blockchain in Finance

Blockchain in Finance

What is a blockchain?

Traditional financial systems operate with a centralised database, usually with a single point of authority. Blockchain technology, on the other hand, allows for a distributed database that holds a growing number of records. Instead of existing in one place, the ledger is continually updated and synchronised across multiple computers in a network. Therefore, any participant in the network with the proper authorisation can view the entire ledger – without relying on an intermediary or any one authority.

Another key feature of blockchain technology is a “smart contract,” which is a self-executing protocol that enforces a previously agreed arrangement. For example, a smart contract could trigger an automatic refund under certain conditions or the automatic payment of an agreed commission after a sale. These smart contracts can eliminate delays in traditional Finance processes, while increasing transparency and reducing reliance on middlemen to follow through on their commitments. Moreover, like other parts of a blockchain, smart contracts are immutable, so they can enhance accuracy in the financial statements.

Based on the participants, blockchains are categorised as Public, Private and Hybrid. Public blockchain provides wide – open access, anyone can become a node and participate in the blockchain. Bitcoin is a prime example of a public blockchain. Private blockchain on the other hand allows limited access to specific users, such as a group of banks, through a permissions based private network. Anyone outside of the private blockchain cannot see or participate in blockchain transactions. Hybrid blockchain relates to the emerging concept of sidechain, which allows for different blockchains (public or private) to communicate with each other, enabling transactions between participants across blockchain networks.

Getting ready for a blockchain world

  • Blockchain is becoming priority in Europe with 22 EU member countries signing a Declaration on the Creation of a European blockchain partnership.
  • Investments in blockchain-related firms already doubled in the first half of 2018 compared to 2017.
  • The business value added by blockchain will surpass $176 billion by 2025 and $3.1 trillion by 2030.

 

Potential benefits of blockchain*

  • Up to 95% reduction in errors,due to the elimination of out of sync ledgers and reconciliations
  • Up to 40% increase in efficiency, due to straight through processing and a single source of truth
  • Up to 25% improvement in customer experience, due to faster processing and use of digital channels
  • Up to 75% reduction in capital consumption, due to quicker settlement of trades, straight through processing, and freed up capital flows

* Based on KPMG research

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How blockchain will impact core processes

To project the impact and determine which processes are best suited for blockchain, KPMG developed a framework that evaluates each core process on four key factors:

  1. Is it rule based? The more standardised a process is, the better suited it is for smart contracts in a blockchain
  2. Is the data fragmented, with multiple versions of the truth? Blockchain brings a clear benefit to fragmented data: a single source of truth that is synchronised across stakeholders
  3. Does a process require manual intervention? The greater the need for reconciliations, the greater the opportunity for blockchain to obviate them, by enabling all parties to view all transactions at their source
  4. How many stakeholders are involved? When a process involves many parties, blockchain can bring value through distributed ledgers and transparent records that give all stakeholders access to the same data at the same time
  5. These four criteria can be applied to all core processes, helping Finance organisations contemplate the impact of blockchain on their service delivery 
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How it can apply to Banking Finance function

Blockchain can increase financial efficiency by reducing manual manipulation. In intercompany transactions, blockchain will create one version of the ledger allowing intercompany transparency and settlement at the same instant. This will allow Finance to focus more towards value creation activities. The use of smart contracts will enhance governance and compliance of intercompany transactions.

The advantage of one single database is that it holds all the transactions, allowing to trace transactions, supporting documentation and reconcile accounting entries. Reconciliations between departments and subsidiaries will become almost at the same instant while ensuring transparency across all the interested parties.

Due to the immutable digital ledger that blockchain technology provides, the Triple Entry Accounting concept can apply where all accounting entries involving outside parties are cryptographically sealed and linked through a smart contract to a third entry.

The blockchain in Banking landscape

Many companies have moved beyond simple experimentation into proof of concept (PoC) and use case development. A small but rapidly growing number have even started to move blockchain solutions into production. For example, the Australia Stock Exchange is moving forward with a blockchain based solution to replace its current post settlement process, while WeBank in China is implementing a production blockchain system to provide syndicated lending capabilities; the solution is currently being used by three mid-tier banks.

There is no doubt that blockchain makes for an exciting value proposition. Blockchain has the potential to transform banking and if banking systems were to be rewritten today they would be based on blockchain.

Click below for more perspectives on the transformative role of the Finance functions in banks.