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Our Market Views
06/05/2017

Someday, blockchain may actually transform banking

In financial institutions, the reception blockchain has received to date has been along familiar lines: ignored at first, then mocked, before being hugely overhyped.

At this moment in time, the disillusionment has given way to talk of ‘the next big thing’. In my opinion, we should all remember that we are talking about a very complex and hugely transformative concept that cannot be expected to take root in just a few years. That said, let us look beyond the present and take a peek at a more distant future…

The current excesses that can be observed around the topic of blockchain may prove to have a seriously damaging consequence: presenting blockchain as a magic bullet ends up obscuring the actual value it can bring in many areas and in banking in particular. I think it would be helpful, therefore, to get back to basics and clarify what makes blockchain so fundamentally attractive. To begin with, I would define blockchain as a distributed database that uses consensus mechanisms to ensure only valid records are inserted and cryptography to make sure such records are immutable (i.e. impossible to alter retroactively).

In peer-to-peer networks, using consensus mechanisms as opposed to a central authority is a real novelty. However, such mechanisms are very expensive in terms of energy and time even if the later generations of blockchains tend to offset this disadvantage. The fact that the consensus mechanism is slow and expensive is not only a drawback. It is also beneficial in the sense that it is practically impossible for a malicious party to build a fake blockchain and advertise it as a real one.

Immutability is achieved by linking the various blocks. Each block contains the signature of the previous one. Each block's signature is a 'trap door' function for all the data in this block. This means that changing even one bit of the data will completely change the signature. For this reason, it is impossible to modify a past block without changing its signature, thereby breaking the chain.

The distributed nature of the blockchain makes it auditable by anybody. So reading the blockchain is perfectly open - as opposed to writing, which is controlled by the consensus mechanism.

No other technology is currently capable of the same feat and the only existing alternative is to trust a "human-driven" third-party (a bank, notary, lawyer, state, etc.) to store information that needs to be protected and never altered. Imagine the opportunities if this trust service could be handled by an algorithm instead of a person or an entity. Unlike its human counterpart, such a service could never be under suspicion of any wrong-doing.

At this stage, however, the concept and its initial applications are still in their infancy. The technology’s promise then comes with many caveats. Even someone as enthusiastic as the lead developer of Ethereum, Vladimir Zamfir feels obliged to publicly remind of us the fact that blockchain should be considered as "immature experimental technology", if only because of its inherent severe technical limitations, such as scalability issues. And although I refer only to blockchain in this post, I believe other solutions may appear in the future, capable of delivering the same benefits without the drawbacks. For now, however, such solutions remain complex and immature. They have yet to be proven economically viable and, in any event, would have to be blended with more traditional technologies to cover extended application fields.

With these two opposing perspectives in mind, we at Société Générale remain optimistic about the potential of blockchain in the future, while also keeping a cool head about the current initiatives. This explains why we are involved in many initiatives, pilots and experiments (including, for instance, our commitment to the R3 consortium, our participation to Labchain, our recent successful test with ING and Mercuria on oil trading, Digital Trade Chain, etc...). More broadly, we are also keeping a close eye on the hundreds of stakeholders (from start-ups to global technology companies) addressing the market. At this early stage, it is impossible to predict which of these will emerge as leaders. However, the first key to the future of blockchain will be financial institutions’ willingness to embrace the idea of replacing their legacy systems with something entirely different. In all probability, the introduction of blockchain will be a gradual process and will depend on the extent of the productivity and cost benefits for the industry.

My conviction is that there is a long road ahead. To remain relevant as a bank, we have to embark on this journey early on and with a very flexible mindset. We already know that many paths will ultimately be dead ends, but that they must be explored to pave the way for the major changes that will shape banking a few years from now.

Food for thought: If Blockchain is the answer, what is the question?

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