BankThink Private ‘Distributed Ledgers’ Miss the Point of a Blockchain
- October twenty eight 2015, 9:30am EDT
Bitcoin may have had the most successful marketing campaign of any web technology in latest years. But now there’s a fresh buzzword making flaps across the financial industry: “distributed ledger.”
As with many buzzwords, distributed ledger technology has come to mean many things. Some say it’s a instrument to enable transparency by ensuring that all members of a group receive cryptographically secured messages about participants’ activities. Others suggest that these ledgers will notarize communications. Some are even bold enough to predict that distributed ledgers will end the madness of managing numerous database and reconciliation structures.
While the industry is still working out the details of just what distributed ledgers actually are, the major options seem to have a few things in common.
Distributed ledgers have primarily claimed to supplant the need for Bitcoin’s mining process by introducing trust requirements among participants. These ledgers also promise users the immutability of Bitcoin without the need for expensive mining operations. Unluckily, most of these claims demonstrate a significant lack of understanding about the efficiencies of a blockchain.
One instant crimson flag that should leap out at any fan of market efficiency is that the technology powering distributed ledgers predates blockchains by well over twenty years.
The consensus algorithm "Paxos" was one such implementation created in 1989, followed shortly thereafter by "Raft.” It’s hard to believe that such innovations would take twenty five years to be discovered in the hyper-efficient world of database design.
Moreover, the inefficiency of interbank settlement services has little to do with technology. The primary reason inter-bank settlement takes days to clear comes down to regulations.
These regulations exist for a number of reasons. Most of them are designed to reduce risk via lengthy, often manual processes. These delays permit banks to switch sides transactions if needed.
Proponents of distributed ledgers argue that they can displace centralized providers such as SWIFT, ACH and CHIPS by moving money swifter. But distributed ledgers are only more efficient insofar as they are able to circumvent the overhead of regulatory requirements.
There’s no doubt that blockchain technology will facilitate disruptive innovations in finance, much as the Internet facilitated effortless public access to information. But a world of private ledgers sounds eerily similar to a range of “private Internets.”
In addition, many of the features suggested by distributed ledgers are already available on other systems.
Encrypted e-mail, for example, is a system in which cryptographic receipts are time-stamped and logged by all participating parties. The SWIFT network itself facilitates the exchange of identity-verified and auditable messages. Participating institutions have thus appeared largely pleased with the reliability of SWIFT’s notarization and auditability. And no institutions have been clamoring to share logs of their activity on this network with direct competitors.
Blockchain technology is useful not because it offers efficiency in a world of message-passing but because it uses a elaborate process to lodge value inbetween untrusted parties. But distributed ledgers do not suggest users the capability to lightly convert their tokens and messages into fungible units of value. Nor do distributed ledgers escrow value inbetween parties that don’t trust each other.
If a ledger is not a public resource, it will have the pressures incumbent to existing settlement systems plus the overhead of maintaining a collective database among competitors. What efficiency will remain thereafter remains dubious.
If distributed ledgers do suggest the capability for banks to improve efficiency in their processes, it will likely be because they’ve afforded banks permission to innovate—not because they’re able to provide settlement to underserved notarization clients.
Chris DeRose is the community director of the Counterparty Foundation