If credit unions continue to take a wait-and-see approach on blockchain technology, they will miss out on the opportunity to help shape not only how it will be used—but how it will be regulated.
But the first step is developing an understanding of what blockchain is…and is not. In an effort to better understand blockchain and its relation to cryptocurrencies and the financial industry, Best Innovation Group recently released a podcast: Mission Impossible: Explain Blockchain. One key takeaway: blockchain should not be defined by bitcoin.
"Most laypeople still equate blockchain with bitcoin and with that comes an image of currency speculation, shady transactions, the Mt. Gox meltdown, etc.," said Managing Principal at 154 Advisors Glen Sarvady who served as guest panelist on the podcast. "Bitcoin is merely an example of an application of blockchain. It was an interesting proof of concept, but most of the investment attention is focused on broader applications."
Best Innovation Group CEO John Best stated that Bitcoin has value, but said to date there is an inherent trust issue with Bitcoin that has stymied the perception of blockchain. It is important, he said, to differentiate Bitcoin and blockchain in this ecosystem.
Blockchain or "distributed ledger" is often linked to cryptocurrencies such as Bitcoin. And while there are more than 20 cryptocurrencies worldwide, Bitcoin, released in 2009, was the first decentralized ledger currency.
"The concept of the distributed ledger is planting strong roots in a variety of areas from government applications to financial services and beyond," said Paul Mica principal for The DMA Group. "With the cover off of the technology, blockchain discussions turn to development, implementation and regulation," said Mica. "Now is the time for credit unions to engage and stay ahead of the curve."
How Banks Are Pursuing Blockchain
Credit union executives need only look at big banks to understand how blockchain will be employed in the industry. Best noted that Bank of America has filed more than 20 patents on blockchain and European banks are investing in this technology — a mere sampling of market activity.
"JPMorgan announced that by year-end it will be using blockchain to clear some investment transactions," said Sarvady. "Some of these more controlled uses involving networks of limited size will likely serve as proof of concept in the near future. My somewhat informed guess is that consumer-facing use is three to five years out."
Sarvady sees land deeds, smart contracts and collateral documentation as a logical blockchain/bank entry points. "Blockchain uses need not involve currency exchange, which is a concept I believe is still not grasped by many."
Perhaps the biggest industry indicator of blockchain's relevance is the R3 Consortium. Founded in 2014, the consortium, comprised of more than 40 financial institutions worldwide, is a research and development movement focused on blockchain usage in the financial system.
Mica explained that the consortium is taking steps to develop blockchain applications and platforms that could be used where current databases and information/transaction networks are employed within a controlled, regulated space.
"This would potentially allow for the attractive, public shared ledger aspects of blockchain, while limiting users to say, bank customers and stakeholders," said Mica. "An important aspect of their intent is that they actively separate themselves from several current cryptocurrency platforms such as Bitcoin."
Blockchain Regulation
As a concept, blockchain is slowly gaining industry support. But aside from industry acceptance, blockchain will require unilateral government regulations.
"Around the world central banks and government agencies are actively working on ways both regulate and utilize blockchain technologies," said Mica. "The Commodity Futures Trading Commission (CFTC) has been out front on this and could be a window of how other agencies would approach blockchain."
In January 2015, CFTC Commissioner Christopher Giancarlo stated during a public technology hearing: "Open ledgers may also make possible new 'smart' securities and derivatives that will revolutionize operational and transactional efficiency. They may help reduce some of the enormous cost of the increased financial system infrastructure required by new laws and regulations, including Dodd-Frank." He continued, "Enormous resources are being invested in developing the distributed open ledger known as the blockchain. Regulators must cultivate and embrace new technology such as the blockchain and not stifle innovation."
In the U.S., each state has varying levels of interest in blockchain. To this end, Mica said an interesting paradigm is developing. The government is simultaneously learning to use the technology while determining how to regulate it.
"This creates tremendous opportunity for credit unions to help create regulations from the ground up," said Mica. "If we sit back and wait, it will likely be a matter of working to amend laws and regulations created with the influence of others, namely banks."
On Sarvady's radar is the Federal Reserve's Faster Payments Initiative. A request for proposal (RFP) has been issued calling for solutions moving forward the speed and efficiency of the U.S. payments system, he noted.
"It would be a bold move, but given the lead time required to implement changes to the payment system, there's also risk to selecting a solution that could wind up behind the curve before it goes live," said Sarvady.
Will Credit Unions Push Blockchain?
Whereas credit unions have been early adopters in certain forms of technology, to date CU executives are seemingly taking a wait and see approach with blockchain. Mica said this methodology is flawed. The time to act, he said, is now.
"I have not seen significant movement on blockchain among credit unions or the NCUA," said Mica. "This is unfortunate because blockchains have the ability to move information and process transactions extremely fast with (so far) unprecedented levels of security, all while reducing cost and increasing transparency. This makes it a technology that, by design, is uniquely aligned with credit union and cooperative principles."
