Is blockchain a game-changer for the financial industry? Let’s find the answer.
Finance is an essential part of our life. Almost every day, we deal with money or its alternatives. We give and take cash, cheques, digital payments, and other financial instruments. In the present world, everybody irrespective of their geographic location and occupation has to deal with it.
Ever wondered what makes money “the money”. For sure most of us won’t bother about it as we’re living in a world where money works. Still, it’s an important question.
What Makes Money, “The Money”
If you look at a currency note, a dollar, for instance, it’s a piece of paper. There is not much physical difference between a $1 and a $100 note. Both are pieces of paper with very less value than what they trade for. A bank cheque can carry the value of a single dollar or a trillion dollars. In the case of digital banking, you only see a number being added or subtracted from your account. In all these scenarios you are least bothered by what meets your eye, a printed piece of paper, a partially handwritten paper, or a digit. What you perceive is the value guaranteed by some authority you trust. We trust the governments that issue the currency, and the banks that issued the cheque, or made the digital transfer.
Let’s put it another way, would you take a bitterly printed currency note on a finer paper than that of the US$, from an unknown person? Or would you take a message of a digital transfer from a friend as an alternative to a digital transfer from a bank? The answer in both situations will be no and the reason would be the absence of trust.
Third-Party Trust Factor
The conventional financial system works on a mechanism where the transaction between two parties is only possible under the assurance of a third party. It can be a government treasury in the case of a currency note, a bank in the case of a cheque, or a digital transfer. This is what being practiced for centuries. Without a third-party, financial transactions are not reliable. It is good as the sanctity of the transaction is ensured this way. But this mechanism has a cost. The transaction is between two peers but the Third party is there to facilitate the transaction. This arrangement comes with a cost that cannot be reduced significantly due to the huge networks that these financial institutions have to maintain to cater to the larger segment of the population. This cost factor makes it difficult to transact smaller amounts frequently. Even for larger sums, the cost is not very viable. But as stated earlier, the third-party cost cannot be reduced beyond a certain extent.
How can the transaction cost be reduced?
This is the question that stands unanswered for ages. If the third party is eliminated and the peers decide to transact directly, how can two peers trust each other?
Finally, there is an answer to this question. Blockchain. Blockchain is the only reliable mechanism that can solve the third-party problem as well as those arising from the same.
What is blockchain?
In its basic definition, a blockchain is a shared, immutable ledger that records transactions as they happen. Technically, a blockchain is a digitally distributed and decentralized real-time public ledger spread across a large network. A ledger is a book of accounts where no entry is deleted. Even if it is incorrect, it is rectified with another entry. The same is the case with blockchain. You can write a transaction to the blockchain, but you can’t delete it once it has become part of a block. This makes the entry immutable. By shared, it means that a blockchain is not located on a single computer but is shared by a network of computers. The blockchain works as a peer-to-peer network. That means all the computers on the network work as a peer to the other. That is why it is often called a decentralized network. The transaction on the blockchain is recorded in real-time and once it becomes part of a block, it will always remain there along with the corresponding information. The transaction is recorded on a block and the block is then added to the blockchain. A block once becomes part of the chain, its corresponding position can not be changed. As blockchain is stored on a large number of computers spread across different locations with each computer having a complete record with them, it won’t be lost against any catastrophe or malicious attack.
More about blockchain can be found here.
Can Blockchain Replace Third-Party Trust Factor?
The blockchain protocol itself ensures a mechanism that can effectively defend it from any inside or outside challenge.
A record on the blockchain can’t be modified, replaced, or deleted. There is no need for a central authority to ensure that. The inherent features of the blockchain protocol ensure that. The data on the blockchain can’t be tampered and it is always verifiable by all the relevant parties. Isn’t it what we’re looking for while making a financial transaction. This way blockchain can replace the third-party trust factor.
Why We Need Blockchain To Replace Third-Party Trust Factor?
The question that arises here is why we need blockchain to replace the banks and financial institutions in a transaction where the former is successfully serving the purpose? The answer lies in cost-effectiveness. Unlike conventional financial networks, blockchain network doesn’t require expensive infrastructure. According to a recent BIS research report, blockchain can save around $6-8 billion in KYC/AML, $30-40 billion in trade finance, and $50-60 billion in capital markets per year. Cost is not the only reason for blockchain adoption. It also enhances the security, efficiency, and reliability of a financial system.
This way it can be concluded that with the proper adoption, blockchain can be a game-changer for the financial industry. It can revolutionize financial services by making them more reliable, efficient, and accessible. The smartphone revolution has already provided a global platform for digital financial services, and combining those with blockchain can be a game-changer for the financial industry.