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The Weekend Read: Mar 26

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by Todd McDonald

When they say ‘Blockchain’ just close your eyes and think ‘DLT DLT DLT’…

First up, some Corda love. This Australian Financial Review article (paywalled) highlights how our bank partner CBA used Corda in collaboration with their customer, Colonial First State, and a delivery partner, Hewlett Packard Enterprise, to show how it could help solve a key business problem of capital costs:

Colonial First State is re-engineering the process of buying units in the $2.2 trillion market for managed funds in a move it says will “dramatically” reduce the amount of capital banks will have to hold against wealth operations. A recent experiment with Commonwealth Bank of Australia’s emerging technology team and Hewlett Packard Enterprise using the R3 consortium’s Corda ‘distributed ledger’ allowed Colonial to eliminate arduous paper application process for managed funds and the three-day wait for the delivery of units.

Corda, which is being developed by a consortium of global banks, can remove counter-party risk for intermediaries like CFS by allowing assets to be exchanged and transactions settled instantaneously. It also provides transparency on what each counter-party holds across geographies. By removing the risk of the issuer defaulting or the investor failing to settle, banks will be able to reduce the amount of regulatory capital required to provide cover for those risks.

“If [a blockchain] was adopted locally, regionally or globally, the capital the industry would need to hold could reduce dramatically,” CBA’s group executive for wealth management, Annabel Spring, told the APAC blockchain conference in Sydney last week.

CBA is confident about Corda’s security protocols, which have been designed with input by dozens of banks around the globe. In the CFS trial, the units were transferred cryptographically with keys in the form of PIN numbers required to access the system through mobile apps.

We also got a nice shout out by our friend Michael Dowling of IBM with this in depth post on the evolution of Corda, along with some reference to the recent blockchain-not-blockchain kerfuffle. And since we have been, ahem, a few weeks between posts, here are some ‘catch up’ blockchain-y links:

And finally, a big congrats to ATB Financial as our newest Canadian member!

RegTech (cont.)

R3 was happy to announce another member recently, as we welcomed the State of Illinois to our growing list of Regulator Members. Read about this here and here, along with their overall plans to leverage DLT. Our CEO David Rutter and R3 world traveller Isabelle Corbett followed up with this conversation with CoinDesk that lays out some of the concepts behind the R3 ‘RegNet’.

The efforts and interest of regulators extends across the US, both at the State (see Delaware is Drafting Law That Would Recognize Blockchain Records) and Federal level; Acting (and now Nominated) Chairman of the CFTC J. Christopher Giancarlo recently gave a speech on his overall agenda. Of note was the section dedicated to FinTech, both due to its substance and to the fact that the Chairman gave the topic proper airtime even with his quite package agenda. Full text is here, quick pull quote below:

[M]arket regulation by the CFTC has not kept pace. In too many ways, it remains an analog regulator of an increasingly digital marketplace, curtailing its effectiveness in overseeing the safety and soundness of markets. But it doesn’t have to be this way, especially in an industry that is synonymous with innovation. The CFTC must be a leader in adopting the “do no harm” approach to financial technology similar to the US approach to the early Internet. We must cultivate a regulatory culture of forward thinking.

Couple the above with this post from ISDA on the ‘past and future’ of ISDA agreements, particularly on the role of Master Agreements in the world of smart contracts. As a reminder, our third Smart Contract Template Summit (suggestions for a new name welcome!) will be coming up this June.

MAS continues to push an aggressive fintech agenda of their own. A few weeks back, MAS announced the successful completion of the interbank payments projects that they executed with R3 and a collection of local banks. See here and here. And this past week they announced more details on their plan to roll out a national KYC utility.

Another organization at the intersection of regulation, infrastructure and fintech is CLS. This IBTimes article gives an interesting look at some of their thinking. The article also lays out the differences between ledger approaches, namely that of IBM’s Fabric vs R3’s Corda.

Get the Papers Get the Papers

Our Research team and amazing collaborators have been busy recently, with three new papers:

  1. R3’s Survey of Confidentiality and Privacy Techniques, with an accompanying piece in American Banker
  2. R3’s Report on Fedcoin with JP Koning
  3. R3’s Bridging the Gap Between Investment Banking Architecture and Distributed Ledgers by my good friend Martin Walker

Others have been busy as well. BIS recently release The Quest for Speed in Payments (summary article here), while G20 Insights released The G20 Countries Should Engage with Blockchain Technologies to Build an Inclusive, Transparent, and Accountable Digital Economy for All

The Weekend Read: Mar 5

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Enterprise Ethereum Alliance

The Enterprise Ethereum Alliance formally kicked off earlier this week with an all day meet up in JP Morgan’s Brooklyn offices. The group consists of Ethereum-focused startups and large companies, with a focus on developing standards for private Ethereum deployments. The reaction by the press was curious, as many picked up a theme of Microsoft and IBM waging a proxy war via EEA (Microsoft) and the Hyperledger project (IBM). For example, American Banker noted “the IBM-led Linux Foundation Hyperledger Project” and their use of “a mainframe in a cloud” vs Microsoft as “more focused on openness — letting organizations choose the combinations of technology that work best for them.” Coindesk followed up with an article on the decentralized nature of the new group:

Still, while the board is also designed to give members a sense of accountability, more experimental governance models are also being considered. “Everything starts as an idea, with one person,” said Lubin. “That happened. But Ethereum is moving towards decentralization.”

The press loves a simple narrative (see below for a fine example), but both groups are very diverse and seek to move the whole industry forward, as we ALL have a lot of work to do to make this technology real for business users. One theme that did persist at Tuesday’s EEA launch was the desire to keep aligned, and in some minds perhaps eventually merged, with the public Ethereum chain (not to be confused with Ethereum Classic, or Ethereum Classic Classic!). This and Bitcoin’s recent price surge are most likely what is behind the recent ramp up in the price of ether. For an older, somewhat related article on public Ethereum, I recommend this Aeon article.

Et Tu, Blockchain?

The only good thing to come out of the R3 non-story was this new Tim Swanson meme...
The only good thing to come out of the R3 non-story was this new Tim Swanson meme…

Over the last two weeks, a blockchain butterfly flapped its wings, and the next thing we knew, R3 was caught in the oddest of fake-news hurricanes. In short: a tweeted pic from a Corda meetup was coupled with the quote “GAME OVER” (perhaps an early tribute to the great Bill Paxton?) and the next thing we knew, there were all sorts of nonsense articles and blog posts. For a run down, you can read Chris Skinner’s take (and yes, his is an intentional fake news headline…) and this Bank Innovation piece (Dave Birch: I would love to meet your tailor). In shorter: it was all complete BS. Which was disappointing, but not surprising. I just finished the Michael Lewis book The Undoing Project and the one thing the book taught me was that we are all “confirmation bias” machines. Or as The New Yorker put it: Why Facts Don’t Change Our Minds

As David Rutter pointed out in his blog post last week:

Humans are creatures of habit. As time went on, the term blockchain came to be associated with any type of distributed ledger, even as the technology matured and evolved to meet the needs of different groups of users. This isn’t an issue unique to our space. The marketing team at Canon must have spent countless hours working out how to stop people referring to all copy machines as Xeroxs.

We can see this in two other thoughtful articles that were recently published. Our very own Antony Lewis has a great take on Distributed Ledger Technology for post trade published in Tabb Group…yet the title chosen by the editors was “Applying Blockchain to Post-Trade Derivatives Processing.” Another from CFO magazine includes yours truly and does a great job in explaining why CFOs should pay attention to distributed ledger technology…which they term “Betting on Blockchain.”

Lost in the noise was the release of an 80 page report by the Aite Group. This Coindesk review of the report gives a flavor of the market landscape that Aite explored, including this key quote:

“A growing trend, adopted by five chaintech platforms and spearheaded by R3,” writes Paz, “calls for consensus taking place at the transaction level, requiring the consent of at least two counterparty nodes.”

Another bit lost was our new intro video to Corda, which declares in very plain language what Corda is (and isn’t):

But don’t just trust our word on it. Sign up for Corda training or sign up to our Slack, and see (and debate) for yourself!

Links

The Weekend Read: Oct 15

R3 Meme Altar with a star turn

R3 Meme Altar with a star turn

The Weekend Read Watch

We have a fairly light news cycle this week (as the industry PR machine takes a breather in between Sibos and Money 20/20), but Techcrunch has helpfully provided a six-part web doc on Bitcoin and Blockchain. The series is based upon Nathaniel Popper’s recent book Digital Gold and it walks thru the origins and challenges of Bitcoin, the rise of Ethereum and ends with a chapter featuring R3’s Charley “Hollywood” Cooper (your author plays the uncredited role of “offscreen voice trying to crack up Charley Cooper”). It is a really well done series and will jump to the top of my list of “links to send to my Dad to explain what I do for a living.”

Speaking of Popper, he has a follow up article to last week’s speech by Fed Governor Brainard entitled Central Banks Consider Bitcoin’s Technology, if Not Bitcoin. The article echoes much of what the final Techcrunch episode above discusses, about how the promise of blockchain tech needs to coexist with the realities of the current and future regulatory system: 

“There are so many things going on that it is hard to keep track of all the contacts,” said Mr. Berndsen, the head of market infrastructure at the Dutch central bank. “I hear from other central bank colleagues that it is the same everywhere.”

[SNIP] Ms. Wilkins said the Bank of Canada was interested in the technology as a way to build a single, shared record of all the transactions among several institutions. That could leave much less money sitting idle while banks reconcile their different ledgers, as now happens.

It would also create a standardized way of recording transactions that would allow all the players in the system to communicate more seamlessly.

“There is currently a whole industry set up to reconcile and audit all these separate ledgers, and you can’t easily connect them,” she said. “This comprehensive shared data source could be a real benefit.”

This sentiment is also picked up by Currenex’s David Newns in this Global Custodian article (thanks for the shout out David!):

“There is a reason banks have the regulatory frameworks around them and in the long run nobody can be immune from those even if you are a technology company and not a bank,” said Newns. “Just because you’re not acting as a bank today, it doesn’t mean that you cannot avoid acting like a bank and it may be less comfortable to start doing so tomorrow. There remains a question over how Wall Street and FinTech get along but FinTechs should be aware that if you want to play in that pool you have to play by the rules.”

“Looking at R3 they have the right mindset and character to bring both of these communities together. The industry needs to think about how FinTechs are going to interact with legacy systems and the cultural divide is being addressed by larger industry initiatives.”

Blockchain Hype

Former UBS CIO Oliver Bussman sprinkles a bit of cold water on blockchain hype with FT article entitled Banks will not adopt blockchain fast (note to FT editors: “blockchain fast”? Aren’t the British meant to be more gooder at grammar and usage?):

Over the next 12 to 24 months, I expect we will see significant, if still limited, moves to blockchain-based platforms in areas like cross-border payments or trade finance. But financial services as a whole is much broader than just these isolated use cases. I therefore expect widespread blockchain implementation in other industries first — for example supply chain management, healthcare, real estate, or e-governance.

No doubt financial services will follow; when it comes to blockchain, I do not think you can escape destiny. But the dream of a fully blockchain-enabled financial system will take some time to fulfil.

The Streetwise Professor eschews a sprinkle of cold water for a fire hose of skepticism in this post on the potentially facile arguments and hidden dangers within completely decentralized clearing. He does a very nice job of highlighting the many roles of a CCP above and beyond the blocking and tackling of moving margin, such as mutualizing and managing default and liquidity risk. He also offers this sobering take of smart contracts:

When I think of these “smart contracts” one image that comes to mind is the magic broomsticks in The Sorcerer’s Apprentice. They do EXACTLY what they are commanded to do by the apprentice (coder?): they tote water, and end up toting so much water that a flood ensues. There is no feedback mechanism to get them to stop when the water gets too high. Again, perhaps it is possible to create really, really smart contracts that embed such feedback mechanisms.

But then one has to consider the potential interactions among a dense network of such really, really smart contracts. How do the feedbacks feed back on one another? Simple agent models show that agents operating subject to pre-programmed rules can generate complex, emergent orders when they interact. Sometimes these orders can be quite efficient. Sometimes they can crash and collapse.

In sum, the proposal for “distributed clearing to disintermediate CCPs” illustrates some of the defects of the blockchain movement. It overhypes what it does. It claims to be something new, when really it is a somewhat new way of doing something quite common. It does not necessarily perform these familiar functions better. It does not consider the systemic implications of what it does.

For an antidote to this skepticism, please read Massimo Morini’s excellent paper from earlier this year: From “Blockchain hype” to a real business case for Financial Markets

R3 Around the World

Forum Blockchain in Sao Paulo rocking a blue hue

Forum Blockchain in Sao Paulo rocking a blue hue

To wrap up this week, we are happy to share two “firsts” for R3 and our membership. R3’s Rob Sagurton shared this field report from Sao Paulo:

We are often get the question of, “Are historical bank competitors really collaborating positively within R3?” Case in point was the Blockchain Forum in Sao Paulo this week co-sponsored by Itau and Bradesco (together with R3). We were extremely proud to be invited by these two important Bank Members to co-sponsor the first full day Blockchain conference in Latin American specifically focused on DLT for regulated financial markets. The feedback was overwhelmingly positive on both the content and “energy” from the over 125 senior financial executives and regulators in attendance from Brazil and Latin America. Among the esteemed presenters were the Central Bank of Brazil and their Securities and Exchange Commission – CVM, along with R3 Members Emmanuel Aidoo (Credit Suisse) and Carlos Kuchkovsky (BBVA), to whom we owe special gratitude for making the trip to Brazil to provide their valuable global perspective.

And finally, we are very happy to announce our first Russian member Qiwi, the leading Russian payments service provider. Welcome aboard!

The Weekend Read: Back to School Edition 2016

Summer’s (unofficially) over, Hermine aint here, and it is time to get back to school.

1. Blockchain Hype

The Bloomberg article Maybe Blockchain Really Does Have Magical Powers produced a fair bit of chatter in the office this week. Some couldn’t get past the snark, but your author respects good snark when he see it. The article calls into question the hyperbole of the WEF report released this summer and also highlights our recent Corda whitepaper:

What’s new is that each transaction comes with attached code (a “smart contract”) containing standardized rules about how to decide whether it is valid. The parties download and independently run the code to verify the transaction. This is cheaper and faster than traditional reconciliation, because it eliminates the need for a bunch of back-office employees at each separate institution to reconcile transactions using their own unique sets of rules and data fields.

[SNIP] The only thing previously stopping the standardization of reconciliation processes was the unwillingness of financial institutions to collaborate. Financial institutions spend $65-80 billion on back office reconciliation every year. The employees working in back offices probably offered lots of excellent reasons why their roles couldn’t simply be standardized away.

[SNIP] Standardization of rules and data fields is a good idea that could save billions of dollars in back-office reconciliation costs. Maybe one of the biggest effects of all the blockchain hype will be getting a bunch of security-conscious egoists to come to an agreement that benefits them all. That would truly be magical.

More in don’t believe the hype: Adam Ludwin of Chain tries to slow the roll of “put a blockchain on it” enthusiasts:

It’s strange to hear chief executives pour cold water on technologies that are at the heart of their own companies. Yet that’s what Adam Ludwin, who is the CEO of blockchain company Chain, did when I met with him this month. The hype over blockchain—a new form of record keeping that relies on a shared digital ledger—is causing people to lose sight over what the technology is meant to do, according to Ludwin. “Blockchain is a database for money,” he said. “I don’t understand why people talk about it in terms of health records and home deeds and voting systems.”

Couple these articles with the recent Gartner Hype Cycle warning, and it shows how important delivery becomes as we head toward 2017.

2. Catching Up

A few updates and announcements to share:

Visa eyes new link in blockchain payments

The project is designed to cut costs, speed up settlement time and reduce credit risk in the market for moving money between banks both domestically and across borders. It could represent a challenge to the Swift interbank payment system, the main messaging system used by banks to handle large money transfers. Swift has recognised the potential threat and has itself been examining blockchain’s potential.

Swift warns banks about successful raids by hackers

Swift — the Society for Worldwide Interbank Financial Telecommunication — warned its members that while there had been fewer publicly reported cases of banks being attacked, hackers were still on the hunt for weaknesses in their security systems. “We have seen new cases of input fraud since we last wrote to update you on these issues,” Swift said in its letter. “The attackers have followed a broadly similar modus operandi, but have specifically tailored every attack to each individual target.”

Smart Contracts Firm Taps Wall Street Vet as President, Chairman

Symbiont, a developer of software for self-executing smart contracts, has hired Wall Street veteran Caitlin Long as president and chairman.

IBM Bridges Blockchain, AI With New Business Unit

IBM is reorganizing its internal blockchain team into a business unit that encompasses its artificial intelligence and cloud computing efforts, called ‘Industry Platforms.’ In addition to the work on blockchain tech, the business unit will lead IBM’s efforts to bridge its financial services work with its Watson artificial intelligence initiative.

Key themes from the R3 summit on smart contract templates

A nice summary of our recent summit (rumor has it that there may be a follow on summit in the coming months…)

Eleven Reasons To Be Excited About The Future of Technology

Not exactly an announcement, but this is a really cool summary of all the things to be optimistic about in technology. When you get bored of being excited and feel like trying on some dread and paranoia, check out this review: Homo Deus by Yuval Noah Harari review – how data will destroy human freedom (!)

3. An R3 Welcome

Two big shout outs this week. A warm R3 welcome to China Merchants Bank and to Met Life!

The Case for Fool Proof Databases: A Concession

Some people in the blockchain/distributed ledger space have tried to advertise blockchains as a “better database” solution that should assume a role like SQL databases within an enterprise. I often try to explain to people that blockchains/distributed ledgers are different than a database. Though they are superficially similar, they have different use cases and tradeoffs.  You should probably use a blockchain if you need consensus or have some sort of tension among the actors contributing to the distributed ledger. That said, the more familiar I become with the way large enterprises work, the more I see a role for a “fool proof” database, which I suspect is what people building internal blockchains are trying to sell

Broadly construed, blockchains can do a lot to ensure the integrity of a ledger by creating conditions for the network to evaluate each claim submitted to it. People trust the ledger because they trust the process that leads to the validation of the claims. Though one might assume that the same type of thought would go into the important databases that drive Fortune 500 companies, I’ve encountered a startling number of bad architectures leading to costly mishaps. Perhaps the most appalling anecdote of poor database usage came from the Sakurity blog when, last year, Egor Homakov discovered a way to create unlimited balances on Starbucks gift cards by exploiting a race condition vulnerability: http://sakurity.com/blog/2015/05/21/starbucks.html. Race conditions can occur when a program has to deal with many operations executing concurrently.

In the Starbucks case, Homakov tried to merge values from one gift card to another online. The code on the Starbucks site checks the balance of a gift card and then transfers it. However, in between the checking and the transferring, the money is transferred elsewhere. If the transfer does not happen atomically, and two concurrent transactions are processed, credit can be “created” and issued to the cards rather than transferred between them.

To explain the problem, say there are two transactions, tx1 and tx2. If the program executes in this order, you have a problem:

tx1: check if A has a balance > 10: yes

tx2: check if A has a balance > 10: yes

tx1: Ok deduct 10 from A! Balance is now 0

tx2: Ok deduct 10 from A! Balance is now -10

tx1: Ok credit B with 10!

tx2: Ok credit C with 10!

Indeed, after six tries (there is an element of randomness to race conditions) Homakov was able to combine values (rather than transferring them from one to another), turning two of his $5 gift cards into $15 gift cards.

The tragedy of the Starbucks episode is that databases were designed precisely to solve issues like these. One of the first things taught in classes on databases is “transactions” and how to deal with the very scenario laid out above. To combat these scenarios, most databases dealing with financial transactions exhibit a property called ACID: atomicity, consistency, isolation and durability. In concert, these features ensure that there is little room for an inconsistent state that would render the types of flaws seen in the Starbucks case.

And, so, I think there has been a bit of confusion as to the benefits of blockchains in place of a traditional database. I think many people conflate blockchains with one of their features: correctness by construction. When a database has correctness by construction, a lot of low level operations are encapsulated into high level operations which are harder to get wrong. Blockchains aren’t designed to serve as conventional database alternatives: their structure is complex compared to what a database might need to succeed. However, a blockchain does prevent the types of basic errors seen by executives at Starbucks by employing a robust method for evaluating and ordering transactions.

A blockchain may not be an appropriate substitute for SQL databases, but consider that it ensures better transaction construction than some multi-billion dollar companies have been able to buy. Though the case for blockchains as a SQL database alternative is very weak, there is a strong argument for a better type of databases that harbor correctness by construction.