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The blockchain and what it might do to banking and finance (and other things besides)

In a matter of months, this word, blockchain, has gone viral on trading floors and in the executive suites of banks and brokerages on both sides of the Atlantic. You can’t attend a finance conference these days without hearing it mentioned on a panel or at a reception or even in the loo. At a recent blockchain confab in London’s hip East End, the host asked if there were any bankers in the room. More than half the audience members, all dressed in suits, raised their hands.

Bloomberg Magazine.

Okay, what the F**k is a blockchain (one word or two?), I hear you cry?

A block chain is a transaction database shared by all nodes participating in a system based on the Bitcoin protocol. A full copy of a currency’s block chain contains every transaction ever executed in the currency. With this information, one can find out how much value belonged to each address at any point in history.  (Wikipedia.)

Here is a book by Dominic Frisby, whom I have met and is known to Samizdata contributors such as Brian Micklethwait, about Bitcoin, and the blockchain system. There is now quite a literature about Bitcoin, some of it with a strong “hell with fiat money” sort of bent, others with a more agnostic approach. Here is one such example by Paul Vigna. Going onto Amazon or other search engines for such books brings up a lot of hits.

More broadly, the point of the article to which I linked at the top here is that very serious financial industry figures are now piling in; sure, some of them will have problems, and the history of how some people get carried away is instructive. But just as instructive is that, even after a period of difficulty, such as when the dotcom boom went sour, we were left not just with a lot of garish stories of excess, but some valuable business models that worked. And that, I suspect, will be the story around Bitcoin – not that this will be the one to succeed, but that the technology surrounding it will have a major change on how finance and other activity happens.

20 comments to The blockchain and what it might do to banking and finance (and other things besides)

  • Very interesting with all sorts of implications for the future!

  • Rob Fisher

    It is *somewhat* difficult to separate Bitcoin from the blockchain, though, in the sense that part of the blockchain technology relies on lots of people competing to mine the next block. Bitcoin works the way it does at least in part because *anyone* can attempt to mine the next block, and there are incentives to do so, so the end result is that the authority is distributed.

    I think it is probably possible to have a competitor to Bitcoin or to make your own blockchain for some special purpose, but the question of who does the mining is important. It’s not simply software that you can run and it solves X problem.

  • Stuck-Record

    I’ve been following the Blockchain for the last three years, and trying (and failing) to explain it’s significance to people.

    It’s been drowned out by the MSM’s usual ignorant reporting of anything to do with tech or money. And the bubble in Bitcoin price helped close the collective minds of the few people who had even heard of the blockchain.

    Needless to say I think that (in the long run) it’s pretty much the most significant thing that’s happening in the world right now. History books will look back on this period and they won’t see war or refugees or militant Islam, they’ll see it as the pre/post Blockchain decade.

    Watch the remittance market. That’s the canary in the coal mine. Then certain insurance groups, futures, then big chunks of banking.

    Also keep an eye on Maidsafe. There’s a good chance they could change the entire fabric of the internet. They’re being very patient and careful before they launch. But they are very clever, very serious people. But if any of you are thinking of building or investing in a server farm or Cloud storage business, I’d think again and hold off for a while.

  • Mr Ed

    If gold has no traction as money, what chance a random number, might one as well trade slices of π?

  • JohnW

    All trade stems ultimately on a relation to the exchange of some tangible value[s].
    And money, to be real money, needs to be redeemable on demand for tangible assets.
    I have huge misgivings about money which derives its full value – ultimately – from merely non-tangible scarcity/durability and the confidence of its users.
    We saw what happened when the market lost confidence in junks bonds, CDO’s [and their derivatives backed only by government ratings agencies] and the allegedly monumental assets held by Icelandic banks – their value evaporated completely.

    Of course, none of the above will prevent it from becoming massive!

  • Sigivald

    Johnw: Remember that all the money in the world is exactly that, right now.

    Valuable because it’s scarce and can be exchanged trivially for goods and services, and confidence in the continuation of both properties. (Lack of said confidence is expressed in devaluation; see the Bolivar.)

    Rothbard – whose politics I find as unsound and hand-wavey as his economic theory is solid and well-fouded – sensibly defines “being money” is simply a property of any Thing (be it an object or a token for another object or a mere promise on a piece of paper) such that it is used primarily for exchange, rather than used in itself.

    Doesn’t matter if it’s dollar bills, pieces of gold, cowrie shells … “primarily a medium of exchange” suits.

    Money has, really, always been the thing you have huge misgivings about; you can’t eat gold if everyone decides to stop accepting it tomorrow, and you can only usefully consume so much “it’s so shiny!”.

  • JohnW

    Sigivald “Remember that all the money in the world is exactly that, right now.”

    Too damn true!

    Yes, money is a tool of exchange but to be money it has to be redeemable on demand and cryptocurrencies have not been widely redeemable so far – and they have been banned outright in China.
    Unlike shells, volcanic glass, tobacco etc., bullion is durable, portable, divisible, uniform, non-replicable and non-substitutable and it has an “intrinsic” [almost ;)] reserve value due to its use in jewellery and scientific and technological instruments of all kinds.

    But this Block Chain development has such a high degree of utility and it so reassuringly overcomes issues of traceability and transparency that I can see it taking off massively – especially when “cash-free” is all the rage among top-end retailers Victoria Beckham.

    Obviously, I loathe our ever-greater distancing from gold – the only reason we do not use it today is because it’s illegal – but that doesn’t mean I won’t be making the most of the substitutes!

  • Andrew Duffin

    Can someone please explain why, if the blockchain really becomes used by everyone and his dog, it doesn’t thereby become infinitely large and therefore unusable?

  • Rob Fisher

    Andrew Duffin: there is no limit to its size. It’s just that the transactions aren’t that big and in practice it’s just a few gigabytes to date and the rate it grows at is not a problem for now given current storage costs. Currently I think it grows at a maximum of 1MB every 10 minutes. I speculate that it will never be a problem, given some of the upcoming storage technologies that are looking likely. On mobile devices and the like there are all kinds of techniques you can use to avoid downloading the whole blockchain and still be able to run a Bitcoin node. Finally, end users can let third parties manage things for them. Not everyone using Bitcoin needs to run their own bank, which is ultimately what running a Bitcoin node is like. There are already services for microtransactions that take transactions “off chain” by storing your Bitcoins for you. It’s just that you don’t *have* to use third party services.

    Other points raised above…

    I redeemed Bitcoin for a real asset recently. It’s functionally money enough.

    It’s not a magic number like a bit of Pi. It’s a ledger.

    The only thing stopping widespread adoption as money that I can see is it’s currently difficult to get started. It’s just a typical chicken and egg adoption problem. Probably Apple Pay or Google Wallet could integrate it tomorrow and people could use Bitcoin without noticing. If Paypal integrated it, we could all start using it on eBay. I suspect it will hum along like it is for 1 to 30 years and then something unexpected will happen and we won’t look back.

  • Mr Ed

    It’s not a magic number like a bit of Pi. It’s a ledger.

    Not in dispute, but why not slice up Pi to make something to go on a ledger?

  • Rob Fisher

    Mr Ed, why slice up Pi to make something to go on a ledger? Or to put it another way: I don’t understand your point.

  • JohnW

    Rob “I redeemed Bitcoin for a real asset recently. It’s functionally money enough.”

    It has to be widely accepted by merchants to be money. But this story could change things dramatically because many of our fellow Europeans [and others] suffer decidedly prohibitive exchange costs/penalties – especially on low-value transactions.
    And we are not talking about small sums here – there is current currency-conversion log jam preventing an enormous liberation of economic value – most of Etsy’s richest millionaires are millionaires thanks to low value items.
    And cash-free and no tills is all the rage nowadays.

  • Patrick Crozier

    I was rather surprised when the Greek population didn’t start using it en masse a couple of months ago.

  • mojo

    Block Chain is going to have to split, or run out of room for transactions.

  • Ed Snack

    If you want to understand the potential problems with bitcoin (and other versions of the same), look at Mt Gox for a start. Bitcoin will ultimately fail unless the propensity for fraudulent behaviour around the process diminishes to an acceptable degree. Sure, in various forms it is rife in finance worldwide, but the incidence is a % is miniscule; you can’t really say that of bitcoin right now.

  • Rob Fisher (Surrey)

    Ed Snack, Mt Gox was just one bad bank. The nice thing about Bitcoin is you don’t need a bank. Ok, you have different risks then — you need to protect your Bitcoins from theft yourself — but there is nothing particularly special about Bitcoin for fraud. It’s entirely possible, for example, for a Bitcoin-based credit card to support reversible transactions and all the fraud insurance we currently enjoy from existing credit cards. But then we will have to pay the fees. The novelty of Bitcoin is that the fees (and the benefits they buy) are optional.

    mojo is talking about an ongoing discussion to increase the size of Bitcoin blocks to support more transactions. It will probably all be solved before it becomes a problem to end users.

    Mr Ed: Guessing at the source of your confusion, I would point out that a Bitcoin is not a number at all, it is a transferable right, protected by a public/private key pair, to make certain changes to the ledger, the policies for which are encoded into the software run by the majority of users.

  • Edward MJ

    On a Bitcoin related note, an interesting looking documentary about the Deep Web and The Silk Road has been released: http://www.deepwebthemovie.com/

    It’s theoretically only available for viewing in the U.S. but in the spirit of the subject matter, it’s not that hard to appear to be in a different country on the internet these days…

  • ams

    I always thought the ever growing blockchain thing was inelegant. Sure, it grows at 1 Mb/min *now*, but if the entire world starts using bitcoin (which is sort of the end goal), it could easily be Gb/min or more, which will eat your hard drive in a week.

    I’ll have to look at the system again to see if this is possible, but I imagine that in the future a way will have to be devised for only some period of the blockchain to be necessary to run transactions (the last two months of transactions or so), and that the rest of the file will need to be separated, possibly only stored by historians.

  • Rob Fisher (Surrey)

    ams: See above where I talked about how you don’t need to store the whole Blockchain. The Android wallet app (which uses bitcoinj) does this. Also you don’t need to have every transaction on the blockchain if you are prepared to trust a third party to handle small amounts. For an example of this see ChangeTip, which makes it practical to send tiny amounts frequently.

  • Midwesterner

    The only thing stopping widespread adoption as money that I can see is it’s currently difficult to get started.

    Rob, quite a few years ago there was an exchange that would convert between currencies to and from gold for each transaction. Retail transactions could be denominated in gold but settled in local currency. I forget the name of it and vaguely recall that it didn’t end well for some reason.

    At the time, I asked my tax accountant if she had any thoughts about using it. It took me a while to explain to her how it worked but once understanding dawned she had a look of almost horror on her face. She politely informed me that if I elected to use it I could find a new tax accountant. The reason being that whenever a conversion between gold and US$ occurred (every single transaction, refund, rebate, whatever), a capital gains calculation needed to be made.

    Capital gains rules may have changed since then but my impression without actually checking is that the variability in asset value between bitcoins (or other non-dollar media of exchange) and US$s is exposed to capital gains levies (not a big deal) and to the calculations that determine them (potentially a big deal). In the future or perhaps already software will be available to maintain a running capital gains calculation based on a transaction time stamp and a record of ‘official’ exchange rates.

    Or perhaps I am entirely wrong and this is a non-issue. But if bitcoins and other alternative media of exchange have intrinsic problems with tax compliance that are not systemically resolved, I suspect they will not fly until after fiat currencies have crashed. I see that as a slightly different chicken and egg problem. Something we want to use in anticipation of a general currencies collapse cannot attain market share until after such a collapse. This would apply in every jurisdiction where capital gains are levied.