The use of blockchain in financial services

The utilization of blockchain technology in the financial service sector has long been lauded for its impeccable capability to introduce, transparency, time efficiency, and productivity to the ecosystem Simply put, blockchain helps reduce the chances of data breaches as well as operational risks. 

What is Blockchain? 

Blockchain technology creates data blocks that are stored in a chain. Every time a new block is created, it is added to the chain, resulting in the formation of a digital ledger. Blockchain networks are of two types – public blockchain and private blockchain. Any individual can join a public blockchain. However, private blockchains are accessible only to verified members who can view a stored digital asset on a decentralised blockchain database. 

How does Digital Ledger Technology (DLT) work?

While blockchain has found the most takers in the banking and financial sector, DLT has the potential to transform several other sectors as well, including manufacturing, clean energy, electronic health record management, and more. 

Distributed ledgers use independent computers to record, share, and synchronize transactions in separate electronic ledgers rather than keeping data centralized like in a traditional ledger. This technology can tremendously change the financial sector, making it more reliable, efficient, and resilient. 

DLT can address persistent challenges in the financial sector and transform the roles of financial stakeholders. A PwC report reveals that 56 percent of Indian businesses are willing to make blockchain a part of their central procedures. This says a lot about the awareness, willingness, and speed at which blockchain is being absorbed into the social and economic framework of the country. 

Major Banks adopting Blockchain

In February 2020, the Reserve Bank of India published an article titled, “Distributed Ledger Technology, Blockchain and Central Banks.” It explains the use of DLT and blockchain technology, the latest developments in blockchain technology, and its utilization in central banks in India and across the globe. 

Responding to the RBI’s initiatives, several public and private banks have started to leverage the benefits of DLT and blockchain by partnering and investing in the fintech sector. To name a few, the State Bank of India tied up with JP Morgan to utilize its blockchain technology and Axis Bank, ICICI Bank, and Yes Bank joined the Interbank Information Network launched by JP Morgan. Creating ripples in the digital lending space, HDFC Bank, State Bank of India, IDFC First Bank, South Indian Bank, and ICICI Bank invested in the equity shares of Indian Banks’ Blockchain Infrastructure Co Pvt Ltd (IBBIC) to offer DLT solutions to the financial sector.

Opportunities of Blockchain in Finance

Improving Transparency: With blockchain, users are executing activities on a public ledger. As a result, the industry is becoming more transparent. Such transparency can help expose inefficiencies and lead to problem-solving as the risk for financial institutions reduces. 

Simplifying Operations: Blockchain allows financial institutions to track several parties in real-time and manage letters of credit and bank guarantees. It simplifies operations for the merchants and the customers. 

Quicker Settlement: Cash, cashier’s cheques, and wire transfers are safe payment methods. However, one cannot trace cash, cashier’s cheques can be forged, and wire transfers are time-consuming. Blockchain-based payments remove these concerns for greater confidence of customers. The technology enables the real-time transfer of funds between financial institutions, eliminating friction and fastening settlement. 

Smart Contracts Enabling Automation: Blockchain isn’t revolutionising banking with money transfers only. The technology is great for tracking transactions with the opportunity for automation. With smart contracts, financial service providers can track buyer payments and seller deliverables. It can also address any problems that arise during the transaction. With such automated systems, the chance of human error reduces. 

Improving Customer Experience: Most banks have implemented blockchain technology for international payments, which helps save time and money. Customers can also utilise blockchain money transfers to make fund transfers online using mobile devices. They no longer need to visit a money transfer facility, stand in line, and pay transaction fees. 

Challenges of Blockchain in Finance

While the implementation of blockchain technology comes with a plethora of benefits and opportunities, it carries some challenges too.

Relatively New: Blockchain is still in its development phase. It has many hurdles to overcome with ongoing amendments. The regulators haven’t been able to catch up yet. Therefore, the government may need to frame guidelines and policies that monitor the use of blockchain and the companies using it. 

Differing Methodology: Blockchain does not permit data alterations. While this is a benefit, it can pose concerns for certain financial institutions that need to modify stored data. After the implementation of blockchain, companies will have to restructure their methodology to ensure that there is no need for data alteration. 

Lack of Interoperability: Blockchains aren’t able to exchange and make use of information from other blockchains. As a result, there is no communication between them. Blockchain networks must focus on the development of interoperability solutions. 

Affordability: Shifting to blockchain technology is an expensive and time-consuming affair. It is because there is a shortage of supply when it comes to skilled blockchain developers. Thus, smaller financial companies may not want to invest along with the overhauling systems already in place. 

Poor Adoption: To facilitate smooth and quick transactions, blockchains must have widespread adoption. It is more so in the financial sector since companies operate with each other and require a framework for all to use for handling transactions. For instance, if a bank wants to initiate fund transfer through blockchain, every bank involved in the process needs to have deployed blockchain technology. 

What lies ahead?

Blockchain technology and its use in the financial services sector are still relatively nascent. In the future, we expect two significant developments – interoperability and improvements in transaction processing. These improvements will make the technology more useful for financial institutions. 

According to Research Dive’s report, the global blockchain market will greatly benefit the financial sector in the future, primarily because banking and financial institutions are increasing the use of blockchain applications in payment processes to provide international exchanges at reduced costs and secure transfers. 

And the disruption will continue with the increasing innovations in IoT, which is revolutionising several industrial sectors. The deployment of blockchain in the banking and finance sector will eliminate paperwork, develop a secure environment, and reduce transaction processing time. That’s not all blockchain is expected to open new opportunities for cost reduction. It can smoothen customer journeys and promote safer data transactions. 

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