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Blockchains in Banking and Finance

As a member of the cryptocurrency community, you’re probably aware that protocols and crypto-primitives have already discreetly existed for almost two decades. Of course, Bitcoin’s 2009 release marked the formal introduction of blockchain. In his paper, Satoshi Nakamoto formulated the first stable implementation of a secure, decentralized, trustless, and peer-to-peer (P2P) monetary framework. Bitcoin replaced intermediaries with algorithms and a centralized authority with community governance, thereby inspiring revolutionary changes in banking and finance.

Peer2Peer network example

Backed by innovations in Fintech, traditional banking and finance have evolved in many directions, especially with regard to usability and user experience. Despite this, the domain’s hierarchical and opaque structure has been a cause of persistent end-user concerns.

First off, the placing of power and control in centralized authority enables censorship, espionage, and privacy breaches. Secondly, apart from involving several efficiency-curtailing intermediaries, traditional institutions store data in centrally located servers. In turn, this makes the user’s critical information susceptible to hacks, frauds, and manipulation.

Blockchain technology has the potential to mitigate traditional finance’s pain points, in addition to complementing some of its legacy systems. Bear with us here, we will get into some ways in which innovations in blockchain-based Decentralized Finance (DeFi) can transform traditional financial processes.

Let’s move away from the negatives. Instead, let’s focus on the ways these seemingly contradictory areas actually work together. 

Fostering Inclusion: Finance for the Unbanked

An innovation-driven, rapid evolution characterizes blockchain technology and its multi-dimensional ecosystem. Although the technology is still in its toddler years, some of the domain’s major drawbacks—scalability and interoperability—are already being furiously resolved. All through these changes, however, the vision to build user-oriented processes has stayed constant. 

With that in mind, promoting greater financial inclusion has been a cornerstone to most developments in the blockchain-cryptocurrency industry. Bringing financial services to the globally unbanked population has been, in fact, a top goal of DeFi solutions. Traditionally, only those with bank accounts (a smaller fraction of the world than you’d think) have access to loans, derivatives, insurance, and so on. DeFi’s open solutions are almost the polar opposite, being usually available to anyone having an internet-enabled device.

Distributed computational platforms, like Ethereum, enable the development and deployment of Decentralized Applications (dApps).

The difference between Apps and dApps

Both banking and non-banking financial service providers can leverage these applications to acquire wider functionality and outreach. Lending, borrowing, trading, fundraising, identity verification, and asset management are some of the many possible user-cases of dApps. 

Blockchain in Banking and Finance: Significance & Use-Cases

Guess what? Blockchain’s potential for the financial sectors isn’t just limited to enabling financial inclusion. Implementing blockchain technology addresses many of the bottlenecks businesses often face, which enhances their overall efficiency. And businesses thrive on efficiency.

By this point you understand that the reason blockchain technology and finance are so relevant to each other boils down to a single point—decentralized operations.

Let’s walk-through some practical, day-to-day improvements blockchain provides.

i) Transactions & Payments

To process a single transaction, traditional banking would involve multiple intermediaries. Each transaction adds to the overall cost, which the sender and/or receiver usually bears. For instance, while making a payment online, you’d have to rely on some gateway provider who charges a processing fee.

When intermediaries are involved like this, it also lengthens the processing time of transactions, especially cross-border interactions. Sometimes the people involved have to wait for around 7-14 days to settle funds transferred to or from abroad. If you’ve ever dealt with this, you know 14 days can feel like an eternity.

Maintaining databases and overseeing the legitimacy of transactions are two of the primary functions of financial intermediaries. Both of these can be achieved using blockchain, which also enhances transparency and flexibility. Cross-border payments, for one, can be settled within a few hours at most, while drastically minimizing the cost involved. Sound better to you?

ii) Lending & Credit 

Since lending is one of the primary operations of banking and finance, several attempts have been made in the past to create secure peer-to-peer (P2P) loan processes with reliable and justified credit reporting systems.

However, in 2017, Equifax, one of the top three American credit bureaus, faced a data breach that compromised the private financial information of 163 million people globally. 

Over time, it’s being slowly realized that using blockchain technology for lending and borrowing can actually get rid of these problems in the credit industry. DeFi solutions can facilitate micro-credits, which has great significance for small to medium businesses, deprived communities, and many others.

iii) Know Your Customer (KYC) & Verification 

On average, banks take 24 days for a standard customer onboarding procedure, while also spending $500 million annually on KYC and customer due diligence.

This huge setback has been addressed by blockchain technology, whose distributed ledger offers real-time data storage, validation, encryption, and immutability. Banks and financial institutions can use this without obstacles providing a faster verification process. 

The Future of Blockchain in Banking and Finance 

You may have heard predictions that DeFi, since it’s the opposite of traditional banks and financial institutions, will cause the eventual downfall or revolutionizing of centralized finance. However, back in 2016, IBM noted that 65% of banks expected to have blockchain projects in production in three years’ time, with 15% of top global banks intending to launch commercial blockchain services. See? These systems are not so mutually exclusive after all!

In February 2021, VISA partnered with Circle Internet Financial to begin processing payments in US Dollar Coin (USDC) for its partners and merchants. In other words, banks and financial institutions, instead of being thrown under the bus, are utilizing the features of blockchain technology for improved scalability and flexibility.

Lastly, cryptocurrencies, essentially the decentralized counterpart of fiat currency, are becoming increasingly popular. The entire cryptocurrency market is valued at around 1.6 trillion at the time of writing—a 508% increase in the last 365 days. (Not a typo!)

Total market capitalization of all cryptocurrencies

Even traditional stakeholders in financial sectors are recognizing cryptocurrency as a valid means of payment and store of value. Intuitive methods, like tokenization, are making it possible to represent real-world assets as blockchain-based crypto-assets. 

As a whole, we are witnessing unprecedented avenues in global finance, courtesy of the direct and indirect effects of blockchain.

Want to get in on the action? You’re already in the right place! You can join CoinSmart today and immediately become involved in this exciting new future of finance.