Blockchain in Banking: A Game Changer for Financial Services

Blockchain has been a major force in the digital revolution. Its dramatic impact is why so many businesses across industries—not just the financial services sector—are adopting the technology. And that’s no wonder—it’s well known for its chief characteristics and principles of immutability, consensus, transparency, accuracy, accessibility, trust, and security.

Often discussed in conjunction with cryptocurrency, which was its initial application, blockchain technology does an excellent job of recording and confirming cryptocurrency trades. It functions much like a digital ledger—collecting and storing information related to online transactions and financial assets.

However, there is one big difference in how a digital ledger and blockchain technology work. While a digital ledger secures information under the supervision of a centralized entity, blockchain is all about permissionless transactions.

Blockchain is especially useful in the banking industry. The technology allows institutions to cut down on operational costs since they no longer need to oversee the transactions—an opportunity to lower transaction costs and time involved while empowering the end customers.

Cryptocurrency paved the way for blockchain’s relevance and success. So, it’s only natural that the technology should become pivotal in the larger financial realm. Here, we’ll look at blockchain and its many applications in banking.

What is Blockchain?

Blockchain is essentially a distributed database or ledger that empowers users, nodes, or participants of a network to make changes to it. With blockchain technology, we can develop a database of digital assets that is cryptographically secure, fully online, and shareable over a public or private network.

Since businesses run on information, the speed at which it is accessible makes all the difference. Blockchain technology ensures quick, direct, real-time, and secure access to immediate, shared, and completely transparent information stored on a decentralized ledger.

The best part is that the technology stands tall on key pillars like smart contracts, immutable records, and distributed ledger—making blockchain indispensable for modern-day banking and the entire financial sector.

With blockchain technology, financial institutions can ensure greater trust, increased security, and more efficiency by building a network that is public, private, permissionless, or consortium-driven.

To make the most of this opportunity, we should strive to learn more about blockchain technology, its applications, and most importantly, the benefits it provides to the banking sector.

The History of Blockchain

Blockchain dates back to 1982 when cryptographer David Chaum proposed a blockchain-like protocol. However, the first decentralized blockchain was developed by Satoshi Nakamoto, who made great progress in designing the technology in a Hashcash-like method.

The blocks in the chain could be time-stamped without having them signed by a third party or intermediary. The design turned into a successful public ledger, which now serves as a core component of everything blockchain.

Blockchain and the Banking Sector

The traditional banking system is outdated, and fintech companies are quickly taking over the competition with their decentralized banking platforms. To stay competitive, banks are looking forward to collaborating with companies with blockchain expertise, especially in banking and finance services.

Here is a list of traditional banks and financial institutions that are quickly jumping on the blockchain bandwagon:

Bank of America
BNP Paribas
Commonwealth Bank of Australia
DBS Bank
Deutsche Bank
Federal Bank of India
ICICI Bank
JPMorgan
Morgan Stanley
Reserve Bank of India
UBS
Westpac Bank
Cambridge Global Payments

Did you know that the public blockchain market in banking and finance services is expected to grow at a CAGR of 55.6% during the 2021-2026 period?

While North America remains the largest region adopting blockchain-based banking with 37.5 percent of the global market, banks in Western Europe, Asia-Pacific, and other regions are not far behind.

Potential Use Cases of Blockchain for Financial Institutions

This innovative technology offers a number of opportunities beyond just cross-border transactions, revolutionizing how the financial services operate and serve their clients.

Cross-border Transactions

With a blockchain infrastructure in place, institutions can ensure faster and less expensive cross-border financial transactions. For example, Westpac, a leading bank in Australia, collaborated with Ripple to develop a low-cost cross-border payment system based on blockchain.

Other banks like Deutsche Bank, Barclays Bank, BNP Paribas, and more are relying on blockchain because it ensures low remittance costs of 2%-3% of the total amount. Banks relying on third parties experience 5-10% remittance costs.

Fraud Prevention and Security

Blockchain technology thrives on a shared and secured ledger that efficiently tracks, approves, and records each component of a transaction. Financial institutions can use blockchain to eliminate the layers of multiplicity. With its single ledger system, it allows banks to reduce the layers, reduce the room for errors, and ensure increased security.

Identity Verification

Several fintech startups like Cambridge Blockchain and Tradle are working on developing blockchain-based identification systems that can store proofs of data verification and use the information to securely reidentify for other banking-related operations. Without blockchain, the identity verification process becomes tedious and complex.

Smart Contracts

With smart contracts, financial institutions can use decentralized finance platforms or DeFi platforms to provide exceptional banking services without third-party intervention. DeFi platforms like AAVE and Opyn use smart contracts to enable sophisticated transactions like borrowing and lending.

Current Implementations of Blockchain in Banking

Harnessing the power of blockchain development, leading banks around the globe are diving deep into practical applications to elevate their services and meet the changing demands of the modern financial landscape.

JPMorgan

Banking giant JPMorgan wanted to improve the speed of its transactions and settlements. Without blockchain, the transactions could take up to several hours. Also, its interbank settlement system didn’t function on weekends and public holidays. JPMorgan has collaborated with six major Indian banks to come up with a blockchain-based platform and provide customers with 24/7 available, efficient, and reliable interbank settlement of US dollar transactions.

HSBC

HSBC has been experimenting with distributed ledgers and tokenization to enable R3’s blockchain-based product innovation. It has developed products like FX Everywhere and Digital Vault to enable FX payments and store information related to private assets, respectively. With Digital Vault, stakeholders can access their private assets directly and in real time because the infrastructure is based on blockchain. Back in 2021, blockchain-driven Digital Vault provided access to USD 20 billion worth of assets.

The Intersection of Blockchain and FinTech

FinTech continues to reshape the way we engage with money, investments, and transactions. At the heart of this transformation lies blockchain. This convergence of blockchain and FinTech is driving unprecedented changes in the financial landscape, ushering in new possibilities and challenges alike.

Let’s delve into some blockchain-powered FinTech innovations and the impact of Blockchain on traditional financial systems.

Blockchain-powered FinTech Innovations

Fintech companies have their eyes on the prize—developing the best blockchain platform to support traditional banking systems and enabling all types of transactions. In other words, blockchain, coupled with fintech companies, is all set to disrupt financial institutions.

Companies like Circle, Robinhood, Veem, Ripple, Stellar, Bitpay, and others are using blockchain extensively to come up with highly efficient banking applications that are useful for financial institutions.

Robinhood

One of Forbes’ most innovative fintech companies of 2019, Robinhood has developed the Robinhood Crypto platform to enable purchasing and selling of digital currencies. Used by over 4 million people in the United States, the platform enables commission-free trading.

BitPay

BitPay is another fintech company that makes the most of blockchain technology to enable businesses around the world to accept payments from customers in the form of Bitcoin. It is the largest processing company that is currently collaborating with Bitcoin.

The fintech company allows entrepreneurs to use a wallet and its business-grade payment system. However, BitPay charges a fixed 1% fee per transaction.

Impact of Blockchain on Traditional Financial Systems

As fintech companies integrate web3 and blockchain technology, we are bound to experience:

High speed and cost reduction

With blockchain, fintech companies can develop platforms that allow financial institutions to boost their processing speeds while significantly reducing transaction costs.

The blockchain platform can be programmed to accept transaction requests and require no human intervention. Moreover, blockchain platforms can function all days of the week, causing no time delays.

High transaction volume

Traditional financial institutions can process only a handful of transactions. This is because of their outdated infrastructure and the need for human intervention in almost all banking processes.

With blockchain, fintech companies develop platforms that can manage high transaction volumes without slowing down. In this way, financial institutions can conduct a large number of efficient transactions without relying on an intermediary.

Lower overhead costs

Blockchain technology will allow financial institutions to make the most of smart contracts because they are known for reducing operational costs. Smart contracts do not require human intervention and help banks cut down on overhead costs and boost their profit margins.

In other words, with the help of fintech companies’ blockchain platforms, financial institutions can provide an excellent customer experience at lower costs.

Faster and reliable transactions

Modern-day customers want things to be done quickly. Speed is a major decision-making factor, and fintech companies realize the importance of using blockchain to enable faster transactions. This can be made possible by doing away with third-party verification.

After all, with blockchain, all transaction-related information is stored publicly.

Challenges and Risks of Implementing Blockchain in Banking

There are many benefits of using blockchain, as well as disadvantages. Here are some challenges and risks of implementing blockchain in banking:

Technological Challenges

The first challenge that the banking sector will have to overcome to adopt blockchain is dealing with legacy systems and outdated technologies. The existing traditional banking systems, even the digital banking systems, are run through a suboptimal technological infrastructure.

To make the most of blockchain, banks will have to do away with outdated technological infrastructures and adopt the latest blockchain systems and processes. One of the best ways of achieving that is by collaborating with companies that offer seamless blockchain services integration.

Regulatory and Compliance Issues

While decentralization is a primary characteristic of blockchain technology, it can pose several regulatory and compliance-related obstacles. The existing banking or financial institutions are driven by strict laws and reliable regulatory frameworks that keep criminal activity at bay.

Since blockchain extends access and ownership to users, who will the end customers look to in cases of fraud? India, for instance, is still far from adopting legal cryptocurrencies. While crypto transactions are not illegal, the restrictions and rules are still undefined.

Privacy Concerns

Peer-to-peer transactions are more secure than other payment methods. However, they pose several security and privacy challenges for the banking sector.

Blockchain allows complete transparency of transactions, which can be used by criminals to conduct hacking and phishing scams, identity thefts, private key attacks, and selfish mining and come up with entirely new security risks.

Such vulnerabilities can only be overcome if banks push toward an in-depth understanding of blockchain technology. Once they understand how to maneuver through the vulnerabilities, they can seek public acceptance by promoting pseudonymity.

The Future of Blockchain in the Banking Industry

The future of blockchain in the banking industry is already here, with top financial institutions like J.P.Morgan, Citi, OCBC Bank, Santander, Goldman Sachs, Swedish Central Bank, HSBC, UBS, and more offering blockchain-related solutions. However, the banking industry needs to stay competitive by taking a giant stride toward process automation and improving customers’ existing digital experience.

One of the most exciting developments in the world of blockchain banking will be when banks partner with blockchain service providers to efficiently bridge the technological and knowledge gaps, trust blockchain technology, and develop the required infrastructure support.

The technology can help banks reduce their operational costs, save transaction and settlement-related costs, and ensure security.

Conclusion

Blockchain is the future of modern banking infrastructure. It’s only wise for financial institutions to ride this growing tide and make the most of the opportunity to become early adopters.

However, they should carefully consider the investment because blockchain in banking still has to overcome many challenges and risks. Blockchain technology has many implications for the future—but it must be used securely and responsibly.

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FAQ

What is blockchain technology and how does it work?

Blockchain technology is a distributed and immutable ledger that facilitates information or asset storage, tracking, and monitoring on a network. Each transaction is recorded as a block that is connected to other blocks before and after it. The transactions are connected in a way that creates an irreversible chain called a blockchain.

How can blockchain technology benefit banks?

Blockchain technology comes with distributed ledger technology, immutable records, and smart contracts that allow banks to ensure fast, secure, easily accessible, and cost-effective transactions on a network they don’t need to monitor.

What are the challenges faced by banks in implementing blockchain technology?

Lack of blockchain understanding, inefficient integration, lack of technologically advanced infrastructure, unaware customer base, and security and privacy concerns are some of the challenges banks face when considering blockchain implementation.