Blockchain, Payments, Disruption, Use Cases and Real-World Examples: Recent Developments

Recently, I wrote about the results of a poll held by the European Payments Council (EPC) amongst its members on blockchain and its impact on the payments industry. These showed that a great majority (90%) believe blockchain technology could change the industry by 2025. And a quarter of the respondents even think it "will have a more comprehensive transformation effect". These poll results are also supported by findings of the World Economic Forum, according to which blockchain technology will fundamentally alter the way financial institutions do business. 

Recent developments

There is a lot happening on blockchain, and payments is one of the key spaces to watch.  In recent months a growing number of reports were launched related to blockchain and payments, and their disruptive character, while interesting real-world examples saw the light and other important events took place. Let's have a look!


 

Reports and disruption

Three reports are especially worth mentioning. A report from Credit Suisse, a research paper from Citibank and one of the World Economic Forum. These were especially focused on the disruptive impact of blockchain technology on the payments industry and on viable use cases. 

• Credit Suisse Report
  
  Credit Suisse recently launched a report about the implications of blockchain on the various industries including world's payments markets. Their main conclusions were that, although a permissioned ledger could remove the need for a central clearing house, there is limited risk to card schemes such as Visa or MasterCard, "arguing that the decision by the likes of Apple to tap into their rails, making the networks the guardians of the tokenization process, put them in  a strong position".
  
  But also other players in the payments sector such as firms like WorldPay, and DH Corporation have not so much to fear, says Credit Suisse. One payments player that especially could come in real trouble is SWIFT, "which is slow and costly and has systems that are decades old, have limited flexibility and face a growing security threat", according Credit Suisse
  
  
  
  
• Citibank Research
  
  A similar report was produced by Citibank in July with the same conclusions. The key question raised in this report  called "US Digital Banking: Could The Bitcoin Blockchain Disrupt Payments?", was whether a decentralised payments system like blockchain would overcome security, throughput and other potential hurdles and present a meaningful challenge to the incumbent players. They especially examined how the technology would threaten the role of traditional banks in the economy. 
  
  According to their research distributed ledgers are not a disruptive threat to the banks or card networks (Visa/MasterCard) or the MTO-model (e.g. Western Union) for cross border remittances. The blockchain technology is more seen as a complement to existing systems. The impact "will be more from its ability to open up new markets and reach new customers", says Citibank. Regulatory hurdles and other hurdles may have forced most start-ups to partner with, rather than compete against, incumbent banks. Blockchain in itself will not make banks obsolete, though, as is the case with every new innovative technology, there will always be winners and losers. 
  
  There is however potential for long-term disruption of the whole banking sector, according to Citibank. Central banks are exploring ways to issue their own national digital currency based on digital ledgers. The central banks are attracted to more direct control over the execution of monetary policy, improved tracking of financial payments, and automated tax collection. If central banks make digital money available publicly (rather than for internal use), and if businesses and consumers could exchange electronic payments without needing an automated clearing house (ACH) system, there would be no need for current checking accounts. Under this scenario, especially retail banks could lose their privileged status with customers and face competition for deposits and lending products.
  
  
• World Economic Forum (WEF)
  
  The World Economic Forum (WEF) has recently performed an extensive research on the way blockchain can reshape financial services. Some of the most interesting findings were about the way distributed ledger technology can transform global payments.
  
  "However, the effects will be hidden, coming from new processes and architecture based on blockchain that simplify back-end processes, making them cheaper, more secure and more accessible, rather than radical fintech innovation or new currencies such as Bitcoin", says the WEF. 
  
  The disruption here, according to WEF, is not that things are done a bit smarter, more efficient or faster. The disruption in payments is that “there is technology available that makes banks, PSPs, credit card companies redundant”. One significant source of risk may be the erosion of bank revenue in payments services.
  
  

Reports and use cases

The reports also dived into the various use cases of blockchain technology. Many around the world are actively exploring and developing solutions, ranging from multi-party clearing to transfer of funds and trade finance. But not all are (at least in the short term!) viable. There is consensus in the various reports that the main use cases are in international payments and wire transfers, not so domestic payments.

• Domestic payments
  
  Modern domestic payments systems today are rather centralised (i.e. controlled by a central party such as commercial banks), up-to-date from a  technology point-of view and provide the consumer a relatively good experience in terms of speed, costs and security. Domestic payment services like automated clearing houses, credit cards and banks work well. Distributed ledgers would give these systems just marginal benefits.

• International payments
  
  Blockchain could be particularly helpful for transacting cross border. International payment services offer the most promising starting points, from a speed, cost and security point of view. Global payments nowadays take days to settle, and settlement delays can happen for  a number of reasons, including a country's inability to handle real-time settlement or more cumbersome regulatory compliance. They also lack transparency and often fail on account of messaging errors.  

• Remittances

One of the most commonly cited use cases for blockchain is in the remittance space, especially cross border. Citibank emphasizes the applicability of blockchain technology especially to developing countries that may lack a good quality payments infrastructure and regulation. 

The bank mentions in its report some interesting models to watch. Though these are mostly Bitcoin based and are not in our focus,  they are nevertheless interesting form a competitive point-of-view. They include: BitPesa, Circle and Abra. Bitcoin allows Circle (social payments), Abra (financial inclusion), and BitPesa (B2B payments) to build a business on an open and global payments utility. “We see Circle as well positioned to become a global payments app, and BitPesa as profiting from a truly inefficient market for African small businesses. Abra’s model for financial inclusion is creative, but regulatory compliance seems to be a significant hurdle”, according to Citibank.

• BitPesa
  
  In its report Citi points to one fintech company specifically, BitPesa, which has begun to shift its attention from P2P payments and remittances to B2B payments. Citi’s report thereby pointed at BitPesa’s expansion to help companies in Africa access a faster payments system than what is currently provided by traditional banks.
  
  “In countries where there is no quality payments infrastructure, we do think  there could be some opportunity for an open decentralized network,” the report said.
  
  
• Smart contracts

Next to the use of blockchain technology for fast, low-cost processing of  payments, Citi mentions another interesting aspect to blockchain-based payments. By using so-called smart contracts payments can be made conditional. 

Here are some examples given by Citibank:

-          A container ship with bananas arrives in the Port of Rotterdam at an agreed time. By using scanning equipment, the quality and quantity are checked and approved. When these criteria are met, a payment is executed automatically.

-          Or a government provides rent allowance for people with a minimum income. This allowance can only be spent at a pre-approved landlord. In case it is not used for a certain moment in time, the allowance is cancelled.

Base blockchain platforms

From a practical point, there are a number of base blockchain platforms that are important in the payments area. One of the big players is Ripple. Despite the recent DAO hack, Ethereum (See Blog: “The DAO was hacked: don’t panic!”  June 21, 2016) and their ability to transact programmed transactions (better known as smart contracts) is another key player. Their distributed ledgers' features however vary. Ripple, limit permission to a group of trusted parties, and is fairly bank specific, while Ethereum is more public, and covers a broader audience. Bitcoin however falls outside our focus. First something shortly about both platforms.

• Ripple
  
  Ripple, a blockchain start-up, is the most known company addressing the blockchain challenge. Ripple's focus is on providing this technology to banks looking to make cross border payments more efficient. 
  
  Ripple's solution is built around a decentralised network that offers a cryptographically secure end-to-end payment flow with instant transaction verification. Ripple thereby has worked on the concept of an inter-ledger - the idea of using a standard protocol to connect ledgers together.
  
  Ripple's distributed financial technology allows for banks around the world to directly transact with each other without the need for a central couterparty or correspondent. Banks can send big corporate payments through existing channels or send a small payment though Ripple.
  
  A growing number of banks around the world are joining Ripple's growing network of financial institutions to process cross border payments, instantly, inexpensively, securely and with end-to-end visibility.  According to Ripple twelve of the world's global banks are nowadays using Ripple. And several other banks expect to deploy Ripple commercially this year. 

• Ethereum

The other contender is Ethereum, a decentralised blockchain platform that allows each blockchain to be customised. Ethereum has created an alternative protocol for building decentralized applications. Instead of having many blockchain protocols (each supporting a few applications), or even one blockchain protocol supporting a large list of applications, Ethereum has a blockchain protocol with a so-called Turing built-in programming language, allowing anyone to write smart contracts and decentralized applications “where they can create their own arbitrary rules for ownership, transaction formats and state transition functions”. 

This platform enables developers to create markets, store registries of debts or promises, move funds in accordance with given instructions (like a will or a futures contract) and many other things, all without a middle man or counterparty risk. Applications are multitude ranging from payments, simplifying and automating trade finance to tracking merchant loyalty points and gift cards to creating decentralized markets for electricity trading.

Ethereum technology is being actively explored by financial institutions, banking consortia such as R3, as well as firms such as Samsung, Deloitte, RWE and IBM.  R3CEV, the blockchain consortium backed by more than 50 banks, ran an experiment at the start of this year, connecting 11 banks (Barclays, BMO Financial Group, Credit Suisse, Commonwealth Bank of Australia, HSBC, Natixis, Royal Bank of Scotland, TD Bank, UBS, UniCredit and Wells Fargo) to Microsoft Azure’s Blockchain as a Service using Ethereum as its underlying platform.  Similarly, the Bank of England’s Distributed Ledger Proof of Concept for Real-Time Gross Settlement is based upon Ethereum.



Real-world examples

Blockchain technology is finally transitioning from experiment to usability concept in the payments world. Incumbent payment companies both non-bank as well as financial institutions, have started launching real-world payment products and services incorporating blockchain technology.

Non-bank payments firms

To date, there are several non-bank payments firms openly offering blockchain services including (amongst many others): financial technology provider D+H; online payments start-up Dwolla; and, cross-border payments specialist Earthport. A recently launched offering is PayCommerce, a (decade-old) software-as-a-service (SaaS) payments and remittance platform that connects network members across the globe. These are mostly Bitcoin based, but nevertheless interesting to mention.

Each of these providers has so far taken a different approach to leveraging its market presence and products in a bid to win business. In addition to how they are using the technology, these  payments companies also vary on the types of blockchain software they are building services on.

• Ethereum test

A team of Ethereum developers has successfully completed the first-ever transactions that are off-blockchain on their decentralised application network. A payment was made from Denmark to India on Ethereum, initiated by the developers behind the micropayments project Raiden. “We now have the alpha of a system to do scalable, fast and extremely cheap  token transfers off-chain in Ethereum,” according to Raiden. The company “will (now) be exploring how to scale up and use Ethereum for other use cases, including  micropayments sent in seconds across borders or transfers of bandwidth or data between two Internet of Things-linked machines”.

Financial institutions

So far many tests have been done in-house at a number of large financial institutions. But now banks are slowly but definitely beginning to bring blockchain technology to the real payments world. Ripple recently announced that seven banks including names like Santander, CIBC, UniCredit, UBS, ReiseBank, National Bank of Abu Dhabi and ATB Financial of Edmonton "had made a breakthrough by being among the first financial institutions in the world to move real money across borders using blockchain-based technology provided  by Ripple".  Focus is thereby on international, low-value, high-volume and velocity payments as these can often be expensive and not profitable for banks. 

• Santander

Santander has become the first major UK bank (and the first bank in the world) to use Ripple for cross border payments. Santander has created an app built on the blockchain technology provided by Ripple, that facilitates international payments. Once the app is downloaded, users only need to complete their profile details and can then  start to make a payment. It connects to Apple Pay, where users can confirm payments securely using Touch ID:

       - Users can made payments between GBP 10 and GBP 10.000, around the clock and at any time of the day.
       - These transfers can be made from sterling to euros and US dollars (currently payments made in euros can be sent to 21 countries and US dollar payments to America only). 
        - Funds will appear in the recipients account already the next working day (greatly reducing the process time for international payments). 

It is currently being rolled out as a staff pilot. The results of this trial will be  used to assess whether to bring this technology to its customer base at a l later date. 

• SAP, Ripple, ATB Financial and Reisebank

SAP, the world's third largest independent software manufacturer, partnered with Ripple and two banks, ATB Financial (Canada) and Reisebank (Germany), to demonstrate how banks can improve the efficiency of cross-border payments by using blockchain technology. 

For that SAP and Ripple designed and built a Proof-of-Concept prototype based on this technology. The technology prototype connects SAP HANA Cloud, the open platform as a service (SaaS), and the SAP Payment Engine application, which centralizes payment processing in one solution with Ripple's network of enterprise blockchain solutions. 

This prototype was used to send the first international interbank blockchain payment of CAD $ 1,000  from  ATB Financial to Reisebank. With parties representing different continents, this cross border payment transfer using  blockchain technology was completed successfully. The payment which would normally have taken between two to six business days to process was now completed in around 20 seconds, so nearly instantaneous. In addition for being far quicker, this blockchain payment transaction cost a fraction of current transaction rates.  

• Japanese bank consortium

SBI Ripple Asia, a joint venture formed this year between distributed ledger  tech provider Ripple and Japanese financial services firm SBI Holdings, has  announced that a Japanese consortium of 15 banks in a new established network will use Ripple’s blockchain technology for payments and settlement. Initial participants include Bank of Yokohama and SBI Sumishin Net Bank (SBI Holdings owns part of it). SBI Ripple Asia says "cross-border fees can run up to thousands of yen (or tens of dollars). In the new setup, it says banks will pay about 90% less in fees". It is expected that the size of the consortium will increase to 30 banks, and that the new service will go live in spring of 2017. 

In July, Mizuho Financial Group (MHFG), one of the largest financial groups in Asia, became one of the first Japanese banks to pilot blockchain for cross-currency settlement using Ripple.

Technology companies

Large technology companies such as Apple and Google haven’t shown much interest in blockchain technology, but that appears to be changing, with increasing interest in Ripple and the distributed ledger financial company’s Interledger Protocol. Google, Apple, Mozilla and other large technology companies have been joining forces to find a better user experience for payments on the internet.

Is it still too early?

The payments industry is certainly a intriguing arena to watch from a blockchain perspective. However, blockchain is not quite ready for adoption for mass consumer transactions. The technologies are still mature (but improving rapidly!), and their ability to support the challenging needs of the payments industry has yet to be approved. There is general belief that it may take 3 to 5 years before there is substantial adoption of this technology and the first real impact on payments costs and revenue can be felt. 

Citibank concludes in its report that network adoption is key to driving the scalability and regulatory compliance of a new value transfer system based on blockchain technology. Adoption by financial institutions will ultimately determine which payment systems catch up!