Future of Finance


Article: Blockchain could supplant platform capitalism if it adopted an open infrastructure model

The adoption and impact of Blockchain in financial markets could be accelerated by pursuing a collaborative strategy that uses blockchain to build infrastructures that businesses can use at low cost to launch and distribute new products and services that generate revenues and lower costs without the continuous taxes levied on activity and privacy by the major technology platforms.

Any infrastructure, properly defined, is a shared means to many ends. The cars and lorries on a road network, or the companies and consumers on the Internet, are using a common infrastructure to achieve countless ends. To deliver on that definition, an infrastructure must be open to anyone who wishes to use it, and on equal terms without discrimination. It is that openness that enables infrastructures to accelerate the growth of entire economies, let alone markets, because it makes it possible for more and more varied market participants to introduce innovations that generate revenues or reduce costs, including the costs of trading with each other.

The need to maintain openness is especially important in markets driven by digital technology. Digital technologies are particularly productive because digitisation is a general-purpose technology (it affects the entire economy) and it has a marginal cost of production or consumption that is effectively zero (copying of software costs nothing more than minuscule amounts of electricity). Software is also, in the jargon, non-rivalrous. In other words, anyone in any business can consume digital technology or use it to produce something else without depriving other consumers or producers of those benefits. That is why the maintenance of “network neutrality,” against the attempts of some large corporations to create “walled gardens,” was such a crucial decision by regulators (American ones in particular) at the turn of the century. The Internet is, in principle, a true infrastructure.

The FAANG “platforms” have undermined the value of the Internet as infrastructure

However, powerful network effects have suppressed the openness of the Internet by other means. Microsoft, for example, owns a monopoly in business software because every large corporation induces every other large corporation to purchase it, despite the inferiority of the products. In smartphones, a duopoly has developed between two closed operating systems: the iPhone and the Android. Facebook has built a monopoly in social media, almost entirely through network effects. Facebook is also one of a series of digital “platforms” that have emerged, along with Amazon as a retailer and Amazon as a Cloud provider, Airbnb, Google and Uber, all of which rely on data extraction to reinforce the monopolies which network effects have created. Similar, data-driven monopolistic platforms (such as those created by GE and Siemens) operate in other industrial sectors.

“Platforms” are bastardised versions of what an open infrastructure should be. Their advocates contend that they undermine the power of large corporations by providing trustworthy venues where buyers and sellers and lenders and borrowers can transact without needing to check the credentials or creditworthiness of the counterparty. They add that platforms also give small businesses and even individuals the ability to advertise (via Facebook or Google) or sell (via Amazon) to a global marketplace. On this view, platforms are akin to marketplaces, which neither make nor sell anything themselves, but enable others to do so. In other words, runs the argument, platforms are a brand of infrastructure because they provide a shared means to many ends.

The main difficulty with this sanguine view of platform capitalism as infrastructure is that platforms, unlike true infrastructures, take a toll of every transaction. Platforms also operate at tremendous cost to privacy (all platforms extract data from users without paying for it) and to innovation (platforms suppress competition in their early years by abjuring the need to make money and later use their cash piles to purchase the rights to any technology with threatens their position). Peter Thiel is right to question whether the default view that markets are either competitive (and so there is no case for regulation) or cannot be competitive (in which case regulation is necessary to correct market failure). But his belief that platform monopolies are naturally dynamic – they must innovate to retain their monopoly or be succeeded by a more innovative monopoly – ignores the many unseen innovations which such monopolies unwittingly (as well as wittingly) prevent.

True infrastructures drive innovation, productivity and growth

A true infrastructure would permit such innovations to emerge. And in digital technology a better model is becoming apparent. The intrinsically non-rivalrous nature of software allows developers to create new products and services by sourcing software components created by others for quite different purposes. Long before Ethereum came up with the idea of “composability” – creating new products out of ready-made components on the Ethereum blockchain network – Linux pioneered open-source software that is free to use and modify.  Application Programme Interface (API) libraries exist for a similar reason: to make it easier to build APIs that allow data to flow between computer systems. This open model can have baleful effects – the Android operating system is a descendant of Linux, which was given away for free by Google to feed its real profit-generator, Internet search – but it also points to a constructive alternative to the platform monopoly.

Open Banking is the precursor to a new form of networked infrastructure

The intellectual origins of Open Banking, in which incumbent banks are obliged to share (consented) customer data with competitors, lie in open-source software. Open Banking has already enabled innovative companies to clear a barrier to entry: the installed and usually inertial customer base of the established firms. Some incumbent banks have even changed their minds, and now believe offering a choice of third-party products strengthens their relationship with their customers. The most adventurous see Open Banking as an opportunity to source components from third parties to introduce new services or enhance existing ones. An incumbent bank might, for example, use third party software and third-party price feeds to offer retail customers a stock brokerage service. So the development of component-based products and services based on data exchanged through APIs may not be growing fast but it does exist. In fact, the habit is spreading to other parts of the financial services industry (Open Finance) and will eventually embrace the entire economy (Open Data).

The London Stock Exchange Group (LSEG) is already making available to its customers a range of (suitably regulated) capital markets products and services supplied by third parties. The third-party products deliver additional value to LSEG customers and create the opportunity for customers to work with a wider range of counterparties. The scope over time for all members of the LSEG network to create component-based products and services is obvious. Unlike Open Banking, LSEG did not need to be prompted into action by regulation either. This is a lesson that enthusiasts for the one digital technology that is unequivocally a product of the reaction to the defeat of the promise of the Internet by the privacy-threatening and centralising tendencies of platform capitalism – namely, Blockchain – would be wise to absorb.

Blockchain has an infrastructural personality already

The true personality of Blockchain expresses itself in two ways. First, as decentralised, collaborative or even mutualised peer-to-peer networks that transform the economics of financial markets through the displacement of centralised intermediaries, including stock exchanges as well as the likes of Facebook. Secondly, by the replacement of inefficient data-sharing processes such as point-to-point messaging and sequential reconciliation of data sets by smart contracts that can be embedded in digital assets. Blockchain does not need to move data between systems; the data is in the things-that-move. For these reasons, Blockchain is the natural infrastructural underpinning of the open and networked financial markets that are primed to succeed the platforms controlled by the large technology companies.

Counter-intuitively, regulation could help Blockchain assume that role by imparting a bias in favour of decentralisation, privacy, consented data-sharing, digital identities, cyber-security, sound governance, tokenisation of assets and (more contentiously) against the currently over-generous protection of intellectual property. Unhappily, this is not a conversation that has progressed far. Instead, the Blockchain industry is trapped in a sterile argument between “libertarians” (who oppose any regulation of blockchain-based products and services, notably crypto-currencies) and “realists” (who believe the growth of blockchain-based products and services depends on a high level of institutional engagement that is contingent on the appointment of regulatory gatekeepers).

Ultimately, both sides are concerned primarily to capture the benefits of Blockchain for themselves. Even Ethereum, which was invented to turn blockchain into a distributed operating system instead of supporting a crypto-currency (as the Bitcoin blockchain does), is ultimately driven by the supply-side: the FinTechs and others which use Ethereum to launch profit-seeking applications they hope to sell to customers. Whenever those applications work, the returns are privatised. A true infrastructure (such as the Internet) creates un-owned or public returns as a side-effect of making a valuable resource available to any individual or business for any purpose at all. That incidental spillover – or positive “externality,” to use the economic jargon – helps entire economies, rather than individual enterprises, to grow through innovation and scaling.  

Openness and inter-operability are the keys

It is therefore an obvious pre-condition that any Blockchain infrastructure must support value-creating activities by private entities. But its most important characteristic is openness, in three senses.  First, it must be neutral, and offer access to all-comers without discrimination on price or any other criteria. Secondly, it needs to be open in a way that is different from the way the Ritz Hotel is open to all-comers; it must not oblige users to invest heavily in interface technologies (because the cost of joining the network will be the highest barrier to adoption). Thirdly – and most importantly in the long term – a Blockchain infrastructure must facilitate inter-operability, not just between blockchain protocols but between blockchain protocols and conventional networks.

To accomplish this third objective, the Blockchain industry must adopt collaboratively agreed and universally adopted data communication standards. This will open the possibility of a network of networks that spans industries and geographies, accelerating the flow of capital, goods, services and ideas around the world. It will be quite different from the platforms of the giant technology companies, which cut transaction costs by providing a centralised place where buyers and sellers can meet without costly intermediation. A Blockchain infrastructure will offer instead a decentralised alternative, in which buyers and sellers and borrowers and lenders find each other through networks of networks connected by standards.

It is tempting to argue that the various Layer One blockchains are already building this infrastructure and solving technical hindrances to the adoption of Blockchain – notably the lack of speed and scalability – as they do so. But these businesses are really profit-seeking technology vendors, whose efforts to solve the speed and scalability problems of classic Blockchain make the problem worse by multiplying protocols. A true Blockchain infrastructure must be built on a collective or cooperative or collaborative basis. Governments are one vehicle but even in liberal jurisdictions that government involvement will generate concerns about privacy and civil liberty. In any event, governments lack the necessary technical competence. Existing financial market infrastructures, such as payments utilities and central securities depositories (CSDs) are a sounder proposition. So are private or private-public collaborations.

Three live examples of blockchain infrastructures

An intriguing example of a collaborative venture that spans the public and the private sector is LACChain Alliance, a grouping of 55 organisations – including Consensys, Grant Thornton, TCS and the World Bank – led by the Lab of the Inter-American Development Bank (IDB Lab) that has built and operated since August 2019 a secure, open, transparent, zero-fee, public-permissioned Blockchain infrastructure for Latin America and the Caribbean based on the Hyperledger Besu software. It is open to any organisation or use-case that believes Blockchain can be useful, at the local, national or regional level, and across the public and the private sectors. The founding belief of the Alliance is that isolated Blockchain projects and networks that cannot inter-operate due to the lack of standards are inhibiting the adoption, let alone the effectiveness, of Blockchain technology.

One of the completed use-cases of the LACChain blockchain infrastructure is a cross-border payment network. In a Proof of Concept led by the Interamerican Development Bank (IDB), Citibank and technology vendor IO Builders, tokenised money in the form of US dollar and Dominican peso Stablecoins was exchanged between a digital wallet the IDB opened at Citibank and the digital wallet of an individual in the Dominican Republic.

Proving that payments tokens issued on to a Blockchain network can be transferred across national borders was not new – a variety of experiments by central banks and CSDs have proved it repeatedly – but the LACChain project proved it was faster, cheaper, traceable through every fee-charging intermediary between the sender and the receiver and fully compliant with Know Your Customer (KYC), Anti-Money Laundering (AML), Countering the Financing of Terrorism (CFT) and sanctions screening checks.

Making cross-border payments work on LACChain is a vindication of the value of a Blockchain infrastructure open to all-comers. It will be even more obviously so once the network encompasses private sector businesses buying and selling throughout Latin America and the Caribbean. Indeed, Blockchain has the potential to become the dominant infrastructure in cross-border payments if regulators endorse the idea.

Nor is LACChain a one-off. One of the models on which it is based is Alastria, a non-profit association established in Spain in October 2017 that runs an open Blockchain network infrastructure. FinTech start-ups, for example, use the (also zero-fee) Alastria blockchain infrastructure to launch their businesses by setting up a node on its network.

Likewise, the member-states of the European Union (EU) have also established the European Blockchain Services Infrastructure (EBSI) with the aim of delivering public services across national borders using blockchain technology. The aim is to increase data security and make it easier for consumers and businesses to interact with government agencies across national borders. Standardised APIs enable third parties to develop applications on the infrastructure.

Benefits of Blockchain infrastructures

So Blockchain infrastructures are not a fanciful idea: they are being built and operated already. Blockchain still faces obstacles, including fluctuating transaction fees, inadequate speed and scalability, privacy concerns, vulnerabilities in the safekeeping of private keys to digital assets, and lack of inter-operability between protocols. These problems are not trivial, but nor are they intractable. In fact, Blockchain networks built and operated as common infrastructures can mitigate all these problems, and even solve some of them.

Blockchain infrastructures offer users low-cost access to a stable version of blockchain technology to launch businesses or send and receive payments and assets in tokenised forms. They can minimise the costs of building interfaces and adapting internal systems and processes to integrate with Blockchain. They can automate costly but non-competing procedures with smart contracts. They can adopt the highest standards of cyber-security. They can provide secure digital wallets. They can solve the fees problem by charging none. They can improve inter-operability by driving adoption of data standards such as the ISO Standard TC307 for Blockchain. Infrastructures also have a valuable opportunity to reduce fraud and solve the most needless expense in modern finance – the cost of KYC, AML, CFT and sanctions screening checks – by using data to run digital identity checks.

Written by Dominic Hobson, Co-Founder and Editorial Director Future of Finance

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