David Watson is the global head of product development for Deutsche Bank’s global transaction banking (GTB) business, where he works alongside Edward Budd, who leads the bank’s strategy and planning for digital business models.
In this CoinDesk 2016 in Review special feature, Watson and Budd give their overview of what they’ve learned while exploring the technology over the last year, as well as their outlook for 2017 and beyond.
“The electric light did not come from the continuous improvement of candles.” – Oren Harari
2016 will definitely be recorded as the year that infamously put distributed ledger technology (DLT) claims at the top of the hype curve and triggered the imagination of many.
Entering 2017, the general market sentiment remains that DLT will have a significant impact on financial services and the business models of its industry participants.
In this context, it will be crucial that any activities are driven by actual market needs and this requires a view on what this means for us in terms of business model evolution, but more importantly what it means for our clients and for their business – unrelated to financial services.
To make progress here means that our lines of enquiry need to look beyond ‘sterile technology tests’ to include a practical view on integration into the real world, and to include the schemes that form the legal and regulatory basis for implementation.
This can only be achieved collaboratively and requires an ongoing dialogue with industry partners, FinTech, clients and regulators alike.
There will be skeptics who assume the lack of overnight adoption and acceptance is a concern, but let’s consider the early days of the iPhone – legal battles lasted several months with telecos before it was able to be launched.
When the first iPhone was released in 2007, it had zero apps and the second model, only six months later, had around 500. By 2011, the Apple App Store had over 500,000 apps to choose from. In that time, usage grew from under three million users to over 35 million.
Apple then partnered with FinTechs to develop further functionality and security of iOS, focused on safety of data and trialed its product in a sandbox environment to get customer feedback. By no means a quick evolution, but a fruitful one nonetheless.
This also highlights the phase we are just entering, development of apps/products in DLT, where the rubber hits the road.
Here are 5 lessons we have learned from DLT over the last 12 months:
1. ‘Everything is a journey’
This technology will (and must!) evolve and with it new opportunities will arise.
Has 2016 witnessed progress in the journey to transforming parts of financial services? Yes. Have we crossed the finishing line yet? No. Will there actually ever be a finishing line? Possibly not.
Within the large portfolio of DLT activities there has been significant progress made, but the journeys we have seen to date clearly differ in speed and focus.
Our key area of focus remains the application of DLT to less digitalized securities markets with an emphasis on smart contracts.
Recently, we completed the next phase of our securities DLT business tests, building on our successful Smart Contract Corporate Bond proof-of-value (POV) back in 2015.
Of major interest for us this year has been the testing of practical integration points addressing functional capabilities such as SWIFT message matching, issuance, funding check, netting, interest payment, maturity and trading.
In the second half of the year, we further broadened our DLT investigations through the partnership in the Utility Settlement Coin (USC) consortium. This focuses on the exploration of the potential of relatively new digital concept such as ‘digital cash’.
The main area of interest for us in this context is what this could mean for the payment leg of the settlement of a security (the P in DvP, which stands for delivery versus payment), as well as the future of cross-currency transfers.
This is clearly a hot topic right now, as the German Bundesbank and Deutsche Boerse announced they would follow a similar route of discovery when referencing the development of a prototype leveraging DLT.
2. ‘You need to learn to walk, before you run’
Maintaining compliance with regulation, legal frameworks and production assured technology is not optional, it is mandatory.
The key learning here is that investigations need to be broadened beyond the technology and – besides the crucial business model aspects – focus on market infrastructure as well as legal implications.
In order to comply with legal requirements, the main focus of use cases this year have used a permissioned ledger set-up (KYC and data protection policy compliant), as they are the more practical adoptions for the scenarios in question.
Especially in the wholesale post-settlement and clearing scenarios, they show more similarities to current legal and membership schemes for regulators, and are built with focus on safety and soundness challenges, as well as governance issues that may occur in-flight when DLT is applied for financial products and services.
This will not limit the scope of DLT application to these areas in financial services, but it can be expected that these more familiar areas will make concrete progress in the near term, whereas the ‘truly distributed’ adoptions will take longer with more rapid progress taking place outside of financial services.
3. ‘The technology looking for the problem to solve’
Transformation outside of banking will define areas of future financial services products.
The danger when coming into contact with this topic for the first time is looking at it purely from a technology perspective and not considering that you are innovating for a moving target.
2016 has seen a variety of views on which business challenges match key attributes of blockchain and DLT application. The range of these has driven more constructive thought about where in the value chain or process we should start solving the problem.
For too long we have focused on fixing the backend of processes. The possibilities outlined by DLT have challenged this and triggered investigations into entire end-to-end processes.
While this mindset shift is a welcomed change, there nonetheless still seems to be a huge amount of activities focusing on current financial products, making them cheaper, faster and simpler.
Dealing with the challenges of today is important, but to make DLT a success you need to prepare for the needs of tomorrow. As Oren Harari said: “The electric light did not come from the continuous improvement of candles”.
The other important aspect that frequently gets neglected is that this is not an isolated financial services debate and that if the industry verticals of our clients are looking to adapt this technology in parallel, this will change the way clients run their business and will lead to a whole new demand.
Art, music and even diamonds have adopted such technology for a single source of truth. And it’s likely we will continue to see more of this trend.
To prepare for this, we focus on regular client engagement and very practically have enabled this via regular design thinking workshops and client advisory board meetings throughout the year. The direct interaction with our clients helps us work to solve their problems and anticipate future needs.
4. ‘There is only so much you can learn on your own’
Working collaboratively is the logical and practical way to make DLT happen.
The ongoing exploration into DLT continues to be a field in which high levels of collaboration between banks is evident, a trend still alien to some, yet very much a reality.
The ‘open’ theme continues in the form of the open sourcing of the basic technology (the latest example being R3’s move to make its Corda platform open source), which clearly indicates the shared view by industry participants that DLT can only successfully be applied when defined jointly.
That is not to say there is no value in driving this topic in-house.
There clearly is a need to understand what business model questions are worth solving and to assess the corporate capabilities needed to practically integrate this into your organization.
The network effect is important to DLT, but the shape of this network will be different by implementation and importantly may not always need total consensus to get started.
5. ‘Blockchain is not a silver bullet’
Although DLT seems to be the number one digital trend out there, it might not be the biggest or nearest term shift we will see.
Another pitfall of the current DLT debate is also that it is often held in isolation and not reviewed in the context of the broader ongoing digitalization of our industry.
Depending on which piece of press you read, or which vendor you look at, it appears that each of the current digital trends – be it AI, IoT APIs, cloud – will be an independent revolution. That would be a lot of parallel revolutions and not exactly what is practically going on.
It is the combination of these – in particular APIs, cloud and FinTechs – that drives a shift towards open banking models leveraging these evolving technologies.
The structural impact of these trends is likely to occur sooner than ones triggered by DLT, especially as several are implicit to pending regulatory changes such as the EU’s Payments Service Directive 2 (PSD2).
So what is next in 2017?
There is already a visible shift in client engagement and we expect this to continue. What was once us pushing the digitalization agenda, is now a pull from the other side. Clients are approaching us about how they can get involved, explore digital trends and transform their businesses.
A significant part of the journey, though, has taken us to our clients rather than expanding project efforts to many products.
Digitalization is certainly not a hype and we aspire to engage closer with our clients, and our clients’ clients, to forge ahead and improve business.
Have an opinion on blockchain in 2016? A prediction for the year ahead? Email firstname.lastname@example.org to learn how you can contribute to our series.
Candlelight image via Shutterstock