Towards a Clearer Understanding of Blockchain's True Value

Takeo Nishikata joined Nomura Research Institute (NRI) in 2008 and works on investigative research of advanced financial technology including blockchain and digital currency, as well as on development of innovative solutions. He is currently a technical lead for a proof of concept being developed with Japanese financial institutions.

In this CoinDesk 2016 in Review feature, Nishikata takes an expansive look at some of the discussion around blockchain, seeking to navigate and "clarify all the misunderstandings" around the tech at the close of the year.

According to a recent report from Gartner, blockchain is currently at the peak of a hype cycle.

At NRI, we have witnessed how this technology is misunderstood, and how it is at times either overestimated or underestimated. We have seen this during our continued investigative research on blockchain technology in the Japanese domestic securities field since the end of 2015.

It’s about time to clarify all the misunderstandings around blockchain and its future.

I would like to suggest how such misunderstandings can be effectively addressed, based on my extensive experience as a researcher at a financial IT service provider, and hope we can do away with any confusion and move on to produce true innovation in 2017 and onwards.

The first set of misunderstandings concerns the characteristics and value of blockchain.

One of many is that, if blockchain is applied to business systems, it will – compared with existing technology – have greater resistance to tampering, offer higher availability and enable the same data and processes to be shared.

Contrary to general understanding, these are things which can already be achieved with existing technology, and are not uniquely achievable with blockchain.

Another common misunderstanding is that 'blockchain has problems with scalability and finality, and these can be solved through centralization'.

Trying to obtain scalability and finality through centralization weakens the unique characteristics of blockchain and makes it harder to distinguish from existing technologies. It is necessary to find an optimal balance and design, while making use of the unique value of blockchain without losing its benefits.

That the technology should be used either with a single participant or with a specified small number is another misunderstanding.

The value of blockchain increases through the network effect, and so it is my view that one should aim to expand the structure of decentralized rights as a whole – even if part of that structured is centralized – by ensuring the expansion and diversification of participants or compatibility with other blockchains.

This is just like how the Internet creates value by being formed from multiple Local Area Networks (LANs).

The unique characteristic of blockchain is that it grants decentralized rights – or to put it more accurately, it has “opened up possibilities” by enabling the creation of records of value or exchanges of value between counterparties who cannot be trusted without the existence of a single third party.

While information systems are based on trade-offs between various system characteristics, blockchain is a system which chooses the creation of decentralized rights at the expense of scalability and finality.

The true value created by decentralized rights is that, in the same way as the Internet, the free participation of many different parties creates a network effect as the number of participants increases. This leads to the formation of a resilient system as a whole, and also increases the benefit obtained by its participants through the value created by the participants.

Two misconceptions about the maturity level of blockchain technology exist – one that overestimates it, and one which underestimates it.

The DAO may be an example of the overestimation of the maturity level of blockchain. The DAO was an extremely pioneering and novel initiative as an investment fund without managers leveraging the characteristic of blockchain.

Despite its progressive approach, the DAO was recognized by many as taking too much risk in regards to the maturity of the current infrastructure.

On the other hand, there is also a trend towards underestimating the level of maturity of blockchain technology. In particular, it feels that since it occurred, the DAO 'incident' has often been used as a case study for the immaturity of the community and technology, yet many fail to perform a proper review of the cause of the incident or its countermeasures.

While there are big differences in blockchain technology according to the software used, it can generally be thought of as currently an immature technology from the following points of view:

1. There has not been sufficient discussion of infrastructure requirements according to the relevant application.

For example, the infrastructure requirements for supporting bitcoin are likely different from those for supporting securities settlement systems. Issues and constraints can only be isolated once the relevant requirements are first clarified.

Currently, such issues and constraints are being debated and the use of technology is being considered without having any clear requirements in place. For example, while issues such as scalability and finality are, as mentioned before, system characteristics which are sacrificed, the question of whether or not this is regarded as an issue or constraint will surely depend on the relevant requirements.

Going forward, it is likely that there is a need for further discussion between the business side and the technical side.

2. Issues caused by the difference from existing systems are not clear.

Because blockchain is a system with different characteristics from existing systems, it is necessary to repeatedly perform investigative research and validations in a step-by-step process – such as on function layer units including applications and networks, phase units from design through to operation, and underlying technology units – while bringing together specialisms from a diverse range of fields such as cryptography, security, networks, distributed systems, game theory, and trust.

3. There is a lack of quality assurance.

Undefined requirements and issues mean quality assurance is insufficient. It is necessary to ensure quality after first clarifying these points.

The current situation where both overestimation and underestimation of the maturity level exist could damage the health of the ecosystem and possibly obstruct future innovation.

What is needed going forward is a shared understanding concerning the level of maturity by firming up infrastructure requirement. Also needed is the visualization of both the newly assumed issues and risks, as well as the quality standards and level of completion for those requirements.

Also, for blockchain to spread as a form of financial infrastructure – which demands a high level of reliability, availability and maintainability – each of these factors must be carefully progressed to a high level.

Quality assurance for financial infrastructure is not something which can be done overnight, but rather requires one to craft quality with care and construct assurance processes, make continual improvements and build up one’s experience.

Lastly, there are misunderstandings concerning the kind of future which blockchain technology will bring.

For me, the ultimate scenario would be the realization of an 'Internet of Value', in which anyone can trade all kinds of assets through the Internet without depending on third parties.

Once this Internet of Value is realized, the world will be filled with borderless transactions (for example, online concert tickets issued by an artist in one country that can be freely traded all over the world), and with transactions between all kinds of assets, such as exchanges of financial instruments for loyalty points.

The opposite end-game to this is a world flooded with siloed systems that have no superiority to existing ones.

We are currently at an important crossroads, where we are able to decide which of these scenarios we will head towards. I believe our future depends on the question of whether or not an open standard beyond national and organizational borders can be created under the appropriate governance. This open standard needs to be simple and have a high level of usability.

From a technical point of view, it’s a question of whether or not a protocol like TCP/IP can be created for blockchain. While at the present point in time it is not certain whether or not a single standard specification can be created, interoperability as discussed by ISO (International Organization for Standardization) will likely be a key driver to achieve a standard specification.

From a legal point of view, and to give an example for securities settlements, it is a question of whether guidance on requirements for distributed ledgers based on PFMIs (the CPMI-IOSCO Principles for Financial Market Infrastructures) can be presented, as discussed by the ESMA (European Securities and Markets Authority).

There are points of contention which are unique to distributed ledgers, such as the finality of settlements on distributed ledger and arbitration where unlawful transactions occur.

Unfortunately, the current discussions appear to be stuck with more petty debates of short-term and local reductions to the cost of business systems or with fantastical scenarios where all the central institutions of the world will be disrupted by the technology. These discussions would not lead to an accurate view of the future.

What many corporations need to be thinking about now is what role they will play and what kind of added value they will provide in a future in which this Internet of Value might be realized. If finance were to be opened up to individuals, it may become necessary for financial institutions to shift to providing new offerings such as advisory services with greater added value or higher credibility via a track record of performance.

It is not easy to paint a picture of the future. In the early days of the Internet, who would have imagined the appearance of the cloud and social networking services we have today?

Furthermore, we live in the world in which new technology develops with astonishing speed, and so one must consider the impact of the combination of new technologies which might affect the future of blockchain. Just as it was for the Internet, I expect that the situation will become gradually clearer going forwards.

NRI would like to paint a picture of this future together with our clients and partners, and walk forward towards its realization.

NRI has a number of functions. It acts as a think tank, which depicts and conveys a vision of the future of society based on its corporate philosophy of “Dream up the future".

We also act as a financial IT services provider as well as an advanced information security solutions provider. We believe that, through unifying these functions, we can contribute to the future of blockchain as a new financial infrastructure.

Until now, we have steadily advanced our understanding and evaluation of technologies, through joint research with financial institutions, collaborations with startup companies, and cooperation with academic institutions.

Going forward, we both wish to continue these activities, as well as convey and co-create a vision of the future which blockchain will bring, and to proactively contribute to the cultivation of technologies and ecosystems which make use of our insight and experience.

Have an opinion on blockchain in 2016? A prediction for 2017? Email editors@coindesk.com to learn how you can contribute to our series.

Image via Shutterstock