Blockchain faces obstacles to gain investing acceptance

The distributed ledger technology has the potential to upend traditional custody and settlement. But it must overcome some sizeable challenges if it is to achieve this potential.
Blockchain faces obstacles to gain investing acceptance

Blockchain, the distributed ledger technology (DLT) behind bitcoin, is being increasingly viewed as the future backbone of asset settlement and custody. But while the possibilities are exciting, experts say blockchain faces many obstacles before it is likely to enjoy large-scale adoption.

Some are prosaic in nature. Steve Knabl, president of the Association of Independent Asset Managers Singapore, noted an important one: blockchain consumes tremendous amounts of energy. “The number of users on blockchain platforms is very low today. But if that number grows significantly, the energy needed to maintain such platforms will be enormous, which could offset some of the costs benefits of using this technology, ” he said.

A January 2017 online post by the Cologne Institute for Economic Research noted rising participation in a blockchain system would require a larger number of transactions to be validated by miners (computers competing in finding a solution). 

“Miners consume energy, in 2013 about 23.5 gigawatts/hour per day in the bitcoin network. Projections for 2030 show that an increase in participation  would result in annual energy consumption of the miners alone that would exceed today’s worldwide energy supply by a maximum of 14%,” the post noted.

Plus there is the challenge of integrating blockchain-enabled operations, which are predominantly back-end today, with front-end operations. And questions linger over the resilience of this technology as it scales upwards. 

“We have to see whether blockchain can handle a large volume of transactions on a sustained basis under the prevailing regulatory framework,” said Jennifer Qin, Asia Pacific lead investment management partner and blockchain initiator at Deloitte China.

These issues are not made easier by a lack of tech experts who understand DLT and can explain and convince high-level executives, of the merits of it. That is likely to exacerbate another, more intangible risk—executive fears about the cost to a company’s reputation if things go wrong, said Qin.

Blockchain-powered platforms will also only work when all participants in the data transfer process agree to join. “One entity cannot implement blockchain on its own—counterparties such as the stock exchange, clearing firms and third party distributors also need to be on board,” she noted.

Sandbox experimentation

That requires entire industries to adopt the technology. And their willingness to do so will depend on how regulations evolve. Singapore and Hong Kong’s central banks appear open to doing so.  

Both have encouraged fintech experimentation through regulatory “sandboxes”. These consist of defined product areas, within which financial firms and fintech players test innovative specific financial products and services.

In October, the two jurisdictions went a step further, announcing a collaborative project based on blockchain technology to allow cross-border trade and financing. 

But sandboxes are not perfect. Gary O’Brien, head of custody product at BNP Paribas Securities Services Asia Pacific, said regulations typically focus on a product, service or solution, not the technology providers use. 

“Regulators are often keen to explore what any new solution aims to achieve and the impact on the marketplace—that is what any regulation will focus on, not the technology [responsible for the new solutions],” he said.

Some market participants worry about how regulators will cope with overseeing the sort of service automation that blockchain can allow. This includes the legal standing of smart contracts, or self-executing contracts between buyer and seller that are written directly into lines of computer code and trigger automatically when certain pre-set conditions are met. They note the uncertainty of how to seek legal redress when something goes wrong.

The anonymous nature of the technology leaves some regulators fretting over the potential for money laundering and terrorist financing. 

Teething problems

Yet none of these issues are insurmountable. Sundeep Gantori, equity analyst and author of a UBS report on blockchain, argues that the obstacles are teething problems, similar to the ones the Internet faced when it started out in the early 1990s. 

“Initial hiccups were resolved over time,” he said.

And it’s important to keep in mind that much of the acceptance of DLT has come from the fact that its transaction records are tamper-proof and immutable. That, along with the rapidity of its data sharing, offers enormous possibilities for companies. 

As a result, experts share a broad consensus that blockchain will become more and more widely adopted and used.

But it will take time. Financial companies with expensive legacy systems will be reluctant to shift until they conduct a thorough cost-benefit analysis and are certain blockchain systems have thorough regulatory support. For all the possibilities, blockchain remains a fledgling technology.

Much more needs to be done to convince investment companies, counterparties and regulators that blockchain is the future. And there is still a chance it might not be. 

This story is the second part of an AsianInvestor magazine feature on blockchain in Asia, from our December 2017/January 2018 edition. To read the first part of the feature, please click here 

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