23 September 2017
Carlo R.W. De Meijer

Blockchain Observations

Carlo R.W. De Meijer - MIFSA

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Blockchain and standards: first things first!

20 September 2016  |  6213 views  |  0

Kevin Cullen has written an interesting blog on the need for messaging standards for the blockchain world. In June I also wrote a blog on Linkedin with the title “Blockchain: "Should we agree on standards sooner than later"? Here below are my thoughts.

Intensified conversation

The conversation on industry standards for blockchain applications is intensifying. The crucial issue of designing common industry standards and protocols is coming to the fore. Some say “Let’s agree on standards sooner than later”, just like Australia. Standards Australia recently announced that ISO, the International Organization for Standardization, is supporting its proposal (from last April) to develop a set of international standards for blockchain technology.  Standards Australia states that proposed international standards for blockchain will focus on technical solutions that promote interoperability, and compatibility between existing systems. It is however questionable if the present state of blockchain technology is ready for that. 

Present state: fragmentation 
Blockchain technology has spawned a proliferation of applications in the financial industry. The present reality is that we see the deployment of different blockchains and different blockchain companies deploying these blockchains, or banks using different blockchains for different use cases. There are nowadays dozens of fragmented blockchains competing, each with their proprietary, non-interoperable standards and protocols. This fragmentation has raised concerns about interoperability and competition. 

Common standards are a must ….
There is growing belief that interoperability between different protocols is the key to unlocking the potential of blockchain. Interoperability and data interchange among users, applications and systems globally are needed to allow broader acceptation of blockchain in the financial industry. There is a growing consensus that common industry standards and protocols will be essential. Financial firms will need access to standardised data and platforms to realise the full benefits of this technology in terms of speed, efficiency and cost savings. 

… but present projects work on various standards
There is a lot of standards and interoperability work that is just beginning. Nowadays there are a number of groups working on standards. Use cases and proof on concepts with their own standards and protocols are being explored by the likes of Ripple Lab, Chain, Digital Asset Holdings and the 50-plus member R3 CEV consortium. And there is strive of the Hyperledger Foundation to come to open standard principles. We may expect that over the coming months and years there will arise several other blockchain protocol solutions to use for documentation authorisation, asset exchange and settlements, storage and access, smart contracts and others.

  • Ripple Lab

Ripple recently introduced the Interledger Protocol (ILP)—a free, open source and neutral protocol for efficient and safe payments across payment networks. ILP enables interoperability between the world’s ledgers—both centralized and distributed—and delivers the core benefits of multicurrency distributed ledger technology with infinite scalability. The introduction of ILP will give the ability to interconnect ledgers of any kind. Ripple provides direct access to a network of global banks. More than 30 banks have piloted Ripple to date, with another 90 banks in the pipeline. The focus of these pilots and deployments is purely on cross-border payments.

  • Chain

Another example is the Chain Open Standard, an open source blockchain protocol for high-scale financial networks designed in collaboration with the world's leading financial firms such as Nasdaq, Citi, Visa, Fidelity, Capital One and others. This standard can be used from simple transfer of assets to a collateralised loan, thereby meeting the stringent regulatory, security and privacy requirements of the financial services industry. Chain Open Standard, or Chain OS1, promises to address key requirements of financial institutions, such as role-based permissions for users; selective privacy; immediate transactions with absolute finality; smart contracts; integration with existing financial systems and other blockchain protocols; etc. This Protocol that was developed over the last 12 months is now available to the wider financial community.

  • Digital Asset Holdings

Digital Asset Holdings is a fintech that uses distributed ledgers to track and settle both digital and mainstream financial assets in a cryptographically secure environment where counterparty risk is minimized, and settlement times are drastically reduced. When buying Hyperledger in 2015 they added new functionalities to their offering. Hyperledger developed an innovative distributed ledger to allow banks and other financial institutions to clear and settle transactions in real time. Hyperledger uses UTXO/script as a base and extends it with features required in financial services. Conforming to the UTXO model as a de facto standard opens a larger ecosystem of innovation to draw from. The company’s technology enables financial institutions to create multiple private blockchains across a known group of participants. Unlike other distributed ledgers, Hyperledger does not have an inbuilt cryptocurrency and uses a proven consensus algorithm capable of thousands of transactions per second. This year Digital Asset Holdings moved Hyperledger to the independent Linux Foundation.

  • R3CEV

Standardisation efforts are where industry consortiums may prove their importance. The best known of these initiatives is the R3CEV consortium. This collaborative approach of many of the largest global banks is aimed to agree on common industry standards and protocols to allow uptake of the new technology and begin collaborative participating thus solving the network effect. R3CEV is now working with the International Swaps and Derivatives Association to determine what in the derivatives body’s master agreement might need to change in order to support the use of distributed ledger by the industry. Any changes made by ISDA would support distributed ledgers in general.


The Internet as the Example: network effects
The new blockchain technology uptake is heavily influenced by the so-called network effect, similar like The Internet. The Internet offers important insights into how standards could, and should come about.  The development of The Internet has shown the extra-ordinary process of this network effect, in that there are multiple networks and the key is getting them to interoperate.

The road to The Internet as it works today was not a straight forward process. It took 15 years to come to the ideas and protocols that underly the Internet we use today. If you compare blockchain development with that of The Internet, we can say that we are at the same moment when email standards were starting to be developed. The initial set of standards created for banks the "Open Systems Interconnections" or the OSI layered architecture  didn't work out. And countless other protocols for the various layers followed. In the end they were replaced by the Internet's Transmission Control Protocol (TCP) and Internet Protocol (IP). 

What approach?
What approach towards standards and protocols should be taken by the industry. Blockchain is still an emerging technology being in the early stages of its development. It is therefore too early to discuss and set already definitive common standards and protocols. This given the various levels of understanding regarding distributed ledgers that nowadays exist among financial institutions, fintechs and regulators worldwide.

  • First things first: not too early 

Most of existing distributed ledger platforms are not mature enough to have their developers and backers discuss ledger interoperability productively. We need to give the technology time to evolve, and give developers time to create their products. And the financial industry should be given time to reach consensus on key issues before standards and protocols are being defined and worked out. Trying to create industry wide common standards before there is common understanding will be a mistake.

  • Do not put the horse behind the cart!

The best scenario for blockchain would be for financial institutions to build out the technology and determine the business cases first. And then develop the standards. In other words, banks should prevent to put the horse behind the cart. Before thinking about common standards, there are a wide  range of issues that the financial industry needs to come together to answer, in order to shape the longer term vision on blockchain, such as establishing the foundational building blocks, developing the governance and identifying which areas of the post-trade process would benefit most from implementing the technology.  

  • Not just interoperability

The issue of blockchain standards is rather complicated. It extends beyond just seeing it as an interoperability or technical challenge. Standards for blockchain have a number of elements to think about, including technical, business and legal considerations. Blockchain implementation for financial institutions will equally touch the technical, business and process-related areas and legal and regulatory sides. Standards for blockchain should be looked at in a similar way, along these complementary dimensions.

  • Collaboration

There is a clear distinction between the standardisation drive of financial business executives and managers, and the potential standards need of developers actually working on blockchain technology applications. In order to bridge this gap and looking at the various needs, standards should be built in a collaborative environment including financial institutions, fintechs and regulatory bodies. Key for long term success is to come to a collaborative re-architecture of core practices and processes to ensure standardisation. When the industry gets aligned around a common cause, it is much easier to develop standards than it used to be. 

  • Only standards for application areas that holds promises

The process of tailoring standards to specific financial industries and what exact components should go into any kind  of proposed standard will not be an easy task. If blockchain has to deliver the promised future it holds, the industry needs to negotiate standards in each application area where the technology holds promise. These include, but are not limited to, “verticals” such as identity chains, crypto securities, payments, P2P insurance etc., but also “horizontal” areas such as cryptographic standards, scalability parameters, interoperability standards, such as side chains and legal and regulatory standards.

  • Avoid to reinvent the wheel!

In order to save both money and time, one should avoid to reinvent the wheel, or moving to develop standards that may mirror or reflect existing standards already in place for other (comparable) technologies. One should also  need to avoid putting in place any kind of standard that would create burdens for developers and start-ups that could frustrate their work. To be effective, for creating community wide standards and protocols one should take a step-by-step approach:
- first see if one can implement existing standards, especially from a business process and regulatory point of view;
- second, consider updating standards that already exist, to better integrate with end-to-end transactions that are run on a decentralised network;
- third, if needed (because the existing ones do not completely fit), start to create or agree on new standards that are specific to blockchain and distributed ledger implementations.

But where do we end?
The main question is: where do we end?  What can we expect? Though I think it is still too early to predict how things will work out, looking back how it evolved with The Internet, we may get some important insights. First of all it shows that common standards and protocols are a must. Second, the network effects asks for interoperability. Third pushes for definitive standards in the blockchain industry are premature. The industry should be given time to reach consensus on key issues before standards and protocols are being defined and worked out.

Just like with The Internet we may see a collision of standards and protocols in the coming years. There will be multiple networks of trusted platforms, with negotiated standards like the R3CEV consortium, each connecting a subset of industry players. Each network will have their own specific standards and protocols. But as blockchain is still evolving there is no guarantee that any of the standards and protocols proposed today will become the de facto operating standard. Existing blockchain protocols may disappear or become obsolete while there may be a showdown of new standards and protocols.

Most likely, and again looking to The Internet, we may end with a small number (three or four) of different standards that will have a lot in common. So don’t let put the horse behind the cart!

  

 

TagsBlockchainPost-trade & ops

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