Digital, blockchain payments can fill gaps in financial services—but are no replacement

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The conversation around advancing the distribution and use of digital currency gets a boost every time the banking system stubs its toe. And there have been many recent examples of financial system problems to point to.

"The financial system just isn't working for everyone," said Neha Narula, director of MIT Digital Currency. "The poor are paying the highest fees, we've seen examples where the wealthy are able to flout AML and CFTC rules in cooperation with large banks, and it took months in the U.S. for people to receive their stimulus checks."

At the same time, the world is "seeing a massive digitization as more of our economic activity moves online, but we don't necessarily see the capacity in payments to provide those consumers with exciting new, low-cost services," Narula said Wednesday at the virtual Chicago Payments Symposium, hosted by the Federal Reserve Bank of Chicago.

For the past few years, the payments industry has grappled with how blockchain and digital currency would best fit into the ecosystem. Some of those questions have been answered, but the coming years will more clearly define how those advancements will co-exist with traditional banking.

Brad Garlinghouse, CEO of Ripple
"In many ways, banks are ready for this and we are seeing that in the adoption of the hundreds of banks Ripple has signed on. On the other hand … depending on where you are in the world, many banks are still nervous," said Brad Garlinghouse, CEO of Ripple.

It's becoming increasingly important, blockchain developers point out, that all parties involved have to consider ways for new systems to layer on top of old ones, rather than replace legacy systems entirely. This process would also take some of the mystery out of blockchain and digital currency.

"The history of payments systems would tell you that every new system that has ever been built and had massive deployment has always been built as a layer on top of the previous one," said Shamir Karkal, co-founder and CEO of Sila, a company focusing on financial innovation and banking-as-a-service.

The first wire communications across the world were initially delivering messages, and eventually advanced to be able to send money, Karkal said.

"The important thing to understand is that the crypto ecosystem and blockchain use cases will not be able to exist separate from the financial system," he added. "To see the mass adoption we all expect to see, you need systems for businesses and individuals that have value in the traditional financial system — dollars in a bank account, traditional securities, bonds and real estate — so they can unlock that and bring it onto blockchain platforms and transact with it."

With the wide variety of use cases unfolding for digital currency, various types of blockchains will exist, Karkal said. "We need layers to connect the two financial worlds."

In the past few years, Ethereum blockchain has shown its benefits for peer-to-peer funding platforms like Kickstarter, and it continues to advance in addressing scale and speed.

The evolution of Ethereum provides a road map as to where blockchain may be headed in the coming years, illustrating that different ledgers tackle different tasks. An enterprise blockchain for storing data and managing workflow can advance to have money assets and tokenization security. That, in turn, can advance to the packaging of payment tokens, introducing financial software into the system and moving digital assets.

As one of the early blockchain companies, Ripple has established itself through the cross-border payment use case, even drawing the attention of partners like MoneyGram in using the blockchain to aid cross-border transfers.

"It comes down to taking ideas and hypothetical opportunities to real use cases," said Brad Garlinghouse, Ripple's CEO. "The value proposition that Ripple has chosen to focus on is cross-border payments. The rails we live in today for cross-border payments are antiquated and kind of the same as they were roughly 50 years ago."

Ripple is no longer talking about its advancements as experiments or speculation, instead demonstrating how its proprietary technology for cross-border and other use cases has been effective through 2 million transactions worth $7 billion between banks since its launch, Garlinghouse said.

"As we think about broad, general use-case blockchains or specific, narrow use-case blockchains, you get the specialization where you have very slow and expensive transaction times compared to very fast and inexpensive dynamics between various blockchains," Garlinghouse said.

Having real-world success with blockchain helps change the conversation about what the technology can provide for the payments industry. Garlinghouse insists the focus has to be on present-day problems and not always on futuristic visions.

"In many ways, banks are ready for this and we are seeing that in the adoption of the hundreds of banks Ripple has signed on," Garlinghouse said. "On the other hand … depending on where you are in the world, many banks are still nervous."

All blockchain developers can help spur adoption by asking what they could do now to help the banks, he added, rather than potentially setting themselves up for "over-promising and under-delivering" by thinking too far ahead.

The Federal Reserve has been keenly aware of the need to advance its position on digital currency, researching the concept of distributing digital currency and digital cash through central banks, said Loretta J. Mester, president and CEO of the Federal Reserve Bank of Cleveland.

"Depending on how these currencies are designed, central banks could support them without the need for commercial bank involvement via direct issuance into the end users' digital wallets, combined with central-bank-facilitated transfer and redemption services," Mester said during her keynote at the conference.

The demand for these types of digital services needs more evaluation as to whether a central bank digital currency would allow for "quicker and more ubiquitous payments in a time of emergency and more general conditions," Mester added.

Potential risks and policy issues need to be understood and costs evaluated during research phases, Mester said.

"The Federal Reserve has been researching issues raised by central bank digital currency for some time," she noted. "The board of governors has a technology lab that has been building and testing a range of distributed ledger platforms to understand their potential benefits and tradeoffs."

Digital currency can be a complex technology, so the Fed will continue its internal research and analysis while also working with others in the industry to experiment and better understand benefits and limitations, Mester said.

"As we advance with digital currencies, we have to concentrate on resiliency and safety," she said. "We will continue to work on that at the Fed to assure we have a safe and modern payments system."

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Blockchain Digital payments Ripple Cross border payments