The Future of Finance: Seeking Initiatives on a Fintech Policy Framework

Picture Credit: Business Insight Intelligence

The Internet of Things (IoT) is a fast-growing industry destined to transform homes, cities, farms, factories, and practically everything else by making them smart and more efficient. According to Gartner, by 2020, there will be more than 20 billion connected things across the globe, powering a market that will be worth north of $3 trillion. Fintech is one of the most compelling areas for IoT as it is driven by blockchain into the Internet of Value.

In a compelling book called The Business Blockchain, technologist  and Virtual Capital Ventures general partner William Mougayar champions blockchain as the tech world’s next killer app. In this study of blockchain’s potential (you can read or listen to on getAbstract here), “he outlines a future in which blockchain will seamlessly underlie banking relationships, store medical records and issue passports, all through a secure process. Mougayar acknowledges that blockchain has garnered ample hype, and details the obstacles stalling a blockchain world.  Mougayar argues convincingly here that blockchain holds a position similar to the Internet’s in 1997 – poised to unleash a massive, world-changing breakthrough.” Toronto resident Bill has a lot of credibility: previously a Mentor at The Next36, Evangelist at Influitive focused on Advocate Marketing, Founder & CEO of Engagio, Founder & CEO, web publisher Eqentia and an entrepreneur with 31+ years of Technology industry experience who offers a lot of free resources for entrepreneurs here at Startup Management.

Amazon explains why this book is important:

Blockchains are new technology layers that rewire the Internet and threaten to side-step older legacy constructs and centrally served businesses. At its core, a blockchain injects trust into the network, cutting off some intermediaries from serving that function and creatively disrupting how they operate. Metaphorically, blockchains are the ultimate non-stop computers. Once launched, they never go down, and offer an incredible amount of resiliency, making them dependable and attractive for running a new generation of decentralized services and software applications.

The Deutsche Bourse offered a definitive Fintech study this summer with its venture arm DB1 Ventures and Celent, a unit of global consultancy Oliver Wyman. DB1 is already investing in Fintech and DB awaits regulatory approval for the German bourse’s merger with the London Stock Exchange.  The Business Insight (BI Intelligence) graphic above illustrates that there is an enormous amount of investment flowing to this business process improvement space. Wealth and Capital Markets estimates for flows total $19B spread over 1200 deals in 2015 and over $40B YTD, according to Venture Scanner. Also, CB Insights offers a great series of slide decks free from their recent conference on blockchain.

All this activity begs the question, how is the financial and regulatory policy framework responding to the broad adoption of blockchain? First, a number of open standards initiatives are emerging: the R3 Consortium, ISITC Europe, the Etherium Foundation, and on and on, as the creation of blockchain standards is a key step towards improving process and margins for companies that use distributed ledger technology..  Goldman Sachs and Santander Bank just left the R3 Consortium, as reported in CoinDesk, but most members are likely to stay. R3 was seeking to raise capital from its members but already charges them annual membership fees. According to The Wall Street Journal, the bank  notably intends to continue developing blockchain projects on its own as it remains an investor in blockchain technology startups Circle and Digital Asset Holdings.

Blockchain has polymorphic characteristics so its application will result in a multiplicity of effects. For policymakers, there will also be problems that cross organizational, regulatory and legal boundaries. The ITISC efforts at creating Distributed Ledger Technology (DLT) standards features three “wholistic” benchmarks (governance, legal and regulation) and seven that are technological. Internet pioneer Tim Berner-Lee’s global Internet standards organization, the W3C is seeking member support to broaden the openness and interoperability mission to distributed ledgers. Blockchain industry leaders at a recent conference hosted by W3C discussed how to accommodate a range of specialty blockchains created for everything from credit default swaps to managing global supply chains.

Ultimately, the International Organization for Standardization (ISO), founded on 23 February 1947, will be involved to promote worldwide proprietary, industrial and commercial standards in blockchain. Now is the time for professional financial credentials organizations like the CFA Institute to become involved in these debates as en element of their Future of Finance educational and policy framework. Right now, the Fintech adoption curve is not expected to be rapid but we disagree.  IAI has been a CFA since 1989 and their initiative here is critical to ensuring that trust is earned and retained in service to the public:

Together with our global CFA membership body of investment professionals, we are uniquely positioned to shape a trustworthy financial industry. Our goal is to provide tools to motivate and empower the world of finance to become an environment where investor interests come first, markets function at their best, and economies grow.

G3 Level Solar Storms and Disruptions to Satellites and the Power Grid Increasing

Picture Credit: NOAA

IAI has dedicated some time recently to investigating long term economic threats to the U.S. economy in conjunction with recently becoming a Fellow at the American Center for Democracy. I have already written about the threat of cyberwarfare for ACD and they focus on this area in their Economic Warfare Institute. The preservation of independent policy making institutes like ACD is essential to protection of the First Amendment. For policy wonks, the linkage between economic threat events and totalitarianism was postulated by Fromm (1942) and Rickert (1998) who found that systemic changes in the economy led to declines in real incomes and increases in economic equality.

Nothing then is unchangeable but the inherent and unalienable rights of man.

Thomas Jefferson, Letter to John Cartwright, June 5th, 1824

Like Black Swan events in the stock market, economic threat events are infrequent in occurrence but have material consequences and usually involve economic losses. The same is true for weather / space events as the author of Black Swans and Antifragility, Nassim Nicholas Taleb, has pointed out recently. Statistician Taleb has extensive knowledge about risk management and has about written “ruin events” in a series of papers. He writes, “Our concern is with public policy. …Policy makers have a responsibility to avoid catastrophic harm for society as a whole; the focus is on the aggregate, not at the level of single individuals, and on global-systemic, not idiosyncratic, harm. This is the domain of collective ‘ruin’ problems.”

On Tuesday, October 25th, 2016, magnetically charged solar particles triggered a G3-level geomagnetic storm which threatened power grids, satellites and radio navigation systems, according to NOAA’s Space Weather Prediction Center (SWPC). PJM Interconnection LLC, operator of the biggest U.S. power grid, and Midcontinent Independent System Operator (MISO) which manages high-voltage transmission lines across 15 U.S. states and one Canadian province, issued geomagnetic disturbance (GMD) warnings on Tuesday and MISO is conveniently running an Emergency Operating Procedure (EOP) Coordinating Workshop today.

Northern Lighthouse Project estimates that a strong G3 storm occurs 200 times in each 11 year solar cycle.

A G2 storm alone (our current state) affects RF radio propagation (shortwave communications) and high-latitude power systems which can cause voltage alarms, and long-duration storms may cause transformer damage. ore auroras are in the offing.  SpaceWeather.com warns that, “this solar wind stream is broad and fast; it is currently blowing 700+ km/s and is expected to influence our planet for some days to come.  High-latitude sky watchers should remain alert for auroras on Oct. 26-27.”

Based on the loss of instrument use in the 1950s due to “radioflash”, the British have studies electromagnetic pulses for a half century, as the Telegraph reports. In a recent  report (and summary) by the Royal Academy of Engineering into space weather and its potential impact, UK science and industry experts have analyzed the likely impact of the most extreme space weather on technology.

 

Picture Credit: Markets-S.Murray@SpaceWeather.com

Truly beautiful but tough on electronics, these auroras are forcing the Internet of Things (IoT) system developers (like IBM) to consider the impact of communication disruptions. And, more critical than having your fridge fail to order a new loaf of bread, blockchain networks operations are critical to the Internet of Value (IoV) or the ValueWeb. For the unintiatiated, IoT is becoming pervasive and is being embedded in buildings, the environment, automobiles, households and in everything that can host a sensor, as IBM broadcasts in this video.

“It’s not so much about the emergence of new technology, it’s the convergence—the ability to use sensors for everything in the world to basically be a computer, whether it’s your contact lens, your hospital bed, or a railway track.”

Harriet Green, General Manager,  IBM Watson Internet of Things, Commerce and Education

Some organizations are being left behind as GovLab points out in “Value and Vulnerability” that we, “encourage state CIOs to make IoT part of the enterprise architecture discussions on asset management and risk assessment and to develop an IoT roadmap. States must consider security, privacy, accessibility and standardization when crafting a roadmap for IoT.” Wise advice indeed…

Blockchain Gaining Widespread Adoption but FinTech Poses New Risks

Picture Credit: Oliver Wyman in WSJ -CIO Corner

Most financial professionals have heard about Bitcoin and early ValueWeb proponent George Howard  quipped that blockchain is a “distributed database that sequentially records transactions.” Bitcoin is simply the earliest example of some 750 cryptocurrencies. Ever the evangelist, Howard and many billionaires like Microsoft’s Gates, PayPal’s Thiel, Virgin’s Branson, and Google’s Schmidt (among others) have embraced blockchain as a disruptive technology:

Never has it been more important than to be the “patient zero” of a meme that goes viral; to coin a phrase that becomes part of the vernacular; to be the first to write, sing, paint, or otherwise express something that establishes you as a “creative,” a thought or key opinion leader.

LetsTalkPayments.com (LTP) explains that, “The blockchain network consists of nodes, i.e. distributed servers. All the nodes can accept and process the transaction. The nodes on the network share information about the candidate transaction.” A distributed ledger, above right, is a network that records ownership through a shared registry. 1) The devil is in the details as payments get approved autonomously when a “majority” or credentialed nodes accept a transaction and these systems can be overwhelmed or manipulated due to very uneven liquidity (look up the Koinify case). The technology could cut financial services firm costs by up to $20 billion annually by 2022, according to Santander’s Finextra.

“Blockchain technology continues to redefine not only how the exchange sector operates, but the global financial economy as a whole.”

–  Bob Greifeld, Chief Executive of NASDAQ

Earlier this year, bitcoin expert Chris Skinner released The ValueWeb (available on Amazon) which explained that the Internet of Things (IoT – or sensor-enabled machines) cannot operate in the framework of the old payments system and needs an Internet of Value (or “Valueweb”) to function.  Chris’s fall 2014 book Digital Bank explained how the planning activities of incumbent banks (Barclays in the UK and mBank in Poland), new start-ups (like Metro Bank), and disruptive new models of banking (like FIDOR Bank in Germany) and finance (like Zopa and Bitcoin) signaled early ValueWeb adoption. The problem with traditional banks is that they are a captured oligopoly with privileged access to the clearing systems at national central banks with excessive leverage and inadequate regulatory compliance and enforcement. 2) The breakup of the fiat or fractional banking system is another important looming risk from blockchain to a next generation ValueWeb payment system. Nonetheless, Business Intelligence cites KPMG data as demonstrative that this Fintech market opportunity is getting funded fast.

LTP beautifully details how the Blockchain Platform is being used for various use cases and business models such as:

– Crowd Funding – Blockchain Technology is being applied to the crowdsourcing platforms. When individuals are granted certain responsibilities or chunks of business, a blockchain-like system could determine which of those individuals are worthy of credit. Blockchain has the potential to make crowdsourcing smooth and secure. Examples of such companies are  BitcoinCapital (a fund from RT’s Max Keiser), Koinify (which failed) and others. Max’s partner Simon Dixon of the BankoftheFuture explains the blockchain opportunity here and transactional vehicles like StartCoin.

– Identity Management-  In the field of identity management, user first scans his/her identity document and then signs it. Then, the mobile app will generate a private and public key to seal that record. It is encrypted, hashed and sent to the network of communicating nodes running on the Blockchain network. Examples of such companies  are  ShoCard, BlockChain Factory and others.

– Smart Contracts – A cryptographic Blockchain is  used to digitally sign sensitive information, and decentralize trust; and this is being used to develop smart contracts and escrow services, tokenization, authentication, and other services. Examples of such companies are  Symbiont, SAE and others.

– Remittance – Blockchain protocols are used by many companies already for P2P money Transfer across international borders. Its a segment worth $500 B. Examples of such companies are Ripplelabs, Bitspark  and  BitPesa.

– Data Management & Analytics – Blockchain-based identity ledgers are used  in database management and data analytics to support various application. Examples of such companies  are  Factom, numsight and others.

– Trading Platform – Using Blockchain technology, individuals and firms can  produce and exchange financial contracts. This peer-to-peer contract creation and settlement means that all transactions are cleared on the Bitcoin Blockchain with no intermediary involved. Examples of such companies  are Kraken, Nasdaq, Mirror  and others.

Last week, twelve large banks in the 70 member R3 Consortium (Barclays, BMO Financial Group, CIBC, Intesa Sanpaolo, Macquarie Group, National Australia Bank (NAB), Natixis, Nordea, Royal Bank of Canada (RBC), Santander, Scotiabank, and Westpac Banking Corporation) just participated in a trial to demonstrate cost-cutting and increased efficiency of cross-border payments using startup Fintech player Ripple’s ‘digital asset’ XRP.

The Financial Stability Oversight Council (FSOC), a US Treasury entity, warned that blockchain technology and marketplace lending could present risks to financial stability. Henry Blodgett’s (of dot.com hype and convictions) BusinessInsider does cover blockchain closely which lists other risks:

• Marketplace lending. FSOC warned that marketplace loan investors could become less willing to fund loans during a trough in the business cycle, increasing the risk of the model. It also said that as the number of marketplace lenders competing with traditional lenders rises, they might lower their underwriting and loan administration standards in order to attract customers. This would likely mean riskier loans.

• Blockchain technology. FSOC suggested that risks associated with blockchain may not emerge until solutions are deployed at scale, because of participants’ limited experience with the technology.

• Blockchain fraud. FSOC also said that some blockchain systems could be vulnerable to fraud, if a significant minority of participants colluded to defraud the rest (as the role of centralized intermediaries diminishes).

• Regulatory diseconomies. FSOC also highlighted that financial firms using blockchain-based systems may operate over multiple regulatory jurisdictions or national boundaries.

Still interested ? MIT offers a FinTech certificate for a twelve week course starting November 21st, 2016 for $2600 – Cambridge is more fun than online.