What are blockchains, and how are they used for security and authentication?

Simply put, a blockchain is a database. However, whereas traditional databases structure their data in table, blockchains store data in individual blocks that are locked together in chronological order.

As a result, there are two fundamental differences between traditional databases and blockchains.

Firstly, blockchains are decentralized. This means that instead of all of the data being stored and controlled on a single server – also meaning they have a single point of failure – data on a blockchain is stored simultaneously in multiple computers, or "nodes."

Secondly, each node has a full independent record of all the data that has been stored on the blockchain since its inception. As a result, blockchains are immutable, meaning the stored data cannot be altered or erased.

These two differences have led many organizations to consider how they might use blockchains to securely manage, authenticate and store important data in the future. For example it is predicted that by 2023 blockchains will support the secure global movement and tracking of $2 trillion of goods and services annually.

Notable examples of blockchain solutions already in development include Singapore’s blueprint for a blockchain-based smart city, supply chain management for CBD products in Europe, and even blockchain-backed coronavirus "travel passes" for preapproved flights by the International Air Transport Association.

What are the opportunities for blockchain use in financial services?

Blockchain’s structure and immutability make it practically impervious to tampering and fraud, and for these reasons it is already used as the foundation of cryptocurrencies.

"Many believe blockchains have enormous potential for identity or transaction authentication across a broad range of financial services." - Danny Russell

But beyond that, many believe blockchains have enormous potential for identity or transaction authentication across a broad range of financial services. These include streamlining banking and lending services, reducing fraud in payments, and decreasing issuance and settlement times in trading.

However, their application in financial services currently remains low for two reasons.

Firstly, consumers don’t yet fully understand and trust this new technology. This is largely because over the last 10 years bitcoin and blockchain have risen to prominence simultaneously, making them synonymous in many people’s minds. As a result, the dramatic volatility in bitcoin’s value – along with stories of millions lost in landfills – has made consumers wary of both the currency and its underlying technology.

Secondly, original blockchains were specifically designed to have no centralized governance and be fully open to the public, meaning anyone has the ability to view all information on the chain. However, in a world where privacy and security remain highly valued by many, this open structure – with no recourse in the event of disputes or problems – remains an uncomfortable concept in the worlds of banking, trading and payments.

As a result, blockchains remain on the sidelines for mainstream financial services. Instead, as fraud has continued to rise, consumers and financial institutions alike continue to rely on technology they’re more familiar with, such as auto-saving passwords, two-step verification, and biometric authentication based on fingerprints or facial recognition.

How then can blockchain break through to the mainstream?

I believe there are two main things that need to change, and both require altering our thinking.

Consumers, banks, regulators and risk managers are all likely to remain hesitant of blockchains until they understand exactly how blockchains will be used, rather than just thinking of them as a theory. This means that as innovators we have to start by identifying real-world problems that need to be solved, and only then asking the question, "Could a blockchain solution work here?"In that way I compare blockchain with the internet. People were initially skeptical because they didn’t understand the technology. But when they saw for themselves how they could use it in their personal and business lives, they became more comfortable with it, to the point that many of us rely on it every day.

It also means we should start by thinking first about how blockchain solutions will integrate with legacy systems, rather than approaching the task as a wholesale "gut and replace" exercise.

For example, blockchains such as Ethereum® are incapable of replacing existing capital market systems because they’re not yet fast enough to process current trading volumes.

However, the Australian Stock Exchange® (ASX) is approaching the challenge a different way. In a project led by Digital Asset®, the ASX is building a blockchain replacement for its Clearing House Electronic Subregister System® by first solving how it will run side-by-side with the existing system, and then migrating it across. In doing so, not only do they hope ASX participants become familiar with the new system ahead of implementation, but participants will also have faith in a smooth transition from the legacy system without fearing outages or loss of trading capability.

How long will widescale adoption take? Are we talking five years or even longer?

Cryptocurrencies aside, I anticipate that we will begin to see adoption in banking, payments and investing within the next two to five years. It’s true that the recent pandemic has accelerated digital adoption generally in financial services. We are already seeing consumers becoming much more comfortable with new digital technologies for managing their finances, such as mobile banking and contactless payments.

But importantly, this is not because their banks or payment providers told them to. Instead, the pandemic necessitated behavioral changes to prevent further spread of the virus, which in turn made consumers more comfortable with unfamiliar technologies. However, I believe that the adoption of blockchain will happen in a different way, with financial institutions incorporating blockchain behind the scenes to streamline processes and reduce costs that will flow to the consumer without them really knowing it was blockchain.

At FIS, we’re currently working on two projects, one with the airline industry and another with the insurance industry. In both projects, we are introducing blockchains as a way to manage back-office administration securely and efficiently. The benefit of this is approach is that neither solution will require consumers to change the way they interact with either business, but they will lead to significant cost savings for the business and reduced friction that benefits consumers.

As these benefits become clearer to consumers on a day-to-day basis, the underlying technology will become more trusted. As a result, I predict that within the next five to 10 years blockchains will be adopted as a reliable alternative to many current systems, with many consumers not even realizing they are users of the blockchain world.

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Contact Expert: Danny Russell