Opinion: Don’t join the Blockchain gang

The technology is expensive, inefficient and there are better ways to perform the same tasks, writes Quantalytix CEO Christopher Aliotta.

Blockchain technologies have been touted as a disruptor that will reinvent banking and save financial institutions significant sums of money. Unfortunately, the promise of blockchain being able to deliver this value is not realistic, and when examined critically, one can see that many of its envisioned applications are overhyped.

Blockchain is a database that seeks to solve issues concerning validating, confirming and recording transactions between two or more parties. The database is shared among participants that must follow rules to ensure trust. Blockchain technology ensures the rules are followed and trust is maintained (in theory) by guaranteeing atomicity – that a transaction either happens fully or not at all – and authenticating those transactions.

Atomicity is crucial for making sure transactions occur correctly. For example, a bank’s software may document a transfer from account A to account B as a withdrawal from account A followed by a deposit to account B.

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Documentation using the blockchain is in the form of a “chain” of transactions that can be replayed and verified. Blockchain technologies rely on cryptography to authenticate the counterparties, and once a transaction is confirmed, it becomes an irreversible part of the chain. The idea is to create a decentralized database, which is a valuable protection for those who do not know their counterparty or if there are reliability concerns about participants in the system.

U.S. financial institutions transacting with each other are well regulated and these features of blockchain are largely unnecessary. As for issues with atomicity, these can be solved in a more direct, less complicated way using a centralized clearinghouse. After all, if the industry is willing to agree upon a single blockchain standard, then why can’t FIs agree on using a jointly sponsored digital clearinghouse?

Blockchain is expensive

Blockchain advocates would point to the decentralized nature of the technology as being its key advantage. They would argue that, by decentralizing, the cost of maintaining a global ledger can be shared by all. I would agree; however, most blockchain implementations today have incorporated some form of digital currency as a means for their developers to monetize their technology and ensure the integrity of transactions.

Early financial transaction cryptocurrency platforms promised to provide a universal ledger that FIs could use to record transactions. The idea was to streamline communication and make transactions cheaper. These transactions, however, have proven to be prone to price volatility, as changes in the underlying “value” of the currency can make them much more expensive than traditional means.

This means the financial institution has zero control over the cost of transactions. Even more troubling: By using a blockchain platform, institutions are effectively relinquishing their price control to an entity that can arbitrarily increase the number of coins in circulation and enrich the founding owners, while reducing shareholder value for your company.

Blockchain is inefficient

Blockchain technologies are typically inefficient. Bitcoin, a household name, can take anywhere from 10 to 60 minutes to process a transaction because it relies on proof-of-work or similar authentication schemas that require a form of cryptographic mining. Mining involves heavy computational work – in addition to requiring considerable time to record transactions, the power requirements can be environmentally deleterious.

Banks are accustomed to the time it takes for clearinghouses to record transactions. At best, the blockchain may marginally improve timing, while creating greater environment harm.

Additionally, blockchain requires a hardware investment, since each participant must maintain some “chunk” of the chain. At this writing, the Bitcoin blockchain is approximately 400GB in size and averages 250,000 daily transactions. Contrast that with the NASDAQ 500 averaging 3 billion to 5 billion daily transactions, and one can start to see fundamental issues with how these technologies will scale.

There is no doubt that blockchain is a revolutionary technology that has found good uses. Digital assets allow easier movements of wealth and can provide some with economic freedom without being tied to a central bank.

I do not want to deride the innovators in this field; however, I want to share caution and perspective. This technology can be completely replaced with financial institutions forming a consortium to promote interbank standards and a jointly owned clearinghouse. Not only will FIs benefit by coming together and working for joint standards, but no one party will be unfairly enriched by simply being the progenitor of a cryptocurrency.

Christopher Aliotta is the founder and CEO of Quantalytix.