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Blockchain Needs Clear Rules to Become a Revolutionary Technology: Globe and Mail Op-Ed

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March 1, 2017
Blockchain Needs Clear Rules to Become a Revolutionary Technology: Globe and Mail Op-Ed

What you may not have realized is that it is not bitcoin that will change our lives, but other applications of blockchain technology in areas such as payments, contracts and the provision of government services.

You have probably heard of bitcoin. You might have even heard about its underlying technology, the blockchain. What you may not have realized is that it is not bitcoin that will change our lives, but other applications of blockchain technology in areas such as payments, contracts and the provision of government services.

Blockchain technology in its simplest form allows transactions to occur between individuals and institutions without the need for a third party. This would entail a big change for financial services firms. Since the Renaissance period, they have relied on a double-entry bookkeeping system whereby each transaction requires a debit on the asset side and a credit on the liability side. This form of record-keeping has served our economy well for many centuries. However, it relies on a centralized, public ledger system requiring a neutral third party. By using a combination of computer coding and peer-to-peer networking, a blockchain can create an online ledger. Once distributed among a network, the ledger is run by its members in a tamper-proof way. Among other things, this is due to the fact that there are high costs for a network participant to solve the puzzle updating the blockchain, and other network participants have to agree with the solution.

How would we design such a technology in today’s economy? Some desire a pure “open public distributed ledger” in which all people have direct access to it and rights to alter it. However that would not work in crucial services such as large-value payments systems and government databases that are sensitive areas for any economy. An alternative would be to use some elements of blockchain technology and have some prominent institutions such as financial institutions or the government run or facilitate a “permission-based ledger.”

How would this work?

At the core of any economy is the payments system. The Bank of Canada and Payments Canada ensure the settling of transactions that transfer money between individuals and businesses. With smaller-value retail payments – think of buying a coffee – consumers and institutions are willing to accept additional risk and do not face immediate time constraints for receiving money. Thus, there seems to be more room for retail payment transformation. However, scalability will be a challenge, as will co-ordinating an agreement between all relevant players.

One area we do see pure decentralized implementation of blockchain is in smart contracts. Instead of using a centralized system where a costly third party is in charge of managing the contracts, blockchain allows users to design contracts that are automatically executed following a trigger event.

What about government involvement? Blockchain is likely to alter government services, including collection of taxes and delivery of benefits. For example, governments can use blockchain to create a universal personal identification system. A secure and unified ID system with a tamper-proof signature holds the promise of immense cost savings. Given the sensitivity of information used by governments, however, the advantages are likely to occur within a permissioned blockchain network with government involvement.

We see three challenges for regulators and policy makers and suggest three courses of action.

First is the challenge of putting regulation in place that does not stifle innovation but creates a basic legal framework that sets standards that ensure safety and stability. What makes this difficult is establishing what are the institutions driving the innovation. We think it is necessary to design regulation focused on principles and not institutions. This is similar to the approach taken in the 1990s when first regulating the Internet.

Second, this technology has created disruption in long-standing areas of financial services with specialized intermediaries such as commercial banks. One concern is this technology will simply reshuffle above-normal profit to different stakeholders without creating lower costs for end-users. The solution here could be public-private partnerships that ensure stable systems and foster competition through fair access to the new blockchain-based systems.

Last is the challenge of safety and security in sensitive economic areas. Here, the government will have to determine if it is best for them to act as a facilitator for a private or public distributed ledger. The other option is for the government to be a direct central node that applies elements of the technology but retains the monopoly of managing the ledger entries.

Blockchain has the potential to revolutionize financial services, contract enforcement and the operations of government. We cannot remain complacent and allow unfettered implementation. We must ensure that benefits for society result from blockchain. Hence, regulators and the government are well-advised taking a more active role in ensuring this goal.

Thorsten Koeppl and Jeremy Kronick are the authors of the recent C.D. Howe Institute report titled Blockchain Technology – What’s in Store for Canada’s Economy and Financial Markets?

Published in the Globe and Mail.

Author(s):

Jeremy Kronick, Senior Policy Analyst
Jeremy Kronick
Thorsten Koeppl, Professor and RBC Fellow, Queen's University
Thorsten Koeppl

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