Almost ten years have passed since the Bitcoin blockchain’s pseudonymous creator Satoshi Nakamoto first sent 10 bitcoins in 10 minutes (equivalent to $45,000 today) to programmer Hal Finney.[i] During this time we have seen a number of governments, corporations and entrepreneurs experiment with how this technology can streamline business processes. One of the most transformative applications we see for business is in the cross-border payment industry.
In 2015, the World Trade Organisation estimated that electronic payments have increased by 40% from 2011 – 2015[ii]. Despite advances in technology such as the internet, which has transformed most forms of communication and commerce, the average time to process these payments is still five days with fees ranging from 5-7%. These delays stagnate economic growth, and large administration and compliance departments create additional costs.
Blockchain-based digital currencies are not controlled by any rent-seeking central authority and being native to the internet allow anyone with access to participate. By implementing a payment system with blockchain technology as its backbone, any company can use digital currencies native to the blockchain network as payment for goods and services. Payments and remittance companies charge a cost inhibiting 5-7% fees for cross-border transfers. This paradigm can be shifted back into the hands of the people providing the goods or services by setting up payment gateways for their counterparties internationally. This machinery would look no different from standard payment processing but uses blockchain technology to send currency digitally instead of sending requests to a central authority for processing. Companies providing the goods and services will now be able to lower their costs by providing payment services themselves. By providing this service, these businesses are able to directly charge fees themselves instead of customers and businesses both paying fees to legacy systems, adding to their operational revenues. While the companies themselves benefit, so do their customers. As centralised legacy payment systems have complete control of their payment channels, they are able to provide farther reaching customer services, notably fraud and fat finger protection. This reality is a key point for businesses and governments exploring these solutions to consider. It may not feel like it, but distributed ledger technology is still in its adolescence, with abundant opportunities to create new and improved solutions for cross-border payments. To participate in these new ecosystems, a transition away from the legacy solutions such as PayPal require fiat onramps. In places where these onramps exist, customers using a blockchain-based payment network can already transact with their local currency. In 2018, these fiat onramps are far and few between, but with the recent upswing in stablecoin projects being launched, we expect these gateways to become more commonplace for anyone anywhere to participate in the digital economy without exorbitant fees.
Transacting on these networks also brings significantly increased speed to business. Two of the top five digital currencies by market capitalisation, Ripple (XRP)[iv] and Stellar (XLM)[v], boast transaction speeds of anywhere from 2-6 seconds while the Ethereum network and the numerous tokens and stablecoins native to the network have transaction speeds of 15 seconds to 4 minutes[vi]. This is a significant improvement from the speed of well-established international transfers, which take an average of 5 business days.
Blockchain technology also enables the simplification of compliance across multiple jurisdictions. With digital currency transactions, companies and customers both must act from a single unique network address. An easy path to demonstrate compliance here is to show that know your customer (KYC) verification procedures have been required for all participants in their different jurisdictions that wish to use the payment gateways. Once the KYC has been completed, it is tied to that address, significantly reducing the friction of repeatedly conducting compliance checks. In a permissionless and open blockchain network, users do not have to give their main wallet address, they can simply create an entirely new wallet for the sole purpose of transacting with that specific business, retaining relative transaction privacy. In a permissioned network, only fully known network participants are given permission to transact, and regulatory bodies can be issued access-specific permission to view what they need to without giving up complete network privacy. This account verification system unlocks international compliance barriers for the businesses that cannot afford the often-substantial legal fees to demonstrate compliance.
The advantages that blockchain technology brings to cross-border payment networks may be highly desirable, but it is important to also protect the ecosystem from new problems and risks. The lowering of traditional compliance barriers has attracted bad actors to these networks. The rise in prominence of the Silk Road and its dependence on the bitcoin network to conduct business is an early example of how the technology can be misused. Bitcoin and other decentralised blockchain networks invite money laundering and other illicit activities because of the perceived lack of enforcement by regulatory bodies. While this remains an issue in privacy-centric networks, regulators are beginning to build infrastructure solutions that monitor flow and patterns within blockchains. For instance, the U.S. federal government has spent $5.7 million on contracts with blockchain analysis companies. Most notably is the IRS, spending $2.19 million on 9 separate contracts.
As the regulatory environment surrounding this technology is slowly being designed, it is imperative for businesses and governments who wish to benefit from a blockchain solution examine existing legal frameworks. This is to determine where a payments and exchange solution might allow for illicit activity and prevent it. When it comes to picking a solution, a critical design component must be compliance functionality. This might take the form of assigning a regulator an omniscient node in the network, the ability to present KYC documentation on-demand, or technical data analysis to prove that payments have not violated national restrictions or international agreements.
In the digital future, we envision cross-border payments occurring in seconds and minutes rather than days, with significantly reduced fees. As the technology matures and grows, so must regulatory and legal frameworks, assisted by companies seeking to use the technology to improve on the existing system rather than subvert it.
About the Author(s): Gray Bridges is Head of Corporate Solutions at Diginex. Zach Applegate is an Associate in the Strategy team.
Theme: Improving business processes
[i] Popper, N. (2015) Digital Gold: The Untold Story of Bitcoin. Penguin Books Limited.
[iii] Satoshi Nakamoto. 2008. Bitcoin: A peer-to-peer electronic cash system. (2008). http://bitcoin.org/bitcoin.pdf.
[vii] Chris Burniske & Jack Tatar. “Cryptoassets: The Innovative Investor’s Guide to Bitcoin and Beyond.”