Blockchain technology could drive enormous efficiencies in global financial transactions but regulatory acceptance will be a huge challenge.
While the U.S. financial sector is working feverishly on finding common solutions and standards for blockchain, the technical backbone for bitcoin that has shown promise in transforming transactions systems, regulatory acceptance will be an uphill battle. The complex regulatory environment, with multiple agencies likely to voice their own unique concerns and questions, runs the risk of slowing down progress and ultimate adoption unless there is greater coordination among various interests.
That view was widespread at a conference on blockchain sponsored by the Brookings Institution last week. The meeting brought together industry professionals, financial technology firms, venture capitalists and federal and state regulators. While there is no doubt U.S. regulators are keenly interested in the emergent technology and see the potential it holds for streamlining financial services, those working to harness blockchain’s firepower said there needed to be a one stop shop for coordinating multiple regulatory concerns.
“I don’t know who to even call,” said Charlie Cooper, managing director at R3 CEV, a consortium of more than 40 banks working on blockchain applications, when asked how he would engage U.S. regulators to gain their approval.
“Unless I’ve got a lobbying firm to have a specialist in all these organizations . . . it’s almost like the universe is so big that we don’t know where to start,” he added. “To the extent we can unify as companies . . . we need a unified front to talk to at the federal and state level.”
To illustrate the challenges, Cooper pointed to the question of “settlement finality” in financial transactions, and how agencies differ in terms of how they define the concept. For example, both the Securities Exchange Commission and Commodity Futures Trading Commission have different rules on what constitutes final settlement of transactions.
“If we are out talking to those two organizations, if they have two different rules on settlement finality, what do we do,” asked Cooper.
Blockchain technology is like a digital central ledger that acts as a custodian of information. The information is transparent, and held in a shared database, without any middlemen or central authority. For regulators, the potential for an enhanced and more timely understanding of global transactions is seen as invaluable in their efforts to contain systemic risk.
Clearing and settlement is one of the major processes in financial markets where blockchain technology could drive enormous efficiencies, say experts. In the securities world, current settlement of transactions between buyer and seller takes place three days (T+3) after the trade is executed. Under a blockchain governed market, the settlement would be virtually instantaneous.
“The regulatory community should ask itself the question: how do we approach this,” he added.
Coordinating role for FSOC and Federal Reserve
In order to filter the numerous nuances of multiple agency regulations and concerns, some suggested that the Financial Stability Oversight Council (FSOC) might be well positioned to take a lead role in coordinating federal and state regulatory agencies.
“There is some potential for the FSOC to take more of a leadership role in this area in bringing agencies together,” said Michael Barr, professor of law at Michigan Law School, and previously a U.S. Treasury official who helped to develop and pass the DoddFrank Act.
Barr also suggested that FSOC might give the Federal Reserve greater sway among U.S. regulators in addressing regulatory issues on blockchain.
For their part, Federal Reserve officials at the conference offered a laundry list of issues that concern them in evaluating blockchain’s introduction into financial services.
David Mills, assistant director for operations and payment systems at the Fed, said in addition to basic issues such as AML and KYC, and privacy and security, there were questions regarding operational and legal risk, as well as dispute resolution when “things go wrong.” In addition, the Fed was interested in the role of information under a blockchain governed universe and how that might change.
Echoing the view of blockchain advocates , who argue that regulators would have a better view into potential systemic risks under the new technology, Mills pointed to possible tradeoffs or risks of having an unfettered oversight of financial transactions.
“You may have better information from a regulatory point of view, and better ability to improve AML concerns or systemic events,” said Mills. “But how do we understand the limits of rich information and the tradeoff over the privacy of individuals. We need to strike a balance between the two.”
“It will be helpful to try to understand the nuances and complexities of what goes on in these types of transactions,” he added. “The more we understand the easier it will be to have a discussion.”
In response to the complaint over the lack of harmonization among various U.S. regulators, Mills appeared sympathetic.
“We definitely hear those kinds of complaints,” he said. “But I think the suggestion of really educating all parties is part of the challenge.”
“We are all trying to figure things out,” Mills added. “We are very open and we want to learn . . . Learning isn’t just in one place.”
About Thomson Reuters Regulatory Intelligence
This article was produced by Thomson Reuters Regulatory Intelligence, and initially posted on January 19th, 2016. It was written by Henry Engler, a North American Regulatory Intelligence Editor.
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