The Bank of England is continuing to explore ways that it can leverage distributed ledger technology for payments, clearing and settlement.
In a speech yesterday, governor Mark Carney said it "could yield significant gains in the accuracy, efficiency and security of such processes, saving tens of billions of pounds of bank capital and significantly improving the resilience of the system."
A distributed ledger - also known as blockchain - is the technology behind cryptocurrencies like Bitcoin. It is essentially an electronic ledger of records which are organised into data batches, called blocks, which automatically reference one another, forming an unbroken chain which theoretically cannot be tampered with as it is 'distributed' and does not reside anywhere central.
The Bank of England views distributed ledger technology as potentially transformational when it comes to clearing processes - which underpin the major UK payments systems like CHAPS, Bacs, Faster Payments and Visa - which are historically inefficient, expensive and susceptible to fraud.
"Securities settlement seems particularly ripe for innovation," said Bank of England governor, Mark Carney, speaking at the inaugural international fintech conference in London yesterday.
"A typical settlement chain involves many intermediaries, making it comparatively slow and keeping operational risks high. Industry has begun to work together to determine how distributed ledger technologies could be used to solve these issues at scale."
His speech references a paper from Oliver Wyman and Santander which estimates that distributed ledger technology could reduce banks’ infrastructure costs for cross-border payments, securities trading and regulatory compliance by $15-20 billion (£12-16 billion) per year by 2022.
This sort of saving, especially as fintech disrupts classic banking processes and business models, has naturally alerted the Bank of England to the technology, and it is not just paying lip service at this point.
The Bank of England conducted a successful proof of concept (PoC) of distributed ledger technology with PwC last year. The bank is also a member of Hyperledger, an open source group dedicated to advancing adoption of blockchain technology for industry.
More importantly, Carney says the bank is planning to make its next generation of the Real-Time Gross Settlement (RTGS) system - a core part of the UK's payments infrastructure - make settlements in a distributed ledger.
UK bank RBS has been has indicated its interest in using distributed ledger technology within its operations. A group of researchers from the bank published a paper last year which claims to show that the Ethereum distributed ledger technology could support a new clearing system similar to the UK’s existing Faster Payments scheme.
There are still major concerns around the technology that will need to be overcome first though. The Financial Conduct Authority published a paper this month laying out the risks and opportunities the technology poses, from reliability and security to governance concerns if you take away a central point of authority.
In the end it is the regulator's, and not the banks', role to ensure that technologies such as distributed ledgers bring greater resiliency and don't lead to outages or security breaches.
Fortunately the technology is set up to do just this. The FCA paper notes: "A common market practice to maintain business continuity in the event of a system failure is to have a second system in place which can take over until the first is repaired, at which point the first takes back responsibility.
"This transfer process between different databases can be complex and costly. Distributed ledger technology is different in that multiple nodes contain the same record, all of which operate simultaneously. In the event of failure of one node, the others are still able to continue operating without the need for a wholesale database transfer."
Until the technology can be proved out, regulators will be reticent to allow financial services firms to use it. As Carney said in a speech at the Deutsche Bundesbank G20 conference earlier this year: "Just because something is new doesn’t necessarily mean it should be treated differently. Similarly, just because it is outside the regulatory perimeter doesn’t necessarily mean it needs to be brought inside."
In short: we are no closer to a clear regulatory framework for blockchain in the UK, but we know that if billions of pounds can be saved, they are looking at it closely.
You can read Mark Carney's full speech at the Bank of England website.