Blockchain Enigma. Paradox. Opportunity
BlockchainEnigma. Paradox.Opportunity
ContentsForeword1Introduction2What is a blockchain?4The Internet of Value-Exchange8Key challenges10From vision to reality13Endnotes14Contacts18AcknowledgementsThe authors would like to acknowledge the support they have received from a number of people in Deloitte whileresearching this publication, including Ross Laurie, Jemma Insall, Ankur Borthakur and Aleksandra Szwiling. We wouldalso like to thank the authors of “Bitcoin: Fact. Fiction. Future”, published by Deloitte University Press, for permissionto reuse figures and text from their report, and the authors of “Cleared for takeoff: Five megatrends that will changefinancial services”, researched and written in collaboration with the World Economic Forum, and “Beyond bitcoin:Blockchain is coming to disrupt your industry”, for their invaluable insights into blockchain technology.In this publication, references to Deloitte are references to Deloitte LLP, the UK member firm of DTTL.
ForewordYou may have read about Bitcoin or heard about it at a ‘FinTech’conference. You may have used Bitcoins to purchase pizza, coffee oreven a spaceflight. Wherever the word has cropped up, fierce debateshave often followed. Early adopters passionately claim that Bitcoin willremove dependencies on banks and governments. Hardened businesstycoons advise that Bitcoin is just a ‘flash in the pan’.While the debate about Bitcoin rages on, researchers have been quietly examining the technology that underpins this andother digital currencies. This is the realm of the blockchain – a protocol for exchanging value over the internet withoutan intermediary – and there is a growing buzz about how it might transform not just banking but many other industrysectors, too.In a recent survey by the World Economic Forum (WEF), a majority of experts and executives in the information andcommunications technology sector expected at least ten per cent of global GDP to be stored on blockchain platforms by2025. And while the WEF doesn’t expect the tipping point for the technology to occur until around 2027, we anticipatethat adoption will occur much faster as a multitude of applications emerge in different sectors.But who can benefit from this technology? What are the key blockchain applications and how will they work? How doorganisations create value from them? And what are the technical, cultural and commercial challenges they will face? Thispaper is part of a series of reports under the title of “Disrupt: Deliver” – Deloitte’s approach to developing understandingof and new points of view on disruptive technologies. And, in the following pages, we take a close look at the blockchainand tackle these questions.Vimi Grewal-CarrIn our view, there are new and emerging opportunities for organisations in all sectors to create and deliver compellingservices for their customers using the power of disruptive innovation. As they formulate their plans for the comingmonths, we also hope that this paper helps business and public sector leaders understand the cultural and organisationalchallenges that are inevitably brought by the use of blockchain technologies, and provides them with the insights theyneed to overcome them.We hope that you find this paper useful and we look forward to your feedback.Vimi Grewal-CarrManaging Partner for InnovationDeloitte LLPStephen MarshallStephen MarshallPartnerDeloitte LLPBlockchain Enigma. Paradox. Opportunity1
Introduction“ Obviously a closed platform is a serious brakeon innovation.”Sir Tim Berners-Lee, inventor of the World Wide WebThroughout history, many items have been used asa store of value, from cowrie shells and clay tabletsto coins and today’s ubiquitous paper money. Evendistributed payment networks have existed formillennia: thousands of years before the advent ofBitcoin, the people of South Asia, Africa and thePersian Gulf were using hawala for peer-to-peer moneytransfer.1As our understanding of money has matured, sohave the methods and modes for exchanging it. TheBitcoin ‘experiment’, which was started by SatoshiNakamoto (presumed to be a pseudonym) in 2008,has demonstrated that there can be a viable digitalalternative to cash and other mediums of exchangein modern society.2 And although Bitcoin has had achequered history, with its association with the darknet and websites like Silk Road, it has also triggereddebates about the opportunities that come from theblockchain – the technology ‘backbone’ and protocolsthat Bitcoin and other digital currencies use.3According to the Bank of England, a blockchain is“a technology that allows people who don’t knoweach other to trust a shared record of events”.4This shared record, or ledger, is distributed to allparticipants in a network who use their computers tovalidate transactions and thus remove the need for athird party to intermediate.2The concept is approaching a tipping point in itsadoption, according to the World Economic Forum.5VentureScanner.com estimates that there arenow over 800 new ventures in the global Bitcoin‘ecosystem’, which have collectively raised over 1billion in funding.6 These companies include specialistBitcoin exchanges, such as Coinbase and Itbit; Bitcoin‘miners’, such as Petamine and 21e6, which providespecialist computer hardware for validating Bitcointransactions; Bitcoin wallet and payments companies,such as EasyWallet.org and CryptoPay; and many otherinfrastructure, news and related services companies.7In the FinTech space, the New York-based financialinnovation start-up R3CEV has announced that it isworking with over 40 banks to conduct researchand experiments with the aim of creating a newindustry-wide blockchain.8 Separately, Visa Europe,Westpac, the Commonwealth Bank of Australia,RBS and many of the UK’s high street banks have allannounced that they are working on their ownproof-of-concepts using blockchain.9,10,11,12 Citiclaims to have built three blockchains and its owncryptocurrency, ‘Citicoin’, to test them.13 And thefirst patent for a securities settlement system usingcryptocurrencies has been filed by an investmentbank.14
For consumers, a growing number of mainstreammerchants accept Bitcoin as payment for their goods orservices. Overstock.com, one of the first major onlineretailers to accept Bitcoins, made more than 124,000 inBitcoin sales on January 10, 2014, its first day of acceptingthe currency.15 Recently, Overstock.com became the firstcompany to receive approval from the US Securities andExchange Commission to issue shares using the Bitcoinblockchain.16Understandably, the focus on digital currencies like Bitcoinhas created a common misconception that blockchainsare relevant only to the banking sector. “There has longbeen significant interest in the many different usesfor blockchain technology,” says one commentator,“However, the ‘non-currency’ use-cases have untilrecently, generally commanded less total mindshare than‘currency’ use-cases.”17A blockchain is “a technology thatallows people who don’t knoweach other to trust a shared recordof events”.4 This shared record,or ledger, is distributed to allparticipants in a network whouse their computers to validatetransactions and thus removethe need for a third party tointermediate.So who else can benefit from a blockchain? How does itgenerate value? And, perhaps more importantly, how canthe technology be applied to existing organisations andtheir current business models?This paper aims to address these questions and helpleaders in different sectors navigate the emergingopportunities offered by blockchain technology.Blockchain’s impact is illustrated in four domains: banking,insurance, the public sector and the media industry. Wealso discuss some of the challenges as organisations startplanning to adopt this technology.Blockchain Enigma. Paradox. Opportunity3
What is a blockchain?“ The network is robust in its unstructured simplicity.Nodes work all at once with little coordination.”18Satoshi NakamotoHow does a blockchain work?In his original Bitcoin white paper, Satoshi Nakamotodefined an electronic coin – the Bitcoin – as “a chainof digital signatures” known as the ‘blockchain’.19 Theblockchain enables each coin owner to transfer an amountof currency directly to any other party connected to thesame network without the need for a financial institutionto mediate the exchange.We can illustrate how a blockchain works by using Bitcoinas an example, as shown in Figure 1. Bitcoin, like otherblockchains, uses cryptography to validate transactions,which is why digital currencies are often referred toas ‘cryptocurrencies’. Bitcoin users gain access to theirbalance through a password known as a private key.Transactions are validated by a network of users called‘miners’, who donate their computer power in exchangefor the chance to gain additional bitcoins using a shareddatabase and distributed processing.Figure 1. How the Bitcoin blockchain worksBob owes Alicemoney for lunch.He installs an appon his smartphoneto create a newBitcoin wallet.A wallet app is like amobile banking appand a wallet is like abank account.To pay her, heneeds two piecesof information:his private key andher public key.Bob gets Alice’spublic key byscanning a QR codefrom her phone, orby having her emailhim the paymentaddress, a string ofseemingly randomnumbers andletters.*The app alertsBitcoin ‘miners’around the world ofthe impendingtransaction. ‘Miners’provide transactionverification services.The miners verifythat Bob hasenough bitcoins tomake the payment.*Anyone who has a public key can send money to a Bitcoin address, but only a signature generated by the private key can release money from it.Graphic: Deloitte University Press. Source: American Banker204Many transactionsoccur in the networkat any time. All thepending transactionsin a given timeframeare grouped (ina block) forverification. Eachblock has a uniqueidentifying number,creation time andreference to theprevious block.
What is in a blockchain?Despite its apparent complexity, a blockchain is justanother type of database for recording transactions –one that is copied to all of the computers in a participatingnetwork.21 A blockchain is thus sometimes referred to asa ‘distributed ledger’. Data in a blockchain is stored infixed structures called ‘blocks’. The important parts ofa block are: its header, which includes metadata, such as a uniqueblock reference number, the time the block was createdand a link back to the previous blockGiven the latest block, it is possible to access all previousblocks linked together in the chain, so a blockchaindatabase retains the complete history of all assets andinstructions executed since the very first one – makingits data verifiable and independently auditable. As thenumber of participants grows, it becomes harder formalicious actors to overcome the verification activities ofthe majority. Therefore the network becomes increasinglyrobust and secure. Indeed, blockchain solutions are beingplanned to protect data from the UK’s nuclear powerstations, flood-defence mechanisms and other criticalinfrastructure.23 its content, usually a validated list of digital assets andinstruction statements, such as transactions made,their amounts and the addresses of the parties to thosetransactions.22The new block is putin the network sothat miners canverify if itstransactions arelegitimate.Verification isaccomplished bycompleting complexcryptographiccomputations.When a miner solvesthe cryptographicproblem, thediscovery isannounced to therest of the network.The algorithmrewards thewinning miner with25 bitcoins, and thenew block is addedto the front ofthe blockchain.Each block joinsthe prior block soa chain is made –the blockchain.Within ten minutesof Bob initiatingthe transaction,he and Alice eachreceive the firstconfirmation thatthe bitcoin wassigned over to her.All the transactionsin the block are nowfulfilled and Alicegets paid.Blockchain Enigma. Paradox. Opportunity5
What are the differences between public andprivate blockchains?Like many other types of database, blockchains can bepublic or private. The Bitcoin network is public (alsocalled “permission-less”) because anyone can read orwrite data from or to the ledger if they are running theappropriate Bitcoin software. Private blockchains, onthe other hand, are networks where the participants areknown a priori and have permission to update the ledger.Participants may come from the same organisation orfrom different organisations within an industry sectorwhere the relationships between them are governed byinformal arrangements, formal contracts or confidentialityagreements.In the absence of trust, public blockchains typically requireadditional mechanisms to arbitrate disputes amongparticipants and protect the integrity of the data. Thisinvolves added complexity because there is no centralauthority to arbitrate in a decentralised network. In theBitcoin blockchain, for example, new transactions canonly be added to the blockchain after a participant on thenetwork solves a complex mathematical problem, knownas a ‘proof-of-work’. This process is called ‘mining’. Theeffort miners have to expend on finding a solution to thismathematical problem acts as a sign that the transactionsare valid, even though the miners may not know oneanother.What alternatives are there to the Bitcoin blockchain?Blockchains come in many different types. As well asthe Bitcoin blockchain, a number of other independentblockchains have emerged in recent years. None hasyet achieved the same scale as Bitcoin but they do offerother benefits, such as increased speed, larger datacapacities, different consensus methods or more advancedfunctionality. Litecoin, for example, is a smaller competitorof Bitcoin but offers faster transaction times.24 The RippleTransaction Protocol is a simpler type of blockchainproviding instant, certified and low cost internationalpayments targeted at banks and non-bank financialservices companies.25 Transactions on Ripple’s distributedledger are validated by consensus rather than using aproof-of-work approach like Bitcoin because a level of trustis assumed between the parties to a transaction.Ethereum, on the other hand, is an open-source, crowdfunded project, much like the Bitcoin blockchain but whichallows a network of peers to administer their own ‘smartcontracts’ – short computer programmes carried on theblockchain that execute their instructions once certaincriteria have been met.26 It is these smart contracts thathave the potential to transform business processes in manyindustry sectors. For example, Figure 2 illustrates howBitcoin-based smart contracts could enhance transparencyin investment banking.Figure 2. Using the Bitcoin blockchain for smart An option contract betweenparties is written as code intothe blockchain. The individualsinvolved are anonymous, but thecontract is in the public ledger.Graphic: Deloitte University Press, DUPress.com62A triggering event like anexpiration date and strikeprice is hit and the contractexecutes itself according tothe coded terms.3Regulators can use the block chain to understand the activity in themarket while maintaining the privacy of individual actors’ positions.
In addition, technology companies like Microsoft are nowproviding ‘Blockchain-as-a-Service’ (BaaS) on their existingcloud platforms.27 BaaS enables developers from anyorganisation to deploy private or semi-public blockchainsusing Bitcoin, Ripple, Ethereum and other protocols,and experiment with decentralised applications withoutincurring the capital costs associated with setting up theirown networks.What elements are common to all blockchains? A blockchain is digitally distributed across anumber of computers in almost real-time: theblockchain is decentralised, and a copy of the entirerecord is available to all users and participants of apeer-to-peer network. This eliminates the need forcentral authorities, such as banks, as well as trustedintermediaries, such as brokerage firms. A blockchain uses many participants in the networkto reach consensus: the participants use theircomputers to authenticate and verify each new block– for example, to ensure that the same transactiondoes not occur more than once. New blocks areonly adopted by the network once a majority of itsparticipants agree that they are valid.Blockchains come in manydifferent types. As well as theBitcoin blockchain, a number ofother independent blockchains haveemerged in recent years. Nonehas yet achieved the same scaleas Bitcoin but they do offer otherbenefits, such as increased speed,larger data capacities, differentconsensus methods or moreadvanced functionality. A blockchain uses cryptography and digitalsignatures to prove identity: transactions can betraced back to cryptographic identities, which aretheoretically anonymous, but can be tied back to reallife identities with some reverse engineering. A blockchain has mechanisms to make it hard (butnot impossible) to change historical records: eventhough all data can be read and new data can bewritten, data that exists earlier in a blockchain cannotin theory be altered except where the rules embeddedwithin the protocol allow such changes – for instance,by requiring more than 50 per cent of the network toagree on a change. A blockchain is time-stamped: transactions on theblockchain are time-stamped, making it useful fortracking and verifying information. A blockchain is programmable: instructionsembedded within blocks, such as “if” this “then” dothat “else” do this, allow transactions or other actionsto be carried out only if certain conditions are met, andcan be accompanied by additional digital data.Blockchain Enigma. Paradox. Opportunity7
The Internet of Value-Exchange“ [The] Bitcoin protocol and network today is thatfoundational layer. It is [a] value transfer network.Beyond that, it is a core, backbone security servicesecuring contracts, physical and digital property,equities, bonds, robot AI and an enormous wave ofapplications which have not yet been conceived.”28Jeff Garzik, Bitcoin core developer and CEO, Dunvegan Space SystemsHow does a blockchain deliver value?The way in which many established transaction processingsystems work is very different from the decentralised anddistributed nature of a blockchain. For certain applications,the current model of value creation is likely to be betteredby faster, cheaper, more reliable and transparent processesenabled by the blockchain. This is illustrated in Figure 3.However, Jeff Garzik, one of Bitcoin’s core developers,cautions against trying to do too much with a blockchain:“Do not try to stuff every feature into the Bitcoin protocol.Let it do what it does best. Build systems on top of Bitcoinwhich use its strengths . Putting all the world’s coffeetransactions, and all the world’s stock trades, and all theworld’s Internet of Things device samplings, on the Bitcoinblockchain seems misguided”.29There are clearly both practical and philosophical limitsto the scope of applications amenable to blockchainapproaches. But with a little careful thought, linking usersand organisations directly together through a sharedledger and distributing processing across a network,we should be able to remove the friction that makesexisting transactions slow and expensive. And becausea blockchain breaks many of the rules and conventionsthat traditional business processes are built upon, it forcesorganisations to think differently about how they createvalue.8The problem for many organisations at the centre oftraditional value-exchange processes, especially banks, orcredit card and other types of payment company, is thatblockchain technology is a double-edged sword.Public blockchains, like Bitcoin, Litecoin and others,threaten disintermediation as they empower peer-topeer networks. The value they create is taken away fromcentr
Blockchain is coming to disrupt your industry”, for their invaluable insights into blockchain technology. . In a recent survey by the World Economic Forum (WEF), a majority of experts and executives in the information and . hold down the apple shift keys and click to release this object and type the section title in the box below.
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