Blockchain in Banking
Dec 12, 2022
We already spoke about blockchain technology and some of its main features such as smart contracts. If you read our previous blogs, you should be familiar with most of the concepts explained in this article – otherwise, we encourage you to browse through our previous blogs and read up on what we explained so far. In this article, we want to give you a brief introduction into the opportunities and challenges of the banking industry and how blockchain technology can help solve them.
Blockchain – or the distributed ledger technology – facilitate to record any type of transactions or to track assets in any business context or network. The blockchain’s main characteristics (i.e., transparency, immutability, and the decentralized monitoring) are beneficial to a multitude of use cases in various industries. In this article we focus on the banking sector because we believe that blockchain can secure a more reliable, efficient, transparent, and flexible way to manage your finances. Luckily, we are not alone with that opinion – IBM, for instance, believe that roughly two thirds of all banks will implement a commercial blockchain within the next decade, increasing the global blockchain-based banking sector to roughly 4.1 bn dollars. According to a study conducted by Accenture, implementing blockchain in the banking sector could save up to 50% of the banks’ operational costs (e.g., compliance, middle office, client onboarding etc.) and up to 70% of their reporting costs.
In the following we want to focus on three of the main challenges the banking industry is facing in particular:
inefficiency in handling records,
consistent supervision and
high payment cost & time consumption.
The main reason for these challenges can be explained through the banks’ dependency on intermediaries as well as the growing number of users/ digital transactions. Below, we listed how blockchain-based solutions have the potential to solve these issues:
Now that we have focused on some of the banking industry’s issues, we want to focus on use cases that everyone can relate to. Among blockchain in banking’s main use cases are accounting and trade finance. There is a potential to have significant impact, solving issues around data integrity and compliance as well as streamlining their processes through automation. However, we want to use the small platform this blog is presenting to focus on one use case in particular: lending and borrowing.
Use case: Lending and Borrowing
Those two actions are part of a bank’s primary services offered to its clients. For simplicity reasons, let’s assume that the stakeholders involved are:
the financial institutions that give money (i.e., the lender)
us, taking money from financial institutions (i.e., the borrower)
and somebody, promising to repay the loan (i.e., the guarantor).
As we are all familiar, with how the process of lending and borrowing works without blockchain technology, let’s have a look at the workflow, using blockchain.
Step 1: Lender generating profile containing:
personal details: name, address, ID, …
type of investment,
interest rate depending on type of borrowers.
Those details are then provided at some sort of marketplace, where the lenders and borrowers can find each other based on their respective criteria.
Step 2: Lender waiting on loan request
The lender waits for a request from the borrower, after its profile is shared publicly. The lender then schedules a meeting with the borrower.
Step 3: Borrower generates a profile and request a loan
The borrower generates a profile containing information similar to those of the lender (name, address, ID). Once the profile is created, the borrower can send loan requests to lenders of his choice. As the respective information from lender and borrower are stored on the blockchain, smart contracts easily match suited borrowers to the lenders’ requirements.
Step 4: Lender engages with borrower personally
After receiving the loan request, the lender needs to approve the application, verifying:
monthly earnings of the borrower,
the repayment rate,
the reason to apply for the loan and
number of previous applications
Step 5: Smart contracts derive CIBIL score and respective interest
Once the lender accepts the request, smart contracts get the applicant’s CIBIL score to derive the interest rate.
We get the gist of how embedding smart contracts in the processes of lending and borrowing money helps to automate certain processes. In fact, blockchain in lending can be beneficial to:
get fast approvals,
minimize delays for payments,
reduce need for intermediaries, monitoring the process or providing information (CIBIL score)
enhance transparency in the process.
Our previous blog articles already gave insights into what blockchain technology stands for and what it can do. With this article we wanted to build upon that and not only present further use cases but also and more importantly highlight its growing adoption. We believe that with the ever-rising use cases of blockchain come major transformations, for instance, in the banking industry. Blockchain-based solutions could disrupt conventional systems significantly. In fact, they are expected to minimize fraud losses in the amount of 9 bn dollars per year. Moreover, blockchains will reduce the time, cost, and effort in inter-bank trade drastically once they will be implemented by more banking institutions. The blockchain technology is a driving force to transform efficiently into a cashless and more transparent society.