North Texas banks are approaching a crossroads because of blockchain, a technology poised to give them unprecedented efficiency while simultaneously choking off revenue streams.
As with many inventions before it, blockchain’s fundamental purpose may sound mundane: Create an electronic record proving for all involved in a deal that party A paid such-and-such to party B at a given date and time.
Banks have traditionally helped handle that record-keeping job, by keeping track of money flowing in and out of customers’ checking accounts, for example. Banks can benefit through automation of keeping these books, as it can eliminate human work. The problem is it may also eliminate lucrative fees they charge customers for handling those jobs as trusted middlemen in deals. Thus, banks face pressure to figure out how to adapt.
“We are preparing for changes blockchain may bring by engaging with industry experts as well as our customers,” says Joe Gottron, chief information officer at Dallas-based Bank of Texas. “Our customers are our best guides about the capabilities we must develop to enable their businesses.”
Beyond record-keeping, major players in Canada’s financial system successfully tested a modified form of blockchain that instantly handled two clunky tasks in payments: The pre-deal exchanges of information between parties and the transfer of money to close transactions. But large-scale use of blockchain in business is still years away at best, experts say.
“If it becomes a universally adopted platform, all financial institutions will need to make changes to the way they’ve historically done business in order to remain relevant,” says Aaron Graft, founder, vice chairman, and CEO of Triumph Bancorp Inc., a Dallas-based financial services firm.
Blockchain emerged around 2009 as the record-keeping system for transactions using Bitcoin, arguably the world’s first large-scale experiment with a digital currency. It’s essentially a database to which multiple people have access. When one of those people pays another, blockchain software creates a record, which in turn gets verified by at least half of the computers with access to the database. After getting the computers’ green light, software adds that record to the transactions list, a “ledger” in finance-speak. All parties to the deal have the same record.
In the blockchain realm, transactions are grouped into “blocks,” which are connected together on the list as a “chain.” As Bitcoin generates its own version of dollar bills, it cuts out all trusted middlemen that have traditionally made transactions happen, including central banks that print currency.
Because any computer can join the Bitcoin blockchain, commercial banks face potential regulatory issues by taking part in it, as that network could put their customers’ data at risk.
“Most of the current blockchain experiments underway with financial institutions involve ‘permissioned’ blockchains, which limit the parties that can validate or view transactions,” says Matt Davies, assistant vice president at the Federal Reserve Bank of Dallas.
A Long Fix-It List
For now, a laundry list of problems prevent banks from using Bitcoin-style blockchain technology. For one thing, correcting errors is difficult. Numerous computers must join the network all at once to create a consensus that a deal’s record needs changing, according to a 2016 paper by Catherine Christopher, associate professor at Texas Tech University School of Law.
“So, even if a court heard a dispute and made a decision, it might not be possible for that decision to be recorded on the blockchain,” Christopher says. It is a “major unknown” which laws would apply for resolving squabbles about deals recorded on blockchains.
Another issue is the fact that various versions of blockchain lack the capacity to scale, or quickly handle large numbers of additional deals, experts say, because multiple computers must verify each transaction.
Blockchain also has yet to deliver cost savings in testing of its use as a payment system, according to central banks in the Netherlands and New Zealand. If that weren’t enough, blockchain uses large amounts of energy, those central banks say.
Bitcoin and blockchain may even carry bad connotations because of events such as the government’s shutdown of Dallas-based AriseBank earlier this year.
Of course, when brands’ reputations go bad, companies have historically responded by changing the brands’ names, such as when technology companies dropped “.com” after the 2000 technology crash.
But as with many inventions, blockchain has morphed into the equivalent of different flavors. And that’s where bankers are perking up their ears.
First Up, International
Regardless of what blockchain-inspired inventions may be called down the road, they are attracting interest from banks that do business across borders. Bankers in Dallas-Fort Worth, the country’s ninth-largest export metro area in 2016, are wondering whether blockchain might streamline the cumbersome process of handling transactions with parties in other countries.
“International trade and payments both appear areas of great opportunity for blockchain use,” says Scott Vandergriff, senior information technology director at Bank of Texas, a unit of Oklahoma-based BOK Financial Corp. “For international trade in particular, the immutability of the blockchain has potential to simplify the chain of custody of goods and address issues with complexity of contracts and ultimate movement of money,” he adds.
Issues like these are why the first banks to adopt blockchain likely will be those that do large numbers of international transfers, according to Gina Pieters, a lecturer in the economics department of the University of Chicago and research fellow at the Cambridge Centre for Alternative Finance. But it’s hard to say how fast they will jump aboard. “That is partly because the answer revolves not just around the speed of technology adoption, but the development of the technology itself,” Pieters says.
Among financial services companies based in North Texas, the one moving fastest on blockchain is Triumph Bancorp, a holding company whose businesses include $3.4 billion (assets) TBK Bank SSB. Triumph views blockchain as an avenue for systems integration in transportation—essentially getting different technology systems to talk and play nice together.
Triumph employees sit on committees developing data standards, the rough equivalent of rules of engagement when widget A exchanges information with contraption B. “We have been heavily focusing on producing standards before deploying any production applications,” Graft says. It’s unclear when—or if—blockchain might get widespread acceptance as a systems integration tool, he adds.
Meanwhile, Triumph has built prototypes of a payments system for freight brokers and shippers that would provide access to supply chain-related financing. “In the future, we think over-the-road trucking in the U.S. will see several announcements of soft launches and prototype applications around payments, load tracking, and tendering,” Graft adds.
With a $1.01 billion market value in late July, Triumph is a small financial services company by Wall Street standards. But it’s unusual because it builds stuff. The largest number of blockchain-related patents are held by money-center financial firms, such as Bank of America and Fidelity Investments, and big tech names such as IBM and Austin-based Dell, according to a January study by Envision IP.
Most banks in these parts are closer to kicking tires on blockchain than putting it to work. “We are in talks with a number of Texas banks about blockchain, but none have proceeded beyond proofs of concept with us yet,” says Jay Smith, who runs marketing at the Austin-based technology vendor Factom.
The approach Texas banks are taking is about the same as the rest of the financial industry, Smith adds. “We spent most of last year learning what a blockchain is. This year we’ve begun talking to clients about real business cases.”
Although blockchain may reduce some fees banks charge, it can also shrink costs and risks for audits and legal compliance, says Smith. That’s because data written to a public blockchain can never be changed.
Indeed, record-keeping on blockchain is the rough equivalent of tracking serial numbers on dollar bills as they flow from one person to another, according to Texas Tech’s Christopher. “As with any new technology, banks must evaluate the best way to adopt blockchain,” he says. “Is it the new ATM machine?”
Jeff Bounds is a freelance business writer in Garland.