Stefan Teis , SVP, Business & Product Development , Deutsche Börse | Aug 2017


Deutsche Börse’s Stefan Teis, SVP, Business & Product Development writes about the challenges and opportunities of using Blockchain in the financial services sector.

In theory, blockchain technology promises enormous efficiency gains. However, real-life applications in the financial sector will not become more widespread until regulators are convinced that the usage of this technology can be made compliant with the existing regulatory framework.

The first cryptocurrency was created in 2008 – in the middle of the financial crisis – under the name 'Bitcoin'.

It has since become increasingly popular among the public at large. The technology that underpins Bitcoin – ‘Distributed Ledger’ – is what is considered as revolutionary.

The Distributed Ledger Technology (DLT) underlying Bitcoin is blockchain. Current cryptographic technology makes it immensely difficult to subsequently manipulate blockchain transactions. This high level of security is, among other things, an explanation for the rapid spread of Bitcoin in recent years. The immutability of data is essential to ensure trust amongst all users in this type of decentralised book-keeping. Blockchain promises a multitude of additional benefits: transactions can be settled quickly – within minutes; cost-effectively; irrespective of location; and participants remain anonymous with their data protected. As the shared single source of truth, blockchain technology enables participants to quickly and safely transfer value of any kind. The vision of the 'Internet of value' without central intermediaries and to the benefit of many seems to be becoming a reality.

This begs the question of why, nearly ten years after Bitcoin was created, the use of blockchain technology has not yet become more prevalent? There are certainly no simple answers and the reasons are likely to vary a great deal depending on which specific sectors we are looking at.

With regards to financial markets, it is useful to firstly bear in mind that these markets are highly regulated, with regulation having become even more stringent in recent years since the financial crisis. Consequently, many blockchain features are at odds with existing regulation. A simple example is client anonymity which is diametrically opposed to the tightened transparency requirements demanded by regulators in recent years (e.g. in the area of taxation, Know Your Customer, compliance, etc.). This essentially eliminates the use of a public distributed ledger construct for the financial industry. The existing regulatory framework imposes several other such constraints to the application of this technology.

So how can the potential benefits of blockchains be used while remaining compliant with the current regulatory framework? Unlike solutions on the internet, potential applications need to be analysed in great detail, with roles and processes clearly defined in advance. Key are the rules of admission (who is allowed to participate?), legal obligations (who has what rights?), compliance with statutory and regulatory obligations (what requirements must be met?), to name a few.

Market infrastructure providers, like Deutsche Börse, have an existential obligation to be aware of the latest technological developments. For over two years, a dedicated team at Deutsche Börse has been analysing use cases and applications using DLT, and have developed initial prototypes in some specific areas. Being a market infrastructure, we operate under a strict regulatory framework. This significantly differentiates us from fintech companies, as we have a deep knowledge of regulations and apply this in the targeted development of DLT applications. Our efforts have all been in the realm of ‘permissioned’ DLT solutions which means that access to the applications are only granted to authorised participants acting according to pre-defined roles.

Fundamentally we believe that in order for the technology to have widespread adoption we need three foundational pillars. One is the ability to access central bank liquidity on DLT; two is to access commercial bank liquidity on DLT; and three is to be able to conduct multijurisdictional transfer of securities on a single DLT platform. In order to address these pillars, we are currently at work on three specific DLT projects:

Project 1: In partnership with Deutsche Bundesbank, Deutsche Börse presented a conceptual study and a functional prototype for blockchain based settlement of securities in November 2016. The prototype provides technical functionality for the settlement of securities in delivery-versus-payment mode for centrally-issued digital coins, as well as the pure transfer of either digital coins or digital securities alone. In addition, it is capable of settling basic corporate actions such as coupon payments on securities and the redemption of maturing securities. Since then development has been focusing on further improvement of concept and prototype in order to make it ready for testing. It is important to note that this is a limited case application of central bank liquidity for security settlement purposes only.

Project 2: Our CollCo project investigates on a model for the peer-to-peer (P2P) transfer of commercial bank money via a blockchain-based infrastructure. This P2P transfer of commercial bank money is collateralized using functionalities of a central counterparty (CCP), ensuring that users carry only the credit risk of their own commercial bank as they would do outside the blockchain. Each participating bank can issue its own “coin” in the process corresponding to the respective commercial bank money and issuing this on-chain to its customers. CollCo addresses existing and potential new use cases. These include the handling of margining requirements, credit risk free payments, and delivery-versus-payment asset/value transfer on the blockchain.

Project 3: Along with central securities depositories in Canada, Norway and South Africa, we have undertaken a global initiative to facilitate cross-border movement and provision of securities collateral through our Liquidity Alliance Ledger project. A technical prototype was completed in May 2017 and has since been under detailed evaluation by the national supervisory authorities and legal advisors of all partners. The positive thing about the prototype is that the LA Ledger project is considered an application by the CPMI-IOSCO, the global committee of central banks and regulators. The findings resulting from these regulatory-oriented discussions are indispensable to the current client consultations underway. The aim is to use the prototype to shortly develop an implementable concept in cooperation with international partners.

In sum, we assume that DLT is here to stay for the long-term due to its indisputable benefits. Prior to widespread application in the financial sector, the technology has to advance and a greater level of technological standardisation has to be achieved. There current fragmentation of protocols and providers will prove to be a challenge. Implementation also needs understanding, recognition, and approval by regulators which will evolve over time. As a market infrastructure provider, we have a high level of financial market, regulatory and network management expertise which will allow us to play a major role in helping shape the spread of this technology.

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