In this blog post, we’ll explore the possibility of centralized financial systems being replaced by blockchain technology. Join us as we examine the changes and innovations that blockchain will bring to the financial market.
If you could send money directly to anyone in the world without going through a bank, you could save on the fees associated with currency exchange and money transfers. If there were a cloud storage system that didn’t require servers, hackers would have no foothold to attack, allowing data to be stored more securely. If there were an internet address system that didn’t require administrators, disputes over internet addresses would also decrease. The three points mentioned above are not just imagination. All of them have already been technically implemented. The core technology that makes all of this possible is blockchain.
Blockchain is most frequently mentioned in discussions about Bitcoin. The bankless global financial market system mentioned in the introduction to this article is Bitcoin. Bitcoin, a cryptocurrency, has grown to the point where, just five years after its inception, it ranks among the world’s top 100 currencies by market capitalization. It is thanks to blockchain that Bitcoin was able to emerge in the first place.
Blockchain is a ledger that treats transaction information as a single block and links these blocks sequentially. Unlike traditional ledgers, which are kept only by the parties involved, this ledger makes all its contents public to everyone. While one might think that making it public—exposing individual transaction details to everyone—would be risky, it is actually characterized by being safer and more convenient. With blockchain, there is no need for a third-party certified institution, such as a bank or a government-recognized authority, to verify the reliability of transactions. Transactions can take place directly between individuals without going through a bank; this is known as the P2P (Peer-to-Peer) method. A P2P network is not simply a one-to-one connection but a spiderweb-like network where countless users are interconnected. This method is not new. Torrent, which allows users to download videos, photos, and programs, utilizes a P2P network. Instead of downloading data from a single server, users directly retrieve files shared by other users. This achieves the same effect as gathering files from multiple users and storing them on a server. By distributing the load using a P2P network, services that require significant resources can be easily implemented.
While these systems offer convenience, it is also true that every time we use them, we wonder whether we can trust the other party we are connected to. This is when security concerns arise. When we shop online, we send money to strangers without any suspicion because banks guarantee the transaction history and the movement of funds. If there were no banks, we would need something else to prove that the transaction history hasn’t been forged. Blockchain solves this guarantee function through a unique open algorithm. It does this by distributing the consensus function among network participants.
Taking Bitcoin—which first demonstrated the potential of blockchain—as an example, every Bitcoin user connects to a peer-to-peer (P2P) network and maintains a copy of the same transaction ledger. Every 10 minutes, they gather to update the ledger to its latest state. To prevent a few users from arbitrarily manipulating the ledger, only transaction records approved by a majority are recorded in the ledger. When a new transaction record is created, all Bitcoin users share the newly generated transaction ledger. The bundle of transaction records generated every 10 minutes is called a “block,” and not just anyone can create it. To create a block, one must solve a specific mathematical problem, and the first person to solve it gains the right to create the block. This process is called “mining,” and the person performing it is called a “miner.” Since solving these mathematical problems quickly to generate blocks requires high computing power, competition is so fierce that there are companies dedicated solely to mining.
If someone were to invest massive computational resources to monopolize mining, Bitcoin could not gain the same level of trust as a bank. This is because they would have the power to arbitrarily modify transaction records at will. However, for this to be possible, they would need to control more than half—specifically 51%—of the total computational resources of all miners. But this is virtually impossible. Even if you combined all the computational resources of Google’s data centers, it would only account for one ten-thousandth of the total.
Furthermore, Bitcoin is immune to malicious hacking attempts aimed at forging or tampering with transaction records. This is thanks to the structure of the blockchain. The blockchain is designed so that when a new block is created, it stores the unique value (hash value) of the previous block. In other words, all blocks are linked through these hash values. If someone maliciously alters a transaction record, the hash value of the block containing that record changes, and the hash value of the next block—which stores this hash value—also changes. Ultimately, this would require a chain reaction of changes to all blocks following the hacked one, which is extremely difficult to achieve. Furthermore, the blockchain ledger is shared among all users. Even if a single user’s transaction record is altered, it can be immediately restored to its original state because countless other users are already sharing the same ledger. In other words, altering transaction records would require simultaneously modifying the ledgers of more than half of all users.
While Bitcoin is a highly secure system, it is not suitable for use in the financial sector. This is because open blockchains, like Bitcoin, where anyone can participate, take a long time to approve transactions. Consequently, financial institutions plan to operate closed blockchains by forming associations or consortia to restrict user access. The design allows for the creation of blocks only after other users reach consensus on the transaction history, based on restricted user access. For example, let’s assume that in a closed blockchain comprising 10 securities firms, Firm A wants to store a contract with a client on the blockchain. The contract will contain the digital signatures of both the client and Firm A, indicating their agreement to the terms. The other nine firms, excluding Firm A, verify the presence of both signatures and then approve the contract’s validity. In other words, all remaining users confirm that the parties involved have reached consensus on every contract stored on the blockchain. Even if a customer or Brokerage A who signed the contract attempts to secretly alter its contents, this is impossible because the participants who have already approved the transaction share a common ledger.
A blockchain designed in this way will bring about significant changes in the financial sector. Brock Pierce, an entrepreneur who operates about 30 Bitcoin companies in the U.S., has stated, “The innovation brought by blockchain will be far greater than the Internet revolution.” This is because blockchain allows for the automation of all financial products that require consensus. Take, for example, an insurance contract that requires the agreement of multiple institutions. For an insured person to claim insurance benefits from an insurer, consensus is needed from institutions that can verify the accident, such as the police, and from hospitals that can verify the insured person’s health condition. The insurer pays out the insurance benefits only after verifying that the documents submitted by these institutions match the terms of the contract. However, if the insurance company had encoded the contract details and stored them on the blockchain, there would be no need for human intervention in this entire consensus process. When a hospital creates an electronic medical report and uploads it to the blockchain network, the insurance company verifies whether it matches the contract’s duration and conditions of validity stored on the blockchain before approving it. The insurance payout is then automatically disbursed to the policyholder, and this record is also stored on the blockchain. The entire complex process is automated.
If you ask someone where to go to conduct a cash transaction, the common answer is a bank. However, the fact that transaction information is stored in just one bank means that if that bank were to fail, the damage would be immense. Of course, traditional financial institutions such as banks and credit card companies securely store their transaction ledgers. To ensure security, they implement both physical and human security measures, placing servers containing transaction ledgers deep within their buildings to prevent unauthorized access to bank servers. They also install various security devices and programs, as well as employ security guards and dedicated security staff. However, maintaining such systems is undeniably complex and burdensome.
Blockchain not only overturns this conventional wisdom but also offers a safer and more convenient method. Furthermore, blockchain holds limitless potential for application not only in finance but across various fields, making it a technology worth watching in the future.
