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PRIVATE KEY

Banks are developing a crypto token for settling trades—but does anyone need it?

Reuters/Kieran Doherty
A hands-on approach.
By John Detrixhe
Published Last updated This article is more than 2 years old.

For some three years or more, a group of banks has been working on a distributed-ledger system for settlement, researching the feasibility of using blockchain to replace traditional back-office operations. The project is behind schedule—a limited launch was reportedly expected to have taken place in early 2018—but even more financial institutions have joined the effort, which recently raised £50 million ($63 million).

The companies behind the Utility Settlement Coin (USC) appear, based on interviews with several of the bankers last week, as optimistic as ever. They’re planning a private network (rather than a distributed public blockchain like bitcoin), with a yet-to-be-determined number of nodes which will provide processing and ensure fidelity for the ledger. The project will start with five currencies—US dollars, Canadian dollars, euros, British pounds, and Japanese yen—and the plan is to branch out from there.

Despite its hype, distributed ledger technology hasn’t taken Wall Street by storm. An experiment run by the Bundesbank and exchange operator Deutsche Börse found blockchain to be slower and more computationally intensive than other systems. Researchers at the St. Louis Federal Reserve investigated the potential for a so-called “Fedcoin” and found it lacking. “Once we remove the decentralized nature of a cryptocurrency, not much is left of it,” they said.

The banks behind USC see things differently. They argue that decentralization exists along a continuum, and can still enable peer-to-peer transactions that have fewer risks.

Digital money—including digital money issued by central banks and accounted for using their internal electronic databases—isn’t new. But when commercial banks transact with each other they have to account for Herstatt risk, which is the worry that a party may default before the transaction has been completed, when the trade has not yet been finished in central bank money (which is risk-free). In a simple example, when two commercial banks swap Australian dollars for US dollars, there could be a period of time when one or both of the respective central banks are closed (perhaps because of the difference in time zones), exposing commercial banks to default risk until the Australian and US central banks can settle the transaction in their respective books.

The idea behind USC is to create a bulletproof private network that represents the dollars held at the Federal Reserve or the euros held by the European Central Bank, for example, and would be just as good as central bank money. This redundant series of ledgers would be available 24-hours a day, all year long. The point is to make bank capital more efficient, allowing money to recycle more quickly.

“Even though the money is held at a central bank, this payment system allows you to exchange value with finality,” said Rhomaios Ram, CEO of Fnality, the commercial entity behind the USC project. Nasdaq, the New York-based exchange operator, has also invested in the venture, which has a total of 14 owners and members. Clearmatics, a London-based research development company for blockchain, is a technology partner.

The group somewhat resembles other financial utilities like CLS, which has more than 70 members and provides settlement services for the foreign-exchange market. “We’re building, effectively, a payment system, so we want to encourage people to use the system for payments,” Ram said. “It’s not supposed to be some sort of bank where you can store your money.”

The bankers involved expect USC to start with large, high-value transfers between financial institutions that are settling cash obligations among themselves. Over time, they think it could become the primary payment rail globally for many other types of transactions.

An even bigger vision is for USC to be paired with “tokenized” capital markets, in which bonds, stocks, and other assets are also represented on distributed ledgers. USC would then form the payment leg for these transactions.

The bankers behind the project say tokenization, which they say many financial firms are working on, would provide new business models. Indeed, there are those in the blockchain world who believe that “tokenized” securities are inevitable and will eventually be widespread. (TZero, Overstock.com’s alternative trading system for such assets, appears to be off to a slow start).

Fnality’s Ram was a little more cautious, but still thinks tokenization is the direction of travel for the financial industry. “We’re on that journey,” Ram said. “There’s a question mark about the percentage and time frame.”

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WHAT YOU NEED TO KNOW—AND WHY

Google’s core update took a toll on crypto media

Google released an update to its core search algorithm this month, which appears to have downgraded crypto news sites across the board. CCN—a popular source for cryptocurrency news syndicated on Yahoo—said it will shut down after losing a large portion of its traffic. Mobile readers from Google searches dropped by 71% “overnight,” explained CCN. The publication noted that CoinDesk’s visibility ranking also fell by 35%. Mike Dudas, founder of The Block—yet another crypto outlet—confirmed that his publication saw a similar reduction in readers coming from Google, too.

Takeaway: Media continue to live—and die—by the command of social media giants, who act as quasi-gatekeepers to content. This issue, of course, goes beyond the cryptocurrency industry, and it raises questions about how Google acts as the arbiter of information.

Please send news, tips, and Herstatt risk to privatekey@qz.com. Today’s Private Key was written by John Detrixhe and Matthew De Silva, and edited by Oliver Staley. Better slip with foot than tongue.

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