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June 2019

Mekebeb Tesfaye | Research Associate

AN INSIDE LOOK AT FOUR BANKS’ EARLY

BLOCKCHAIN SUCCESS AND FAILURES

BLOCKCHAIN IN

BANKING

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TREND AND IMPACT Blockchain has been one of the most hyped technologies within

financial services, heralded for its potential to eliminate pain

points across the industry. That's driven heavy investment from

incumbent banks: Financial institutions (FIs) are investing about $1.7

billion annually in the technology, per Greenwich Associates cited by

Bloomberg.

Despite this enthusiasm, sentiment around the technology has

grown increasingly skeptical as FIs struggle to actualize

blockchain solutions. Among the key challenges holding back

blockchain adoption are:

o Scalability and performance. FIs have found it difficult to

develop blockchains that can handle the vast volumes of

transactions at high speeds required for commercial application.

o Trust. Information stored on a blockchain is, in theory, available

to all network participants. This makes it difficult to generate

trust among network participants, as sensitive information could

be accessed by competitors.

o Regulation. FIs also have to contend with regulatory

uncertainty surrounding blockchain, including how the

technology corresponds with existing regulations like data

privacy legislation.

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But for all its difficulties, blockchain has several upsides in the

financial services world, including easing the costs of cross-

border payments, increasing the efficiency of trade finance

processes, and improving regulatory compliance processes.

Many leading banks have attempted to figure out where

blockchain does and does not work firsthand, to varying degrees

of success. This report walks through the successes and failures of

blockchain projects from four major banks:

o JPMorgan's Interbank Information Network: The industry's

largest bank-led blockchain project, which has attracted over

250 banks.

o HSBC's FX Everywhere: A forex trading initiative set for live

rollout in 2019, which reduced costs by 25% in its trial.

o Citi's CitiCoin crypto: A cross-border payments solution that

has been shuttered by the bank in favor of SWIFT, the existing

payments ecosystem it’s a member of.

o Bank of America’s array of blockchain patents: The bank is

a leader when it comes to sheer volume of blockchain-related

patents — 82 to JPMorgan's six, for instance — but it has

struggled to find a genuine application for the technology.

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RECOMMENDATIONS Before starting out on a blockchain journey, decision-makers

should ask a basic question: "How much are we willing to commit

to this technology?" Despite its potential, blockchain is still in its

infancy, and its impacts are unclear. As a result, successfully

deploying it requires a long-term view, in terms of both time and

resources. Banks must be cognizant of — and bought in to — this

pace of development to make blockchain adoption and implementation

a rewarding endeavor.

Identify a genuine business problem that blockchain can resolve.

Once a bank commits to deploying the technology, its starting point

should be identifying a genuine pain point. It should then consider the

full range of possible solutions, and only pursue blockchain if it feels

the technology provides the best path forward.

o Mapping out pain points across a bank's value chain is

critical to making meaningful progress with blockchain.

While the technology's long-term potential is substantial, the

costs of developing and integrating this infrastructural change

are high. If a cheaper and less resource-intensive technology

can adequately reduce a pain point, it's likely that investment in

a blockchain-based solution will not have high payback.

Therefore, banks need to outline targets for key metrics — like

cost reduction or new revenue generation — and weigh how a

blockchain might compare in terms of both costs and benefits.

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Develop a strategy for delivering a blockchain project. Depending

on the size of the bank, the available resources for technology and

development, and the specific business problem in question, banks

need to adjust their blockchain strategies. Strategies are not mutually

exclusive, and depending on the size of the bank, a combination of

approaches may generate the best return. Basic options include:

o Going it alone. This approach requires deep resources but can

also allow for greater freedom and autonomy when it comes to

determining direction.

o Joining an existing consortium. This strategy is likely easier

than starting from scratch, but how progress is made and what

is prioritized is dependent on a wider group of participants and

their specific goals. There are numerous industry groups

working on solving financial services pain points, such as Vakt,

which focuses on trade finance. For some banks, tapping into

an established network of knowledge will make sense.

o Deploying solutions developed by others. Plugging into a

service developed by others enables a bank to forgo heavy

investment in the technology, but also means the bank is a

service consumer rather than an active shaper. An example of

this approach would be a bank using Ripple's cross-border

payments solution.

Download the charts and associated data in Excel »

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INTRODUCTION Since its emergence at the start of the decade, blockchain has been

heralded as one of the most transformative technologies for financial

services — but questions have come up about its efficacy. Blockchain

hype has led financial institutions (FIs) to pour money into the space and into

distributed ledger technology (DLT) more broadly: about $1.7 billion annually

as of 2018, per research from Greenwich Associates cited by Bloomberg. But

now that hype is coming under scrutiny as FIs struggle to realize the value of

their investments. Incumbents have shuttered some early experiments, and

FI execs are beginning to discuss blockchain's prospects in bearish terms.

Key difficulties include scaling the technology for commercial application,

ongoing regulatory uncertainty, and the difficulty of bringing together

competing participants.

But as the hype subsides, it's becoming clearer where exactly the

technology has value, and some players are beginning to make genuine

inroads in their adoption and deployment of the technology. Those who

are finding success are both pushing back against souring industry sentiment

and setting themselves up as industry leaders. But why are certain players

finding success easier to come by than others? And what lessons do these

early wins — or losses — have for the rest of the financial services industry?

In this report, Business Insider Intelligence answers these questions by

exploring the early blockchain successes and failures of four major banks.

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BLOCKCHAIN: STATE OF PLAY Blockchain has been exalted for its potential to transform virtually

every industry, but none more so than financial services. The hype

stems from the tech's theoretical capacity to redesign crucial processes core

to much of FIs' operations. In so doing, blockchain is anticipated to reduce —

or even eliminate entirely — a slew of inefficiencies and pain points that have

long hamstrung the industry. If true, incumbents would stand to net

tremendous savings: For example, deploying the technology is estimated to

save banks more than $27 billion a year by the end of 2030 on cross-border

settlement transactions alone, per Juniper Research.

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However, the road to blockchain adoption within financial services has

been stymied by a number of key challenges:

Scalability and performance: As a distributed system, blockchain

is calculation-intensive by nature. Distributed systems are powered

by a constellation of processing nodes, devices that maintain a

copy of the data stored on the blockchain and occasionally process

transactions. It takes a significant amount of time for transactions to

be processed by these systems. For context, the Bitcoin blockchain

processes only seven transactions per second, which is paltry

compared with Visa's average of 1,700 transactions per second.

Potential workarounds exist, but they come with their own issues.

Permissioned blockchains, for example, can process transactions

much faster because they either reduce the number of nodes

needed for transaction approval or reduce the size of the block

where information is stored. But one of the reasons why blockchain

is virtually unhackable is because it's distributed across a multitude

of nodes. Permissioned blockchains undo that, concentrating

ownership.

Trust: A fundamental principle of blockchain is that information

stored on it is available to all network participants. That means

sensitive information like transactional history could be exposed to

blockchain participants that aren't involved in the transaction in

question. For FIs, that's quite a shift in terms of data and strategic

privacy. Leaked information of that nature could compromise the

competitive advantage of a firm in certain instances and benefit

their competitors: Consider a situation where a bank charges a

company a certain rate for a trade finance transaction, for instance,

and a competitor gains access to those transaction details and

undercuts the bank accordingly.

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Regulation: FIs also have to contend with a lack of clarity around

regulations. For instance, in 2018, the EU's wide-reaching General

Data Protection Regulation (GDPR) came into effect. Among its

mandates are requirements like the "Right to be Forgotten," which

places specific demands on the erasure of customer data at their

behest. This rule is difficult to reconcile with a core feature of

blockchain technology: Data stored on the technology is

permanent. Given that GDPR was four years in the making and is

still relatively new, it's perhaps unsurprising that difficult-to-

reconcile challenges remain. Until regulators get comfortable with

blockchain, this lack of clarity around how regulations handle the

technology is uncharted terrain that FIs must try to navigate.

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While blockchain isn't yet transforming financial services with the

intensity some imagined, several concrete applications of the

technology have solidified. These use cases reflect the segments of

financial services most prime for disruption by the technology and offer

insight into the true promise of blockchain.

Cost reduction. As a result of improved transparency and

traceability of transactions — especially in areas like customer

onboarding or clearing and settlement — implementing blockchain

enables FIs to forego costly middlemen that currently undertake

these functions.

o An example: cross-border payments. Typically,

international payments are routed through multiple banks

before reaching their final destination. This provides

important security and enables FIs to meet their regulatory

obligations, like know-your-customer (KYC) and anti-money

laundering (AML) screening. However, this process also

makes payments expensive, as each step has a monetary

cost. With blockchain, in contrast, corresponding banks have

access to the payment immediately, enabling them to bypass

routing through banks altogether.

Increased operational efficiency. Closely related to blockchain's

capacity to reduce costs is its potential to optimize segments of

financial services riddled with a multitude of moving parts that are

laborious as well as prone to error and fraudulent practices.

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o An example: trade finance. The processes of providing

credit facilities in order to guarantee the exchange of goods

is centuries old. Yet despite the long history — and rapid

acceleration of global trade flows — trade finance has

undergone little change. Its underlying processes are

manual, opaque, often paper-based, and full of inefficiencies,

leaving plenty of openings for errors and fraud. Blockchain

can reduce these inefficiencies by automating processes

while ensuring transparency, security, and trust.

Speedier regulatory compliance. In the aftermath of the financial

crisis, FIs have faced an onslaught of regulation, including more

severe penalties. This onslaught shows no sign of easing up, which

means the regulatory burden will only rise — and that FIs need to

find viable solutions. Blockchain can help FIs automate significant

components necessary for compliance, for instance through real-

time regulatory monitoring.

o An example: KYC and AML compliance. These

regulations require substantial outlays for FIs — for instance,

large FIs spent an average of $150 million on KYC in 2017,

per Thomson Reuters. That's because the process of

verifying data on their customers, which can span

jurisdictions, is often manual and painstaking. Blockchain

offers the opportunity to improve KYC processes by enabling

the secure storage of customer data from multiple banks, for

instance. Goldman Sachs estimates a blockchain-based

KYC or AML solution could generate $3 billion to $5 billion in

cost savings.

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SUCCESSES AND FAILURES

Blockchain Successes

JPMorgan's Interbank Information Network (IIN)

Among incumbent banks, JPMorgan stands out as a blockchain leader

— particularly thanks to its massive IIN project. Despite CEO Jamie

Dimon's much-cited rebuke of Bitcoin, the bank has built an impressive

portfolio of blockchain projects under his guidance. Among its endeavors, the

IIN — the industry's single largest blockchain project — stands apart as the

most successful project within financial services. To date, over 250 banks

have signed up to the service, indicating its widespread appeal — for context,

blockchain trade finance consortium Voltron has around 50 members.

The IIN is a blockchain-based solution that enables participating banks

to more efficiently transfer money across borders and institutions. One

of the major reasons why cross-border payments are slow and expensive is

because of sanctions screening exceptions. These exceptions can cause a

payment to be held up from two days to two weeks, Christine Moy,

blockchain lead at JPMorgan told Business Insider Intelligence. The IIN

reduces these points of friction, enabling transfers to go through almost

instantly by providing corresponding banks with necessary information —

including sanctions screening and other data-related inquiries — to process

payments simultaneously. Currently the IIN's services are free, but JPMorgan

is likely to roll out a premium commercial feature that it would charge users

for.

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Here's how it measured success:

One measure of the IIN's success is that it achieved what it set out

to do: Eliminate or reduce the compliance-related issues that can

delay payments by weeks.

The fact that the IIN has gained considerable traction among

industry participants — with over 250 banks signed on — is further

evidence of its success. Bringing together competing industry

players is a major hurdle, and JPMorgan's ability to secure buy-in

from a variety of industry participants is a positive sign both for its

specific solution and industrywide sentiment toward blockchain

overall.

The success of IIN is based on the fact that its initiative stemmed from

a specific problem, not from trying to fit blockchain onto a problem.

JPMorgan began with a real-world challenge that had hamstrung its clients,

in this instance sanctions screening exceptions that correspondent banks

had to actively manage and resolve, according to Moy. Once it identified this

genuine pain point, the bank developed a pilot that brought together only two

other participants — Australia and New Zealand Banking Group (ANZ) and

Royal Bank of Canada (RBC). Since it has been put into production in

October 2018, IIN now has over 250 banks signed up to join the network.

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HSBC's FX Everywhere

While the UK-headquartered global bank is a member of several

blockchain consortiums, it's also made substantial headway on its own

internal FX Everywhere initiative. FX Everywhere deploys blockchain

technology to align HSBC's FX transactions with its internal balance sheet. At

the start of the year, HSBC announced the completion of a successful trial of

the platform. In that period, it used FX Everywhere to handle more than

150,000 payments and settled over 3 million forex trades. Although the bank

has not released data on how many such transactions it completes using

traditional processes, it's said that those conducted on FX Everywhere only

represent a small fraction. Even on a relatively small scale, the platform's

ability to automate the otherwise manual processes surrounding payments

and forex trading holds promise. That's because HSBC can likely overcome

the scalability issues that plague other blockchain applications, as FX

Everywhere is likely a permissioned blockchain for its own clients, meaning it

doesn't have to worry about disparate nodes in public blockchains that

reduce transaction speeds.

Here's how it measured success:

During the trial, HSBC reduced the cost of trades and boosted

transactions efficiency. In fact, the bank says the platform saved it

25% in costs relative to traditional processes.

FX Everywhere has also enabled decision makers to

simultaneously use the system and view trades from execution to

the point of settlement, increasing visibility and decreasing the risk

of discrepancies and delays.

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HSBC's success with FX Everywhere stems from its matching the

potential solution with a pain point of existing operations. As a

multinational bank, HSBC conducts huge volumes of forex transactions for its

global client base. The bank's decision to begin working on FX Everywhere,

as well as its range of other blockchain projects, has been shaped by a

desire to solve client pain points, Vinay Mendonca, managing director and

global head of product & propositions, trade and receivables finance at

HSBC, told Business Insider Intelligence. Like JPMorgan, this focus on real-

world problems within the bank's existing operations — as opposed to

starting from a desire to create a blockchain platform, no matter the problem

— is wise. By eliminating inefficiencies and improving its business operations

for clients and the bank itself, FX Everywhere can help provide HSBC with a

competitive advantage that's worth investing in further.

Blockchain Failures

Citibank's Crypto Program

Citibank was an early mover in blockchain, but the onetime trailblazer

has struggled to make headway on initial projects. In fact, as early as

2015, Kenneth Moore, head of the bank's innovation lab at the time, said in

an interview with International Business Times that Citi already had a crypto

up and running in its labs, dubbed CitiCoin and aimed at streamlining cross-

border payments. However, earlier this year, Moore's successor Gulru Atak

announced that the bank was abandoning its CitiCoin plans.

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Citi decided to abandon its crypto ambitions because it felt that simply

improving existing infrastructure would offer a superior return.

Following its experiments with CitiCoin, the bank decided that augmenting

existing payment ecosystems, like SWIFT, would be more worthwhile than

starting fresh, according to Atak. That's likely due to the strength of existing

networks: SWIFT, which has over 11,000 members, moves in excess of $200

billion per day, accounting for more than half of all high-value cross-border

payments, for example.

Citi's experience is illustrative of a key challenge facing industry

players: weighing the potential benefits of blockchain-based projects

relative to improving existing processes. Deploying a new technology

requires more than a genuine problem to solve: Banks must also ensure that

the benefits accrued from a complete overhaul outpace the ROI of improving

existing systems and processes.

If the technology in question — like blockchain — demands significant

infrastructural change, it's possible that investing more resources in

the status quo will yield a higher return. Migrating from existing

technological systems or convincing a sufficient number of participants to

jettison current networks in favor of a new alternative is difficult. Users

become comfortable with systems, and convincing them that the switching

costs are worthwhile is an uphill battle — but one that's absolutely necessary

to win. For example, if a bank is only able to convince 10 peers to join its

system, then it clearly lacks the critical mass it needs to displace massive

ecosystems like SWIFT. In certain circumstances, it may be possible to

eventually reach a critical mass of users on the alternative platform, but only

after a long period of time. Banks have to weigh these opportunity costs, and

questions surrounding the likelihood of convincing a sufficient number of

industry participants to join up are critical to doing so.

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Bank of America's (BofA) Blockchain Patents

BofA leads the field among FIs in terms of the blockchain-related

patents it's accumulated, but it's made little progress in actualizing this

glut of intellectual property. The bank applied for or received 82 such

patents — in contrast, JPMorgan has just 6, per EnvisionJP cited by CNBC.

Those patents BofA has received or applied for thus far include:

A cryptocurrency exchange service. At the end of 2017, the

bank received a patent for an automated crypto exchange system

that would allow users to switch between holding different cryptos.

It has also received a multitude of other patents for crypto-related

activities, including blockchain-based ATMs.

Information verification services. The bank also submitted three

applications in February 2016 related to the use of blockchain to

verify information about customers, such as their identity, as well as

the permissions of individuals with access to that data.

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Yet BofA has struggled to adopt the technology, citing its lack of

scalability as a key reason. Speaking to CNBC, the bank's technology and

operations chief Cathy Bessant claimed: "I haven't seen one [use case] that

even scales beyond an individual or a small set of transactions." But

Bessant's forceful claims are contradicted by the success other banks have

seen: For example, Spanish banking giant Santander has deployed Ripple's

blockchain technology for cross-border payments. And progress made by the

likes of JPMorgan and HSBC, discussed above, also provide evidence to the

contrary of Bessant's position.

BofA's scattershot approach to blockchain goes some way toward

explaining its woes — it prioritized developing the technology in and of

itself rather than identifying specific solution areas. In contrast, a number

of the bank's peers have combined experimentation, participating in wider

industry networks, and a narrow focus that prioritizes solving certain pain

points. BofA's approach likely made it hard for the bank to dedicate sufficient

resources to developing one promising project in an incremental way,

through repeated testing and assessment, to determine whether it was worth

investing more resources.

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