BlockChain basics for the non-technical banker covering what's happening, what the opportunities are, and the problems we all face. Covers BitCoin and Ethereum with brief mentions made of Ripple and the HyperLedger project.

1. BlockChain
for the banker
Bohdan Szymanik, March 2016

2. It’s a fair assessment…
http://www.businessinsider.com/what-is-blockchain-barclays-2016-3
Many of the concepts are not simple;
the subject matter expertise to make
choices is extremely rare; the impact
to conventional business and banking
in particular is very poorly understand
apart from …. ‘it’ll be big!’

3. The BlockChain 101
Distributed (peer to peer) ledger that is made fully transparent and inherently accurate thanks to the magic of
cryptography.
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Blocks of transactions . Linked together . Cryptographically signed (tamper proof)
The whole point is to have all transactions ordered such that no double-spending can occur.
Peers have strong
identity
(private/public key
pairs)
All peers have access to all transaction blocks and all
transactions contained therein.
The task of chaining blocks together is made purposely
hard but easily verifiable by using the concept of Proof of
Work.
Why?
To stop fraudulent creation of transactions and blocks.
Why do proof of work? You get to earn a bit of digital
cash for your efforts.

4. Just to be clear, when we say transaction here, consider that a settlement transaction.
What we have is a distributed, transparent ledger with settlement. This means the end of
the traditional backoffice settlement function.
http://www.afr.com/technology/data-wars-the-banks-awaken-20160319-gnmfac

5. https://www.gov.uk/government/publications/distributed-ledger-technology-blackett-review
https://www.linkedin.com/in/leannekemp ,
http://everledger.io - diamond tracking with
distributed ledger and smart contracts
Corporate actions resulting from company announcements currently
handled manually. Ripe for smart contract application based on
information flowing from payers to payees via blockchain.

6. The bankers view
http://www.pwc.co.nz/financial-services-industry-sector/publications/blurred-lines-how-fintech-is-shaping-financial-services-global-fintech-report-2016/
“…544 CEOs, heads of innovation, CIOs and top mgmt. across 46 countries including NZ…”
Really!
Looks like they have a bit to learn.

7. So basically they
know nothing
PwC advise that “This lack of understanding may lead market participants to underestimate the potential
impact of blockchain on their activities.”

8. Proof of Work, Proof of Stake, Consensus by bet and Prediction Markets
https://blog.ethereum.org/2015/12/28/understanding-serenity-part-2-casper/
The whole point of Proof of Work has been to achieve consensus over transaction ordering.
Proof of Work is something computationally hard to do but easy to verify.
Common method being brute force discovery of a hash (SHA256 etc).
Are there other ways to get ordering easier, faster?
Proof of Stake says give greater accountability to those with the most to lose. It’s like modelling the
blockchain mining process as a probability game. But…
Here’s an interesting observation:
Proof of Work is just a specialised case of making a bet on a block. You can achieve consensus by betting.
In general,
A BlockChain is a prediction market on itself.

9. (Straight copy from Ethereum blog follows)
https://blog.ethereum.org/2015/12/28/understanding-serenity-part-2-casper/
Mining a block means spending electricity on proof of work.
Every second this might cost E,
with chance of succeeding in that second being p,
for which you get reward R in all forks containing your block and
zero rewards in other chains.
Odds look like this: E : p*R-E.
Eg:
p = 1 in 1 million chances per second of succeeding
E = $0.007
R = 25BTC ~ $10,000 USD
 0.000001 * 10000 – 0.007 = 0.003
Cf electricity cost of 0.007
=> 7:3 odds ie 70% probability of the chain your working on will
win.
Which is why we can represent Proof of Work with Proof of Stake.

10. Not only are blockchains prediction markets in and of
themselves, but you can use them to run prediction
markets.
https://azure.microsoft.com/en-us/blog/azure-blockchain-update-6

11. Battle of the BlockChains
Digital currency with a
distributed ledger. The
original distributed ledger.
Token: BitCoin
Market value: $6.5b
6,000 nodes
BitCoin holders: 13m
Transactions/day: 250,000
Max TPS: 7
Years in existence: 7¼
Distributed ledger with a
VM specification for the
operation of smart
contracts. Focussed on
building distributed
apps.
Token: Ether (which
converts to ‘gas’ to drive
apps)
Market value: $1bn
5,100 nodes
Ether holders:?
Transactions/day: 25,000
Max TPS:?
Years in existence: 2¼
Distributed ledger that works with
international currency gateways.
Linux Foundation open community distributed
ledger made up of contributions from IBM
(Open Blockchain), Ripple (Ripple ledger and
Ripple NuDB), Digital Asset Holdings
(blockchain server), and Blockstream
(“elements”). Aims to support smart client
apps a la Ethereum.

12. The (BitCoin) scalability challenge
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If every peer has every transaction block from the very beginning, then is
this thing gonna scale?
Nope.
BitCoin Blocks are 1MB with 4000 txns
@ (current) 7 tps => 151 Blocks to transfer to nodes/day
@ global 70,000 tps => 1.5 million Blocks/day or 1.5TB/day data
This is too hard.
Transactions wouldn’t be instant.
Costs would force very high transaction fees.
You couldn’t do micropayments.
Seriously, does everyone in the world need to know I bought a coffee?
To scale, something’s gotta give.
BlockChain history thus far: >60GB

13. The BitCoin Lightening Network
Process some of the transactions off chain inside Payment Channels and provide a net settlement mechanism.
Payment channels enable commerce between two parties for a period of time with just the net position managed
on the BlockChain. It’s an example of a Smart Contract.
The involved parties open a payment channel – the information is stored on the BlockChain.
The involved parties operate the payment channel for a period of time.
The involved parties settle the net amount and close the channel on the BlockChain.
What Lightening Network does is follow the pattern of legacy financial systems. Managing the period of time to
clear net positions is just… clearing. We do it with inter-bank settlement each day. Clearing provides a managed
window for dispute resolution – credit card schemes like VISA have a particularly long dispute periods like 180 days.
In addition, proposals to groom/prune the

14. How do you govern a peer to peer network?
Developers Miners Users
BitCoin Foundation want 75% of miners to agree
BitCoin Classic – hey, what’s that cf BitCoin Core? You’re confused? I’m very confused!
BitCoin Core team want ‘near-universal agreement’
What’s required to implement a change to BitCoin?
China’s BitCoin community want 90% of the network hash-rate to agree
Who is Satoshi Nakamoto?”
Who controls Ethereum?
IMHO it all seems pretty unsatisfying at the
moment!

15. Smart contracts
What if, in the definition of a transaction, you could embed some rules?
Effectively some programs that define what you do with the transaction?
This is a smart contract.
Example,
errant car driver + Internet of
Things device + Smart Contracts
=> rapidly worsening insurance.

16. Digital rights and event management can
be simplified through smart contracts.
Micropayment for every action.
Pay just for what you use.
Meter ticks over when you take a ride or
watch some content.

17. What’s the smart contract end game?
What’s commerce really?
Isn’t it just about the execution of contracts?
AI + Smart Contracts + IoT
http://recode.net/2016/03/15/amazon-echo-the-invisible-platform/
http://www.theverge.com/2016/3/15/11213518/alphago-deepmind-go-match-5-result

18. Ethereum takes Smart Contracts into a generalised computing platform = Web3
Ethereum Virtual Machine
Turing complete ie general purpose computing
Contract defining languages: Solidity, serpent or LLL
Examples:
Create an Open auction
Create a Blind auction
Create your own digital currency (a la BitCoin)
Nightmare scenario: we replace CTO's and CEO's with machines and we get the same behaviours
capitalism with transnational companies but without any accountability. Decentralized autonomous
corporations pay no taxes, respect no environmental laws and instantly migrate to places where labour
laws are lax and humans are cheaper. They fund pirates and hire autonomous mercenary drones to
protect their fleets of drug trafficking autonomous submarines. Since robots aren't afraid of death, can't
be jailed and don't spend money on prostitutes and caviar, DACs soon outcompete all mafia bosses and
drug cartels lords.
https://www.reddit.com/r/ethereum/comments/2dxruc/can_someone_come_up_with_some_examples_on_how/

19. Example:
voting contract
Web3 refers to ‘the
decentralised web’.
On Ethereum there
are no web servers.
Everything is
decentralised.
Frontends have
HTML/Javascript
encoded UIs and the
backend is on the
blockchain.

20. Lending in a Web3 world
What’s the point of the blockchain again?
It’s a distributed database of connected information that is intrinsically accurate.
OK, what’s a loan contract? It’s a financial contract that varies over time between two or parties. The variation is
the result of rules related to:
Origination and
Repayment.
So we can use the blockchain to hold information from the time of prospect enquiry through to fulfilment to the
completion of repayment.
We could extend the blockchain out to associated parties like the lawyers and store documentation and of course…
get related party signatures.
Or, we can just remove the lawyers and the bankers…
If the blockchain and smart contract were broad enough to include information to wills/land registers/companies
office etc – then what point the bank?
Event risk modelling and estimation could simply be considered part of the smart contract.

21. Any other examples of potential use? Plenty…
Authenticating academic certificates - https://www.holbertonschool.com/faq
Voting processes such Denmark’s Liberal Alliance internal election process and West Virginia
University’s student body (interesting transcript).
Online music

22. What about the regulators?
http://www.theguardian.com/technology/2016/mar/14/facebook-google-whatsapp-plan-increase-encryption-fbi-apple
Regulators and cryptography aren’t a
match made in heaven.
The anonymity of BitCoin really does
make it a platform for crime.

23. https://www.cryptocoinsnews.com/report-two-venezuelans-arrested-mining-bitcoin/

24. So just what are the impacts on banking again?
1. We know BlockChains give us a mechanism to have accurate, transparent representations of ledgers. This will
remove cost in expensive payment processing eg international/wholesale and possibly equity trades.
2. We know there are scalability challenges but with Proof of Stake and off chain processing like the BitCoin
Lightening Network we can lift TPS up to retail volume.
3. We know that Ethereum is showing us a new approach to distributed applications – Web3 – which could enable
distributed, smart contracts.
4. We know that the smart contracts can be very smart – eg they could include risk model development and
execution.
5. Gosh, it really could be very big!