Building Blocks of Future
Blockchain has been a fascinating technology for finance enthusiasts worldwide, having emerged in 2009 as the distributed, decentralized digital ledger underpinning the widely controversial cryptocurrency Bitcoin and recording transactions in an immutable way. It simply requires an individual, or a machine to register as a member of a blockchain, which can either be public, to then transact with other members registered to the blockchain.
Computers, or nodes, on the blockchain’s peer-to-peer network, verify each transaction, using the same consensus algorithm, to agree that each transaction is true and valid. Only the verified transactions are then added to other transactions to create a new block of data that is added to the existing chain of blocks, which creates a permanent data entry in the digital ledger.
This digital ledger is immutable, meaning no one can change it, and it is shared with all members at all times and, if the blockchain is public, anyone can become a member. From the time of the initial concept, automated code-based processes known as smart contracts have been created, which can interact with and update the data on the ledger without direct human intervention.
Using Blockchain to Cut Trade Costs
Despite the advancement in technology, modern commodity trading still relies heavily on manual, cross-checked, paper-based administrative tasks to process individual trades through settlement and delivery. But distributed ledger technologies like blockchain hold the potential to change the manual processes forever.
The question of whether blockchain will change the way corporations do business has already been answered by global giants such as British Petroleum (BP). BP is also a founding partner of London based consortium Vakt, which is developing a blockchain-based platform for post-trade processing that is intended to eliminate paper, improve efficiency and transform trade finance options. Currently, the consortium is focusing on oil to start with. Vakt’s ambition after its initial markets is to scale up and enter other markets, like Singapore, the rest of Asia, the Middle East and US natural gas.
Where can Blockchain Add Value
Blockchain is expected to impact the following avenues of trading process mostly if widely implemented:
Accessibility: Blockchain’s storing of data in an encrypted, digital distribution ledger means that the data can be accessed by every party in the blockchain.
Scalability: As enterprises grow, the blockchain employed can be scaled up or down based on the number of parties involved, without the need to increase any paperwork, thereby improving the system’s efficiency.
Digital verification: Blockchain allows the implementation of electronic know-your-customer (e-KYC) activities for the parties involved, which helps detect potential red flags.
Security: The use of cryptography and key-based encryption means it is impossible to tamper with the documents and contracts within the blockchain.
Ease of regulatory validation: Blockchain allows relevant regulators the access to verify processes at every step of the transaction.
Blockchain Enabling Prosumer Power
Remember the days when we could borrow a cup of sugar from our neighbor whenever required? Now imagine if we could buy or sell small amounts of sugar to our neighbor whenever the need arises. Such peer-to-peer micro-transactions may well be the future of exchanges in energy trading, enabled by blockchain. The global push to cut carbon has helped distributed energy resources like solar and wind to grow rapidly, reducing dependence on large-scale, fossil fuel power generation.
Environmentally conscious prosumers with smart meters, rooftop solar PV installations, backyard wind farms or battery storage placed within a smart technology-driven microgrid are emerging as the newest market players. Smart microgrids are scaled-down versions of a traditional power network but differ in their objectives. The microgrid is able to operate autonomously – off-grid – or in parallel to the larger network it connects to, creating a community energy system, similar to the traditional blockchain.
Such transactive energy systems look to integrate locally-sourced renewables more effectively, increase efficiency and grid reliability, cut carbon emissions and encourage end-user participation with smart energy meters and apps.
In principle, microgrids have the potential to disrupt utilities’ traditional business model for supplying small end-users, which is often based on static pricing with infrequent billing. They also change the environment for the existing distribution system operators, who manage the physical flows to the end-user.
Singapore has emerged as a strategic base for digital startups in Asia, and several of these are developing blockchain platforms popularly for energy and commodity businesses.
Singapore – The Strategic Leader in Trading Blockchain
Digital startups see opportunity in Singapore’s position as the largest trading hub in Asia as well as the lack of digitization in physical commodities trading, a business that has not changed in decades, as some shippers still fax bills of lading to each other.
When Singapore decided to deregulate its power sector and introduce electricity trading on its stock exchange, it was one of the first countries in Asia to do so. Most other Asian countries still operate government-controlled power utilities and grids.
Businesses in Singapore can already pick their source of electricity supply from a laundry list of retailers, and, by the end of 2018, small consumers like households will also be able to do so.
The problem is that there is no common platform where this can be done. But Electrify, a local startup which uses Blockchain, raised $30 million through initial coin offerings to create an online marketplace for buying electricity, and executing the trade through smart contracts.
Electrify’s blockchain platform for small-scale peer-to-peer power trading is called Synergy. Using blockchain introduces security and transparency, automates the contracting and settlement process, and cuts transaction times and service costs by as much as 30% according to the company’s CEO.
Blockchain’s Reality Check
Probably the biggest challenge facing all industry-level blockchain trading projects is simply achieving the critical mass of participation needed to make using a new system commercially viable. Companies that already have procedures in place – however inefficient – will not save money if they start using parallel systems, and yet they are unlikely to commit large volumes to a new system until they are confident it works and enough of their counterparties are on it. Without critical mass, costs per transaction will be higher and efficiency gains limited.
Another risk identified by European power industry association Eurelectric is that a blockchain’s security remains unproven until it is big enough to be worth trying to hack. So while scaling up improves the efficiency and viability of a project, it may also increase its risk of attack. Similarly, a key concern lies in the privacy of the data involved. Most, if not all, of the commodity blockchains being trialed, are private, permissioned distributed ledgers. Participants on these blockchain’s need permission to join, typically from the consortium or companies that set them up.
This makes sense in an industry where competitive advantage often lies in being able to exploit price arbitrages over product specifications, location and time. Corporations don’t want your suppliers or buyers, let alone their competitors, to have access to transaction data that can be used to uncover their trading strategies.
But while a big part of the blockchain mantra is that it is a secure system, companies may need a lot of reassurance before transferring their confidential trade data on to a blockchain platform in viably large quantities, to perhaps allow the platform to reach its full potential.