A recent issue of The Economist included a special report on cryptocurrencies and blockchains. The Economist’s overall conclusion was that “Bitcoin has been a failure as a means of payment, but thrilling for speculators.” Its assessment of blockchain was somewhat more positive. “For blockchains, the jury is still out,… For all the technology’s potential, though, most attempts to use it remain tentative,… The advantages of blockchains are often oversold.”
In 2016, blockchain made the list of the World Economic Forum’s Top Ten Emerging Technologies. That same year, blockchain also made its first appearance in Gartner’s yearly hype cycles. Even The Economist has been guilty of overselling when it featured blockchain in the cover of its October 31, 2015 issue with the tag line “The Trust Machine: How the technology behind Bitcoin could change the world.”
Is there too much hype surrounding blockchain? Absolutely,… but not surprising. All potentially transformative technologies are oversold in their early stages. Remember the dot-com bubble of the late 1990s. Blockchain is still in its early phases of experimentation and adoption. Much work remains to be done on standards, platforms, interoperability, applications and governance.
But, does blockchain have the potential to become a truly transformative technology over time? Yes, said McKinsey in a recent article on the strategic value of blockchain beyond the hype. The article starts out by acknowledging that all the hype around blockchain makes it difficult to nail down not just blockchain's long term strategic value, but also what it actually is and what it isn’t in the present. To make sure everyone is on the same page, the article first recaps what it calls “the nuts and bolts of blockchain.” Let me start by summarizing blockchain’s nuts and bolts.
What is blockchain?
- A distributed database or ledger that is shared by participants in an ecosystem over a public or private computing network.
- Every piece of information in the ledger is secure because it’s encrypted using public-key cryptography, which can only be decrypted with the appropriate private key.
- Each participant in the network has an identical copy of the ledger in their computer; its contents are only available to those with the proper private/public keys.
- New information can only be added to a blockchain; it cannot be removed or overwritten, thus creating a perfect audit history of all the transactions in a ledger.
- Various consensus protocols are used to validate a new block among ecosystem participants before it can be added to the ledger.
- Ledgers can include smart contracts, that is programs automatically triggered when a set of pre-specified conditions are met.
Common blockchain myths and misconceptions
Blockchain and bitcoin are the same thing. Blockchain was created a decade ago as the public transaction ledger for Bitcoin. Bitcoin was the first application supported by blockchains, but there are now many others.
Blockchain is better/worse than traditional databases. Blockchain enables the members of an ecosystem to securely share data even if all the members are not fully trusted. But there are significant drawbacks, including performance and complexity. Whether blockchain is right for a particular solution depends on the trade-offs between its benefits and drawbacks.
Blockchain is 100% secure and tamper-proof. In principle, a blockchain could be tampered if there was a consensus among its members to do so, - hopefully, a very, very rare occurrence if the ecosystem participants are carefully vetted and if the consensus protocols are properly established. While the basic blockchain infrastructure is very secure, adjacent applications have been attacked and breached.
Blockchain is a “truth machine”. Garbage in, garbage out. Blockchain is just a means to securely share the data stored in it. As is the case with any other data base, blockchain by itself cannot vouch whether the data entered is actually correct and truthful.
Key blockchain use cases
Blockchain use cases fall into two fundamental categories: record keeping, - static registries of data about highly valuable assets; and transactions, - dynamic registries of the exchange of tradeable assets.
Record keeping use cases include the long term safeguarding of data on valuable physical and digital assets, - e.g., land and house titles, patents, diamond origins; keeping track of important, identity-related information about individuals, - e.g., births, marriages, divorces, deaths, voter registration, driver licenses, passports; and executable smart contracts based on pre-defined conditions, - e.g., insurance-claim payments, music license fees.
Transaction use cases include keeping track of data about frequently exchanged assets, - e.g., supply chain information, financial trades, investments; near-real-time digital payments, - e.g., payment reconciliations among banks, peer-to-peer payments, cross-border payments; and emerging digital assets, - e.g., cybercurrencies, initial coin offerings.
Strategic value of blockchain
McKinsey’s analysis of over 90 discrete use cases across 14 major industries revealed three core insights about the strategic value of blockchain.
Blockchain does not need to be a disintermediator to generate value
The disintermediation of public and financial institutions was indeed the original objective of Bitcoin and bitcoin’s blockchain. But, bitcoin’s public, permissionless blockchain is just one kind of blockchain architecture, one with no central authority, where anyone can join, read, write and commit. Permissionless blockchains are hosted on public servers, are anonymous and highly resilient, but suffer from low scalability and high energy usage due to their use of proof of work or proof of stake protocols.
Most business use cases are based on private, permissioned blockchains, which are hosted on private servers and networks, and only authorized participants can join as well as control what data is shared, with whom and when.
As was the case with the Internet and World Wide Web a few decades ago, a major part of the excitement about blockchains is that once more, we are developing a potentially transformative platform based on open standards. Blockchain protocols could become the universally agreed open standards for trusted records, transactions and identity management among companies, governments, and individuals.
In the short term, blockchain’s strategic value is mainly in cost reduction
Over time, blockchain technologies will enable transformative business models and new revenue streams. But its initial impact will be to predominately drive operational efficiencies and reduce the costs and complexity in the interactions among institutions doing business with each other around the world, such as record keeping and transaction reconciliation. Supply chain management, financial services, government and healthcare are likely to capture the greatest value in the near term.
“One of the most promising and transformative use cases is the creation of a distributed, secure digital identity - for both consumer identity and the commercial know-your-customer process - and the services associated with it. However, the new business models this would create are a longer-term possibility due to current feasibility constraints.”
Feasibility at scale is likely to be three to five years away
According to McKinsey, the feasibility of deploying a blockchain solution at scale is dependent on four key factors:
- Common standards are essential, - this is a major limitation in blockchain’s ability to scale.
- Technology must advance, - blockchain’s relative immaturity limits its current viability.
- Assets must be capable of being digitized, - this is critical for improving record keeping or transacting via blockchain; for physical assets, it requires enabling technologies like IoT and biometrics.
- The coopetition paradox must be resolved, - “Blockchain’s major advantage is the network effect, but while the potential benefits increase with the size of the network, so does the coordination complexity.”
Finally, the report recommends that companies follow a structured, disciplined approach in implementing blockchain strategies:
Focus on specific, promising use cases. “Identify value by pragmatically and skeptically assessing impact and feasibility at a granular level and focusing on addressing true pain points with specific use cases within select industries.”
Optimize blockchain strategy based on market position. “Capture value by tailoring strategic approaches to blockchain to their market position, with consideration of measures such as ability to shape the ecosystem, establish standards, and address regulatory barriers.”