Blockchain technology is poised to permanently change the way payments are made – from micro-payments between just two people, to international banks transferring millions of dollars instantaneously. Using blockchain technology, the cost and time taken to complete transactions can be drastically reduced, no matter where in the world they take place.
In a blockchain-based payment system, every single party involved maintains a copy of the ledger on which all transactions are recorded. As each new block on the chain is mined by members of the network using cryptographic computer technology, the validity of all the transactions in that block are validated and every member in the network update their copy of the ledger. As all parties have an identical record of the transactions, the payment process is much more transparent, greatly reducing the possibility of a fraudulent transaction making it through the system.
Payment systems that use distributed ledger technology employ what is known as the consensus model to validate transactions. With the consensus model, everyone in the network has to agree that the ledger is correct. As a result, any incorrect or fraudulent transactions are easily identifiable and traceable – resulting in better security for the whole network.
This model is also known as the distributed trust model. Unlike current payment systems used across the world, no central authority is entrusted to validate transactions. Instead, trust is distributed between all members of the network. For a more detailed explanation of how these systems work, we recommend that you read our previous articles on blockchain and cryptocurrencies. This distribution of trust is how efficiency is increased. Payments no longer have to go through a centralized bottleneck to be validated, therefore will no longer need a trusted middle-man between the payer and the payee in a payment transaction.
Big financial institutions, such as central banks and international banking groups, are currently competing to roll out blockchain-based payment systems so they can streamline their payments processes and reap the rewards of increased efficiency. The current systems used to facilitate international payments typically involve many steps, several currencies and often several intermediaries. As a result, transactions can take several days to finalize, with almost no transparency of the transaction status. They are also more prone to error and subject to high fees. This is especially common in emerging economies where the banking system is comparatively less developed.
Many large financial institutions are experimenting with private blockchains. Unlike public blockchains, where anyone can participate simply by downloading the ledger and joining the network, these private blockchains consist of a network of the various global bank offices and other partners in their payment processes. This way, they can realise the efficiency gains made possible by blockchain without having to make their ledger public and thus protect the privacy and security of their customers.
The Bank of England provides a good example of a central bank experimenting with cryptocurrency with its recently unveiled RSCoin. RSCoin is a cryptocurrency which uses encryption for increased security, allowing for international payments to be sped up and reduces their cost at the same time. Cryptocurrencies like this could soon disrupt the international banking industry by increasing competition between banks and international payment companies, which currently use online-only platforms. This will result in reduced fees and clearance periods for international payments.
Another example of disruption in the payments industry is Ripple and its cryptocurrency XRP. XRP acts as both a cryptocurrency and a digital payment network which facilitates cross borders financial transactions. XRP is designed to streamline inter-bank transactions has become a popular alternative option for larger financial institutions.
Ripple’s blockchain is called RippleNet and it provides several ways to facilitate cross-border payments. xCurrent is a payment processing system specifically for banks. xRapid allows financial institutions to minimize liquidity cost by using XRP as a bridge between different fiat currencies. xVia allows businesses to send payments using RippleNet.
Despite being classified as cryptocurrencies, Ripple and XRP is quite different from the public ledger-based Bitcoin. Bitcoin aims to create a totally new financial system that is free of centralized control whereas Ripple seeks to assist existing financial systems and increase the efficiency of their cross-border transactions by creating a digital token to help with asset transfers.
Group Santander is another huge international banking group that is pioneering the implementation of blockchain technology. Santander has recently rolled out its One Pay FX payment system that is designed to streamline payments between countries in South America and Europe by the use of distributed ledger technology.
While there are many examples of cryptocurrencies making inroads in the payments industry, blockchain technology must first work alongside existing payment processing infrastructure in order to truly be successful. This will increase support for real-time, any-to-any payments and in turn trigger the mass adoption of these new technologies.
Another important factor to pave the way for mass adoption is the creation of global regulations and standards for cryptocurrency payments. At the moment, different countries have different approaches to cryptocurrencies which can complicate what should be a simple process. By coming to an international agreement cryptocurrency standards, trade between countries stands to reap significant benefits from faster and safer international transactions.
Once these hurdles are jumped, it seems likely that blockchain will become the dominant technology used for international payments. While many traditional payments companies may lose out in this process, we hope that the consumer masses will emerge as the winner with lower fees and shorter transaction times.