Banks and blockchain: opportunity or death blow?

Banks and blockchain: opportunity or death blow?

For the vast majority of banks, it is 5 to 12. This is more true for European financial institutions than for any others. Besides dwindling interest margins, low equity ratios and high macroeconomic risks, it is the outdated IT infrastructures and lack of innovation that are causing concern about long-term viability. What measures are needed to Crypto Revolt increase the likelihood of survival and what role blockchain technology plays in this.

To prevent a break-up of the European economy and state bankruptcies, the European Central Bank is forced to keep interest rates down – or at least ensure a negative real interest rate. In this way, the ECB is not only provoking an investment emergency, as there are hardly any positive-interest government bonds left, but is also squeezing the interest margin of credit institutions. Above all, savings banks and Volksbanks, which often generate more than three quarters of their income by granting loans, are increasingly being deprived of the basis for their business.

But even private banks such as Commerzbank or Deutsche Bank find it difficult to compensate for a declining interest margin through other lines of business such as the securities business. Especially since the margins here are also coming under increasing pressure. This is due to increasingly low-margin financial products such as ETFs, increasing competition from the FinTech sector or the bond business, which is yielding less and less interest. Large-scale job cuts are the result.

If macroeconomic turbulence is added to this, causing high loan defaults, then the already low equity ratio of many institutions quickly reaches its limits. But the situation is not only serious from a macroeconomic perspective.

Technical change: more of a cliché than an understanding

Many banks still do not seem to realise that they are facing the biggest structural change of all times. What the internet did to the music industry or publishing is now threatening the financial sector. Instead of being about the pure information and communication layer, as has been the case so far in the internet economy, it is now about new infrastructures for our money and assets.

Specifically, the three most important core functions of a bank are affected: Payments, Credit and Custody. This is followed by other functions such as the securities business, whose infrastructures will also be fundamentally transformed in this decade.

E-Euro and Facebook’s Diem need new infrastructures

Specifically, with the conversion to digital central bank money, the infrastructure will also be adapted to the new medium of tokens. Both a digital euro in the sense of a Central Bank Digital Currency (CBDC) and in private form through a stablecoin must then be embedded in new and programmable infrastructures. Every bank has to cope with blockchain-like infrastructures – even if they have little to do with an open blockchain à la Bitcoin. Be it for payment transactions or the credit and securities business.

Finally, this changeover also requires a move away from the previous requirement for certificates. Fewer and fewer securities will still be processed via the old infrastructure in the coming years.

Are our authorities more innovative than our banks?

Only in December, the federal government took a first step with its law on electronic securities. As early as the first quarter of 2021, fully digital debt securities should be exchanged via tokens and blockchain registers, even before the law. In the long term, this means that the securities account of the future will also need a wallet function to be able to hold digital securities (security tokens). Equivalent conversions through token-based dematerialisation and automation, in which smart contracts replace manual processes, are only a matter of time. A small study by the FinTechs Finoa and Cashlink had already shown how large the savings potentials are.

With the increasing regulatory framework conditions, the way is being cleared for a token- and blockchain-based financial economy. Currently, it does not look like the current market shares will remain with the previously dominant banks. There are individual payment pilots with stablecoins and at Commerzbank, part of the securities settlement takes place via a distributed ledger infrastructure. But this is not enough to keep up with the innovation dynamics from the FinTechs or blockchain sector.

New business models for banks, without ifs and buts

One consequence of this technological transformation process is new business models. Be it the staking of cryptocurrencies or the digital securities issuance of small and medium-sized enterprises (SMEs). Every universal bank that is serious about digital innovation – meaning more than cool innovation hubs in Berlin – should already have blockchain projects for each of the core areas of a bank mentioned, at least in cooperation with a FinTech.

Just as Deutsche Telekom is already experimenting with staking, Deutsche Bank must also ask itself how staking can complement the investment business and how the corporate client business can open up new sources of income through the tokenisation of GmbH shares. Even if staking and tokenisation are still practically irrelevant economically in 2021, there is every indication that this will change in this decade. The same applies to so-called crypto lending, i.e. decentralised loans, whose volume is also still irrelevant, but which could also change in the next few years.

Everyone should bear in mind the development of Bitcoin, which was also economically insignificant and infrastructurally untapped just a few years ago. Today, on the other hand, it has carved out a place for itself in the traditional financial market. The newer crypto phenomena such as staking or crypto-lending are where Bitcoin was a few years ago, in 2013 or 2014.

Central meets decentralised

In addition to the classic CeFi offerings, i.e. financial services that are provided centrally by an intermediary, the DeFi sector will also evolve. These decentrally organised financial services will not replace the centrally organised banking business in the near future, but they will complement it. In concrete terms, it can be expected that market shares will be transferred to decentralised financial protocols.

If there were a certain willingness to disrupt, then banks could also develop their own decentralised protocols in order to help shape standards and participate in the new value creation infrastructure. Even at the risk of attacking one’s own value chains, this proactive addition to the existing business would massively increase the probability of future survival. A fusion is taking place between traditional banking and the crypto-economy. The sooner a bank understands this, the sooner it should be able to maintain its market share and save jobs.

Banks and blockchain: opportunity or death blow?
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