Why Blockchain Is Redefining Payments for Midsize, Community Banks

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In the weeks following Silicon Valley Bank’s downfall, the 25 largest U.S. banks experienced a $120 billion increase in deposits, according to the Federal Reserve. Meanwhile, the nation’s midsize and community banks saw deposits fall by over $108 billion during the same time period. This represented the largest weekly decline of non-megabank deposits in history and set a perilous precedent for the health of the nation’s economic engine.

Unlike megabanks, midsize and community banks are people-centric and largely focus on empowering their local communities. The collapse of Silicon Valley Bank and Signature Bank has left pressing questions for businesses everywhere: Are community and regional banks in danger of becoming obsolete? Will the future be dominated by a handful of global institutions that are unresponsive to the needs of America’s entrepreneurs and small business community?

Smaller banking’s decline is not just limited to March: Community banks’ share in total lending and assets fell by 40% between 1994 and 2015, according to a 2015 paper; the country has lost over 9,000 smaller banks since 1993. For local communities, losing a community bank often means losing access to credit for that first-time small business or aspiring entrepreneur.

In times of crisis, it is often the community and regional banks, not the megabanks, that serve the vast majority of American businesses. During the coronavirus pandemic, community banks supplied a disproportionate share of Paycheck Protection Program loans, despite having budgets that pale in comparison to those held by the largest financial institutions. Additionally, they provide pivotal working capital to American businesses: community banks are responsible for 60% of all small-business loans and more than 80% of farm loans.

While America’s largest banks continue to dominate the market, the country’s smaller banking institutions are left with few options to compete with gargantuan research and development  budgets at megabanks.

While community banks are spending more to build out technological capabilities — as evidenced by cybersecurity and contactless digital payments growing by a median increase of 11% in 2021 — there is still a key technology that can transform their commercial banking capabilities and provide them with a competitive advantage versus the megabanks: private permissioned blockchain.

Private permissioned blockchain solutions operate in sharp contrast to traditional payments platforms, which are limited by high transfer fees, transaction size limits, 9-to-5 hours of operation and lengthy time delays. Payments made using private blockchain, on the other hand, enable community banks to offer their corporate clients secure, instantaneous transactions around the clock and at a fraction of the cost. This technology also enables banks to provide customized payments and financial services for every industry and for businesses of all sizes.

Fraud and regulatory efficiency are also key factors for banks to consider. Fraud losses cost banks billions of dollars every year, with a multiple of that figure spent preventing, investigating and remediating fraud. These costs are growing rapidly, and community banks lack the resources of the megabanks to address this growing issue.

In contrast, private permissioned blockchains are only accessible to authorized users, resulting in a dramatic reduction in fraud incidence, which correspondingly reduces the costs to prevent and respond to fraud cases. Critically important for smaller banks, private blockchain are also not expensive to implement and can be installed swiftly and efficiently on existing legacy core banking platforms.

Offering corporate clients a secure, efficient and customized payments and financial solutions 24 hours a day using private permissioned blockchain gives community banks the ability to capitalize on their key competitive advantage: close proximity to small businesses.

Business-to-business, or B2B, payments continue to hold a wealth of promise for community banks. Experts estimate that over 40% of all B2B payments are still conducted through paper checks, creating glaring inefficiencies and security issues plaguing community banks already struggling to compete.

One solution to close the gap between large banks and community banks is implementing emerging technologies that level the playing field without investing enormous amounts of capital to overhaul their entire tech stacks.

We are at a crossroads in U.S. financial history; the future of the country’s midsize and community banks hangs in the balance. Technology has proven to be the great equalizer, especially during periods of economic distress and financial uncertainty. Private permissioned blockchain adoption offers a lifeline that community banks desperately need in order to survive and prosper.

Opportunities — and Questions — Abound With Blockchain

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Blockchain technology could add almost $2 trillion in gross domestic product to the global economy — and $407 billion in the U.S. — by the end of the decade, according to a 2020 PwC study. The digital ledger’s potential to build efficiencies, speed and trust isn’t limited to the banking industry, with PwC identifying five broad areas for transformation across various sectors, including improvements to supply chains, identity management to counteract fraud and faster, more efficient payments.

An increasing number of banks, large and small, are exploring opportunities for their institutions in a blockchain-based world. I focused on how two banks are using blockchain to build a payments niche in the third quarter 2022 issue of Bank Director magazine. New York-based Signature Bank launched a blockchain-based payments platform, Signet, in 2019. The $116 billion bank collaborated with Tassat Group on the initiative. Now, Tassat works with banks such as $19 billion Customers Bancorp, in Reading, Pennsylvania, to deliver payments services to commercial clients via a private blockchain. 

Another group of banks has taken a more collaborative approach, launching the USDF Consortium in January 2022. The five founding banks include $7 billion NBH Bank, the Greenwood Village, Colorado-based subsidiary of National Bank Holdings Corp., and $57 billion Synovus Financial Corp. in Columbus, Georgia, along with the blockchain technology company Figure Technologies and the investment fund JAM FINTOP. The group wants to make the industry more competitive with an interoperable, bank-minted stablecoin, a digital currency that’s pegged, one-to-one, to fiat currency or another physical asset.

Rob Morgan, who recently took the helm at USDF after leading innovation and strategy at the American Bankers Association, says that the banks are working together to answer key, competitive questions. These include philosophical ones, such as: “What is a bank’s role in a digital, tokenized economy?” They’re also answering questions specific to blockchain, including how can banks use a technology that has fueled the rise of cryptocurrency and apply it to traditional financial products? 

Creating a more efficient, faster payments system looks like the logical first step for these organizations, but other use cases could run the gamut from building better loan and identity verification processes to conform with know your customer and anti-money laundering rules. 

Given the nascency of blockchain applications, bank regulators are still getting up to speed. “From a legal and regulatory standpoint, [we are] working with the regulators to get them comfortable with this technology,” says Morgan. “Broadly, we have seen a changing posture toward cryptocurrencies for the regulatory agencies,” citing communications from the Comptroller of the Currency and the Federal Deposit Insurance Corp. that underscore expectations that banks work with their regulators before engaging in activity related to digital assets, including stablecoins. “We’re working really closely with the regulatory agencies,” says Morgan, to “make sure that they are totally comfortable with what we’re doing before moving forward and making these products live.”

For banks considering blockchain initiatives, Rachael Craven, counsel at Hunton Andrews Kurth, emphasizes the need for robust business continuity and incident response plans, as well as recovery protocols. “As with any emerging technology, operational failures, cyberattacks … should definitely be things that stay top of mind for banks,” she says. And working with a third party doesn’t let a bank off the hook for a compliance snafu. “Banks ultimately own the risks associated with any regulatory or compliance failures,” she says.

One potential murky area tied to blockchain centers around the technology’s immutability: Once the transaction data — or block — is added, it can’t be amended or reversed. Erin Fonté, who co-chairs Hunton’s financial institutions corporate and regulatory practice, sees potential conflicts with consumer protections under Regulation E, which governs electronic transfers of money via debit card, ATM or other means. “There’s nothing in Regulation E that exempts cryptocurrency transactions,” says Fonté. “You cannot forget the applicability of existing regulations to potential crypto or blockchain transactions.” 

Sara Krople, a partner at Crowe LLP, recommends that banks consider their current competitive strengths and strategic goals when discussing potential opportunities and risks with blockchain. Signature Bank started its Signet platform after consulting with its commercial client base; Customers Bancorp was pursuing a competitive moat with its niche serving companies in the digital assets sector. “Make sure it makes sense for you strategically and that you’ve thought through the risks,” Krople says. Many banks will partner with blockchain vendors, as Signature and Customers did. Banks should examine the controls and processes they’ll need, and determine whether they’re comfortable with the risk. 

Krople adds that banks should also identify one or more internal stakeholders who can take ownership for blockchain and bring the organization up to speed on its potential. Before Customers Bancorp launched its Customers Bank Instant Token [CBIT] platform, it formed an employee-level committee that spent months reviewing the associated risks. That resulted in a “best in class BSA review process” that provides speedy onboarding for clients while also ensuring the safety of the bank, according to Chris Smalley, the bank’s managing director of digital banking. 

Legal, risk and compliance processes should meet the needs of the emerging technology, says Krople. Among the questions banks should consider, she says: “Who’s going to monitor it for security? How do you know the transactions are process[ed] the way they’re supposed to? Who’s reading the smart contracts for you? You need somebody to be able to do those things.” 

A bank’s needs will differ by use case, Krople adds. “There’s a huge amount of opportunity, but you need to make sure people have thought through all the steps you need to implement a process.”

The Future of Banking: Crypto, Blockchain and Fintech

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banking-4-17-19.pngInscribed in the first block of the first blockchain ever created are the words: “The Times 03/Jan/2009 Chancellor on brink of second bailout for banks,” referring to the London newspaper’s lead story of the day.

This edition of the newspaper is now one of the most valuable crypto collectibles to date. It’s hard to deny the symbolism in the covert message encoded into the genesis block of the bitcoin blockchain.

That message signals problems in our modern fiat financial system while introducing a novel system that replaces centralized institutional trust with a system relying on decentralized cryptographic trust.

Today, bitcoin has celebrated its 10th birthday, despite critics predicting its doom since its inception. With bitcoin came another suite of technologies collectively known as blockchain.

Despite the actual word “blockchain” not appearing in the original white paper published under the pseudonym Satoshi Nakamoto in October 2008, it has undoubtedly become one of the most talked about buzzwords in technology and banking, as well as the larger world of finance.

Blockchain is generally considered to be a subcategory of distributed ledger technology (DLT), referring to its distributed architecture in which there is no central point of attack, making it less vulnerable to hacks, fraud and manipulation.

A quick online search of the word “blockchain” will yield a wide array of differing definitions, because there is currently no universally recognized definition—something the International Standards Association is working toward. One way to define blockchain is as a shared ledger designed to produce immutable records through cryptographic techniques that facilitate the processing of transactions and tracking of assets.

Part of what makes blockchain so attractive is that it’s considered a general purpose technology, according to the Massachusetts Institute of Technology, with many potential applications across industry verticals.

The primary application for the technology thus far has been within financial services—specifically, payments.

Banking on Blockchain
A study performed by Accenture found nine out of 10 banking executives saying their bank is exploring the use of blockchain in payments, the most prevalent use being cross-border transfers.

But reaping the promised benefits of blockchain will require “fostering an uncommon coordination among banks,” according to Accenture’s study. The value is in the network—in collaboration. Examples of these interoperable networks between banks and corporations globally are using private enterprise blockchains, or DLT, like R3’s Corda platform and Hyperledger fabric.

Major benefits from blockchain include lower administrative costs and shorter settlement times. One bank that has sought to offer these benefits to its clients by leveraging blockchain technology is Signature Bank. The New York-based commercial bank launched its own blockchain-based platform for real-time, 24/7 payments on Jan. 1, 2019.

Signature’s platform is interesting, considering some alternatives can take several days to clear and can be unavailable on weekends, for instance.

While many of the largest banks in the U.S. may be exploring blockchain and distributed ledger technologies, and filing a litany of patents, cryptocurrency is listed as both a risk and competitive threat in some of their annual reports. Meanwhile, forward-looking community banks have embraced cryptocurrencies and seen their balance sheets improve with it, such as San Diego, California-based Silvergate Bank.

“The Times They Are A-Changin”
Cryptocurrency is only one of many risks cited in the annual reports of major banks.
The rise in the number and nature of fintech firms has brought an explosion of innovation and competition.

Since the financial crisis, younger generations are growing up without the same relationship with banks that their parents and grandparents had, which has helped propel the growth of fintech companies focused on convenience and customized digital experiences.

This has paved the way for many fintech startups to excel in the financial services market. These companies are disrupting the status quo by providing a user experience that quickly adapts to the needs and desires of their customers.

With the genesis of bitcoin and blockchain, and the explosion in fintech, one thing is certain. In the words of Bob Dylan, the times they are a-changin’. And they’re changing in financial services on an unprecedented scale.

What Are The Real Risks Of Blockchain?

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blockchain-2-25-19.pngIn the landscape of innovative disruption, the public’s attention is often focused on bitcoin’s impact on financing and investment options. However, it is important to understand that blockchain, the underlying technology often conflated with bitcoin, carries an even greater potential to disrupt many industries worldwide.

The attraction of blockchain technology is its promise to provide an immutable digital ledger of transactions. As such, it is this underlying technology—an open, distributed ledger—that makes monetary and other transactions work.

These transactions can include bitcoin, but they may also include records of ownership, marriage certificates and other instances where the order and permanence of the transaction is important. A blockchain is a secure, permanent record of each transaction that cannot be reversed.

But with all the positive hype about its potential implications, what are the risks to banks?

The Risk With Fintech
One of the most disruptive effects of blockchain will be in financial services. Between building cryptocurrency exchanges and writing digital assets to a blockchain, the innovation that is occurring today will have a lasting effect on the industry.

One of the principles of blockchain technology is the removal of intermediaries. In fintech, the primary intermediary is a bank or other financially regulated entity. If blockchain becomes used widely, that could pose a risk for banks because the regulatory body that works to protect the consumer with regulatory requirements is taken out of the equation.

This disintermediation has a dramatic effect on how fintech companies build their products, and ultimately requires them to take on a greater regulatory burden.

The Risk With Compliance
The first regulatory burden to consider concerns an often-forgotten practice that banks perform on a daily basis known as KYC, or Know Your Customer. Every bank must follow anti-money laundering (AML) laws and regulations to help limit the risk of being conduits to launder money or fund terrorism.

Remove the bank intermediary, however, and this important process now must occur before allowing customers to use the platform.

While some banks may choose to outsource this to a third party, it is critical to remember that while a third party can perform the process, the institution still owns the risk.

There are a myriad of regulations that should be considered as the technology is designed. The General Data Protection Regulation (GDPR), the European Union’s online privacy law, is a good example of how regulations apply differently on a blockchain.

One of the GDPR rules is the so-called right to be forgotten. Since transactions are immutable and cannot be erased or edited, companies need to ensure that data they write to a blockchain doesn’t violate these regulatory frameworks.

Finally, while blockchains are sometimes considered “self-auditing,” that does not mean the role of an auditor disappears.

For example, revenue recorded on a blockchain can support a financial statement or balance sheet audit. While there is assurance that the number recorded has not been modified, auditors still need to understand and validate how revenue is recognized.

What’s Ahead
The use of blockchain technology has the potential to generate great disruption in the marketplace. Successful implementation will come to those who consider the risks up front while embracing the existing regulatory framework.

There has already been massive innovation, and this is only the beginning of a massive journey of change.

How And Where Blockchain Fits in Traditional Banking

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blockchain-12-26-18.pngMany banks haven’t found an efficient way to deal with issues like payment clearing inefficiencies, consumer fraud, and the general limitations of fiat currencies.

Blockchain, however, may be the go-to solution for many of these challenges.

Issues Traditional Banks Face Today
Traditional banks and financial institutions have faced some challenges for decades, but we have yet to see the technical innovations to mitigate or eliminate them, including inefficient payment clearing processes, fraud and currency options.

Inefficient Payment Clearing Processes
One of the biggest roadblocks that banks face today is how to quickly clear payments while complying with regulatory procedures. The number of payment clearing options available in 2018, is not different from the options available in 2008 – a decade ago.

In the U.S., for example, same-day ACH is likely considered to be the biggest improvement during this decade. Only in recent years have cross-border fintech applications emerged that reduce payment clearing costs and wait times. For the most part, we are still stuck with old architectures that lack innovation, efficiency and the data to make a meaningful impact on money laundering and fraud reduction.

Inability to Stop Fraud
Fraud has always been notoriously difficult to stop. Unfortunately, this remains the case even today. Fraud costs are so high in the US, that interchange fees paid by merchants are some of the highest in the world. Despite an increase of available identity fraud detection systems, banks are still unable to make a material improvement in fraud reduction.

For banks, this leads to financial losses in cases where funds are paid to the fraud victim. For customers, this can reduce trust in the bank. For merchants, it means higher fees for facilities, which creates higher costs for customers. Additionally, customers often wait to receive a new bank card. In 2017 alone, the cost the data lost to identity theft totaled $16.8 billion.

Limited Number of Currency Options
Fiat currencies are limited by geography and slim competition.

When we think about fiat currency around the globe, we have seen a steady move towards standardization. This presents risks for banks and consumers. For example, a heavy reliance upon a single national currency relies upon factors like economic growth and monetary policy.

Twenty-eight nations have experienced hyperinflation during the past 25 years. Not only did banks fail in some cases, but entire economies collapsed. Because there were no currency choices, the problem could not be easily avoided.

This process continues to happen in many locations globally.

Benefits of Blockchain Over Traditional Systems
There are ways blockchain can reduce or eliminate these issues for financial institutions.

More Efficient Approval Systems
When compared to traditional payment approval processes, many blockchains are already more efficient. Instead of waiting days for payments to go through clearinghouses, a well-designed blockchain can complete the verification process in minutes or seconds. More importantly, blockchain also offers a more transparent and immutable option.

With innovations like KYC (Know Your Customer) and KYT (Know Your Transaction) transactions conducted via blockchain, banks can be more capable of preventing finance-related crimes. This means traditional finance can more effectively comply with laws for AML (Anti-Money Laundering), ATF and more.

In addition, legitimate transactions can be approved at a lower cost.

No More Fraud
While fraud seems like a pervasive issue in society, this can be reduced using technology. Blockchain can change how people prove identity and access services.

Instead of having to wait to stop a case of fraud, blockchain can stop transactions before they ever occur. The Ivy Network will have smart contracts which will allow banks and financial institutions to review a transaction and supporting KYC and KYT before accepting the deposit. Because blockchain transactions are immutable, we could see a reduction in counterfeiting of paper currency and consumer products.

Increased Digital Payment Options
While blockchain has many use cases, this is one example of how technology can change finance and the global economy. In the early days of cryptocurrency, there was really only bitcoin. Now, there is a range of coins and tokens like Ivy that serve important purposes within existing regulatory and legislative frameworks.

One of the biggest misconceptions is crypto and fiat payment systems have to be direct competitors. By creating a blockchain protocol that links fiat and cryptocurrency, businesses and consumers can have more, better market choices and use cases for cryptocurrency.

At the same time, financial institutions can serve an important role in the future of digital payments and fiat-crypto currency conversions.

As financial institutions look to solve many challenges they face around payment clearing inefficiencies, consumer fraud, and the limitations of fiat currencies, blockchain is a viable solution. Financial institutions that fail to embrace blockchain’s potential will face heightened monetary and reputational risks, and miss opportunities for growth and innovation.

What’s At Stake In A Tech-Driven World

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technology-10-2-18.pngTechnology is driving a wave of disruption across the entire financial services landscape. Financial services companies are increasingly finding themselves both competing with and working alongside more agile, highly entrepreneurial technology-based entities in a new and evolving ecosystem.

There are a number of global trends creating opportunities for financial services companies:

  • China’s population is growing at about 7 percent annually, roughly the equivalent of creating a country the size of Mexico every year.
  • At the same time, China and other emerging, fast-growing economies are raising many of their people above the poverty line, creating a new class of financial services consumer.
  • In more developed countries, people are retiring later and living longer.

These trends are driving a growing need for financial services. However, the story does not end with demographics and economics. Changes in technology are reshaping the ways these services are being delivered and consumed.

Consumers expect simplicity and mobility. Smartphones provide a wide range of financial services at our fingertips. With the rapid growth in artificial intelligence and machine learning applications, savvy financial services companies are adapting to the new ecosystem of digital service delivery and customer relationship providers. Gone are the days when customers have to visit the local bank branch to get most of the services and products they needed. The shakeup in providers will make for a vastly different landscape for competing financial services organizations in the near future.

While the adoption of blockchain technology is still in its infancy, it will potentially reshape the financial services landscape. Much of the transaction processing, matching, reconciliation and the movement of information between different parties will be a thing of the past. Once regulation has caught up, blockchain, or distributed ledger technology, will become ubiquitous.

Financial services companies need to understand where they fit in this digitally fueled, rapidly evolving environment. They need to decide how to take advantage of digital transformation. Many are starting to use robotic process automation to reduce their costs. But the reality is the spread of automation will soon level the playing field in terms of cost, and these companies will once again need to look for competitive advantage, either in the products and services they offer or the way they can leverage their relationships with customers and partners.

When companies leverage technology and data to achieve their business goals in this new environment, they also introduce new risks. Cybersecurity and data governance are two areas where financial services companies continue to struggle. The safety of an ecosystem will be dependent on its weakest link. For instance, if unauthorized breaches occur in one entrepreneurial technology company with less mature controls, those breaches can put all connected institutions and their customer information at risk. Further, automation can result in decisions based solely on data and algorithms. Without solid data governance, and basic change controls, mistakes can rapidly propagate and spiral before they can be detected, with dramatic consequences for customer trust, regulatory penalty and shareholder value.

Strategically, financial services companies will need to decide if they want to be curators of services from various providers—and focus on developing strong customer relationships—or if they want to provide the best product curated and offered by others. Investing in one of these strategies will be a key to success.

Blockchain: What You Need To Know

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Cryptocurrencies and blockchain could directly affect banks as the technology evolves, and regulators start to pay more attention to the issue. But what does the board need to know about this seemingly complex technology? In this video, Wolters Kluwer’s Stevie Conlon breaks down the differences between blockchain and cryptocurrency, as well as the broader regulatory implications.

  • Blockchain vs. Cryptocurrency
  • Obstacles Facing the Cryptocurrency Space
  • Compliance and Regulatory Concerns

Why Management and Directors Need to Consider Blockchain in Overall Digital Strategy

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blockchain-8-15-18.pngIf we think back to what we were doing in 1994, we would say we were using a gigantic cell phone, just hearing about the internet, addicted to the fax machine, and just starting to use email. Fast forward, and we are with blockchain where we were with the internet and email in 1994.

After the sale of Mechanics Bank in 2015 and subsequently leaving my role as CEO, I embarked upon a journey that has forever changed how I think; how I problem solve; how I view the boardroom; the secret society of the c-suite and most importantly, how I view technology, people and process.

There is a convergence of social media, digital retail, robotics, artificial intelligence, wearables, blockchain, Internet of Things, big data and advanced analytics. We must think about the big picture and how all of these pieces fit together in overall corporate and organizational digital strategy.

Forbes recently reported the top 20 largest businesses in the world, including top financial institutions, are all now exploring blockchain. These same companies are simultaneously evaluating and implementing the use of big data, predictive analytics, artificial intelligence and machine learning.

Since 90 percent of goods in global trade are transported through the shipping industry supply chain, let’s use the announced partnership of Maersk and IBM as our first example.

As you may know, Maersk is the largest shipping container company in the world, transporting 15 percent of the world GDP each year.

The shipping industry supply chain consists of:

  • Land transportation brokers
  • Customs brokers
  • Ports
  • Freight forwarders
  • Governments
  • Ocean carriers

Like many bank functions in the U.S., global trade functions are antiquated. The industry is still largely paper intensive with organizational silos and a heavy reliance on Excel. A typical transaction can take up to 30 people and more than 200 communications to complete. Maersk is not immune to these same challenges, but recently embarked on its own digital transformation through two partnerships:

  • Microsoft Enterprise Services to move five regional datacenters to the cloud, improve IT performance, bolster customer services, and reduce operational risk;
  • IBM to improve transparency and efficiency, with complete visibility of tracking millions of container shipments each year.

Each participant in a supply chain ecosystem can view the progress through the supply chain. They can also see the status of customs documents, view bills of lading and other data. This will all be done using blockchain technology and smart contracts.

So, what does all of this mean? Let’s take a look at how this all ties in to what I call “the digital innovation melting pot” and why we as bankers must pay attention:

In this video, the bank is partnered with the shipping, wearable device, driverless car, identity, virtual agent/chatbot, social media, social media influencers, predictive analytics, retailer, airline, and hotel industries. These 11 industries are working together to offer products, complete transactions and improve the customer experience with little in-person human interaction.

My view of blockchain, innovation and its place in the new digital world is from my role as a CEO who’s been accountable to shareholders, responsible for the bottom line. Though the top banks in the country have caught on to this trend, many banks are still in the dark ages, plagued by denial, lack of innovation knowledge and the right talent.
Many institutions still have bricked-up infrastructure, engrained in the mentality that “this is the way it’s always been done,” with a lot of outdated, dysfunctional and inefficient processes, policies and procedures.

The disregard of digital technology disruption and innovation is like a termite infestation that destroys the structure if you don’t pay attention to warnings and maintain the property.

Key Takeaways
Partnerships are the way of the future. A bank can no longer rely solely on its own infrastructure and core vendor relationships. The new digital world converges industries, so make sure you pick the right partners. To do so, understand existing infrastructure and look through the lens of generational age groups with a customer focus.

  • Does the customer want simple to use technology services and want it now?
  • Do they prefer more traditional services, and are they less trusting of new market entrants? Do they still value human advice?
  • Do they value high-quality service and view “trust as a must,” but are interested in innovation and want to be educated?
  • Is there forward-thinking leadership in the boardroom and C-suite?
  • How does the board get refreshed with new perspective?
  • Would board members be willing to give up their board seat to allow fresh perspective?
  • Has there been evaluation about current state and future growth?
  • Is there understanding about existing system capabilities, shortfalls, what works, what doesn’t?

Determine your game plan:

  • Does the front end need digitization?
  • Fix front end while gradually replacing legacy infrastructure and integrating middle and back office?
  • Go digital native – full overhaul?
  • Evaluate whether systems, processes, procedures and policies are still relevant?

Don’t forget impact on your people. Make sure new offerings do not cannibalize existing product offering and pricing. Remember that a digital expert is unnecessary in the boardroom. Instead find a digital technology translator; someone who understands the cause and effect of decisions made at the macro level. Lastly, and most importantly, figure out how to disrupt your business model before it becomes disrupted.

Blockchain is Coming, but It’s None of Your Business…Yet

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blockchain-5-18-18.pngFor most banks under the $20 billion asset threshold, blockchain technology—the distributed ledger—will be a tool like every other technology tool. Banks under that size will be provided that tool by established providers or very large institutions and the tool itself will enable typical banking businesses like extending credit, payments and wealth management.

While there is a ton of argument about the validity of the distributed ledger as a tool that enables currency that is untethered to a government or regulation, there is widespread belief that the technology behind the currency itself can carry value and be a boon for banks. It is useful because blockchain technology is enables faster, cheaper and fully transparent transactions in near real time.

Blockchain has potential to carry property deeds, stocks or insurance. Many banks have been skeptical about the technology because of the speculative nature of the cryptocurrency market and the dubious ethics of some of the folks running that market. But now many banks are starting to see it as a solution for quicker, cheaper transaction options.

JPMorgan Chase and the National Bank of Canada announced a debt insurance blockchain test. They believe that they can move debt insurance cheaper, faster and more securely on the distributed ledger, and they are doing a year-long test to find out. If that test works, the platform will have faced many challenges and presumably overcome them. It will have to get multiple regulators to sign off on it, it will have to integrate old systems’ data with the new platform, and it will have to prove that this new technology is actually superior to old systems.

Many banks under $20 billion can and will use it when it is rolled out by a reputable provider. So don’t worry too much about blockchain for now—you will be using it when it has been developed by a much larger institution with the capacity to invest in its trials. One important part of that process will be creating shared protocols. Right now, there is no one blockchain, and there is no one common language where one chain can talk to another. That will probably need to change if it is to become ubiquitous.

There are exceptions for banks below $20 billion
When you are a bank that is a specialist in a particular line of business, you should watch the enablers of that specialty with keen interest. If a bank makes 80 percent of its profit through commercial real estate lending, for instance, that bank should be looking at anything that enables better, quicker, easier service, better pricing, or cheaper production. Adopting the technology that gets the bank in front of most competitors will eventually increase potential for growth, profitability and market share.

It doesn’t matter if that technology is Statistical Analysis System (SAS), or on a distributed ledger, someone in the bank should be trying hard to be the second adopter of the technology that will make the bank so much better at what it does well. That is when a bank should care about blockchain—when it is proven enough to not to be a nightmare to your bottom line or your employees, and provides a competitive advantage in an area that really counts.

Navigating the Difficult Terrain of Money Transmission Laws

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regulations-10-20-17.pngState money transmission laws can be difficult to navigate. Fees, surety bond and net worth requirements make it costly to enter, and significant complications arise when determining whether the requirements apply in the first place. As of June 9, 2017, 49 states and the District of Columbia impose registration and licensing requirements on money transmitters, with varying criteria for what constitutes “money transmission” and which entities are subject to regulation. Determining whether a particular financial services-focused business is subject to these regulations requires a careful review of the rules of each particular state.

This is a significant issue in the blockchain and virtual currency space because many states have yet to issue guidance on the application of state money transmitter regimes to these activities. Although most states define “money transmission” broadly to include any business that transfers money or its equivalent, the precise application of this definition to a particular set of activities can vary significantly among the states.

However, four states have taken specific regulatory action:

New Hampshire
The state enacted House Bill 436 on June 2, 2017, which exempts virtual currency transmitters from licensing requirements, reversing an earlier position. The change in course appears to reflect increasing government acceptance of virtual currency activities and recognition of the potential for regulatory arbitrage by market participants. The law became effective in August 2017.

Illinois
On June 13, the Illinois Department of Financial and Professional Regulation issued guidance on the treatment of virtual currency under its money transmission law. Digital currencies are not considered money, so the regulations will only affect transmitters if they also involve transmitting government-backed foreign or domestic currency. Therefore, virtual currency exchanges would likely have to apply for a license while blockchain tokens companies should be able to avoid licensing if they exchange their tokens exclusively for other virtual currencies, and not for fiat currency.

Washington
Conversely, Senate Bill 5031 requires virtual currency transmitters to be licensed and regulated in the state of Washington. Under the new law, the definition of “money transmission” now reads “receiving money or its equivalent value (equivalent value includes virtual currency) to transmit, deliver or instruct to be delivered to another location…” The new law appears to treat real and virtual currencies equally by requiring both classes of firms to register and be regulated as money transmitters. It also requires virtual currency transmitters to disclosure information regarding their business or activities and, for some, to conduct an audit of their security system. The bill became effective in July 2017.

New York
New York appears to have gone further than any other jurisdiction by creating the BitLicense regime, which includes many new requirements, such as cybersecurity and business continuity standards as well as state approval for a merger or acquisition. Moreover, there is no blanket exemption from the separate money transmitter license. Thus, virtual currency businesses may need to navigate both the BitLicense and the money transmission licensing schemes before they can operate in New York.

While the New Hampshire and Washington laws only recently became effective and the Illinois guidance is still new, the New York BitLicense has been in place for about two years, so its effect can already be seen. As a result of the scheme, several virtual currency companies appear to have left New York for more regulatory friendly states. Also, the scheme has been described as slow and tough, with only three licenses granted as of January 2017 despite many applications.

Thus far, the states have pursued disparate and sometimes divergent approaches to the application of regulatory requirements to virtual currency businesses. Recently, however, there has been a push for greater consistency. For example, the Conference of State Bank Supervisors (CSBS ) recently announced its Vision 2020 initiatives, aimed at making the state laws more uniform while still protecting consumers. Recently, the Uniform Law Commission (ULC) issued a model regulation of virtual currency businesses, which seeks to harmonize the varying treatment of virtual currencies by the states. At the federal level, the Office of the Comptroller of the Currency (OCC) is on the path to establishing a federal fintech charter regime which could potentially preempt the application of state money transmitter laws to chartered entities. If the OCC charter does in fact preempt the application of state money transmitter requirements to chartered entities, this may be enough pressure to strengthen state level initiatives to achieve consistent regulatory outcomes across jurisdictions.

Companies engaged in virtual currency transmission face a daunting set of regulatory requirements. However, there appears to be good things on the horizon with the OCC, ULC or the CSBS uniting the requirements under one regime. Until then, any business using virtual currency should carefully scrutinize the requirements in all states where it has customers.