The head of a recently created unit at the Central Bank of Russia devoted to exploring financial technologies sees a wide-reaching role for blockchain use in finance, according to a recent interview.
By Stan Higgins
Translated statements from an interview between Russian-language publication Bankir.ru and Vadim Kalukhov, director of the Russian central bank’s Financial Technology, Projects and Process Management Department, paint a portrait of cautious enthusiasm for the technology, a stance consistent with past statements from the institution.
The Central Bank of Russia, which earlier this year made public its plans to study blockchain applications in finance and elsewhere, sees a possible role for the technology in payments, document certification and more.
Of note from the interview was an effective pushback against suggestions that the Russian central bank was weighing the issuance of its own digital currency.
If it did, the central bank wouldn’t be alone in its potential pursuit. The Bank of England, the UK’s central bank, has thus far emerged as a strong voice of support blockchain technology, as well as a potential issuer of a national digital currency. As reported last month by Business Insider, BoE governor Mark Carney is set to deliver a speech later this month that is expected to focus on applications of the technology.
Kalukhov indicated that the Bank of Russia is, at least for now, keeping its head down on the issue, saying that the matter is under active discussion by central bank officials.
He explained in the interview:
“We have to admit that digital currency issue is still on the agenda. We see that community’s interest has shifted from private digital currencies to national ones,” he said. “So far regulators worldwide, including us, are only saying that the matter is being studied, and don’t give any comments as for either the terms of creating, or ways of operation or coverage.”
This comes as companies within the Russian private sector, most notably payments processor QIWI, pushes ahead with plans to upgrade its payments database structure with a blockchain.
In the interview, Kalukhov offered his take on recent developments within the country as they relate to blockchain tech, indicating that the central bank wants to see domestic startups experiment and collaborate on possible applications and that it “is so important to create communication sites, technology garages, [and] finance technology hubs” to foster this kind of environment.
Regulators ‘support’ adoption
According to Kalukhov, who joined the central bank as deputy chief information officer in February 2015, there is support for blockchain tech among the world’s regulatory bodies, but that engagement varies from country to country.
“Regulators support its adoption to a variable extent: some countries just don’t have enough technology companies, desire to do this or interest to the technology,” he said.
Kalukhov went on to say that the Russian central bank, among others, sees the benefits in the reduction of transaction costs. He further indicated that the Bank of Russia is keeping a close eye on technology developments, calling it a “key interest as the regulator”.
He said in the interview:
“As most financial market participants, we share the hope that blockchain will allow to reduce overall transaction costs. If the technology allows to save cash spent on overall transaction costs, then we, as the regulator, are interested in it, since this will ease the overall burden for the population.”
“We are especially interested and keeping an eye on any prototypes designed to reduce specific overheads for end users,” he added.
Kalukhov was also firm that there is no existing ban on the technology.
This statement comes amid a push within Russia to institute a ban on so-called money surrogates which would include bitcoin and other digital currencies, and effort that began in 2014.
Kalukhov suggested that the central bank is currently taking a wait-and-see approach to its own rulemaking process, suggesting that, for now, the technology doesn’t pose any immediate risks that warrant attention.
“The blockchain technology is allowed to be used in the territory of the Russian Federation. So far, deployment of prototype Russian companies launch doesn’t cause any difficulties. If we see that some regulations are needed to enable the technology development, we will think over how to do this,” he said.
Support for group efforts
During the interview, Kalukhov indicated that the Russian central bank views group efforts by both technology and non-technology companies to test and develop new systems as positive developments, saying that such initiatives work to the advantage of both sides.
He noted that these efforts are already happening in Russia. “Such partnerships are established, and we are glad they are,” he said.
In the last year and a half, a range of consortium efforts have emerged globally.
These include the 40-plus banking consortium led by startup R3CEV, the Post-Trade Distributed Ledger Group spearheaded by a number European financial institutions and securities exchanges, and recent private-public collaborations established in Japan. The Hyperledger Project, overseen by the Linux Foundation, has also brought together a range of technology and financial firms.
Kalukhov said that for technology firms, it’s a practical matter of either pitching in on a group effort or take the risk of offering a competing product of its own. For financial companies, he said, there’s little need for the technology if participants aren’t coming together.
“As I have already mentioned, no one needs blockchain only for itself, because the matter of creating field of confidence within one company does not arise,” he said. “So, if you want to work with blockchain, you have to find somebody, and it’s better [for there to] be more than one party.”
Varied applications
Kalukhov highlighted a number of applications throughout the interview, notably suggesting its use for verifying that individuals have genuine power of attorney when trying to access funds. With the right legal document, someone could claim that they have the ability to executive transaction.
The issue: those documents might not be legitimate. But having a mechanism by which greater confidence in the veracity of legal documentation could give banks more confidence when weighing whether to greenlight those kinds of transactions.
“Every time someone offers access to your account with a letter of attorney, a bank should make sure that the letter of attorney is genuine,” he explained. “It’s not always easy to do: a bank has no right to refuse the transaction, unless there are suspicions that the letter of attorney is not genuine. All this may change, if a single reliable database will be created.”
However, he went on to say that he believes creating shared document databases might not be as practical at a larger scale.
“Even the best idea, if needed to be spread over more than several thousand users, often turns in a very long story that lasts years and years,” he said.
Kalukhov would again invoke the idea of building confidence between entities through shared ledgers, saying it could be applied to any kind of financial messaging or payment.
“Blockchain may offer an advantage to companies, when there are multiple participants, and they are separate legal entities that have to resolve a matter of confidence,” he said. “And the parties to the transaction are in two different credit institutions or any other two organizations that are financial market participants, these need not necessarily be banks.”
Another notable application, he said, was the use of of the technology for real estate registers, which he said don’t trigger the same kinds of privacy concerns raised by financial firms.
“…I see promising perspectives in migrating registers to the blockchain technology, such as cadastral register, real estate register, because they are initially open. And it means, all confidentiality and data security issues are eliminated, as well as the need of redundant encryption,” he said.
Kalukhov also offered his take on distributed ledger applications for securities trading, saying that there would need to be established legal accords governing activity before any benefits could be reaped.
He said in the interview:
“To make securities transactions blockchain work, registrars should come to an agreement. They will have to agree upon migration to the distributed register, single storage standards and on how they will exchange data and enter records. This is the only way for them to obtain any added value from the blockchain.”
Barriers remain
From Kalukhov’s perspective, there are a number of barriers hindering adoption within the Russian finance sector.
The first, he said, had to do with the speed of transactions and how different parties to a hypothetical blockchain would operate in an environment where transactions are being sent at high speeds.
“If network nodes are physically too remote from each other, it can take quite a long time to synchronize the database,” he said. “And until databases have been synchronized and agreed, there is a risk of the so-called double spending. The point is, how fast the system can start the second transaction after committing and confirming the first one.”
He highlighted data privacy as another area in which the Russian central bank sees as a pain point.
“If you store the register, there are two options. You see everything the register includes or register data are encrypted, and you see only your data, and don’t see anybody else’s,” Kalukhov explained. “And here the problem arises: if you have the entire register, then encryption stability is measured with the time needed to overcome the protection.”
He went on to say that additional encryption layers would alleviate these concerns, but that questions of cost, access and the speed at which transactions would occur remain.
Perhaps most vitally, Kalukhov said that the combination of these operational factors itself is an issue.
“The third barrier is existence of such combination of factors, under which system operation will be considerably impaired or will become impossible for some time,” he said. “This is the issue many parties are trying to resolve now. It is equally burning for both open and closed systems.”
He went on to offer a critique of private blockchains, saying that they “do not resolve the issue of confidence”.
“The risks are mitigated, but still exist,” said Kalukhov. “Confidence must be enough, so that even in the closed network the data volume distributed between the participants would not put their commercial interests at risk.”
He later returned to the question of privacy, explaining:
“The key risk is data confidentiality loss. Next, it is the system stability risk, the risk of compromising the system. Confidentiality is the blockchain bottleneck, and this is what cryptographers work at.”
Ultimately, Kalukhov seemed to frame how the technology finds adoption through the lens of which technology uses emerge, both from what exists today and what other solutions are developed within Russia and abroad.
Criticizing services that aren’t forthright about the extent to which they use distributed systems – “I object against such double-talk”, he said – Kalukhov struck a supportive note for the development taking place today.
He said:
“It’s very important for prototypes to prove their right to life, and after this, technical implementations of more or less commercial scale might be developed.”