Financial services companies can achieve efficiencies with decentralized and permissioned solutions built using blockchain technology. Although the earliest application of blockchain is in the cryptocurrency domain, the technology is now improving processes in other industries. Blockchain features in digital solutions for diverse industries like healthcare, real estate, automotive, insurance, and financial services.
For instance, blockchain-based smart contracts are being used as digital automated escrow services. Escrow plays a significant role in the financial services industry.
Let’s take a look at how blockchain applications with smart contracts are changing global financial services. Learn how blockchain platforms provide solutions to disrupt financial operations with efficiency.
Blockchain is a distributed ledger technology-based database that provides a platform to maintain a growing list of transactional data records. Once stored on the blockchain and verified through smart contracts, transactions become immutable. It creates transaction irrevocability, which has significant value for fintech solutions. Blockchain enables smart contract services that are coded in a permanent yet verifiable way, a trait missing in common centralized databases.
A smart contract is a computer protocol that digitally facilitates, verifies, or enforces business rules of a contract. It verifies and executes authentic information with blockchain to eliminate intermediaries like legal advisors, brokers, and banks from the transaction processes.
Several DLT based consensus (verification) methods and mechanisms also play a crucial role in the success of a blockchain solution. Their use varies depending on the type of DLT implementation and business requirements. Some standard DLT based verification methods (consensus algorithms )are proof-of-work, proof-of-stake, byzantine fault-tolerant (BFT), and special notary nodes.
Read how they impact the success of a blockchain solution
Blockchain technology has several applications in fintech with smart contracts being the most promising ones. Following are a few advantages of blockchain smart contracts that are most suitable for banks and other financial organizations.
Organizations get features like irrevocability, peer-to-peer transactions, and cryptographic security implementations to ensure trust in transactions, and prevent data modifications.
It has provision to invoke every transaction ever stored on the database for verification and audit scenarios while maintaining immutability.
Smart contracts eliminate intermediaries from the financial ecosystem to reduce transaction costs, accelerate data transfers, and strengthen security.
The most prominent application of blockchain-based smart contract is to automate escrow services. Various transactions require authenticators in the form of intermediaries to get involved in the process. These third parties like banks, brokers, and lawyers create trust between parties involved in a transaction. Consequently, every transaction gets costly as these intermediaries charge a fee for their verification services.
Escrow applications can be found in many financial segments like real-estate, M&A, banking, intellectual property rights transfer, and many more.
Here, smart contracts can become the driving force of disruption.
A smart contract is a simple computer code that executes commands after receiving input states that are predefined as a set of business rules. When a smart contract is being executed, nobody can change or alter the rules. It means that peers cannot influence the behavior of smart contracts. However, their behavior can vary as per the type of distributed ledger being implemented. Some blockchains have provisions for changing the smart contract rules as per the mutual consent of all transacting parties.
Comprehensive smart contracts are quite synonymous to common legal contracts. Likewise, they also focus on describing every prospective outcome of a transaction.
A comprehensive smart contract would describe every possible case of a purchase, such as:
A blockchain smart contract can describe what happens after certain possible events like a common legal contract, but with a twist. Smart contracts can also enforce contract execution, eliminating the risk of fraud.
For instance, a smart contract can execute the exchange of payment if the buyer and seller conditions are met, such as timely shipment delivery. If there is no delivery, a smart contract releases the funds to the involved party’s account.
Smart contracts are more trustworthy than legal contracts and can replace them altogether. They can be partially or fully executed or enforced without human interaction and any bias.
A few additional measures to boost the credibility and security of smart contract-based transactions:
Now, let’s explore blockchains that provide the platform for creating efficient smart contract services:
Several open-source DLT based platforms like Ethereum Platform, Hyperledger Fabric, and R3 Corda have earned a reputation for providing innovative smart contract solutions.
Corda is a distributed ledger technology for developing private permissioned solutions for financial institutions like banks and insurance companies. It aims to automate legal prose with a smart contract solution. In other words, it can completely substitute legal paperwork.
Corda’s private ledger technology enables selective permissioned exposure of information about every transaction (and every smart contact) in the network. It strengthens privacy and increases efficiency as the transaction details are not shared with all peers in the Corda network. Instead, they are available only to parties directly involved in a particular transaction.
Corda’s smart contracts also have a provision for creating notary nodes that are established as third party transaction verifiers for business-critical transactions. These authenticated digital notaries can work as public financial regulators, auditors, banks, and other entities.
When a smart contract is executed between two peers, each party involved in the transaction uploads its digital signature. If they trust each other, Corda platform settle the transactions with only these two signatures. However, if there is less trust between the parties, they use plug-and-play service to use a special notary node. A notary node will provide validity consensus to verify the transaction and upload it on the ledger. Notaries can also prevent the double-spending in this case with uniqueness consensus. One can have several layers of the pluggable notary nodes. A signature from each notary will then be required to validate a smart contract with provision to use different consensus mechanisms.
With Corda financial solutions, plugging in of additional non-validating peers is possible, like regulators and auditors. Although they don’t validate the transaction but use transaction data reinforce financial governance and transparency.
It was the Ethereum Platform that introduced smart contracts as the autonomous agents to the physical world. Ethereum, a public blockchain, uses Ethereum Virtual Machine (EVM) to verify and execute smart contracts. EVM refers to a network of nodes and miners that ensure no one cheats.
The key component that sets Ethereum and R3 Corda blockchain application development apart, is their consensus mechanisms. While Corda uses notaries for transaction verification, Ethereum smart contracts use proof-of-work (PoW) methods. There are also talks about Ethereum smart contracts introducing alternatives like proof-of-stake (PoS) and other mechanisms as well.
Financial institutions can benefit from blockchain technologies like Ethereum, Corda, or Hyperledger. We, at Oodles, provide blockchain development services to build custom distributed ledger-based solutions for your unique financial services requirements. Our blockchain team develops custom solutions to provide greater control over processes and minimize transaction costs.