Opinions expressed Entrepreneur their contributors.
Since the dawn of organized trading, the market has been dominated by centralized financial systems, usually acting as a black box in the eyes of their customers. In addition to their lack of transparency, they did business in a monopolistic manner, building empires along the way, simply acting as an intermediary.
However, as the next iteration of the Internet unfolds, these traditional economic and financial systems are being reimagined like never before. With this next generation Internet known as Web3, concepts such as blockchain, cryptocurrency, and decentralization are rapidly making their way into the mainstream economy. This paradigm shift marks the emergence of a new trading arena that could fundamentally restructure our global financial system as we know it today, making it a more transparent, inclusive and secure platform for transactions. Below are five examples of how blockchain can improve and replace the legacy financial systems we depend so heavily on as a society today.
Related: DeFi is the Future: Moving Beyond Traditional Norms
1. Trade finance
Trade finance is a fundamental part of the global financial system to reduce risk, expand credit, and ensure that importers and exporters can participate in cross-border trade. Like most industries, trade finance suffers from logistical bottlenecks associated with old, obsolete manual document systems. For example, physical letters of credit are often still issued and transferred between various intermediaries to secure payment.
The universal nature of the blockchain can provide exceptional support for international trade transactions that would otherwise be too costly due to trade and documentation processes. By storing and securing these processes online (on the blockchain), companies can digitally verify transaction details such as country of origin and product information in a secure and cost-effective manner. This will drastically increase trust between exporters and importers in the market through exceptional transparency and data security. In addition, it could mitigate some of the most significant risks for trading parties today, including inconsistencies in documentation and oversight of the flow of goods, as well as various other uncertainties.
Related: Blockchain is everywhere: here’s how to understand it
2. Decentralized identity
To attract customers, TradFi (traditional finance) institutions must verify their identity through a process called Know Your Customer or KYC, which requires customers to provide personal information such as their passport, driver’s license, and various supporting documents. On TradFi systems, this KYC process takes an average of 24 days, resulting in a terrible customer experience and lower user retention rates. Banks store information about customers in centralized systems, which makes this data vulnerable to various hacks.
Conversely, clients can only upload their KYC information to the blockchain once and grant permission for institutional access on a permanent basis. The KYC process can be completed in just a few seconds by storing KYC information on-chain as a “decentralized identity” or DID. In addition, financial institutions will no longer be responsible for the long-term security of customer data, reducing costs and liability.
3. Infrastructure of the settlement
Today, transferring funds around the world is a logistical nightmare. A simple bank transfer from one country to another must go through a cumbersome set of intermediaries, from custodians to correspondent banks, before it reaches its destination. Each intermediary adds its own costs, increasing processing time and creating another security risk. On top of all this, the two balances of accounts must be reconciled in a complex, fragmented financial system.
On the contrary, institutions can use blockchain technology as a decentralized ledger to securely track all transactions. This single source of truth can effectively eliminate the network of intermediaries used today, allowing transactions to take place directly on the network – a 10x improvement over SWIFT. Additionally, it could allow “atomic” transactions that are instantly cleared and settled with a verified payment, thus eliminating multi-day transfer times for international transfers and 24-hour transfer times for domestic transfers imposed by financial service providers.
4. Modernized accounting
TradFi institutions such as Mastercard, JP Morgan and Blackrock handle massive amounts of sensitive financial data every day that needs to be transferred, validated and verified. Today, it is expensive and difficult to maintain and reliably reconcile ledgers with absolute certainty.
Instead, institutions can publish this data on a private blockchain, which will fundamentally improve internal processes by ensuring the flow of information in a chronological, immutable and transparent manner. This can greatly enhance security with the blockchain tracking feature, which can help detect fraud and create a strong audit trail.
RELATED: 6 Ways Cryptocurrency and Blockchain Are Changing Entrepreneurship
5. Personal finance
Today, banks offer a measly interest rate of 0.21% per annum on customer savings accounts. Meanwhile, behind the scenes, banks are much more interested in clients’ money, keeping the lion’s share of the profits earned.
On the other hand, blockchain is based on creating a user-centric marketplace. When users instead place their savings on blockchain applications such as Aave or Compound, they can earn 8-15% per annum or more in some cases.
As of today, one of the main reasons people buy cryptocurrency is to fight the rampant inflation that most countries face. Today, average global inflation stands at a staggering 8.8% and will almost certainly rise. With inflation far outpacing bank-provided APY, people have no choice but to look for better alternatives or watch their money dwindle.
For both reasons, the general public is likely to move more of their savings into cryptocurrencies in the long term, reducing the savings held in banks, and eventually leading to lower TradFi earnings.
Many expect blockchain to completely replace the TradFi industry. Others believe that blockchain technology will simply serve as additional infrastructure for existing TradFi systems. In general, it remains to be seen exactly how and to what extent the financial industry will use blockchain technology. However, one thing is certain; Blockchain will usher in a new era of transparency, fairness and financial security.