Block Chain Technology 101 and How It Could Transform our Financial System

by FEI Daily Staff

The digital transformation of finance is an increasingly popular topic of conversation across the industry, and the opportunities and challenges presented by Bitcoin and the block chain have become major elements of these discussions in recent months.


While it is unlikely the likes of Bitcoin will replace traditional currency, enthusiasm for the topic continues to grow— less because of the monetary value behind bitcoin and more around the potential of block chain, the underlying technology behind bitcoin. The block chain offers the potential of making a great number of actions, from healthcare records to smart technologies and even financial transactions, more secure and trustworthy.

What is the Block Chain?

The block chain is a type of database that records digital events between many different parties. Think of it as a sequential spreadsheet of transactions, constantly updated on a global network of computers that serves as a distributed ledger. The ledger is encrypted as it’s being written so the transactions it contains can be verified safely by legions of other computers across the network.

To break this down in other terms, block chain serves as a solution to an age-old logic puzzle known as the “Byzantine Generals Problem.” In this puzzle, a Byzantine general sends a messenger to deliver an order to other generals in the army about whether or not to attack an enemy. The challenge is, every general knows that at least one of the generals is a traitor – so how can the receiving generals be sure that the same order was sent to the other general and he’s not being ordered to attack his own troops? How could they know if the other generals wouldn’t try and undermine the plan and keep the order from their troops? There has never been an unbiased third party who can guarantee authenticity.

In the financial system, this is why third-party institutions such as banks exist. Banks provide a strong level of trust that is required in verifying financial transactions and can guarantee that individual parties have the money they claim to possess, and that the money is transferred as agreed.

How Could the Block Chain Transform the Finance System?

The block chain is ultimately disruptive to the financial system because it removes the need for trusted third parties to guarantee a transaction. By combining distributed architecture with powerful encryption, the block chain itself coordinates agreements among all the parties in a transaction — and does so in a way that’s highly resistant to interference.

Entries in a digital ledger of sorts are created and protected with cryptography that becomes more secure as a growing number of people participate in it. In the case of Bitcoin, individuals are paid – through mining or small transaction fees – for their work in verifying the transactions. Since thousands of participants verify each transaction, there is little point in conspiring to undermine the system, as it quickly becomes difficult and costly. Rewards for honest behavior are built into the process and dishonest behavior isn’t rewarded.

One challenge, and point of irony, is that cryptocurrencies – or forms of block chain currency such as bitcoin – have become attractive to criminals. In February, Hollywood Presbyterian Medical Center became the latest victim of hackers demanding ransom in the form of bitcoin after the cyber criminals seized control of the hospitals computer system. The security behind the block chain is attractive to criminals as the modern equivalent to the “briefcase full of unmarked cash.”

However, while criminals are increasingly trying to leverage cryptocurrencies in illicit activity, the block chain technology itself is not inherently criminal. In fact, ownership and provenance of a transaction can be embedded in the block chain from an early stage to ensure verification.

The potential of the block chain has a wide array of applications, from validating the authenticity of documents like birth certificates and passports, establishing ownership of intellectual property, and enabling trade in stock and bonds. And we have already started to see a number of companies jump in the ring to explore the applications — Nasdaq for one is currently testing out a system to allow investors to securely vote in shareholder meetings and Sony recently announced plans to develop an educational platform powered by the block chain.

In the financial sector, block chain technology presents a highly secure and tamper-resistant structure to verify almost any kind of transaction. In today’s increasingly insecure world, this presents a tempting alternative, especially in the evolving digital finance landscape where the pressure to aggregate and transport large amounts of sensitive data securely continues to grow. Chief financial officers have to put a strategy in place to include block chain as a valid option in their finance processes so not to be overrun when this becomes more mainstream.

Henner Schliebs is vice president and head of Finance Audience Marketing at SAP.