If 2015 was all about financial institutions realizing that the technology behind Bitcoin — often called blockchain — will at least make their business more efficient and potentially shrink it, 2016 has set off a race among incumbents to be one of the first to market with a blockchain product. But the biggest question they have faced is: How should we build such a network?
One challenge is that the original Bitcoin blockchain (a ledger of financial transactions held on computers all over the world rather than by one central party) makes all its records public. Financial services providers want the security and speed of the blockchain while maintaining privacy for their clients.
Monday, one of the leading startups in the space, San Francisco-based Chain, publishes a new open source protocol, or set of technical standards, called the Chain Open Standard for building a blockchain network that can securely, privately and rapidly handle a large volume of transactions.
Depending on the hardware and network configuration, it can process tens of thousands of transactions per second — an impressive figure given that Visa V +1.58%’s maximum capability is 65,000 transactions per second. In contrast, the Bitcoin blockchain is currently capable of processing roughly six or seven transactions per second.
The Chain OS is focused on networks that can digitize the world’s existing assets (not a new currency like Bitcoin), whether commonplace ones like gift cards or more obscure ones like syndicated loans, and was developed by applying the technology to real projects in areas such as banking, payments, capital markets and insurance.
What sets Chain OS apart is that Chain, which has received investments from Visa, Citi, NASDAQ and others and which Forbes estimates was valued at north of $130 million after its last round of funding in September, built it with its bevy of global financial heavyweight partners — Capital One, Citigroup C, Fidelity, First Data , Fiserv, Mitsubishi UFJ Financial Group, Nasdaq, State Street and Visa — and the fact that many of them have been working on it for months.
“The reason you build something new is that you have a set of design rules that are distinctive,” says Chain chief executive officer Adam Ludwin. “When we started, we were happy to use [an existing protocol] off the shelf, but nothing that we found met the design requirements of our partners…. And those key requirements were that it needs to be really scalable, very high scale, very fast. We need to have privacy of data. We need to have what is usually called a ‘permissioned’ network” — as opposed to the Bitcoin network, which anyone can join.
“Visa and Chain have been collaborating to determine how a blockchain architecture can operate at Visa’s scale to the benefit of our clients,” Jim McCarthy, Visa’s executive vice president of innovation & strategic partnerships, said in a statement. “The Chain Open Standard is the culmination of many months of iteration and problem solving.”
“Nasdaq has been pleased to participate in the development of the Chain Open Standard through a variety of use cases, including private market securities, proxy voting and clearing,” said Brad Peterson, Nasdaq chief information officer, in a statement.”
“We’re not just proposing this and hoping that our partners will start using it,” says Ludwin, who first met with Nasdaq in July 2014. “This is the result of what they’ve been working on for months now, and that they’ve been informing and designing with us for months. In fact, some of them as long as 18 months. Many of them are very far down the pathway of bringing this to market.”
Several other companies and organizations have also released protocols for running such private distributed ledger networks, including an open source project called Hyperledger run by the Linux Foundation, with code supplied by IBM and blockchain startups; Corda, released by R3CEV, a consortium of 44 global financial institutions, including Bank of America, Deutsche Bank, Goldman Sachs, HSBC, Wells Fargo; and Ripple, which is focused on using distributed ledger technology for instant, low-cost international payments.
Nasdaq, in partnership with Chain, was the first to launch a blockchain product, Linq, a platform for trading shares in pre-IPO companies. In late December, the first private securities transaction was recorded on a blockchain in Linq — and today it remains the only live privately run blockchain network.
Chain is making the standard open for three reasons: to get industry, academic and regulatory feedback and improve upon it; to ensure the standard can “interoperate” or work well with other distributed systems; and so as not to lock their partners into proprietary software and prevent other vendors from building onto it.
“Nobody wants Chain to be the next Oracle, and Chain doesn’t want to be the next Oracle,” says Ludwin. “We’re not going to try to lock our partners into something that’s proprietary and say that Chain is the only way to access that effort…. When it comes to networks, these things have to be open source at the lowest level.”
While it is making the Chain OS freely available, the company intends to make money from building software that implements the standard and allows companies to create networks and prototypes, as well as for support services. Already, its partners are presenting it to their own customers and clients, enabling them to build out their networks. Ludwin says that going forward, the company will regularly convene the companies building to Chain OS (in fact, Chain already had its first such event in mid-April) to share what they’ve learned and form alliances. Additionally, Chain will create a formal structure for others to contribute to its code base, and it will also participate in other industry efforts to make sure that the Chain OS and every other standard can work with each other.
Chain will be demonstrating the Chain OS during the Consensus 2016 conference, one of the biggest industry events, a three-day affair which kicks off Monday.
In addition to being able to process thousands of transactions per second, Chain OS provides privacy by encrypting data and enabling selected counterparts and regulators to view certain transactions. Regulators have been most focused on “the tension between privacy and transparency,” says Ludwin. “In other words, if the data on the network is totally opaque, then that might benefit the trading counterparties, but then maybe the regulators aren’t thrilled about that. And if it’s totally transparent, then maybe the regulators like that, but nobody’s going to use it, because they don’t want leak their data.”
Chain resolved the challenge of keeping a distributed ledger that contained all transactions while only allowing certain parties to see certain transactions within the ledger “cryptographically — with math, not by cutting people out of the network,” says Ludwin. “The cryptography around privacy is not that easy to pull off. It’s a very complex cryptographic puzzle to figure how to do that in a shared ledger environment.”
This is in contrast to R3′s Corda, which does not share all data amongst all participants. As R3′s chief technology officer Richard Gendal Brown wrote on the company blog, “Unlike other designs in this space, our starting point is individual agreements between firms (‘state objects’, governed by ‘contract code’ and associated ‘legal prose’). We reject the notion that all data should be copied to all participants, even if it is encrypted.”
The Chain OS also features a framework for smart contracts, which are computer programs that run on a blockchain, with outside events or data triggering the execution of certain clauses in the contract. It also allows each transaction to contain metadata, such as information required for Know Your Customer (KYC) and anti-money laundering (AML) regulations.
The networks can be sized for any market. For instance, a network for syndicated loans in a particular country, with maybe dozens of players, would be smaller than one for global or commercial payments, which would engage hundreds or even thousands. Within each network, different institutions will have different levels of participation, with some keeping a full historical copy of all the data, and others containing a smaller set of the data called “the state,” which indicates the current status of the assets. (For those with a Bitcoin background, these are comparable to full nodes versus SPV or thin clients.)
“We’ve been building this in collaboration with, essentially, a closed vest of partners,” says Ludwin. “And we’ve been doing that in order to get the right answer, because you need a manageable set to begin with to really iterate quickly.”
Noting how long the company has been working with partners without releasing its work, he says, now, “We know what we’re building, we know why were building it, we know how the standard works, we’ve considered the trade-offs, we’ve developed the protocol, proved it, and now it’s time, as our partners want to take this product to their customers and their partners, that we start to open it up more broadly to the industry.”
Laura Shin is the author of the Forbes eBook, The Millennial Game Plan: Career And Money Secrets For Today’s World and co-author of Money Hacks: Forbes Stories Of Superstar Savers.