Could sending money to a friend in another country be as easy as sending a photo on an instant message? Many in the finance world think that should be the desired customer experience, powered by blockchain solutions. Right now, a cross-border payment can involve a handful of humans at either side of the process; it can take days; and, it’s expensive. Blockchain technology allows for the transfer of value without the need for third parties, technology that lets the process happen quicker and more efficiently. We break it down.
By the numbers
- Value of cross-border payment flows in 2015: $150 trillion (McKinsey)
- Average time to complete a cross-border transaction: Three to five days (McKinsey)
- Average fee for outgoing international wire transfers: $44 (Nerdwallet)
- Average fee for incoming international wire transfers: $10 (Nerdwallet)
How does it work?
Distributed ledger technology can speed up the amount of time it takes for cross-border currency transactions to settle and clear. IBM, which this week launched a cross-border payments system for banks using blockchain technology in partnership with startup Stellar and payments company KickEx, said its system is based on using a cryptocurrency as a bridge asset. It uses IBM’s blockchain for clearing and Stellar’s for settlement.
“The Stellar lumen [cryptocurrency developed by Stellar] serves as a bridge to provide the foreign exchange conversion in real time,” said Jesse Lund, vice president of global blockchain market development at IBM.
For example, if a U.S. customer wanted to send 100 Euros to a friend in Europe, the customer would log into their bank’s user interface to indicate that the target currency is Euros. The U.S. bank system would call the IBM system to initiate the payment. The customer would then be provided with an overview of the fees charged and how long the transaction would take. Once the customer agrees to these terms, the payment leaves the sender and reaches the recipient in 30 seconds.
The transaction would use IBM’s blockchain for clearing and Stellar’s for settlement. For the customer, it would mean a quick transfer of funds, but what would be happening on the back end is the dollars would very briefly be converted to lumens and then reconverted to Euros.
“The banks are interested in the use of digital asset as a bridge currency to facilitate this,” said Lund.
Another method to transfer value over blockchain is through tokenization. Cross-border payments app Circle is currently testing the tokenization of fiat currency.
“It’s the same way you would tokenize a share,” said Circle CEO Jeremy Allaire, who added that while a paper share is a certificate that entitles the shareholder the right to vote, a tokenized equity instead of a paper certificate is a cryptographic token that can be stored, secured and transferred using blockchain technology.
The advantages compared to traditional systems
Security is embedded into the system: “These networks we’re building are permission networks — you can’t download the software and boot it up on your computer,” said Lund. Others say it’s less vulnerable to hacks. “The beauty of blockchain technology is that it’s an immutable ledger — you can’t hack ledgers,” said Allaire.
Blockchain also cuts down on costs. According to Ripple, an active player on cross-border payments enabled by blockchain, its solution cuts 81 percent of payment processing costs.
What’s keeping blockchain-powered cross border payments from wider adoption
- More use cases for digital currency: For a traditional cross-border payments provider like Western Union, unless a full ecosystem takes shape where digital currency is more widely accepted, it’s taking a ‘wait and see’ approach, instead supporting the development of the technology through an investment in the Digital Currency Group. “We are heavily regulated, operating in more than 200 countries and territories,” said Khalid Fellahi, svp and general manager, Western Union Digital. “Given the amount of regulatory scrutiny we face, any movement into new products or services requires due diligence and dialogue with regulators.”
- Interoperability: “If you’re a business that’s thinking about how you’re going to integrate this, there’s a proliferation of so many different ecosystems, and there isn’t a sense of how you’re going to participate in the world at large and with all your traditional payments and still have access to what you’re developing,” said Michael Kleinsteuber, director and global head of cross border payments product development at Citi, speaking at the Consensus 2017 conference in May.