Blockchain and student loans: a solution to an urgent problem?

by Davide Cantelli via StockSnap
by Davide Cantelli via StockSnap

The New York Times reported this morning that tens of thousands of people who took out private loans to pay for college may be about to see their debts wiped away.

Why? Because critical paperwork has gone missing.

Judges are throwing out recovery suits brought by loan issuers because they cannot produce the relevant paperwork to prove ownership of the debts. The New York Times did some digging and found that many other collection cases also had incomplete documentation.

This could turn out to be a very big deal. The paper draws parallels between the student loan overhang and the subprime mortgage crisis a decade ago, when billions of dollars in loans were swept away by the courts because of missing or fake records.

Given that student loans have ballooned to account for approximately 7% of GDP, with more than 44 million borrowers owing $1.3tn, the hit to the economy would be sizeable if a chunk of that debt were to “disappear”. Over 10% of these loans are in default.

The default percentage could suddenly rise when word gets out that the debt cancellation only benefits those that don’t meet their obligations, ie. those against whom the lending companies bring suit. Don’t pay your student loan, get sued by the issuer and have your debt cancelled. What could go wrong? (Note: this is so definitely NOT advice, nor is it a good idea.)

That such an important sector of the economy – student lending is the second highest consumer debt category, behind mortgages and ahead of credit card and auto loans – is still dependent on paper documentation is staggering. These “lost” cases at least are shining a spotlight on the urgent need for reform.

The UK government is investigating the potential use of blockchain technology to manage student loans. The advantages include more secure documentation, less administrative overhead, greater oversight and more transparent data.

It sounds like the US could use similar help. True, the cases mentioned by the New York Times are from private lenders, which account for approximately 10% of the overall market. The troubled loans in question total about $5bn. That is still a sizeable hit, though, and the ripple effects could cause other debts to be questioned, future loans to be denied and uncertainty to deepen in a sector already trembling from the default overhang.

That the problem is due to missing documentation highlights the importance of trustworthy records. That a sector struggling to increase the repayment rate has yet to modernize, especially after seeing what faulty records did to the sub-prime mortgage sector ten years ago, is puzzling.

Hopefully the exposure of this vulnerability will trigger a re-design of the loan process. The benefits of using blockchain for the modernization are apparent, and it would provide the most future-proof solution, but other technologies could also help. The important thing is that the shift happens, because for both students and lenders, a lot is at stake.

A small nation steeped in history helps blockchain move forward

san marino

The elusive myth of 5G is getting closer to becoming a reality, and the impact this could have on blockchain development is significant.

According to a report in the FT this morning, the microstate of San Marino will become the first country in the world to test the new broadband service.

Tucked away in the northern part of Italy, San Marino has the smallest population of the Council of Europe and claims to be the oldest still-existing sovereign state in the world, as well as the oldest constitutional republic.

Telecom Italia Mobile has signed an agreement with the government of San Marino to upgrade the 4G system in preparation for state-wide 5G trials starting in 2018. 5G testing is ongoing in other regions such as South Korea, China and the US. However, they tend to be small trials lacking the pressure of real-world use cases. San Marino’s small size makes it the ideal site for first nation-wide test case (although it should be noted that AT&T plans to roll out 5G in test cities such as Austin and Indianapolis, each with approximately 30x the population of San Merino).

As its name implies, 5G is a step above 4G, which is what most developed countries have installed in the cities (with 3G still the main carrier technology in the countryside), with speeds up to 10x faster. 5G promises broader coverage, faster downloads and lower latency.

While the first two characteristics sound great from a user perspective, the latter is essential for effective deployment of the Internet of Things (IoT). Latency refers to the time elapsed between one node sending a signal and another receiving it. If we are going to have a myriad of gadgets exchanging data, we need to know that the transfer is fast, especially if payments are made or if decisions are based on the information.

Driverless cars, for example. Sensor-based shopping. Smart gadgets reacting quickly (lights turning on, doors opening, alarms alerting).

With sensors in close proximity to the central server, latency is not usually a problem. But with sensors distributed in a wide area, it would be, especially if the connection is to a blockchain.

I’ve written before on how blockchain technology can help the Internet of Things, but since that was a while ago, a brief update: a network of gadgets connected to a central server is more vulnerable than one connected to each other. It’s not only the single point of failure that is the concern – the possible manipulation of data, relatively simple when that data is centralized, is also a significant risk.

On a blockchain, however, gadgets share information with each other. “Smart contracts” can help to execute actions dependent on that information, and verification is carried out by the network itself. The security is much more hack-proof than traditional databases. And regulators can be “looped in” to the network, facilitating compliance and approval.

Blockchain IoT networks can also give rise to new business models, with “things” being owned collectively, and being economically self-sustaining. For example, a driverless car can both earn (by ferrying passengers) and spend (on tolls, parking and maintenance) its own money.

This scenario is not possible, however, without an upgrade in connectivity. 5G could offer that.

Once the new service is rolled out, San Marino perhaps could also become a testing ground for distributed IoT networks, and other latency-sensitive blockchain applications.

So, the nationwide trial is a big step forward not only for mobile networks but also for blockchain. While many experts believe that we won’t see 5G rollout until the end of this decade, we are getting closer. And San Marino, small and steeped in tradition as it may be, could end up helping pushing development of these two key technologies forward.

Biases, barriers and bitcoin

I stumbled across a fascinating video this morning, about cognitive biases and money. Watching this, I realized that many of us bitcoin holders fall into the same trap.

The video talks about how we mentally segregate our “assets” into different compartments, which affects how willing we are to spend them. This is curious, since in the end it’s just money, right? And money is fungible, right?

So, why are we willing to spend some types of money and not others?

The video gives the eye-opening example of the movie ticket, the result of a study by renowned behavioural psychologists Kahneman and Tversky. If you go to the cinema and pay for a $10 ticket with a $20 bill, in exchange you get the ticket and a $10 bill. Now, say you lose the ticket. Do you buy another one with your remaining $10 bill? Most participants in the survey said no, they’d just go home.

But say instead the cashier gives you two $10 bills, and you are to hand in one of them to gain entrance to the theatre. If you lose one of the $10 bills, would you use the other one to see the movie? Most say they would.

This is notable, since the end result and cost is the same. (I think time and hassle should also be taken into account since they are an invisible cost, significant to some – but the point holds.)

Put any kind of barrier, even just one of form, between us and our money and we spend it less readily.

We all have things that we wouldn’t part with, even if it would get us in to see Hamilton. That’s because they have more than monetary value to us. They give us pleasure, they stimulate a memory, perhaps we know we couldn’t replace it easily… But a movie ticket? Not much sentiment attached there.

Now, sidestepping over to bitcoin, I have often pondered why some pundits point to bitcoin’s lack of acceptance in stores as a sign of failure. I couldn’t see the sense in spending something that you think might go up in price. You spend it, it’s not in your wallet anymore, and you lose out on the appreciation.

Through a different lens, I see now that that is totally stupid a narrow way of looking at things. And what’s more, misses the point of bitcoin.

It’s money. And it should be used. Holding onto it because “it’s bitcoin” denies it that use, which contradicts the interest that got us into the asset in the first place.

Plus, it might go down in value, so spending it now would be a good asset management decision. Or it might go up, but you can always buy more with the money that you would have used had you not used bitcoin. By using the cryptocurrency you perhaps saved money or time, so that would also have been a sensible decision.

But we’re not sensible, as Kahneman and Tversky – and all of us who prefer to hold bitcoin rather than spend it – show.

Most bitcoin these days is held for speculation. We buy it thinking it will appreciate in price. With that, from the beginning we are not regarding it as money. Those of us who buy in because we love the concept and we want to try out using it, end up falling victim to the rising market mentality of “can’t miss out on appreciation”. We stop seeing it as money and start seeing it as a ticket to riches.

We can offer in our defense the fact that merchants don’t take bitcoin. True, but take a look at the number of merchants who did and stopped because no-one was using it, or the number of merchants that don’t even bother because no-one is using it. It’s hard to deny that we are perpetuating the problem.

For bitcoin to reach its potential, it needs to circulate, and it needs to be used for more than portfolio diversification. The longer we let the current trend of market obsession continue and the longer we let our cognitive bias rule, the more we delay bitcoin’s debut as a global currency.

It’s strange how sometimes you can be searching for an answer to one question and end up understanding a completely different one a bit better.

Flowers, data and community currency

by Roman Kraft via StockSnap
by Roman Kraft via StockSnap

A recent article in the Financial Times on the purchase of Worldpay by Vantiv contained this gem, which encapsulates the debate around going cashless:

“Mr Jansen says Worldpay can respond by selling extra services to its customers based on analysing all the data from the 41m transactions it handles on an average day. For instance, it can tell a florist at what time of day rival stores in the same area are selling most products.”

Data is useful. But do you really want your competition to know what time you sell the most merchandise? Would that not be handing them them the opportunity to undercut you by targeting special offers for just that time? Will this not trigger a “race to the bottom” as businesses vie to undercut each other?

And here is another aspect to consider: to whom does that data belong? Obviously in this case, to the payment company. After all, the florist is using the payment company’s platform.

But, the payment is between the client and the florist. The client initiates the transaction (12 roses, please), the florist executes the request (here you go, sir). The platform is just an intermediary. But who has the ultimate power over the business? The intermediary, especially if it can choose to help the business’ competition.

How could a business work around this and still use the convenience of a service like Worldpay? Perhaps Worldpay could offer an opt-out service. Businesses could pay a fee to have their data not sold to the competition. Although doesn’t that sound a bit like extortion?

This increasing power, which can be used against the very businesses the payment platform is supposedly helping, could be enough to discourage businesses from using such services.

Which brings us back to the cash vs. digital payments divide. To keep its business metrics private, florists and other small enterprises would have a good incentive to stick with cash. It’s the ideal transmission mechanism when private contracts are involved.

It is, however, clunky, costly, relatively inconvenient and has certain security vulnerabilities.

If I were the florist in the example, I’d be contemplating setting up my own payment… not sure what to call it… “walled garden”? An electronic payment method, the data of which stays with me. I’d share aggregate information with the tax authorities and my bank, but the privacy of the information would reflect the privacy of the contracts between me and my clients.

Maybe this is where the innovations in the payments space will end up. The winner could be a service that respects the sovereignty of data. “Here, use my platform, set up your own walled garden, you own your client information and business metrics, check out these functions that allow you to do targeted promotions, all I need is aggregate information for compliance, oh, and this is my hefty fee.”

Such a platform could also kickstart the proliferation of seamless loyalty programs (no extra work from the client required). For instance, for each rose you buy, you get a flowertoken, which is attached to the identity automatically created when you pay with your mobile phone. You can, if you wish, use your considerable flowertoken balance to pay for the next bunch of flowers.

Flowertokens could become a type of money.

This idea (which may already exist, I confess I’m not a payments expert but I do enjoy thinking about these things) would take us a step towards the society predicted by David Birch, in which hundreds of different currencies happily co-exist, managed via very clever apps in our smart devices.

Oh, oh, oh, and I could do a flowertoken initial coin offering. Issue tokens on a blockchain, get tons of money up front.

I’m off to register the business now.

Daily Bits – central banks, equity markets and fun stuff like that – July 11th, 2017

I’ve been skimping on posts because I’m working on an overview of central bank activity in the blockchain space – so much more complex and varied than you probably imagine. But I’m sure I’ll have stuff to share soon!

Meanwhile, some random (ok, not so random) thoughts…

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My article on CoinDesk this week, on Delaware’s bill amendment that expressly allows shares of Delaware-registered companies to be traded on a blockchain. This is huge, given that two thirds of listed companies in the US are incorporated in Delaware.

Traditional equity markets best take note.

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Speaking of central banks, this report from CoinDesk earlier today is intriguing: UK Central Bank Tests Ripple’s Interledger Protocol for Cross-Border Payments.

Two simulated settlement systems were set up, representing different currency regimes. Then Ripple’s Interledger protocol – which can enable payments across different ledgers – was used to simulate a transfer of funds. Apparently the two systems reconciled in sync, and invalid transactions were satisfactorily rejected.

So far so good. 😊

Since this latest reveal is crying out for some context, however, it’s worth noting that it is not the BoE’s first foray into blockchain testing. And, it is not the only central bank working on a similar idea.

It is, however, a big step forward in what is arguably one of the most compelling use cases: cross border payments.

More detail will follow on the above context soon…

(I found it amusing that the BoE felt it was necessary to clarify that no central bank accounts were harmed in the making of this film, I mean, the test area was completely separate from the real thing. Just in case you were worried…)

— x —

Here, from a while back, is a masterful piece from Colin Platt on the potential impact of blockchain on the financial system. He takes a look at each of the main pillars (central securities depositories, central clearing houses, etc.) and thinks about how (if) their role will change as blockchain edges its way in.

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Thank God for the chicken police…

Daily Bits: ethereum capacity, private blockchains and the 80s – July 8th, 2017

I totally missed Fred Ersham’s post on Medium last week, on ethereum scaling – a major oversight, it’s epic.

He points out that ethereum right now needs to improve capacity by something like 25,000x to be able to handle the transactions of, say, Facebook. So, if we expect the new decentralized models emerging from the ethereum ecosystem to be able to replace centralized services, we’d better start focusing on ethereum scaling.

Fred helpfully summarizes the initiatives under way, which gives a perspective on how important the problem is. Expect more media attention to be placed on this issue as ICO frenzy continues and bottlenecks start to build.

— x —

Richard Gendal Brown of R3 posted a (relatively) simple and concise overview of private blockchains, with a solid plug for Corda, drawing comparisons to Fabric and Quorum. He asks some good questions about distributed ledgers, and gives some clear answers – but I have the feeling this is only part of the picture.

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The Indian push towards cashless seems to be picking up steam, including (possibly) free internet for all. It seems like the Aadhaar program was just scratching the surface of the digital ambition. This is worth researching further…

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Have you been watching Netflix’s Glow? If so, or if you remember the 80s with a combination of nostalgia and revulsion (those shoulder pads!), then you’ll like this mini documentary from Vox on the main design influencers of the decade.

Bring on the patterned neon.

Screen grab from Vox
Screen grab from Vox

 

 

Blockchain and the puzzle of the Kazakh bond issue

astana kazakhstan

A few weeks ago, CoinDesk published an article about a blockchain project in Kazakhstan. The central bank is testing a blockchain-based mobile app that will allow investors to buy central bank debt directly, without passing through a broker.

I puzzled over this, as I couldn’t figure out why they needed a blockchain for that. One issuer and a wide range of buyers doesn’t need a blockchain. A database could handle that.

Blockchains aren’t designed for vertical systems, with one entity at the top.

The article went on to say that long term, the platform could be used for IPOs.

Ah, there you have it. Other entities could be invited to join the platform and use it for issuing securities, either equities or debt.

So, is Kazakhstan effectively creating a new financial market? The advantages for using blockchain technology for that are relatively obvious (fewer middlemen, faster settlement, lower costs, greater transparency).

But mobile-based?

A while ago the government of Kenya used the M-Pesa mobile money system to issue a bond. That trial was intriguing in that it facilitated financial inclusion by offering citizens with very little money the opportunity to not only earn a return on the little they have, but also to purchase their first saving product. The minimum investment was KSh3,000 (approximately $30), and it was open to all Kenyans with an M-Pesa mobile money account, over half the population.

But, the government didn’t use a blockchain. There was no need to, and not just because they already had an efficient distribution in place. They also didn’t need to because the relationship was one-to-many (issuer to buyers).

Blockchains are good for many-to-many relationships. If the Kazakh project does indeed end up including other issuers, the trial makes sense. But for now, it doesn’t. Blockchain’s potential won’t be tested with one central issuer.

It also doesn’t make sense to combine IPOs with debt issuance – the two have very different mechanisms and regulation. Inviting other issuers to take advantage of the new processes would have efficiencies – but that doesn’t seem to be a main priority.

So, despite the declared expansion intentions, I still found the incongruity puzzling.

Then an “out there” thought occurred to me. Perhaps what the central bank really wants is for the bonds to circulate. On a blockchain platform it would be relatively simple. Holders trade, and the ownership changes, smoothly and without intermediaries. The ease, especially on mobile, could encourage liquidity and boost circulation.

Why would a central bank want its bonds to circulate?

Perhaps so that they could become a type of currency, exchanged in payment for services received from other institutional platform participants – utilities, for instance (electricity bill?), education (a masters’ degree?) or even taxes.

There a blockchain platform starts to make a lot of sense. Regulated institutions would be “invited” to “open an account” to which bonds could be sent. Bondholders could treat their securities as a type of bank account, earning interest when they are still and being accepted in exchange for something else (fiat money or services) when they circulate.

Using central bank debt as money? Well, isn’t that what we’re doing now, with bills and coins?

Daily bits: new models, databases and hugs – July 4th, 2017

I love this article – The Promise of Blockchain Is a World Without Middlemen, by Vinay Gupta – for the fascinating business model ideas Vinay uses almost like punctuation.

Airbnb rentals that offer custom furnishing options (since transaction costs have plummeted and the logistics are no longer a barrier). A Walmart with the diversity of Amazon. Off-the-shelf weddings that are totally customisable.

Vinay opens the door to a whole new realm of creative economic relationships and customer service.

The fundamental question seems to be:

“What if your database worked like a network — a network that’s shared with everybody in the world, where anyone and anything can connect to it?”

— x —

Yes…

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Just over a year ago, Gideon Greenspan wrote an excellent article which set out with clarity and brevity the main differences between a blockchain and a centralized database.

In this time of overblown hype, it’s worth revisiting.

The main takeaway is this: if you want to retain control of the database, a blockchain isn’t for you.

If, however, you want to benefit from others’ participation, and need a robust solution, then a blockchain could help.

If confidentiality and performance are priorities, then a blockchain is not the best solution.

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And now for a bit of warm, fuzzy cuteness (go on, I challenge you to not smile):

(the lion cub’s my favourite)

From local currency to central banks: Colu and blockchain-based tokens

Image via CNN
Image via CNN

Decentralization and fragmentation – not two words that you normally associate with currencies (or would want to, given the implied chaos). But, maybe it’s happening.

An experiment currently under way in London could reveal whether or not our relationship with money can change enough for local currencies to become possible.

Israeli firm Colu – known for their “coloured coins” platform – recently launched the “Local Pound, East London” (LPEL). As its name suggests, it is a digital currency specifically designed for circulation amongst the businesses of East London.

How is this different from the normal pound? And why bother?

The aim is to boost the local economy. The LPEL plans to do this by encouraging users to spend locally – that apparently keeps money circulating in the area, rather than have it sent back to head office in Stockholm (or wherever).

The accompanying app is meant to help residents to discover (or “re-discover”?) local businesses, and to help those businesses manage transactions.

To be honest, it’s not very obvious what the advantages are. Merchants can use the app to manage transactions, which means they don’t need to invest in a PoS system (which they almost certainly have anyway).

It works just like “normal” digital money – it can be bought (at par with the pound) using credit cards or bank transfers. This raises the question as to why the users won’t prefer to use “normal” digital money. I haven’t been able to find information on additional advantages that the LPEL platform offers (like discounts or more direct marketing, for instance?).

The “hook”, according to press reports, is that users feel good supporting local economies. (Um, maybe some, but I wouldn’t count on many.)

Additional resilience could be a factor – blockchains tend to have greater security than centralized systems. But, centralized payment rail outages are rare enough for this reason to lack conviction.

The LPEL has a sister operation in Liverpool – the Liverpool Local Pound went live in late 2016, and currently has 16,000 registered users and approximately 30 merchants on the network. Given that Liverpool has almost 500,000 people, it’s a stretch to claim that it’s a resounding success.

But, it’s good to see that the enthusiasm continues regardless, because sometimes a good idea fails to get traction simply because it’s time has not yet come.

Whether or not the LPEL takes off is beside the point, though. What really matters here is feedback, to iterate the design and to hone the message.

In interview with CoinDesk, co-founder Mike Smargon said that the objective was scale. Colu recently unified its various Tel Aviv local coins into a generic Tel Aviv coin. Not that there seem to be a lot of users there, either. In the same interview, Smargon revealed that Colu has about 50,000 users across its coins, which – subtracting Liverpool participants – leaves about 37,000 users for a city of over 3.7 million.

I puzzled for a while on how unifying coins could help “local” businesses, and on how you can combine scale with fragmentation.

But then it dawned on me: it’s actually not about small communities. It’s about testing the advantages of central bank digital currencies, starting small and working up. A smart strategy.

What’s more, last month the firm open-sourced its banking infrastructure to make it easier for central banks to experiment with blockchain-based digital currencies.  The system is already in use in one country: Barbados. In collaboration with local exchange Bitt, it has created digital Barbadian dollars, and will soon complement that with digital dollars from Aruba and the Bahamas.

The company is in the process of applying for an e-money license in the UK, so I imagine we can expect further local launches. It also recently announced partnerships with asset brokerage firm eToro and trading app Lykke, and is a member of blockchain consortium Hyperledger. So we will most likely see interesting innovations that open our eyes to the potential of local currencies.

Even if practicality continues to be an issue, the idea of combining the advantages of community with the scope of large scale is intriguing.

And not only in the realm of finance and commerce. Let’s have a think what this could do to politics and governance, too.

Daily bits: trading, ethics and penguins – July 2, 2017

Happy July! And Happy Canada Day for my Canadian friends, and Happy 4th of July for my US buddies… 🙂

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This is huge: Delaware has passed a law that recognizes the right to trade securities on a blockchain platform. While this only applies to companies incorporated in Delaware, that is 2/3 of the Fortune 500!

I’ll talk about this more later (because the emergence of a new form of market is one of the blockchain applications I’m most excited about), but meanwhile, it’s worth thinking about how this will change market structures.

In chess, the winning strategy usually involves “occupying the middle”. In business, also. Those who control distribution, even today in this increasingly decentralized e-commerce world, can assign themselves a big slice of the market.

This also applies to stock and bond distribution, which is taking a bit hit with blockchain platforms. It’s happening today with initial coin offerings, and now it looks like it will happen soon with the issuance of shares.

Who will the new middlemen be? According to “blockchain philosophy”, there won’t be any. I don’t buy that. I do believe, however, that a new type of middleman will emerge. Most likely, the owners of the blockchain platforms that facilitate the trading will take away the crown.

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In his latest post on Medium, Nassim Taleb introduced me to the concept of Gharar, which has a wide range of definitions, depending on your source. According to Investopedia, it is associated with uncertainty, deception and risk. Islamic-finance.com explains it as “deceptive uncertainty”. Taleb takes the last definition even further, adding the qualification “inequality of uncertainty”:

“No person in a transaction should have certainty about the outcome while the other one has uncertainty.”

Taleb intriguingly points out that this interpretation might not meet the highest ethical standards, as it still leaves some room for deception. If I suspect that something might happen to weaken the deal for you, but I’m not certain, then according to Gharar principles, I don’t have to tell you. But ethically, I should.

His writing on the ethics of asymmetry left me wondering if new technologies will nudge us into a world in which markets are transparent. How would that change the behaviour of markets and their actors?

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There are benefits to going cashless, but there are negatives, too. One major disadvantage that I don’t hear anyone talk about is the impact on families that prefer cash because it helps them to stick within their budget. You can’t spend more cash than what’s in the jar.

So, the emphasis on “making it easier for people to buy things” is short-sighted. It shouldn’t be “easier for people to buy things”, if they can’t afford them. Helping them to rack up debt is not doing them any favours.

Perhaps slick apps that help with budgeting can smooth flows. But will that demographic use them? Should they be obligated to?

I’d like to see the conversation widen to include those for whom payment convenience is not a priority.

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Haruki Nakamura’s paper figures are captivating, charming and deceptively simple. (Via Colossal.)

Two of my favourites:

By Haruki Nakamura, via Colossal
By Haruki Nakamura, via Colossal

 

By Haruki Nakamura, via Colossal
By Haruki Nakamura, via Colossal