February 14th, 2016

Allegedly a revolution is taking place on Wall street and the City of London – a financial revolution. The true action might be taking place somewhere else.

Predicting revolutions almost always goes wrong, partly at least. When Marx and Engels worked on the tenets of their manifesto, they predicted that the proletarian revolution and consequently communism would start in countries with large industrial working classes, notably Britain or Germany, not in Russia.

Likewise, too much attention has been placed on the so-called blockchain revolution in OECD countries. Leading Western banks, such as UBS, Goldman Sachs, JP Morgan, Credit Suisse, Barclays and most recently the Commonwealth Bank of Australia have started with different applications of the blockchain technology.

Little noticed by the wider world, emerging countries – especially lower-income countries – are the markets with highest potential for the application of blockchain technology in the financial sector.

There is an increasing gap between current supply and demand in financial services in low-income countries. A rapidly growing population combined with dynamic economic growth are the key drivers behind this gap. Research by Morgan Stanley emphasized that without large groups of users, blockchains would not be successful.
Closing the financial service gap with blockchain technology

The financial services infrastructure is shallow in almost all the low-income countries. But the lack of financial infrastructure also means less inertia and more potential for the implementation of new technology.

The blockchain revolution is less disruptive in markets with little financial service infrastructure. Consequently, regulators and existing financial institutions in these markets have less incentive for blocking this revolution

The use of mobile phone payments system combined with blockchain technology offers a powerful combination and is promising for financial inclusion.

While there have been significant advances made in terms of financial inclusion in the world, in recent years (see annual Global Findex Data for comparison with previous years), the developing countries, and vulnerable groups (i.e. women, poor) remain largely unbanked. As such, recent estimates suggest that digitalizing private-sector payments of wages could increase the number of adults with an account by up to 280 million, while digitalizing public-sector wages could ensure up to 160 million people get a bank account. Nevertheless, the infrastructure support for inclusive financial services lags behind.

Many regions have skipped this infrastructure development step, using the penetration of mobile subscription instead. In the African market, the intensive use of mobiles for payments and other services led providers to consider investing an estimated $13.5 billon to bring an additional 500 million people online by 2020.  As such, Sub-Saharan Africa has had the sharpest growth in recent years in terms of mobile subscriptions. Overall, the differences in mobile subscriptions between high-income countries (116 per 100 people) and the low-income countries (91 per 100 people) have become marginal (World Economic Forum data, 2015). Double-digit growth rates of mobile usage can also be found in Southeast Asia and Pacific, as well as in Europe and Central Asia. This leaves such markets open to the spread of blockchain technology.

First signs are ahead: In September 2016 Barclays Africa together with its UK parent Barclays PLC completed the world’s first trade finance transaction using the blockchain technology, and in late January 2017 Standard Bank—one of Africa’s largest banks—joined up with R3 blockchain consortium to explore potential avenues of the blockchain mechanism in financial services.

More specifically, financial services delivered through Blockchain technology has an untapped potential in those markets where there is simultaneously a high mobile penetration (i.e. people have more than one mobile subscription), as well as a low financial inclusion (i.e. less than 30% of the population has access to a bank account). Such key markets include various Eastern Europe and Central Asian countries like Armenia, Moldova or Azerbaijan, MENA countries (i.e. Egypt, Jordan, Tunisia) and others regions (e.g. Cambodia, Peru, Nicaragua, Congo, Mali).

This is what we see: After Ecuador last year, Tunisia launched this year its state-sponsored currency the eDinar. More countries from Africa will likely follow, given the already high penetration of digital currencies.

Further challenges ahead
The Bitcoins can satisfy many of the fundamental functions of a currency such as unit of account and money of exchange. However, several challenges of primary importance remain.

The first and strongest challenge would be to face the government monopoly. If the Bitcoin were becoming a currency it would remove the monopoly of currency from governments. Governments are likely to be willing to keep the monopoly and will probably interfere. And governments have already started regulating cryptocurrencies around the globe, and both in the developed and emerging economies. In the United States, the Internal Revenue Service started issuing decisions on how Bitcoin earnings should be taxed and Bitcoins wallets have to now comply with anti-money laundering rules.

To date financial institutions in China are prescribed from buying, selling and insuring these currencies or any derivative products. But in late October 2016 the Chinese government unveiled a whitepaper on the blockchain technology and application development. The paper identifies finance as a critical sector for future application of blockchain technology. Changes in the regulatory environment will affect not only leading Chinese technology finance firms, such as Alibaba’s Ant Finance, WeBank, the Ping’an Insurance Group but also some the world’s largest banks in terms of assets, such as the Industrial and Commercial Bank of China, the China Construction Bank and the Agricultural Bank of China.

Supposing that governments do not interfere, two other problems remain. The next issue deals with the stability of a currency. While real gold price (in U.S. dollars) was relatively stable over the period 1850-1970, Bitcoins have already strongly fluctuated over the past few years. Per Blockchain.info, the average USD market price across major Bitcoin exchanges fluctuated between a high peak of $1,151 in December 2013 to a record low of $177 in January 2015. This makes it hard for the Bitcoins to satisfy the function of a stable store of value.

The last issue remains privacy. Part of the success of the Bitcoin is explained by privacy. For several years, people considered Bitcoins to make anonymous transactions that the administration could not recognize. Nevertheless, the blockchain keeps track of a considerable number of transactions. Although they are pseudonymous, the government can make use of other information to reconcile the transaction and get the identity. And it is likely that governments could have already made use of it… After all, governments are unlikely to endure anonymous financial transactions protecting terrorists and criminals. This last issue is probably the least important, given that there are many ways for governments to overcome anonymity.

Dr. Braunstein manages and co-directs the London School of Economics engagement program on sovereign wealth funds (SWFs). He is currently a research fellow at LSE cities. Dr. Volintiru is assistant professor at the Department of International Business and Economics, in the Bucharest University of Economic Studies. She is academic affairs director of the Centre for Indochina Studies (center4is). Dr. Laboure is a visiting scholar at Harvard in the Department of Economics. Previously, she worked at Barclays, the Luxembourg Central Bank and the European Commission.

This article was initially published on Forbes.com  at https://goo.gl/PrS40I.

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