Back in February, JP Morgan became the first bank in the U.S. to successfully test a form of digital currency, the JPM Coin. The bank hopes to use the coin, backed by a blockchain system, to enable faster and safer transfers of money compared to more traditional ACH (automated clearinghouse) banking.
As JP Morgan explains on their site, the JPM Coin is built on ‘blockchain-based technology enabling the instantaneous transfer of payments between institutional accounts.”’ But, while JPM’s currency is a digital coin, many enthusiasts would point out that the JPM Coin is private and centralized. Therefore, it doesn’t really qualify as a “cryptocurrency.” In my view, though, that works in the bank’s favor.
The JPM Coin has many parallels with the digital coin Ripple, which is also built for institutional uses. The fact that JP Morgan sees enough promise in this model to build their own is a major development. The entry of large institutions into the digital currency space brings a degree of legitimacy that conventional cryptocurrencies desperately need.
Of course, the real value proposition with this technology isn’t the coin itself. Rather, the value is in the blockchain system on which the coin is exchanged.
Blockchain banking is a fascinating concept that holds real potential for financial institutions. Traditional ACH payment processing involves a lot of back-and-forth movement for clearing payments across multiple records, creating inefficiencies and opening the possibility for error. In contrast, blockchain banking tracks and clears payments using a single, open record that can be verified at any time.
A Turning Point in Payments
Overall, I’m optimistic about the new digital currency. Adopting a blockchain platform for banking could open the door for faster and more reliable payments processing. It will save time and resources, and simplify the need for regulations in the industry, potentially cutting a great deal of red tape.
While some people could be concerned by cryptocurrency’s general reputation, it’s not what many people understand it to be. Moving to a blockchain system opens incredible opportunities.
For instance, think about the costs involved. It’s true that building out an entire platform like JPM Coin requires a substantial upfront investment. In the long run, building a blockchain system for internal storing and transfers of value will be much more efficient and cost-effective.
A 2015 report notes that banks could save between $15 and $20 billion by 2022 in infrastructural costs every year by using a blockchain system. Of course, that figure includes a lot of other applications for blockchain tools like security, recordkeeping and financing. With that kind of money on the table, the only surprise is how long it’s taking for the idea to catch on.
A Safer Currency with Increased Efficiencies
Of course, the direct savings aren’t the only advantages here. Adopting blockchain tools can also provide more systematic and secure payments.
With blockchain-based systems like the one powering JPM Coin, exchanges between JP Morgan clients can be done instantaneously. There will be not be periods of waiting days for payments to clear using conventional payments processing. Now, a blockchain platform makes real-time execution possible.
Also, conventional payments involve different records that are checked against one another and leave the opportunity for errors in clearing. Looking at the ACH system maintained and operated by the U.S. Federal Reserve, it’s shockingly error-prone. In fact, the Swift Network has an error rate of more than 10%.
The percentage translates to billions lost each year through misdirected payments, clerical errors and the cost of corrections (assuming corrections are even possible). Therefore, security is a big part of the conversation, too. I understand it seems counterintuitive that an open, unmanaged record could be more secure and accurate than existing payments technology. However, that openness is one of blockchain’s great strengths.
Information can be verified remotely at any time, providing transparency and defending against errors of fraud. Plus, remember that the system moves JPM Coins—tokens that represent dollars—rather than actual dollars. In the event of fraud on the bank’s proprietary system, it could be possible to undo the exchange and recover the loss.
For another example, consider chargebacks. These are forced payment reversals meant as a consumer protection mechanism against fraud and abuse. Unfortunately, chargebacks are often used as a tool to commit fraud, rather than stop it.
A blockchain system could make it easier to recall transaction information, verify customer claims, and deliver faster and accurate chargeback resolution.
Just the First Step
The arrival of JPM Coin represents a major step forward for FinTech, and for the payments industry at large.
Again, blockchain technology is the real value proposition behind the cryptocurrency boom. Given the incredible advantages a blockchain-backed system has over traditional payments, it’s only a matter of time until the rest of the institutional big players get involved.
It’s not clear if future players will adopt an existing currency like Ripple or build their own like JPM Coin. Either way, many banks will likely join JP Morgan in the digital currency space within the next five years. After all, financial institutions can only look at the prospect of recovering $20 billion in infrastructural costs every year without taking action.