IN THIS CHAPTER

» Exploring the roots of the shared ledger

system

» Appreciating blockchain’s business

potential

Grasping Blockchain
Fundamentals

B
lockchain is a shared, i m m u table ledger that facilitates the
process of recording transactions a nd tracking assets in a
business network. A n asset can be tangible (a house, a car,
ca sh, land) or intangible (intellectual property, patents , c o p y -
rights, branding) . Virtually any t h i ng of value can be tracked a nd
traded o n a blockchain network, reducing risk a nd cutting costs
for all involved.

T h a t ’ s the elevator speech for blockchain. I n the rest of this c h a p -

ter, you review additional details to help you more fully a p p r e -
ciate this technology a nd its potential for streamlining business
operations.

Tracing Blockchain’s Origin

You can g a i n a deeper understanding of blockchain by exploring
the context in which it wa s developed: the need for an efficient,
cost-effective, reliable, and secure system for conducting and
recording financial transactions. In this section, I provide that
context a nd describe the characteristics of blockchain that m a k e
it s u c h a suitable solution.

Grasping Blockchain Fundamentals 3

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 The shortcomings of current
transaction systems
Throu gh out history, instruments of trust, such as m i nt ed coins,
paper m o n e y , letters of credit, a n d ba nk i ng sy stem s, have
emer ge d to facilitate the e xc ha ng e of value a nd protect buyers
a nd sellers. Im porta nt innovations (for e xam pl e, telephone lines,
credit card sy stem s, the Internet, a nd mobile technologies) have
improved the convenience, speed, and efficiency of transactions
while shrinking — and sometimes virtually eliminating — the
distance between buyers a nd sellers.

In spite of this, man y business transactions remain i n ef f i -

cient, expensive, and vulnerable, suffering from the following
limitations :

» Cash is useful only in local transactions and in relatively small

amounts.
» The time between transaction and settlement can be long.
» Duplication of effort and the need for third-party validation
and/or the presence of intermediaries add to inefficiencies.
» Fraud, cyberattacks, and even simple mistakes add to the
cost and complexity of doing business, exposing all partici-
pants in the network to risk if a central system — such as a
bank — is compromised.
» Credit card organizations are walled gardens with a high
price of entry. Merchants must pay the high costs of
onboarding, which often involves considerable paperwork
and a time-consuming vetting process.
» Half of the world’s people don’t have access to bank
accounts, requiring them to develop parallel payment
systems to conduct transactions.
» Limited transparency and inconsistent information hinder
the efficient movement of goods in the shipping industry.

Transaction volume s worldwide are gro wi ng exponentially a nd

will surely magnify the complexities, vulnerabilities, inefficien -
cies, a nd costs of current transaction systems. T h e grow th of
e com merc e, online b a nk i ng , a nd i n - a p p purchases, coupled with
the increasing mobility of people around the world, have fueled

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 the grow th of transaction v olume s. A nd transaction v o lumes are
exploding with the rise of Internet of Things (IoT) — autonomous
objects, s uch as refrigerators that buy groceries w he n supplies are
ru nni ng low a nd cars that deliver themselves to your door, s t o p -
p i ng for fuel a l o ng the way.

To address these challenges a nd others, the world needs faster

p a y me nt networks that provide m e c h a ni s m s to establish trust,
require no specialized equi pme nt, have no chargebacks or
monthly fees, and offer a collective bookkeeping solution for
e ns u r ing transparency a nd trust.

The emergence of Bitcoin

One solution t ha t’ s been developed to address the complexities,
vulnerabilities, inefficiencies, and costs of current transaction
systems is Bitcoin — the digital currency launched in 2009 by a
mysterious person (or persons) k no w n o nly by the p s e ud o n y m
Satoshi N a k a m o t o .

Unlike traditional currencies issued by central b a nk s , Bitcoins

have no central mo ne tary authority. N o one controls it. Bitcoins
are n’ t printed like dollars or euros; they’re “ m i n e d ” by people
(and increasingly by businesses) ru nni ng computers all around
the world w ho use software to solve ma themat ical puzzles . Rather
t ha n relying o n a central mone tary authority to mo ni t or , verify,
a nd approve transactions a nd m a n a g e the m o ne y supply, Bitcoin
is enabled by a p e e r - t o - p e er computer network m a d e up of its
users’ m a c h i ne s , akin to the networks that underpin BitTorrent
a nd Skype.

Bitcoin h a s several advantages over other current transaction

s y s t e ms , including

» Cost-effective: Bitcoin eliminates the need for intermediaries.

» Efficient: Transaction information is recorded once and is
available to all parties through the distributed network.
» Safe and secure: The underlying ledger is tamper-evident.
A transaction can’t be changed; it can only be reversed with
another transaction, in which case both transactions are
visible.

Grasping Blockchain Fundamentals 5

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 The birth of blockchain
Bitcoin is actually built o n the foundation of blockchain, which
serves as Bitcoin’s shared ledger. T h i nk of blockchain as an o p e r -
a ti ng sy s tem, such as Microsoft Windows or M a c O S, a nd Bitcoin
as only one of the m a n y applications that can run o n that o p e r a t -
i ng system. Blockchain provides the m e a n s for recording Bitcoin
transactions — the shared ledger — but this shared ledger can
be used to record a ny transaction a nd track the m o v e m e nt of a ny
asset whether tangible, intangible, or digital. For e xam pl e, b l o c k -
chain enables securities to be settled in mi nu t e s instead of days. It
can also be used to help companies mana g e the flow of goods and
related pa yme nt s , or enable ma nu facturers to share production
logs with original equ i pme nt ma nufac turers (OEM s) a n d r e g u l a -
tors to reduce product recalls.

T h e takeaway lesson: Bitcoin a nd blockchain are not the same.

Blockchain provides the m e a n s to record a nd store Bitcoin t r a n s -
actions, but blockchain ha s m a n y uses beyond Bitcoin. Bitcoin is
only the first use case for blockchain.

Revolutionizing the Traditional

Business Network
With traditional m e th o d s for recording transactions a nd t r a c k -
i ng assets, participants o n a network keep their o w n ledgers a nd
other records. Thi s traditional me t h o d can be expensive, partially
because it involves intermediaries that charge fees for their s e r -
vices. It’s clearly inefficient due to delays in executing agre ements
and the duplication of effort required to maintain numerous l e d -
gers. I t’ s also vulnerable because if a central sy s tem (for e xa m ple ,
a bank) is compromised due to fraud, cyberattack, or a simple
mistake, the entire business network is affected.

Business networks also use blockchain. The blockchain arc h i tec -

ture gives participants the ability to share a ledger t hat ’s updated
through pe e r - t o - p e e r replication each time a transaction occurs.
Peer-to-peer replication m e a n s that each participant (also called
a node) in the network acts as both a publisher a nd a subscriber.

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 Each node can receive or send transactions to other nodes, a nd the
data is synchronized across the network as it’s transferred.

The blockchain network is economical and efficient because it

eliminates duplication of effort and reduces the need for i nt erm e -
diaries. I t ’ s also less vulnerable because it uses consensus mo del s
to validate information. Transactions are secure, authenticated,
and verifiable.

T h e participants i n both transaction systems are the same. Wha t

ha s changed is that the transaction record is now shared a nd
available to all parties.

A blockchain network h a s the following key characteristics:

» Consensus: For a transaction to be valid, all participants

must agree on its validity. (See Chapter 2 for more about
consensus mechanisms.)
» Provenance: Participants know where the asset came from
and how its ownership has changed over time.
» Immutability: No participant can tamper with a transaction
after it has been recorded to the ledger. If a transaction is in
error, a new transaction must be used to reverse the error,
and both transactions are then visible.
» Finality: A single, shared ledger provides one place to go to
determine the ownership of an asset or the completion of a
transaction.

).

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 Recognizing the key business benefits
For business, blockchain has the following specific benefits:

» Time savings: Transaction times for complex, multi-party

interactions are slashed from days to minutes. Transaction
settlement is faster because it doesn’t require verification by
a central authority.
» Cost savings: A blockchain network reduces expenses in a
few ways:
• Less oversight is needed because the network is self-
policed by network participants, all of whom are known
on the network.
• Intermediaries are reduced because participants can
exchange items of value directly.
• Duplication of effort is eliminated because all participants
have access to the shared ledger.
» Tighter security: Blockchain’s security features protect
against tampering, fraud, and cybercrime. If a network is
permissioned, it enables the creation of a members-only
network with proof that members are who they say they are
and that goods or assets traded are exactly as represented.

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 N ot all blockchains are built for business . So m e are permissioned,
while others aren’t . A permissioned network is critical for a b l o c k -
chain for business, especially within regulated industries. It offers

» Enhanced privacy: Through the use of IDs and permissions,

users can specify which transaction details they want other
participants to be permitted to view. Permissions can be
expanded for special users such as auditors who may need
access to more transaction detail.
» Improved auditability: Having a shared ledger that serves
as a single source of truth improves the ability to monitor
and audit transactions.
» Increased operational efficiency: Pure digitization of
assets streamlines transfer of ownership. Transactions can
be conducted at a speed more in line with the pace of doing
business.

Chapter 2 goes into more detail on what makes a blockchain n e t -

work ideal for business.

Building trust with blockchain

Blockchain e nha nce s trust across a business network. I t ’ s not that
you ca n’ t trust those w h o m you conduct business with; it’s that
you d o n’ t need to w h e n operating o n a blockchain network.

Blockchain is particularly valuable at increasing the level of trust

a m o n g network participants because it provides cryptographic
proof over a set of transactions ; because transactions c a n’ t be
tampered with a nd are signed by the relevant counterparties, a ny
corruption is readily apparent. Thi s sel f- po lic i ng can mitigate the
need to depend o n the current level of legal or go ver nm e nt s a f e -
guards and sanctions to monitor and control the flow of business
transactions. T h e c o m m u n i t y of participants does that.

Where t hir d- p arty oversight is required, blockchain reduces the

burden o n the regulatory sy st em by m a k i n g it easier for auditors
a nd regulators to review relevant transaction details a nd verify
compliance.

Blockchain builds trust through the following five attributes:

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 » Distributed and sustainable: The ledger is shared, updated
with every transaction, and selectively replicated among
participants in near real time. Because it’s not owned or
controlled by any single organization, the blockchain
platform’s continued existence isn’t dependent on any
individual entity.
» Secure, private, and indelible: Permissions and cryptogra-
phy prevent unauthorized access to the network and ensure
that participants are who they claim to be. Confidentiality is
maintained through cryptographic techniques and/or data
partitioning techniques to give participants selective visibility
into the ledger; both transactions and the identity of
transacting parties can be masked. After conditions are
agreed to, participants can’t tamper with a record of the
transaction; errors can be reversed only with new
transactions.
» Transparent and auditable: Because participants in a
transaction have access to the same records, they can
validate transactions and verify identities or ownership
without the need for third-party intermediaries. Transactions
are time-stamped, ordered, and can be verified in near real
time.
» Consensus-based and transactional: All relevant network
participants must agree that a transaction is valid. This is
achieved through the use of consensus algorithms. Each
blockchain network can establish the conditions under which
a transaction or asset exchange can occur.
» Orchestrated and flexible: Because business rules and
smart contracts (that execute based on one or more
conditions) can be built into the platform, blockchain
business networks can evolve as they mature to support
end-to-end business processes and a wide range of
activities.

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 Blockchain Uses Cases

Cross-border transactions
Banks need a way to m a n a g e nostro/vostro accounts. Nostro (ours)
refers to a n account a domestic ba nk holds in a foreign ba nk in
the foreign country’s currency. Vostro (yours) is how the foreign
ba nk refers to that account . S uch accounts are used to facilitate
and simplify trade and foreign exchange transactions through
reconciliation. Nostro/vostro accounts can become stored account
transactions o n a blockchain to dramatically improve t rans pa r -
ency and efficiency through automated reconciliation of accounts.

The benefits include

» The ability to manage transactions across all of a bank’s

nostro/vostro accounts through a single interface
» Greater visibility of transaction status, current balance, and
tracking over time
» Consistent, timely, and accurate picture across all nostro/
vostro accounts

Trusted digital identity

Headlines in recent years have been gr i m for digital privacy.
Outdated and broken identity systems have exposed all of us to
fraud a nd theft of digital identities. A n I B M Blockchain client has
developed next generation pri vacy -enhancing services to help
C a na d i an consumers conveniently a n d privately assert identity

Blockchain in Action: Use Cases

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 information throu gh trusted providers like ba nk s , telcos, a nd
g over nme nts . As a result, these consumers can connect to c ri t i -
cal online services with a digital credential they already have a nd
trust, while ensuring that their information is only ever shared
with their explicit consent.

The benefits include

» User access to services customers want faster

» Reduced fraud and elimination of centralized honeypots of
data
» Triple-blinded transactions to preserve privacy

Multinational Policy Management

Managing complex multinational insurance across jurisdictions
is a complex process defined by unique regulatory environments,
inefficient information sharing, and different currency flows. In
response, I B M Blockchain helped convert a multi na ti o nal, c o n -
trolled ma s ter policy a nd local policies into a blockchain “ s m a r t
co ntract” that provides a shared view of policy data a nd d o c u -
me ntat io n in real time across the insured, insurer, brokers, a nd
network partners.

The benefits for participants include

» A new level of trust and transparency in the multinational

network
» Enabling the insurer and its partners to deliver multinational
insurance more efficiently
» Improved contract certainty, regulatory compliance, and
country-specific alignment

Government
A considerable a m o u nt of g ov er nme nt involves recording t r a n s -
actions a nd tracking ownership of assets, all of which can be m a d e
more efficient and transparent through the use of blockchain.

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 Establishing trusted identity remai ns a problem due to forgery
and expensive background checks required in verification. Millions
of people worldwide m a y have forged their identity d o c u m e n t a -
tion and m a y not be exactly wh o they say they are. Millions upon
millions of refugees a nd their children g o undocumented. People
in the poorer parts of the world m a y not have sufficient proof
to establish identity as required by certain service providers; for
example, banks typically require proof of residence or utility bills
to establish identity, neither of which m a y exist in the developing
country.

Organizations can apply blockchain by issuing digitally a u t h e n t i -

cated birth certificates that are unforgeable, time-stamped, and
accessible to anyone in the world. The benefits to this include

» Reduced costs and time in identity verification

» Reduction in human trafficking
» Transparency in grant allocations

Supply Chain Management

IBM Blockchain is delivering significant value to complex supply
chains around the world, el imi na ti ng traditional friction points
a nd providing entirely new degrees of transparency a nd trust.
Well beyond the theoretical, I B M Blockchain clients are co l la bo -
rating in networks a nd o n solutions that have the potential to e l e -
vate the quality of the food s upply, speed the m o v e m e nt of good s
internationally, a nd m u c h m o re.

Food safety
According to a study fr om the Food M ar k e t i ng Institute and G r o -
cery Ma nufac turers Association, the average food recall costs a
company $10 million — not including losses of sales, illnesses,
deaths, a nd da ma g e to their brand. I B M Food Trust brings together
growers, processors, wholesalers, distributors, ma nu fact urers,
retailers, a nd others to e nhance visibility a nd accountability in
each step of the food supply. Powered by I B M Blockchain, I B M
Food Trust directly connects participants through a permissioned,
p e rm a ne nt , a nd shared record of food origin details, processing
data, shipping details, a nd m o re.

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 IBM Food Trust benefits include

» Secure sharing of permissioned data through a holistic food

supply chain solution
» Faster responses to recalls and other food safety issues to
reduce foodborne illnesses
» Publishing and querying standards-compliant data for
powerful food trace and recall capabilities
» Sharing and viewing single-sourced inspection and quality
certifications and registrations throughout the supply chain

Global trade
M ore tha n $ 4 trillion in goods are shipped each year, with 80 p e r -
cent of those sh i pme nt s carried by the ocean shippi ng industry.
Yet the cost of trade documentation is estimated to reach o n e -
fifth of the actual physical transportation costs because different
supply chain participants — manufacturers, shippers, insurers,
banks, customs and border agents, and more — rely on vastly
different systems to process transactions, often slowing or c o m -
pletely stopping the m o v e me nt of goods. A proposed I B M joint
venture with a world leader in logistics will use I B M Blockchain’s
distributed ledger technology to help speed goods o n their journey
fr om manufacturer to ma r ke t, providing one universal view of the
truth to unleash ne w transparency a nd remove friction.

Global digital trade benefits include

» Fast, secure access to end-to-end supply chain information

» Verifiable authenticity and immutability of digital documents
» Trusted cross-organization workflows
» Better risk assessments and fewer unnecessary interventions
» Far lower administrative expenses and elimination of costs
to move physical paper across international borders

Healthcare
The healthcare industry needs a more efficient and secure s y s -
t e m for m a n a g i n g medical records, preauthorizing pay me nt s ,
settling insurance c l a ims , a nd p e r forming a nd recording other

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 complex transactions. Blockchain promises to provide m u c h -
needed relief.

Electronic medical records

Electronic medical records are currently mai ntai ne d in data c e n -
ters (in a cloudlike e nv iro nment) , a nd access is limited to hospital
a nd care provider networks. Centralization of such information
makes it vulnerable to security breaches and can be expensive.

Blockchain holds the complete medical history for each patient,

with multiple granularities of control by the patient, doctors, r e g -
ulators, hospitals, insurers, and so o n , providing a secure m e c h a -
n i s m to record a nd m ai nt a i n comprehensive medical histories for
every patient .

With this in mind, the following benefits are realized:

» Tamper-resistant means of storing medical histories

» Reduced time in insurance claims resolution and increased
efficiency in providing insurance quotes
» Complete patient medical history for precise drug recom-
mendations by physicians

Healthcare payment preauthorization

T h e term “ cl i ni ca l a t t a c h m e n t s ” is a concept surrounding the
need for additional clinical informatio n wh e n a payer is a d j u -
dicating a healthcare claim. C l a im s are often submitted without
all required supporting detail. As a result, payers need to request
additional detail, w h ich adds costs a nd delays to the settlement
process. Further, m a t c h i n g up claims with supporting i n f o r m a -
tion is challenging for all parties involved.

Blockchain can simplify this complicated a nd t i m e - c o n s u m i n g

process, which would au tomate the collection a nd sharing of
information. Additional benefits include

» Claims can be reviewed and paid more efficiently and quickly.

» The system can suggest alternative services that have better
coverage.

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