Blockchain 2017: experimentation abounds, Illinois hopes

By Jingnan Huo

It has been a busy winter for Moran Cerf, Northwestern University professor in business and neuroscience and a self-described former hacker. From November to January, Cerf said, each month he has been invited to speak to around 20 Illinois companies, mostly in Chicago, about blockchain.

“So if you don’t count the holidays, it amounts to almost one company per day” over the three months, Cerf said.

Hailed as a technology as disruptive as the internet was in the 1990s, blockchain is on the precipice of its first flagship application, according to those in the industry. Once that happens, blockchain will be unstoppable, its boosters say.

Blockchain, also known as “distributed ledger technology”, is a way of storing, encrypting and sharing data that is easy and quick, and prohibitively costly for hackers to tamper with, at least so far. It’s the technology behind the digital currency bitcoin.

Bloq Inc., a Chicago-based blockchain service provider, is seeing interest from across the board–insurance, management and real estate, said Lexy Prodromos, research and marketing strategist at Bloq Inc., in an interview. The company said its revenue doubled in 2016, and it has partnered with Deloitte LLP, PwC LLP and others to provide blockchain solutions for companies.

“Investors have pumped some $1.4 billion into equity investments in companies developing the technology since 2013,” according to a Pitchbook.com report from October 2016. “This doesn’t include the individuals and groups pouring resources into the technology’s supporting hardware, which in aggregate holds 8x the processing power of the world’s 500 fastest supercomputers.”

Last year marked a milestone for blockchain since its genesis in 2008, as it captured mainstream attention, Cerf said. “Before, it was just a thing for hackers and programmers, a small thing for people who care.”

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Interest of blockchain since birth of bitcoin as based on Google search results. (Jingnan Huo/MEDILL)

Why is it called blockchain?

Information is stored in blocks and shared with all the users of the blockchain. A user can add a new block to the chain of information only by having the block verified as true by other users. The verification process involves algorithm and encryption technologies.

When a user wants to put a new block into the chain, the proposed block is broadcast to the network of users. Any user of the blockchain has a copy of all the blocks and pending blocks to the chain, and any user can take part in the verification process.

The longer the blockchain gets, and the more users it has, the harder it is to add fraudulent information to the chain. Bitcoin is blockchain’s first and most famous application, and blockchain’s structure has been credited with largely preventing payment frauds.

The distributed and resilient nature of blockchain means cross-border payments, when processed on blockchain, can happen without clearing transactions through banks. Drivers one day may have blockchain-based smart insurance contracts that enable them to be automatically paid in case of a car accident. Blockchain may also some day allow consumers to control the amount of private information disclosed on the internet.

The next block

“Big banks are embracing the technology; companies are opening up. . . . It has made the leap. Which means now it’s here to stay,” Cerf said.

The flagship product that would make blockchain something usable for everyone could emerge as soon as this year, Cerf declared. He compared the development of blockchain with the arrival of Nokia and Blackberry phones 15 years ago.

Bloq Inc.’s Prodromos said the industry is still in its early stages but is growing.

“We are in kind of a unique moment. There is a finite, small number of developers who are even able to code, to create, to make blockchain or blockchain technology in general. Some say 400, some say 1,000. The number is very small,” Prodromos said, “And it’s open source, a kind of community effort. It probably wouldn’t stay that way forever,” she added.

Blockchain applications

A recent Deloitte report stated that companies in consumer products and manufacturing deployed the most aggressive investment to use the technology, followed by technology, media and telecommunications companies. Financial services, though forerunners in research and experimentation of the technology, trailed behind.

Banks are reluctant to adopt the technology because they are the targets of its disruption, said James Sinegal, security analyst at Morningstar Inc.

While blockchain-enabled fintech companies have garnered much investment interest, most blockchain-related companies are still in the experimental stage, and monetization is less likely within the year, Sinegal said.

“Getting millions of people to use a product like that, it’s just a really tall hurdle,” said Sinegal, “Derivatives trading, for example, there may be only a dozen major banks trading derivatives. . . . You only need to get a few parties to agree, rather than having millions of people use a product.”

CME Group Inc., a leading operator of derivatives markets, has partnered with U.K.’s 1,000-year-old The Royal Mint to use blockchain technology for buying spot gold sometime this year. Unlike traditional gold trading, which involves management fees and ongoing storage charges, the 24/7 running trading platform offers “ownership of the underlying gold with the option for conversion to physical gold by The Royal Mint with zero storage cost,” according to CME’s press release.

Illinois Blockchain Initiative, formed in November 2016, is looking into how to apply the technology to public services. For example, blockchain could support smart contracts to automatically notify individuals of taxes they owe when certain events happen, said Jennifer O’Rourke, assistant deputy director of the Office of Entrepreneurship, Innovation and Technology, one of the state of Illinois departments involved in the initiative.

Contention persists over whether blockchain services should build on public chains like bitcoin blockchain and Ethereum blockchain, or on private blockchains, O’Rourke said.

The initiative asked for input on blockchain last year and received 22 replies. Respondents included Accenture Plc, Microsoft Corp., PwC, IBM Corp., Deloitte, SAP America Inc. and Ernst & Young LLP.

Bloq’s clients are preferring private blockchain, even though public blockchains are larger and therefore more resilient, said Prodromos. “Part of it [companies preferring private blockchain] is a little bit of a marketing problem.”

The theft of millions of dollars of bitcoin from exchanges and individuals has raised concern about the security of its underlying technology.

But “it’s the exchanges that have been hacked,” Prodromos said, not bitcoin blockchain. Blockchain “is the most resilient thing going for nine years now,” she added.

“What we are likely to see is not a single blockchain platform but some level of diversity and interoperability”, said David Schatsky, managing director of Deloitte, in an interview. Schatsky said that, like the internet, “it’s more of a technology ecosystem.”

Opportunities for Illinois

At present, most blockchain-related companies are in California, but Illinois has the infrastructure and talent to be the best in the blockchain industry, said O’Rourke.

“Northwestern, University of Chicago, University of Illinois Champaign-Urbana-–we have the best engineering and business schools here in the state of Illinois. And within these top tier world class institutions, there’s an emphasis on R&D in each and every one of them,” O’Rourke declared.

Illinois also has a favorable regulatory environment. The state determined bitcoin to be an asset, not a currency, exempting it from regulations like Bit License in New York State, whose application demands hefty legal fees, and requires new licenses for every new service provided. Because of that, there has been an exodus of companies from New York City, Prodomos said, a misstep she hopes Chicago will avoid.

Prodromos was the only non-governmental member of the group that helped formed the Illinois Blockchain Initiative and argued successfully for a standby regulatory stance.

“It’s a metaphor of a space in which companies could experiment without being chastised or punished for things that are maybe not yet part of legal blockchain or anything–kind of a gray area.” Prodromos said, “We want to make sure we have a welcoming community.”

Challenges

Venture capital deals in the bitcoin and blockchain arena have declined in the past two years, a report by Pitchbook.com showed. The report said the decrease is due to more belt-tightening as VC’s tilt to easy-to-define business models rather than “the zero-revenue moonshots that may have received funding in the past.”

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Pitchbook’s report showing trends of venture capital deals from 2013 to 2016. (chart via Pitchbook)

“The roadblock is not necessarily the tech itself,” said Sinegal. “People may find it interesting, but they don’t find the right application. There has to be a longer period of experimentation. . . . When it doesn’t work out, people lose patience and leave.”

Talent is in tight demand, said Prodromos, again emphasizing the small number of developers who know how to code on blockchain. “First you have to learn the blockchain language, then you have to learn to operate the platform.”

Then there is the challenge of digital identity. A unified digital identity that includes multiple facets of an individual’s life would greatly increase efficiency and security. A person wouldn’t have to enter personal information repeatedly for different organizations, but simply give permission to view part of his identity on the blockchain.

The question is whether Americans would feel that their privacy is being compromised.

O’Rourke said that companies and government agencies must first educate the public to feel comfortable that they’re still in control their digital personal identity.

“That needs to be solved because it’s so foundational,” O’Rourke said.

Companies’ understanding of blockchain remains at a more superficial level than the executives themselves realize, said Cerf.

“They have watched a YouTube video about blockchain, and they kind of ‘get the idea’. It’s a kind of basic understanding for a lot of people, but not very complex ones.”