Blockchain in Modern Trade
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| Blockchaintechnology is based on an innovative use of cryptography and has attracted a lot of attentiondue to its characteristics, which include: | The creation of data records that are permanent (i.e. cannot be changed or deleted); The ability to identify the time and origin of every entry in a Blockchain; The collaborative potential providing access to data in a Blockchain to multiple participants; The guaranteed implementation of smart contracts (programmes) that automatically execute once a set of agreed conditions are met. |
| UN/CEFACT | The United Nations Centre for Trade Facilitation and Electronic Business is a subsidiary, intergovernmental body of the United Nations Economic Commission for Europe (UNECE) which serves as a focal point within the United Nations Economic and Social Council for trade facilitation recommendations and electronic business standards. |
| Block | Data that is appended to the ledger after validation. Once a block is written to the chain, it cannot be changed or deleted without replacing all subsequent blocks. |
| Consensus | An important characteristic of Blockchainsystems which allows users to know that transactions have been executed and to evaluate the trustworthiness of the information about and in those transactions (for example, the date/time of execution and content). In the case of public Blockchains, the umpire that decides consensus is the society of all nodes that choose to participate. In the case of private Blockchains, the umpire is the consortium of nodes given permission to create consensus. There will be more about the different ways in which consensus can be reached in the text below. |
| Hash | The result of mathematical operations carried out on the numeric representation of data—all data in a computer consists of numbers that are deciphered in order to create the words and images you see on a screen. This result has a fixed size and is a unique cryptographic fingerprint of the underlying data. A hash is a one-way function; this means that given the data, it is easy to verify that the hash is the correct one for that data. This is done by performing the pre-defined mathematical operations on the data that supposedly created the hash—if the result is the same, the data is the same. This is a key feature because it allows users to quickly confirm that no changes, at all, have been made. For example, even an additional space or empty line in a text would change its hash. At the same time, and this is what makes it aone-way function, it is almost impossible to recreatethe original data if all one has is the hash (i.e. reverse engineer it). |
| Node | A system that hosts a full copy of the Blockchainledger. In some Blockchains, such as Bitcoin and Ethereum, all nodes participate in the consensus process, in others it may be only be selected nodes. |
| On-chain transaction | An automated procedure that creates or updates the status of a Blockchainasset in the Blockchaindatabase by appending new data to the ledger. Examples include digital asset exchange, or execution of an automated business process. |
| Validation | Work performed by nodes, in parallel, that verifies transactions using a consensus algorithm. Different networks may use different consensus algorithms. When mutual validation results in a consensus, then the nodes all commit (record) the verified transactions onto their Blockchainas a new block. |
| How blockchain works | At its heart, a Blockchainis a cryptographic protocol that allows separateparties to increase the trustworthiness of a transaction because the ledger entries in its database cannot be easily falsified (i.e. once data is written it is extremely difficult to change, albeit provided the data was correct from the outset). This “immutability”is due to a combination of factors including the cryptography used in a Blockchain, its consensus/validation mechanism and its distributed nature. As a result of this immutability, Blockchain systems can be used as an independent umpire in processes that might otherwise expose participants to the risk of one party not living up to its contractual obligations (counterparty risk) and where third-party guarantors are reluctant to intervene and assume part of that risk. |
| Step by step how blockchain works | It writes transactions These transactions are written to a cryptographically signed block Independent nodes must verify the cryptographically signed block The block is written to the ledger after it is verified The new block is linked to previous blocks—creating immutability |
| Market demand | In 2018, a survey16found that “65percentof responding enterprises with over 10,000 employees are considering or actively engaged in Blockchain deployment. This marks a significant rise from 2017, when the corresponding figure was 54percent.”This survey also found that “nearly a quarter of companies considering deploying Blockchain had moved beyond proof of concept into trials and commercial rollouts, with dramatic diversification in use cases over the past year. Only 15percentof proposed deployments were now related to payments (compared with 34percentlast year), with significant interest in opportunities across diverse fields including logistics, authentication and smart contracts.” |
| How blockchains are different | •Vulnerability: to hacking and other system failures; •Robustness: how well they handle problems such as flawed code or being hacked; •Cost: transaction cost, sometimes referred to as gas; •Speed and ability to scale up: to large transaction volumes; •Degree of Privacy: no anonymity vs pseudo anonymity vs total anonymity and conformity with privacy legislation |
| Problems with anonymity | One of the headline features of Blockchains is the potential for anonymity that they offer. Although anonymity is something that can be engineered into or out of any specific Blockchain, the potential for hiding or obfuscating important information is of concern to governments. Without regulation it is possible for entire economies to operate out of sight, thereby avoiding taxes, fees and financial laws such as those on money-laundering. For example, using crypto-currencies to transfer value across borders could allow for cross-border shipment of goods at lower values attracting lower taxes or tariffs with a secondary payment being made via anonymous crypto-currency to compensate the seller for the true value of the shipment. |
| Governments and Blockchain | Governments that lag behind and create or maintain barriers to the use of technologies, such as Blockchain, that can improve the efficiency and effectiveness of business and government processes risk losing the competitive advantage of their national businesses and eventually the revenue that flows from these businesses. To that end, good businesses and good governments are entirely aligned on the motives for the adoption of Blockchain and should be able to work out their differences when it comes to their competing agendas. Businesses can anticipate many of the likely needs of governments with regard to Blockchain applications (such as meeting Know Your Customer and Anti Money Laundering requirements) and can work towards meeting those without external prompting. |
| Securing the Blockchain | The security of Blockchains is typically achieved by having the risks or costs associated with a malicious act far outweigh any likely benefit from its successful execution. Specifically, they seek to make the costs associated with being caught very large and the likelihood of success very low. Protocols such as Proof-of-Stake (POS) are more appropriate in the Blockchains envisaged for most supply-chain applications. Private and semi-private Blockchains are formed by groups of businesses, each of whom has a legitimate interest in protecting the validity of the data being handled. POS protocols allow honest actors to keep attackers at bay by making an attack economically unviable at a very low cost to the honest actors. |
| Speed vs security | Blockchain designers will also have to consider the trade-offs between speed and security required for their Blockchains. Individual supply chains will likely move slowly enough to accommodate the long latency (processing delays) that can accompany the highest levels of security protocols. Aggregations of chains into a holistic system for an entire business or group of businesses will potentially introduce a transaction frequency that demands further examination. Designers will need to take into account the maximum latency that the system can handle and engineer in ways to meet increasing data volumes and the tolerance of users for delays. |
| Accessibility | Strong permission-based access protocols offer a theoretical level of privacy that should meet the most exacting standards of business and governmental agencies. Any user’s access to information within a private Blockchain can be restricted by their permissions. However, as anyone who has worked within a large organization will attest, changing the permissions for access to even privately-held data is not an instantaneous or friction-less process. In order to verify approvals and action changes, several levels of approval may be required, and resources have to be made available, and paid for by someone. Extrapolate these checks and balances across a supply chain that covers multiple users in multiple organizations, across multiple time zones, speaking multiple languages and you could have an access-to-information nightmare. |
| Lability | Even when the process for giving and restricting access to information is solved to the satisfaction of all participants, the issue of liability remains. To whom are appeals made when confidential information is stolen by a malicious actor or shared with an unauthorized user? Who actually owns the data? These are complicated questions that will need to be answered, possibly in law, before Blockchains can capture all the information necessary to unveil the full power of the technology. |
| Smart Contracts Challenges | •First, smart contracts are still in their infancy and getting accurately coded contracts that mimic real life expectations may be time consuming and even require the reengineering of some processes and the resetting of expectations. It is also important to have smart contracts audited for security flaws as these can provide opportunities for hackers.•Second, smartcontracts for funds transfers require that money is effectively placed in escrow until the smart contract terms are met. Even if operating in a fiat currency,this would likely create significant cashflow issues for some businesses that might not be offset by faster payments by their creditors. Cashflow challenges can be further complicated by the fluctuation of cryptocurrencies during the holding period, unless cryptocurrencies which are pegged to fiat currencies (called stable coins) are used or the values of cryptocurrencies stabilize. |
| Identities and identification | It is estimated that 1.1 billion people live without an officially recognized identity.27As a result, they are unable to participate in commerce, financial markets and have no access to services such as healthcare. An accurate and accessible identity system allows for inclusion and participation in global trade. A Blockchain system could leverage digital ID systems which have appropriate authentication mechanisms. By combining decentralized Blockchain principles with identity verification and cryptography, a digital signature can be created and assigned to every online transaction affecting an asset. This has several potential benefits for consumers, businesses and regulators alike. First, creating an identity on a Blockchain over who has their personal information and how they access it. Blockchain identity management platforms could also simplify procedures associated with burdensome, costly and time-consuming KYC obligations as well as better complying with data collection and privacy regulations. For businesses, this could lead to stronger regulatory compliance, lower costs, reduced fraud28, and a more seamless experience for clients. Similarly, for regulators, a Blockchain based process could allow for prompt auditing and increased efficiency in compliance control, monitoring and quality. Taken holistically, improved means of verifying and managing digital identities and personal information based on Blockchain technology could increase transaction efficiency and further facilitate trade. |
| Authentication Forms | •ID/password; •Something I know (questions, grid cards, images, knowledge bases, etc); •Biometric methods (typically, fingerprints or IRIS scans); •Devices (for example, a one-time pin sent to amobile number); •Third-party verification (which could include digital certificates or social network-based access) |
| Blockchain and authentication | Public and many private/permissioned Blockchain systems have nodes in many countries and can be accessed from anywhere, therefore, while users may be subject to recognized governmental or intergovernmental authorities, the same is not the case for the Blockchain system itself. As a result, an intergovernmental framework may be needed for the cross-border acceptance by authorities (for example courts) of Blockchain data. Such a framework could, for example, define required levels of authentication, reliability and accountability in cases where credentials (i.e. means of authentication) may be compromised. |
| Data integrity | While Blockchain-based distributed ledgers provide transaction immutability, there is also almost no way to remove inaccurate data if it was erroneously entered in the first place. For this reason, it is important to put logic into Blockchain-based applications and smart contracts which allows for new transactions to be entered that will, in effect, erase the impact of previous inaccurate entries (even though the inaccurate entries remain –just like in a paper-based ledger accounting system). In other words, this would not change the data (which would require a fork in the Blockchain as explained in section II), rather it is a “reversing entry” as would be made in an accounting ledger. |
| Cyberattacks | While in theory Blockchains are vulnerable to cyberattacks including Sybil 51per cent attacks and distributed denial of service, the combination of decentralized database architecture, cryptography and the principles of immutability and consensus make Blockchain-based distributed ledgers relatively resilient to cyber-attacks (see section 2for further explanations). The types of attacks that a Blockchain is susceptible to depend upon a range of characteristics. For example, Blockchains with fewer nodes are at a greater risk for 51per cent attacks, while permission less Blockchains may be more at risk of identity theft than permissioned Blockchains where access is more restricted. Another vulnerability that will probably arise in the future is the development of quantum-speed computers, and their possible use for hacking, given the extensive reliance of Blockchains on cryptographic techniques. |
| Privacy and confidentiality of information | Confidentiality refers to the protection of data so that it is disclosed only to authorized parties and is protected from access by unauthorized third parties37. Privacy refers to a person's right to control access to his or her personal information. Digital innovations, including Blockchain technology, may have the potential to protect the rights of citizens to privacy and confidentiality. In many cases, confidentiality and privacy are enforced by legislation (e.g. EU or national data protection legislation), regulation (client confidentiality) or contract (commercial confidentiality). As such, it is critical to understand how Blockchain technology impacts these protected rights. |
| How Blockchain can do privacy | The design of any digital platform for trade facilitation using Blockchain technology must be done so as to store and transmit data in a way that safeguards the right of individuals to confidentiality and privacy. To achieve this, it may be necessary for developers to only record hashes of personal data on the Blockchain(or perhaps even only a hash of the data’s location/address) and to not store any private data on the Blockchain. Instead, private data can be stored off-chain and only exchanged as needed and in peer-to-peer communications. |
| The following rules should be considered when designing Blockchain systems that need to safeguard privacy and confidentiality: | •Transacting parties cannot be identified by an unauthorized third party from the information stored on the Blockchain(including metadata)40, unless the party(ies) to be identified has/have chosen to reveal that information; •Other transaction details are not visible to unauthorized third parties and to the open public unless one of the transacting parties has elected to disclose that information; •Transaction details cannot be collated, analysed or matched with off-Blockchain41meta data to reveal any information about the transacting parties or the details of the transaction. |
| Risks regarding privacy | Blockchains do not inherently respect privacy and confidentiality. Indeed, the two largest Blockchain systems, Bitcoin and Ethereum, are public (permissionless), open, transparent, and pseudonymous. They are open in the sense that there are no restrictions on participation,and they are transparent because all transactions and all transaction information is visible to anyone on the Blockchain. In addition, on the Ethereum Blockchain the code and execution of smart contracts is also visible. In both Blockchains, transacting parties are pseudonymous and identified by public keys generated using mathematically derived algorithms (known as Bitcoin addresses or Ethereum accounts). This provides only a very limited amount of confidentiality, because it is possible toconnect the identity of an individual with their public key. Because transactions made on Blockchainare fully traceable, once a person’s identity has been linked to their public key it is possible to infer and monitor an individual’s spending patterns (such as where they spend, how much they spend, and how often), their wealth and income, and with whom they undertake transactions. It is also important to remember that the data written to the Blockchain is immutable and irreversible, meaning it is permanently accessible andvisible. As such, incursions on one’s privacy or confidentiality cannot be reversed or corrected at a later time. |