I have been devoting substantial time and attention this year to understanding bitcoin and the blockchain, and meeting with the start-ups and established institutions seeking to apply these technologies to the financial markets. In this I am hardly alone.

While I find the invention of a new currency independent of central bank control and possessing inherent inflation protection to be mildly interesting from an intellectual perspective, I believe the distributed ledger architecture of the blockchain will be the more important development over the longer term.

Those of us who have spent time operating in emerging markets, have no problem wrapping our brains around the creation of new currencies and the desire to somehow limit the discretion of local central banks to print money. Bitcoin, despite its current (and, in my view, temporary) scaling limitations is a compelling solution for governing transactions among counterparties who do not trust one another. In fact, one of the design objectives of the currency was to solve a relatively esoteric problem in computer science known as the “Byzantine Generals” problem.

It is beyond my ability and certainly the interest of most of the readers of this blog to delve too deeply into this byzantine thought experiment. At its simplest, the challenge is to devise a reliable communications protocol which will allow a group of generals from Byzantium, each in charge of a separate army, to coordinate an attack on an enemy city when not all of the generals can be trusted to act in unison. Exactly why the bitcoin-based blockchain solves this dilemma of reaching a consensus to attack (at least in the absence of a traitorous majority), I will leave to the experts (see e.g., The Byzantine Generals Problem –
http://research.microsoft.com/en-us/um/people/lamport/pubs/byz.pdf).

While much of the modern financial system can seem byzantine to the outsider, there is no real lack of trust, at least as far as clearance and settlement transactions between creditworthy counterparties in regulated markets. Thus, much of the overhead of the bitcoin-based blockchain is not needed for transactions between trusted counterparties. However, I find it deeply ironic that many banks exhibit just the sort of mutual suspicion exemplified by the Byzantine Generals problem when they come together in various consortia to study and potentially implement blockchain solutions.

It is a sublime form of recursive loop that the very financial institutions that will end up not needing the complete bitcoin-based blockchain to transact among themselves, act like Byzantine generals when trying to decide how much each institution should do alone to further its own blockchain efforts and how much to do jointly.

It is issues like these in finance, strategy and computer science that sustain my interest in FinTech.