I first became interested in blockchain technologies when in 2016 the World Economic Forum (WEF) named The Blockchain in its annual list of Top Ten Emerging Technologies citing its potential to fundamentally change the way markets and governments work. The WEF noted that “Like the Internet, the blockchain is an open, global infrastructure upon which other technologies and applications can be built. And like the Internet, it allows people to bypass traditional intermediaries in their dealings with each other, thereby lowering or even eliminating transaction costs.”
The blockchain first came to light in 2008 as the architecture underpinning bitcoin, the best known and most widely held digital currency. The blockchain’s original vision was limited to enabling bitcoin users to transact directly with each other with no need for a bank or government agency to certify the validity of the transactions. But, like the Internet, electricity and other transformative technologies, blockchain has transcended its original objectives. Over the years, blockchains, - and the more encompassing distributed ledger technologies (DLT), - have developed a following of their own as distributed data base architectures with the ability to handle trust-less transactions where no parties need to know nor trust each other for transactions to complete.
Could blockchain/DLT become truly transformative technologies? And if so, what will it take?
As firms increasingly rely on supply chain partners for many of the functions once done in-house, managing their increasingly complex operations across a network of interconnected institutions has become major challenge. Over the past few decades, digital infrastructures and applications have significantly increased the volume of transactions among institutions, both within countries and around the world. Increasingly, the unit of competition is no longer a single firm but a networked ecosystem of institutions working closely with each other.
The long term promise of blockchain technologies was nicely explained in The Truth About Blockchain, a 2017 Harvard Business Review article by Harvard professors Marco Iansiti and Karim Lakhani:
“Contracts, transactions, and the records of them are among the defining structures in our economic, legal, and political systems. They protect assets and set organizational boundaries. They establish and verify identities and chronicle events. They govern interactions among nations, organizations, communities, and individuals. They guide managerial and social action. And yet these critical tools and the bureaucracies formed to manage them have not kept up with the economy’s digital transformation. They’re like a rush-hour gridlock trapping a Formula 1 race car. In a digital world, the way we regulate and maintain administrative control has to change.”
“TCP/IP unlocked new economic value by dramatically lowering the cost of connections. Similarly, blockchain could dramatically reduce the cost of transactions. … With blockchain, we can imagine a world in which contracts are embedded in digital code and stored in transparent, shared databases, where they are protected from deletion, tampering, and revision. In this world every agreement, every process, every task, and every payment would have a digital record and signature that could be identified, validated, stored, and shared. … Individuals, organizations, machines, and algorithms would freely transact and interact with one another with little friction. … If that happens, the economy will once again undergo a radical shift, as new, blockchain-based sources of influence and control emerge.”
What will it take to to bring this about? According to a recent WEF white paper, Bridging the Governance Gap, a critical part of the answer is to integrate blockchain and DLT solutions with legacy IT systems. “The innovation of blockchain technology leads to an important question about how legacy digital systems, operated by enterprises, governments and institutions, will be affected. Presently, the answers to this question have varied from one extreme (‘all legacy systems will be replaced’) to the other (‘DLT is too slow and unproven to actually replace any working legacy system’). However, the eventual answer may lie somewhere in between, where the utility of select legacy systems is upgraded by DLT integration wherever appropriate, and DLT solutions witness a growth in enterprise adoption.”
Two major technologies are required to enable blockchain/DLT and legacy IT systems to embrace each other: smart contracts and oracles. “The primary and predominant reason for DLT‐legacy interoperability is to enable smart contracts (on‐chain) to use an oracle to fetch information from a legacy system (off‐chain), format it, validate it and store it on the blockchain where it can be used to trigger some type of agreement. The reverse use case also exists, whereby on‐chain information or some type of command from a smart contract is sent to an external system that uses it for further processing or to act in the real world.”
Smart contracts are self-executing agreements embedded in digital code, which are triggered based on predefined events without human intervention. “Since smart contracts operate on a blockchain, in general no counterparty or external entity can tamper with the terms, execution or outcome, providing the user with technologically enforced guarantees that the contract will be fairly honoured.” These guarantees make smart contracts a new form of multiparty business automation.
Smart contracts are necessary, but not sufficient. If there’s no ready access to information outside a blockchain, there’s no way to validate the predefined information or events that are supposed to trigger the smart contract. A second major technology is required - the blockchain oracle.
Oracles are secure middleware that connect the self-contained world of blockchains and blockchain-based smart contracts with the external digital and physical world, including legacy data and transaction systems. They’re the trusted entity that translate and verify information provided by the world that’s not part of the blockchain. “The main goal of an oracle is to retrieve external data, validate it and deliver it to the intended entity. … This model is essential if smart contracts are to have a significant global impact on business process efficiency and transparency, particularly because enterprise smart‐contract use cases generally require access to high‐quality off‐chain data and traditional business infrastructure in order to run end‐to‐end.”
A concrete example best illustrates how smart contracts and oracles enable the interoperability between blockchains and legacy business solutions. “[I]f an insurance service provider wishes to automate the dispersal of flight insurance claims, it could do so via a smart contract. But for the smart contract to execute, it needs accurate information on the scheduled and actual departure times of the flights, as well as the ability to settle in fiat currencies on traditional payment rails. Since blockchains do not natively generate this information or provide connections to traditional systems, a piece of infrastructure called an ‘oracle’ must be adopted to connect the smart contract to external resources. Additionally, since a smart contract cannot execute on software outside of the blockchain, the oracles provide the smart contract with inputs and also take the outputs and execute them as actions on external systems.”
“Smart contracts and other innovations in blockchain and distributed ledger technologies may significantly alter the way in which business transactions are currently undertaken,” says the WEF white paper in conclusion. “However, legacy systems for data, communications and computations are the dominant tools for businesses and governments and are likely to be so for the foreseeable future. … DLT‐legacy interoperability is a critical step towards unlocking DLT experiments outside the proof‐of‐concept pilot zone and bringing those to enterprise scale.”
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