Blockchain
Technology

Andreas Park

Part 1: What is it?

What is a blockchain?

What is this module about?

What economic problem does it solve?

How does it apply to finance?

How does it work?

Learning Objectives

  • most online resources and books are 
    • either too shallow and written by evangelists
    • or too technical and written by & for developers
    • or plainly obnoxious and written by crypto-peddlers 
  • my goal:
    • provide an in-depth intro to the concepts and functioning of blockchains
    • go into detail on key issues
  • desired outcomes
    • solid understanding of key concepts
    • ability to assess pros/cons and possible use cases
    • identify challenges for applications
    • understand basic logic of smart contracts

Why should we care?

Why should we care?

Source: "Unlocking the human opportunity:  Future-proof skills to move financial services forward"; PwC report for the Toronto Financial Services Alliance, April 2018

in a nutshell: why people choose to work in finance

relative wage=avg wage in finance/avg rest of economy

Source: Philippon (AER 2015) "Has the U.S. Finance Industry Become Less Efficient?"

The Growth of Finance as % of GDP

Source: Philippon (AER 2015) "Has the U.S. Finance Industry Become Less Efficient?"

Meanwhile, in the traditional world of finance

Business as usual?

The World of Banking is Opening

Is this a distant future?

Will there be banks in the future?

Is this a distant future?

  • 900M WeChat Pay Users
  • 84% market penetration
  • >150K WeChat Pay users @GTA

Some Examples of (Past) Industry Leaders

Why worry about the distant future?

Nokia's market shares for devices:

  • 2007: 49.4%
  • 2012: 3%

What happened and can it happen to banks?

Examples: Blackberry and a generic bank

Paid-for vs. valued 

  • Keyboard
  • Security
  • Being businessy
  • Cool and cutting edge
  • Being Canadian
  • Independence from desk

What did they pay for?

What do people value?

  • Mobile email
  • Brand name
  • Easy access to branch
  • Great product range
  • Fair prices
  • Great advice
  • Latest tech
  • Friendly tellers
  • Safe-keeping of assets

If banks move all data into "the cloud," why do we need banks?

What took the place of Blackberry?

Major Lesson: Platforms provide value

What took the place of Blackberry? The App-Phone

Past, Present, and Future

Who will provide the next gen banking platform?

Siloed banks

Cloud computing and cloud storage

Open banking and open data

The past (and the present?)

The present and near future

3-5 years in the future

5-10 years in the future

Platforms?
Banks?
Tech firms?

  • Each bank has a separate data center
  • high costs
  • no scaling
  • little network externalities
  • AWS etc
  • Use specialized IT providers
  • Network with external providers (FinTechs)
  • Share data with external parties at customer request
  • Platforms will emerge
  • Customers can switch at the drop of a hat
  • How will basic banking work?
  • Who will run the platform and how will you survive on a platform?
  • What will a platform work in financial services look like?
  • What roles will current banks play?
  • How will a bank earn money in a platform world and with which services?

What does a blockchain do?

only the first 1:16 min are relevant

What happened?

exchange needed TRUST

What's needed for trust in  anonymous deals?

Authority

Execution

Continuity

Authority

Do you have the item?

Do you have power over it?

Tool: key cryptography

Execution

Can we agree that it happened?

Tool:
consensus algorithm

Security

Are the records immutable?

restricted permissions

really difficult to hack

historically:
commerce requires trusted parties

trustworthy people

long-term relationships

reputation

contract
law

premise of blockchain

no trusted parties needed

everything
in code

open to
anyone

platform or network

commerce thrives

How?

Which problems do we need to solve?

Who can make changes?
 

How do we agree that a change has occurred?

How do we ensure that we can trust the one who made the change?

Cryptography: only Sue can spend her money

Authority

Execution

Problem: double-spending

How can we trust that

  1. sale happened and
  2. $$ only spent once?

Execution

Security

Why Blockchain?

Excursion: what is money?

Sue wants to send Bob money

Illustration of Infrastructure Frictions: money transfers

Version 1: They use the same bank

Change ledger entry locally

Version 2: They use different banks but the banks have a direct relationship

Sue's bank transfers from Sue's account to Bob's bank's account

Bob's bank transfers from its account to Bob's account

Version 3: They use different banks that have no direct relationship

Sue's bank transfers from Sue's account to its own account

Bob's bank transfers from its account to Bob's account

Central Bank

Central bank transfers from Sue's bank's account to Bob's bank's account

International transfers

Sue's bank transfers from Sue's account to its own account

Bob's bank transfers from its account to Bob's account

use the Swift network of correspondent banks

Bottom Line

  • very complex

  • many parties

  • lots of friction

  • expensive

Crazy thought:

Wouldn't it be nice if there was a single ledger?

Here follows an in-class demonstration of a transfer

Public Information about my address

Quick detour: how do you get cryptocurrencies

Step 1:

send dollars to (say) coinbase using a bank transfer of a credit card

Step 2:

convert dollars to cryptocurrency at 

Step 3:

send crypto to blockchain address

0xA69958C146C18C1A015FDFdC85DF20Ee1BB312Bc

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

One more: a stock trade

Sue wants to sell ABX

Bob wants to buy ABX

sell order

buy order

Clearing House

Stock Exchange

Broker

Broker

3rd party tech

custodian

custodian

record beneficial ownership

central bank for payment

Strongest feature

digital contracts

With Blockchain: single ledger for money and securities

0xA69958C146C18C1A015FDFdC85DF20Ee1BB312Bc

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

0xA65D00Eda4eEB020754C18e021b1bF4E66C9Ed90

Spirit of Blockchain: Fully decentralized

... 300 lines of code ...

standard trading rules practically impossible to enforce

In class demonstration of token generation

Needless to say, you can also use it "differently" ...

Simplified Architecture of a Block

Header:

  • link to past block
  • block number
  • coinbase
  • time stamp
  • Merkle root
  • nonce

 

Main part

  • transactions

 

 

 

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

Simplified Architecture of a Blockchain

  • link to past block
  • block 23456 
  • coinbase
  • nonce

 

 

 

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

  • link to past block
  • block 23457
  • coinbase
  • nonce

 

 

 

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

  • link to past block
  • block 23458
  • coinbase
  • nonce

 

 

 

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

}

}

So many items that require clarification!

digitally signed

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

  • where does the address 0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A come from?
  • what does "digitally sign" mean?

Header:

  • link to past block
  • block number
  • coinbase
  • time stamp
  • Merkle root
  • nonce

 

Main part

  • transactions

 

 

 

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

transaction:

0x4E3996EEae8Bb4BC0f041Fd9ead61e639B29167A

sends 0.002 Ether to

0x91C44E74EbF75bAA81A45dC589443194d2EBa84B

  • How do you "link" to the past block and why?
  • What is a coinbase? Does that relate to the firm?
  • What is a Merkle root?
  • What is a nonce?

So many items that require clarification!

Anders Brownworth's Demo

https://anders.com/blockchain/block.html

Blockchain MFRM Lecture 1 2019

By Andreas Park

Blockchain MFRM Lecture 1 2019

This deck 1/2 for the MFRM Blockchain technology module in finance, taught at the Rotman School of Management, Fall 2019.

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