Blockchain Technology: Prospects and Challenges

[op-ed snap] Going beyond the problems of bitcoin

Note4students

Mains Paper 3: Science & Technology | developments & their applications & effects in everyday life

From UPSC perspective, the following things are important:

Prelims level: Bitcoin, blockchain, smart contracts,

Mains level: Usage of blockchain technology in various government processes


Context

Bitcoin demand increasing

  1. Bitcoin has dominated headlines in the financial world in recent months with a return of over 1,700% so far this year
  2. Rising prices are attracting more investors

Problems for the formal financial system

  1. If the prices of bitcoin and other such currencies keep going up for a considerable period, the fall could be painful
  • Rising prices will attract more people to start such currencies and invest in them
  • This will increase the contact of virtual currencies with formal finance, and developments in this market would affect the financial system

2. If adoption of bitcoin or other such instruments actually increases significantly, it will make things difficult for central banks

  • A central bank manages the supply and cost of money in the system to attain maximum growth with price stability
  • But in the world of unregulated cryptocurrencies, central banks may find it difficult to manage the level of economic activity
  • Bitcoin, for example, is deflationary by design
  • Greater adoption could also alter the dynamics of capital control, especially in developing economies

3. An increase in the use of such instruments could also affect financial intermediation, investment, and growth

Technology on which bitcoin works has a much wider appeal

  1. Bitcoin is an unregulated cryptocurrency which is administered by a network of users through an open and distributed ledger known as blockchain
  2. Each transaction is verified by the network
  3. Since it is a distributed ledger and no one person or organization controls it, technically, chances of someone manipulating the system are very low

Potential of blockchain technology

  1. Blockchain has the potential to end property-related litigation in a country like India
  2. The government can have a blockchain where ownership and transactions can be tracked easily
  3. Blockchain can make government spending more efficient in areas such as the social sector, as it will increase transparency
  4. The technology is also being tested in the financial sector to settle transactions
  5. This could help reduce costs for financial institutions and the working capital requirement for other firms
  6. The distributed ledger can have other usages such as smart contracts

Challenges posed by blockchain technology

  1. If automated risk management, smart contracts, and similar tools are deployed across a network, cascades of rapid and hard-to-control obligations and liquidity flows could propagate across a network
  2. This interdependence will likely call for creative organizational thinking to address the need for governance and strong risk management

Way forward

  1. The idea of blockchain deserves more attention, as it could potentially transform the way transactions are settled
  2. Blockchain be used to reduce costs and increase efficiency
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