Distributed ledger technology: hype or history in the making?

Distributed ledger technology (DLT) has become a “hot” topic. It has drawn the attention not only of financial institutions but also of central banks. Some are looking into the possibilities of DLT from a more theoretical and research angle, while others have set up test labs to assess how it could be used to develop solutions for inefficiencies in the financial industry. Indeed, there were few financial conferences in the past year or so where it did not feature on the agenda. A sober look at some of the hype around DLT is urgently needed: is it a panacea for the ailments of the financial industry, or merely a flash in the pan, soon to be forgotten? Is it hype, or history in the making?

What is distributed ledger technology?

A distributed ledger is essentially a record of information, or database, that is shared across a network. It may be an open, publicly accessible database or access may be restricted to a specified group of users. From a technical perspective it can be used, for example, to record transactions across different locations (see In focus paper). In terms of impact, it has the potential to advantage some actors, by lowering back-office costs and collateral or capital requirements. At the same time, it may possibly disintermediate or even make redundant some market actors that do not provide core functions. In an extreme scenario, it could completely transform the financial system as we know it. But this is all hypothesis at this stage.

Why does it matter to the ECB?

In the field of market infrastructure, the Eurosystem has three key roles: as owner and operator of TARGET2 and TARGET2-Securities (T2S); as overseer, to make sure that the financial market infrastructure operates in line with the applicable standards and guidelines; and as a catalyst, to support the industry in developing its own initiatives. The Eurosystem is well placed to do this given its extensive knowledge and understanding of the financial market and its pan-European reach.

It is essential that – as the financial market landscape changes – the Eurosystem monitors these changes closely to assess whether it needs to adjust the services it offers or its oversight framework. In addition, as more market players work on DLT-based solutions, the need for the Eurosystem to play a catalyst role increases to avoid new market fragmentation and ensure that there is no negative impact on financial market integration.

Analytical considerations

The ECB has set up a workstream to analyse technological innovation in the financial sector. It covers the practical aspects, such as the possible use of DLT for our market infrastructure, as well as more research-oriented activities which touch on, for example, the implications of the issuance of central bank digital money. As part of this work, the ECB