Blockchain technology emerged in the financial sector, enabling cryptocurrencies such as Bitcoin. While still being tested, its disruptive potential in the public sector cannot be overstated. Pilots and proofs-of-concept are mushrooming, driven by a myriad of tech start-ups in a wide variety of areas, such as identity management, property registration and diamond trafficking. Given the hype, we need to think more critically about what it can and cannot do before policymakers embrace its allure.
This is especially true of expectations that blockchain will strengthen integrity and root out corruption in government. How policymakers use blockchain to build more trust and transparency in government is a critical issue that is on top of the political agenda in many countries, especially in Latin America.
The World Economic Forum on Latin America 2018 will look at harnessing the potential of digital disruptions to restore trust and foster integrity in government. Early evidence suggests that the technology has to be built on the foundation of stronger institutions.
Testing integrity solutions
At its core, the problem blockchain technology seeks to address is the security and integrity of data, in a world with increasing concerns about data privacy and declining trust in government. It is a technology that allows us to record assets, transfer value and track transactions in a decentralized manner, ensuring the transparency, integrity and traceability of data without a central authority to authenticate the information. It is essentially a system to encrypt information and a shared database. It is based on a consensus mechanism amongst trusted parties to certify the information and validate transactions.
Blockchain makes corruption more difficult because it is a distributed-ledger technology that can certify records and transactions – or “blocks” – without the use of a central database and in a way that cannot be erased, altered or tampered with. It provides an unprecedented level of integrity, security and reliability to the information it manages, reducing the risks associated with having a single point of failure. It eliminates the need for intermediaries, cuts red tape and reduces the risk of arbitrary discretion. It also makes it possible to track and trace transactions. The immutable trail of transactions can be used by law enforcement and government auditors.
Blockchain technology has many applications but the more promising applications ensuring data transparency and integrity, relate to the registration of assets and the tracking of transactions.
A first set of blockchain-based solutions relates to the value of assets, in particular property registry and land titling. Building immutable title systems on a blockchain can prevent fraud and encourage banks to lend against land. Sweden is trialing a blockchain-powered land registry to make the details of real estate transactions visible to all interested parties. Georgia is making good progress in registering land titles using blockchain technology, while Ukraine is looking into it to reform its land registry process riddled with red tape. However, Honduras tried but failed to create a decentralized database of land titles using blockchain.
Blockchain technology is also being tested to create tamper-proof company registries, which would help determine their true beneficial owners and prevent money laundering. This application would make know-your-customer regulations easier to comply with and would allow for more effective oversight by financial regulators, law enforcement and tax administrations. Delaware allows corporations to use blockchain for the registration and transfer of ownership of stocks.
A second set of experiments focus on tracking transactions, especially high risk government transactions such as public contracts, cash transfers and aid flows. These applications seek to mitigate the risk of fraud and leakage in the flow of funds. The OECD estimates that corruption adds up to 10% of the total cost of doing business globally and up to 25% of the costs of contracts in developing countries.
Public contracting has become increasingly digitalized and transparent through e-procurement, and blockchain-based integrity solutions could add an extra layer of security to the process by locking-in critical information along the procurement chain. This information could be more easily monitored, tracked and audited. Mexico has recently started testing a blockchain-based application for public contracting. “Smart contracts” could also eliminate arbitrary discretion in the contracting process. They would allow the automatic exchange of assets to be programmed into an inalterable blockchain that would execute itself autonomously based on programmed conditions.
Early experiments tell us that initial conditions matter. Georgia is adding blockchain technology onto a relatively efficient land registry system, adding an additional layer of security. Also, for blockchain to work, there are a number of prerequisites that need to be met. Existing data must be accurate, registries digitalized, and digital identity reliable. This is not the typical situation in many developing countries, many of which need to get the basics right first.
Also, the governance of blockchains remains to be worked out. As a decentralized system, blockchain is supposed to govern itself. Michael Pisa and Matt Juden warn that governments opting for a public, permissionless blockchain would have to accept “that it will have virtually no control over how that system is governed.” This is why Don Tapscott expects that in the public sector, blockchain platforms will mostly be permissioned and private, overseen by a set of trusted validators or “gatekeepers”, and distributed in a controlled fashion, where a single government agency vets data entry and partly solves the “point of entry” problem.
Another challenge relates to the reliability of records, especially first entries. Pusa and Juden say: “Like any other database, say, a blockchain is a ‘garbage-in-garbage-out’ system. This means that the reliability of records stored on it depends entirely on how they are originated.” For this reason, a gatekeeper will have to guarantee the veracity of the information entered into a blockchain.
More fundamentally, governments must tackle the weaknesses of underlying institutions and legacy systems. Blockchain technology, per se, will not replace government, nor solve all of its problems. It will work best where existing systems have reached a sufficient degree of maturity and have been digitalized. Paradoxically, however, countries which have most to gain from blockchain-based solutions to fix broken legacy systems will also have the hardest time using them effectively.
The potential of blockchain technology is enormous and the promise it holds to root out corruption is simply too great to ignore, in a world scarred by recurrent corruption scandals. If it can solve critical challenges, such as the point of entry, blockchain technology can help strengthen integrity in government. For all its uncertainties and risks, it could add a layer of security to records and transactions that are particularly exposed to high corruption risks. The time to experiment is now.
Blockchain technology is not the panacea, however. It is still in its early days and governance models are still under development.It will take several years to go from pilot programs to broader, government-wide applications. We must also be clear about what its requirements are, what it can do and cannot do, and what value it can add. But blockchain technology is no “magic wand”: it will not replace the need for stronger institutions.
An earlier and extended version of this blog appeared as an article in the Stanford Social Innovation Review.