Warwick Powell, Adjunct Professor at the Queensland University of Technology and Chair of Smart Trade Networks, says China is embracing the use of distributed ledger technology to optimise the functioning of its financial sector by reducing the information asymmetries that hamper market economies.
Beijing launched a heavy-handed crackdown on the cryptocurrency market at the end of 2017, which saw the banning of initial coin offerings (ICO) and the closure of domestic exchanges.
Since then China has further stepped up pressure on cryptocurrency activities inside its borders, with efforts to stymie the use of offshore exchanges by citizens, as well as the implementation crackdowns on bitcoin mining by province-level authorities.
Despite their strong aversion to cryptocurrencies, however, China’s financial policymakers remain highly enthusiastic about the potential for blockchain innovations to raise the efficiency of the financial system and improve the functioning of markets.
Powell, the author of China, Trust and Digital Supply Chains, says Chinese regulators believe the chief virtue of blockchain technology is its ability to overcome the information asymmetries and asynchronies that impede the efficient operation of market-based economies.
“A distributed ledger can do many things, because it has a range of very generic properties in terms of information integrity,” Powell said in an interview with China Banking News.
“Rather than go down the path of this idea of distributed money creation, China took a very different approach, and saw a very different way of applying distributed, information architectures to solving information asymmetry problems.
“It wasn’t particularly interested in blockchains as a means for people to be able to create their own money.”
Powell says China is particularly focused on application of the blockchain technology to supply chain finance and trade finance, with a strong emphasis on serving the needs of small-scale enterprises.
“I would suggest China is the leader in the application of blockchain technology to supply chain finance,” he said.
“This is largely because it saw blockchain as an information utility in the broader context of data as a public good, as opposed to the way blockchain was adopted in the Western environment, which was driven by Anarcho-Libertarianism and cryptocurrency.”
Chinese regulators believe the use of distributed ledger technology can increase information transparency and reduce transaction-related uncertainties, helping to improve the accessibility and affordability of financial services for small businesses.
“There are a range of risks that credit finance must deal with in terms of uncertainties with regard to the recovery of capital and interest,” Powell said.
“One of those key risks is whether or not the enterprise to which you lend has the means at some point in the future to settle the debt, and its ability to settle the debt is a function of the certainty of that particular enterprise vis-a-vis its future revenue.”
“The ability to create synchronous and symmetric information architecture overcomes many of the challenges involved in delivering finance.
“The more visibility you have over the future demand for the products of the enterprise you’re lending to, the lower your risk, so you’re better able to finance production.
“Once you do that and you get a reduced risk profile, you open up access to trade finance to far more enterprises than previously was the case, while also reducing its cost.
“If you’ve got reliable information about where goods need to go and who’s able to pay for them, and know that the buyer is good for the money because they’ve got the finance or their own balance sheet, then the system moves smoothly.”
Powell said research conducted by himself and his team indicates that reducing uncertainty not only increases the accessibility and affordability of finance, it can also reduce transaction times, translating into further gains in efficiency and reductions in cost.
“We looked at beef transactions in 2019 and 2020 as part of our research into these dynamics. Our base case was that a consignment of beef would take 73 days from the time the animals were slaughtered, until the time the final kilogram of beef was sold and the complete circuit was realised.
“When we began to track these events on the blockchain and provide information to buyers downstream so that they could in effect see the product coming, they were willing to buy in advance, or at least indicate in advance that they were willing to take products.
“We were actually able to close that complete circuit in 60 days, taking 13 days off the process, for a time saving of roughly 19 -20%.
“What this meant when you aggregated it up was that for a given dollar that was put in on day one, we could use that dollar not five times a year but six times a year,
“So we reduced the cost of capital, and were able to make that dollar turnover six times a year instead of just five.”
Increasing the efficiency of capital by reducing transaction times could have far broader implications for China’s macro-economy, as well as impact the calculus of the central bank’s monetary policy decisions.
“If you can settle in several minutes instead of several days, you’ve dramatically sped up that transaction process,” Powell said. “When you aggregate that across an entire economy, that’s a huge amount of capital that sitting idle and inefficient that you are now able to release back in motion.
“This will also put downward pressure on the cost of money and have significant ramifications for the implementation of monetary policy.
“It will change whatever you think the system requires in terms of M1 and M2, and that will have ramifications in terms of how you manage inflation and make other policy decisions.”
The potentially dramatic economic implications of the blockchain’s ability to help overcome information asymmetries is one of the key drivers of China’s push for the creation of a “digital economy.”
This has led Chinese policymakers to recently start touting data as a new factor of production in the digital era, and drive the mushrooming of data exchanges around the country.
“If you look at mainstream economics, one of the issues that’s always talked about in terms of problems for markets is imperfect information,” Powell said.
“In that sense, these technological applications enable markets to work better, and create markets for information as a resource itself which is like any other form of capital which is exchangeable.
“This is why 180 data exchanges have popped around China in the just past two years in various guises – Shanghai and Shenzhen being two of the most noteworthy examples.”