Banks Explore Liability Tokenization for Profits with Instant Settlement and Risk Management – JD Supra | Region & Cash

Can banks and other financial institutions better manage their risk and offer faster settlements by “tokenizing” their liabilities on blockchain networks?

Banks and distributed ledger technology (DLT) companies are collaborating to explore ways to bring regulated liabilities—commercial bank money, central bank money, and e-money—onto a blockchain network that could ultimately provide “always on,” programmable, instantaneous transaction processing System to replace the old payment infrastructure.

“As DLT has the potential to represent multiple forms of digital value, we could go even further and envision the creation of networks that tokenize regulated liabilities and assets on the same chain,” wrote Tony McLaughlin, Head of Emerging Payments and Business Development at Citibanks . trade solutions business, in a recent article. “Such a network would be very different from today’s siled financial architecture – a regulated Internet of Value.”

The financial architecture proposed by McLaughlin and others — regulated liability networks (RLNs) — involves the transfer of tokens between banks on the network, minting, burning and transferring tokens in a coordinated single operation to achieve real-time settlement between customers and each regulated institution . However, this plan is still in its infancy as RLNs are still firmly in the sandbox phase.

“With the RLN, reading the paper sounds great,” says Alisa DiCaprio, chief economist at R3, an enterprise technology and services company in New York that hosts one of the sandbox projects. “It seems easy, but when you actually try to map it onto the technology, you see — oh wait, it doesn’t. [The sandbox] forces everyone to rethink.”

Regulated liability networks would enable the transfer of tokens between banks on the network, minting, burning and transferring tokens in a coordinated single operation to achieve real-time settlement among a regulated institution’s customers.

This process will give both central banks and commercial banks the ability to recognize the difference between an RLN and a central bank digital currency (CBDC), when they might use them and how a CBDC might best be designed to represent that RLN allow. if that’s what the banks want to do, DiCaprio explains. “The central banks are interested in that.”

Additionally, RLNs could realize risk management gains by eliminating settlement time and reducing counterparty risk, as well as creating common “gold copies” of transactions rather than isolated ledgers, says Citibanks’ McLaughlin. Digital golden copies of on-chain transactions and assets would deliver the long-awaited balance sheet transparency, giving companies more clarity about the risks they bear.

Network users would also benefit from being able to use smart contracts for tokenized assets and even adopt tokenized compliance – where certain digitally expressed regulatory rules are linked to an asset. For example, an asset token could be programmed to be sold to eligible customers. Tokenized compliance could ultimately automate other post-trade compliance tasks, such as B. Trade and transaction reports.

Tokenized liabilities vs. stablecoins

Currently, RLNs are being tested in sandbox environments to bring tokenized regulated liabilities (like digital money) and eventually assets like stocks, bonds or other financial instruments or liabilities onto the blockchain. It is an alternative to building a payment network based solely on CBDCs or unregulated cryptocurrencies and stablecoins.

Bringing multiple regulated liabilities onto a blockchain from across the financial services system for payments aims in part to allay fears among banks of CBDC dominance in payments. Some central bankers and lawmakers support the idea that governments are effectively not getting into the payments business any more than they already are. “Central banks are considering issuing a central bank digital currency, and frankly part of it [work] commercial banks are responding because they’re a little freaked out,” notes DiCaprio. “Central banks have been pretty good at making it very clear that commercial banks will still be involved, they’re not being disintermediated, but commercial banks are nervous and RLN is a response.”

Tokenized regulated liabilities are simply representations of existing deposits held in a wallet rather than an account. They are redeemable at face value in national currency units, unlike cryptocurrencies, which are unbacked and fluctuate in value. Stablecoins could come to an RLN if they receive regulatory approval and are guaranteed to be redeemable at face value.

testing is running

The idea for an RLN emerged last year from work initiated by Citi, OCBC Bank, Goldman Sachs, Barclays, BondEvalue, Bank of America, Bank of New York, Payoneer, PayPal, Wells Fargo, SETL, and Linklaters. And DiCaprio’s R3 runs an RLN test in a sandbox environment on its Corda blockchain, taking inspiration from the European Central Bank’s TARGET platform, where EU central banks pool their liabilities into a common ledger (not on DLT). write. The R3 RLN on Corda aims to allow commercial banks and e-money institutions to post their liabilities to a ledger in a similar way – blockchain in this case, but it could be a different electronic platform.

“We have a CBDC sandbox, a user interface where central banks or commercial banks – really anyone – can come in, create an identity and explore what it means to have different central bank digital currency design features,” Di Caprio says. These design features can be direct or indirect emission or different tier models. The sandbox allows banks to see what happens when they make different design choices with this new concept. Currently, the sandbox is designed with two nodes to allow two central banks to interact with each other. “But with RLN, we would need three nodes, which we have actually built for various customers before,” explains Di Caprio. “We are now building this functionality for everyone.”

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