v31 #3 Legally Speaking — The Blockchain Revolution

by | Jun 28, 2019 | 0 comments

by Anthony Paganelli  (Western Kentucky University) 

The new technology Blockchain is revolutionizing many facets of businesses, governments, and even educational institutions.  It is most noted with the cryptocurrency Bitcoin, however; this technology is becoming an important aspect of business and governmental transactions.  Blockchain has been mentioned as a “disruptive” technology, but in the good sense as it will change the traditional approaches to business activities. 

The recent introduction of Blockchain technology was due to the 2008 economic crisis, in which banks and financial institutions failed to properly invest depositors’ money.  The bad investments were primarily in mortgages that were highly inflated and the accounts were likely to be delinquent, which left the banks with the lesser value of assets.  Because of this mishandled use of depositors’ money, governments had to use taxpayers’ monies to bailout the banks and other financial institutions. The reasons the governments had to bailout the banks was due to the significance of the currencies.  National monetary systems are fiat currency that rely on the faith of the governments. Therefore, the financial and economic system is based on a centralized and regulatory system of banks and governments.

With the use of Blockchain technology, cryptocurrency eliminates the centralized system.  This technology is a reaction to the 2008 economic crisis that would actually eliminate the use of banks, as well as other third parties that may charge fees during transactions.  The technology is also more secure than using a bank that would use a server to store customers’ information. In addition to currency, Blockchain technology is being utilized in many different aspects of businesses that include contracts and titles for houses.  Further uses are being developed in other fields that include higher education, as Georgia Tech University is creating ways for students to efficiently connect with future employers through credentials that are secured by Blockchain technology. 

What is Blockchain?  The term has been around for several years.  In fact, the concept has been in use since the 15th century in the Italian city-states by a ledger system that records and maintains business transactions.  The handwritten or typed ledger system was significant for business owners to better manage records and to determine their successes. This system lasted until the 1960’s and 1970’s as technology began to replace the physical book ledgers.  However, the actual transactions remained the same, and Blockchain technology is based on this ledger system that applies the transactional ledger and the technological infrastructure to manage the records. 

George Pike defines Blockchain as series of blocks that are comprised of data and each block is assigned a header and a timestamp.  The blocks are connected through an encrypted hash that prevents the data being hacked. He added, “Blocks of transactions are then chained together, with each block referencing the previous block.  The chain is both permanent and distributed.” The ledger concept, along with the encrypted hash technology, ensures the chain is secure from the first block created or the “genesis block” to the continuous blocks.  Pike noted that the “Blockchain infrastructure uses largely open source software to create a database of data entries that represent transactions and are distributed across hundreds or thousands of computer nodes.” 

The open source infrastructure and the security of data are what make Blockchain significant, which is the elimination of a centralized system, such as banks.  Trevor Kiviat noted that “In the physical world, security requires locks, vaults, and signatures; in the digital world, it requires cryptography, or techniques for securing digital information and transaction,” which is Blockchain technology.  He added that the Blockchain is a public ledger of all transactions and is verified by the network participants through a peer-to-peer system. If authorized the transaction is recorded and it cannot be changed. 

The aforementioned relationship of Blockchain technology and Bitcoin cryptocurrency is an introduction to new currency.  Kiviat noted that in order for Bitcoin to be considered a currency, the Bitcoin must be a “medium of exchange, a store of value, and a unit of account (collectively the functions of money).”  The Blockchain technology allows for secure electronic transactions without the interference of a third party, such as a bank.

While this system of eliminating banks is enticing, the Bitcoin system does have issues.  First of all, the value of the Bitcoin currency is volatile, a poor store of value, and unstable.  During the brief history of Bitcoin currency, the currency exchange with the U.S. dollar has periodically spiked and crashed over 20 percent and at times nearly 50 percent in one day.  Whereas, the U.S. dollar to the Euro exchange has never changed more than 2.5 percent in one day. According to Kiviat, “Even a casual observer can recognize that such instability is not a desirable currency trait because its holder’s purchasing power can increase or decrease drastically and suddenly.”

The benefits of Bitcoin currency and the Blockchain technology is “technology of uniquely capable of performing several key components of transaction — record keeping, auditing, monitoring, enforcement, or asset custody — in addition to facilitating the trade itself.”  Also, the act of physically transporting currency, such as currency from one bank to another, is eliminated. Even electronic transactions utilize time and funds, and the consumer and businesses are charged fees for the transaction. In 2015, Western Union and MoneyGram charged a six to nine percent fee on transactions that totaled approximately $36 billion. 

Of course, the Bitcoin currency has issues that include the lack of federal regulations on cryptocurrencies that provide requirements to prevent money laundering and other issues.  The technology and the virtual currency concept have become difficult to regulate for governments, which has become a challenge for consumers and businesses as well. For instance, Bitcoin is considered a “money service business” that has to register with the U.S. Department of Treasury.  The registration is monitored by the Financial Crimes Enforcement Network (FinCEN) to support the Bank Secrecy Act.  In 2015, the FinCEN filed a civil enforcement action in the U.S. Attorney’s Office in the Northern District of California against Ripple (a company in virtual currency) for not complying with the anti-money-laundering regulations. 

Also, the virtual currency in accordance to the Commodity Exchange Act is considered a commodity, therefore the Commodities Future Trading Commission has jurisdiction over virtual currency, which complicates the regulations of Bitcoin currency.  States can also create legislation to regulate the virtual currency. For example, in 2015 the New York Department of Financial Services issued a framework for the “BitLicense” to regulate virtual currency businesses.  Through these various regulations, virtual currency will be complicated and interpretive through the courts, as legislatures and regulators continue to struggle to understand the technology of virtual currency.

There are several uses for this technology other than the Bitcoin cryptocurrency that include securities issuance, trading and settlement, insurance, notary public, music royalties, copyrights, storing and validating documents, anti-counterfeit, and decentralization of Domain Name Severs.  An instance of the Blockchain technology is real estate and titles for houses that would reduce the time to access the title or transfer deeds for the consumer and reduce costs. In addition, the technology is being implemented in healthcare. In 2016, the Taiwanese government began stricter regulations of tracking and tracing plasma derivatives, vaccines, botulinum toxins, 20 highly used and priced drugs.  The purpose is to reduce the risk of counterfeit drugs from entering the legitimate market to protect the public. Walmart will also utilize the technology to track produce from the farmers to the stores. 

Another use for the Blockchain technology is “smart contracts,” which are terms and agreements between two parties through the use of Blockchain technology.  The purpose of smart contracts is to reduce the “friction” of a transaction. Pike stated, “Friction comprises those steps in a transaction that slow down the process because of the need to verify them or engage a third party to execute them, such as obtaining a title or using an escrow account.”  As noted about cryptocurrency, the use of Blockchain technology for non-financial currency transactions are subject to some form of regulations, such as the Uniform Commercial Code. 

While the Blockchain technology can have numerous positive and significant uses in various aspects of business, the technology has been used for illegal activity.  For instance, Ross William Ulbricht created the “Silk Road,” which was a system of selling illegal narcotics, utilizing Bitcoins as the currency.  He was able to act as an escrow agent between the buyer and seller of illegal drugs, since Bitcoin currency does not require ID, a bank account, or social security.  Ulbricht used the Darknet for the “Silk Road” program, through which he received a commission for each transaction.  Eventually, the “Silk Road” became very popular and drew the attention of the FBI and hackers.  The “Silk Road” was hijacked twice for approximately $375,000 and Ulbricht was eventually caught.  He was arrested in 2013 for money laundering, drug trafficking, and computer hacking and was sentenced to life in prison without the possibility of parole. 

Despite the misuse of the Bitcoin currency, critics realized that the technology was monitored by law enforcement and the technology can be used to prevent or deter future criminal activity.  Policy makers will have to monitor and review Blockchain technology over the next few years to determine the best practices for regulating the uses of Blockchain technology. Meanwhile, the technology is quickly being implemented in several different aspects of businesses, which will also provide further data in the success of the technology or bring to the foreground issues that need to be assessed and revaluated. 

Bibliography

Adler, David.  “Silk Road: The Dark Side of Cryptocurrency.”  Fordham Journal of Corporate and Financial Law, last modified February 21, 2018.  https://news.law.fordham.edu/jcfl/2018/02/21/silk-road-the-dark-side-of-cryptocurrency/

Moon, Caitlin.  “Blockchain 101 for Lawyers: Part I.”  Law Technology Today, last modified January 10, 2017.  https://www.lawtechnologytoday.org/2017/01/blockchain-101-for-lawyers-part-1/ 

Nofer, Michael, Peter Gomber, Oliver Hinz, and Dirk Schiereck.  “Blockchain.” Business Information Systems, 59, no. 3 (2017): 183-187.

Pike, George.  “Blockchain Comes of Age.”  Information Today. 35, no. 7 (2017): 22.

Salmon, John and Gordon Myers.  “Blockchain and Associated Legal Issues for Emerging Markets.”  International Finance Corporation, a member of the World Bank Group, last modified January 2019.  https://www.ifc.org/wps/wcm/connect/6242c5fc-69c8-40eb-ba8c-50396a1ab57e/EMCompass-Note-63-Blockchain-and-Legal-Issues-in-Emerging-Markets.pdf?MOD=AJPERES

Trevor, Kiviat.  “Beyond Bitcoin: Issues in Regulating Blockchain Transactions.” Duke Law Journal, 65, no. 3 (2015): 569-608.

Tseng, Jen-Hung, Yen-Chih Liao, Bin Chong, and Shih-wei Liao.  “Governance on the Drug Supply Chain via Gcoin Blockchain.”  International Journal of Environmental Research and Public Health 15, no. 6 (2018): 1055.  

 

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