Kathleen Weiss Hanley and Hank Korth Explain Blockchain

In this episode of Lehigh University’s College of Business IlLUminate podcast, we are speaking with Kathleen Weiss Hanley and Hank Korth about what you need to know about blockchain. Dr. Hanley holds the Bolton Perella Endowed Chair in finance. She is also director of the Center for Financial Services and co-director of the fintech minor. Dr. Korth is a professor of computer science and engineering who also heads the new Center for Financial Services Blockchain Lab and is a member of Lehigh Scalable Software Systems Research Group.

They spoke with Jack Croft, host of the ilLUminate podcast. Listen to the podcast here. Click the subscribe button above and download Lehigh Business on Apple Podcasts or wherever you get your podcasts.

Below is an edited excerpt from that conversation. Read the complete podcast transcript. 

Jack Croft: Let's start with what sounds like a simple, straightforward question, but probably is not and that is what is blockchain and why does it matter?

Hank Korth: At the most basic level, a blockchain is a store of information. What makes it distinct from databases that we've worked with for decades is that there are special properties to blockchain. One of them is the idea of being able to submit information irrefutably. I can't deny later that I actually did it. Another key property is immutability. That once it is there, no one else can change it. And that latter property is achieved by the widespread dissemination of the blockchain around the world using the internet, which means that we can trust in the crowd for that immutability, as opposed to trusting in a specific organization, like a bank or a government.

Croft: What are the main advantages blockchain offers?

Kathleen Weiss Hanley: From a financial market perspective, one of the best aspects of the blockchain is the difficulty in changing the information contained in that blockchain. So if you think of financial institutions wanting to protect data, the blockchain allows not only to protect that data, but also to give the history of how that piece of data has been used. So, for example, in settlement issues, whether it's payments or securities or real estate, for that matter, I can use the blockchain to see every transaction that has ever occurred on that particular asset. And I think that is something that is an unusual aspect, at least from the perspective of the financial market.

Korth: If we pop it up above just financial, the key advantage here is this removal of certain human intermediaries and any kind of transactional system. And taking humans out of the loop is a way of gaining some efficiency in certain cases. Obviously, in other cases, blockchain's slower. But another key advantage to a blockchain system is the ability to deploy a smart contract, which is basically code that lives on the blockchain. That code has the capability of running autonomously, even without any subsequent human control, creating a whole new business model that's referred to as a decentralized autonomous organization. This new concept has certainly advantages and disadvantages, but it is a key new power that blockchain technology brings to us.

Croft: What are some of the issues you see with the kind of interaction between the traditional governmental regulatory model and this new blockchain?

Hanley: Generally speaking, regulatory agencies get their power often from Congress and in order to regulate things like the blockchain or applications of the blockchain that application has to be an activity that is overseen by a particular regulator. So if you take the case of a cryptocurrency, for example, there is no regulator that oversees the creation of currency because we only have one currency in the United States or we had only one currency in the United States. And so therefore, there is no particular regulator that can say something about the blockchain. In the case of tokens that are issued by companies, the Securities and Exchange Commission has made a stance that those tokens are a form of capital raising and thus they have jurisdiction over it. 

Croft: What are cryptocurrencies and what are the main ones that people probably need to be aware of?

Korth: Bitcoin is considered the largest, both in terms of the publicity, but also a concept that's referred to as market cap, which is the value in dollars of one unit of the currency times the number that are in circulation. And bitcoin is the oldest. It's the largest. But in terms of significance, probably Ethereum is actually the most significant because unlike Bitcoin, Ethereum actually supports this autonomous organization framework via smart contracts and Ethereum then enables infrastructure above at what's referred to as layer two, which allows such things as decentralized finance in many different forms, the issuance of tokens, etcetera. 

Croft: Depending on your point of view, cryptocurrencies like bitcoin either offer needed protection from total government control over money or they open the door to widespread money laundering and other criminal activity. Is there some truth to each of those views and how do we resolve the inherent tension that seems to exist between those views?

Hanley: We have regulations around the use of cash. I mean, you can think of cash is also being anonymous, just like a cryptocurrency and you don't know who held that cash before. But we have stringent laws around the transfer of large amounts of cash in order to ensure that the federal government can make or identify illegal activity. And so, of course, if you have a currency, an accepted currency that allows anonymity, one can imagine that this might be a good way for illicit activity to take place. 

Now, there are some challenges to that. First of all, the uptake of merchants who accept cryptocurrency has not been astounding. So if you were doing something illegal and wanted to buy a house, you would have to transform that that currency into fiat currency of some sort. So, the touchpoint for the regulator is going to be that exchange, for example. So part of it is not the cryptocurrency that's an issue. It is the ecosystem around it. So if I want to take my holdings of bitcoin, make it into cash, I have to use an exchange of some sort. And that exchange is where the regulation, for example, can come in because we do have things like anti-money laundering laws that do it.

It is definitely the case that anonymous forms of payment can help illicit activity. It's also the case that individuals don't want to be in the banking system. We have a lot of people who have suspicions about the banking system and the ability to make payments through a blockchain is attractive. Instead of making payments, for example, on a credit card or a check in which that transaction is seen by a third party. Does that make that an illicit transaction? Of course not. It's just a different way of making a payment.

Korth: If I could pick up on that for just a second. And that is to address the anonymity issue. It's kind of a popular notion that bitcoin is anonymous and indeed it technically is. But there's another factor here. When we talk about the nature of a public blockchain, the blockchain is public. And so all transactions are out there visible to everyone else. And many people have done studies of past behavior of various IDs on the blockchain. 

To get to Kathleen’s point about the interaction with the real world. When there is an interaction with the real world, we then learn something about some blockchain ID. But then we also see where that blockchain ID has interacted and from all of that through data analytics, you can infer a lot of information about these supposedly anonymous IDs. Another source of this would be the origins of the actual interactions that submit a transaction to the blockchain. 

If for some particular ID, all the transactions happened to come from my cell phone that creates strong suspicion that that is an ID that I either own or have some influence over. So the surround outside the blockchain itself, the interfaces the blockchain with the real world becomes the point where regulators have the opportunity to enforce regulation, much as is the case with cash today. I can walk around with a suitcase of cash, but as soon as I attempt to interact, there will be opportunities for regulators to get involved.

Croft: Tell us about the new Center for Financial Services Blockchain Lab.

Hanley: Blockchain is a huge part of innovation in financial services and it's becoming much more mainstream. It was a buzzword three or four years ago, and now it no longer is such. And our goal is to educate. We're going to employ a speaker series that will be open to everyone, as well as to produce research on the topic engaging both industry and academics in the discussion of blockchain and how that can make financial services more efficient and to provide value for both their customers and to the company that is using it.

Korth: Research in the overall blockchain space fits a number of disciplines, I mean, certainly across all the business disciplines. And using the blockchain lab as a launchpad, we're looking to stimulate research interest across the College of Business related to the use of blockchain, the opportunities it presents, the needs to oversee and manage it. In my other role in the Department of Computer Science and Engineering, we have quite an extensive research activity going on as well. And there are a number of things there that just simply relate to kind of systems issues in terms of efficient consensus, efficient processing.

There's also a lot of interesting research around the whole domain of information privacy and information aggregation and doing that in ways that are succinct, yet provably correct. The technical term for that is something called zero knowledge and an area that would probably justify a whole podcast in its own right.