Over time, changes in consumer behavior have driven changes in the payment ecosystem. Vendors and merchants work continually to align their needs with those of the consumer. In one subcategory of this ecosystem, cross-border digital payments, there’s currently a focus on reliability, speed, and efficiency. Technology developers seeking to streamline the cross-border digital payment process are facing challenges including, but not limited to, exchange-rate volatility, noncompetitive international payment fees, long delays in payment approval, and lack of trust in the digital payment ecosystem. To overcome such challenges, these technology developers are busy developing a single-connection digital framework that will capture some of the features of embedded finance and open banking. It’s worthwhile to evaluate the opportunities and challenges relative to implementing this technology with cross-border digital payments.
Since 2022, there’s been an increasing demand for swift, cost-effective, and trustworthy cross-border payments. In response to this demand, several financial institutions started supplying cryptocurrency-based, borderless digital payment in the payment ecosystem. In order to develop an agile system based on cryptocurrency, developers needed to focus on solutions that would drive more knowledge about the reliability of the underlying technology, higher transparency, and higher trust.
BLN Technology Overview
Bitcoin Lightning Network (BLN) is a second-layer solution built on top of the bitcoin blockchain for the establishment of decentralized and potentially centralized, cross-border payments and other money movement services. It was conceived as a response to the scalability and transaction cost issues faced by the original bitcoin network. While bitcoin’s underlying blockchain provides a secure and immutable ledger, its ability to process transactions at scale while keeping fees reasonable has been a point of contention. The BLN is positioned atop the bitcoin blockchain to address these concerns.
At its core, the BLN functions as a system of payment channels, enabling participants to engage in rapid, low-cost transactions without needing to record every single transaction on the main blockchain. This approach reduces congestion on the primary blockchain, resulting in faster transactions and lower fees. By harnessing the BLN, scalability, low fees, and instant settlement capabilities, traditional financial and payment institutions can leverage the power of bitcoin while maintaining their centralized operations, such as governance, consumer protection, and other regulatory obligations.
Technology Opportunities
The integration of this technology into a centralized banking network has significant potential to impact the way financial transactions are conducted. The benefits are multifaceted, catering to both the institutions themselves and their clientele.
Scalability. The off-chain nature allows banking networks to process a multitude of transactions without clogging the main blockchain. As a result, centralized banks can accommodate a larger customer base without compromising transaction speeds or experiencing network congestion. This improves scalability.
Instant settlements. The conventional interbank settlement process can take days to finalize, which, in turn, affects cross-border transactions and liquidity management. With this type of technology, centralized banks can introduce near-instantaneous settlement times. The ability to settle transactions in real time could benefit sectors such as international payments. It could eliminate the need for intermediaries and reduce the risk associated with processing delays.
Low fees. International transaction fees in traditional banking systems can be substantial. In a recent report, Cointelegraph stated that transaction fees on the BLN technology are 1,000 times cheaper than that of Visa and Mastercard. These two aren’t banks, but they’re the world’s largest payment processors. This technology could enable centralized banks and payment processors to provide more economical transaction fees, optimize operating costs, and potentially attract more clients.
Enhanced privacy. Privacy is a significant concern in the financial sector, and the design of this technology aligns well with the need for confidentiality. While the bitcoin blockchain offers transparency and immutability, it also broadcasts transaction details publicly. Conversely, the BLN conducts transactions privately between participants, shielding sensitive financial information from the public eye and preserving traditional banking norms of confidentiality.
Seamless cross-border transactions. Cross-border transactions are notorious for their complexities, often involving multiple intermediaries and days of processing time. With technology like BLN, centralized banks could establish interconnected channels to enable instantaneous cross-border transfers. Such a system helps to mitigate some of the uncertainty associated with international transactions.
Financial inclusion. A significant proportion of the global population remains unbanked or underbanked due to limited access to traditional financial services. This technology has high accessibility and low entry barriers, which can help to promote financial inclusion. Centralized banks could leverage this technology to offer basic banking and payment services to populations that previously lacked access, thereby contributing to broader financial stability and economic growth.
Innovation and adaptability. Integrating with this technology introduces a layer of innovation to centralized banking systems. It encourages financial institutions to rethink their operational models, customer engagement strategies, and product offerings. This innovation could extend to the development of new financial products and services that capitalize on the new capabilities, further enhancing the competitive edge of centralized banks in the Digital Age.
Current Challenges
While the integration of this technology into centralized banking networks offers remarkable advantages, it also presents certain challenges that need careful consideration. Challenges include, but are not limited to, regulatory oversight, fraud prevention, education, research and development, and user experience.
While bitcoin and other cryptocurrencies have been available for trading via blockchain for several years now, governments and banks are slow to embrace bitcoin and other crypto because they’re still relatively unknown. For many banks and financial institutions, the volatility of cryptocurrencies such as bitcoin can prove slightly unnerving. But the emergence of the BLN could help traditional banks and operators start using blockchain for the better. With new developments in digital payment technology, such as BLN, there’s reason for hope relative to the future of cross-border, digital payment transactions.
October 2023
