During 2024 and beyond, the use and adoption of digital assets may pick up pace, while DLT ambitions may mature as market participants are likely to focus on projects with more limited scope but workable, real-world applications. Many of the use cases and benefits remain relatively theoretical at this stage, so continued exploration and testing will be a priority, wrote BNP Paribas in a recent article.
Rather than the ‘Big Bang’ blockchain projects that aimed to reshape the entire transaction chain, emphasis is shifting to progressive, incremental initiatives and experimentations that target defined areas such as primary distribution, secondary markets, repo, collateral and coupon payments. It is anticipated that platform interoperability will eventually expand as organizations work together and link blockchains. Cross-industry collaboration and multi-party consortiums will likely come to the fore to drive larger project experimentations, in place of the discrete, individual programs that have characterized much of the activity to date. Legal, technical and market practice standardization may also possibly take root across the market to combat fragmentation and as the regulatory environment takes shape.
CBDC cross-border collaboration
In the digital assets space, existing wholesale central bank digital currency (CBDC) experiments are going to accelerate, while new ones will launch – with almost 70% of central bank respondents to independent think tank OMFIF’s 2023 Future of Payments survey expecting to issue a CBDC within the next decade.
To date, national central banks have primarily explored CBDC use cases within their domestic markets. That is changing. Cross-border payments are critical to capital market efficiency. The onus therefore is shifting to cross-CBDC experimentations as central banks from different regions collaborate to address the lack of harmonization and interoperability in today’s fragmented digital asset landscape. Pursuing these international collaborations is an opportunity for market participants to create interoperable solutions while the industry is still in its infancy, instead of trying to fix chokepoints down the road.
The Bank for International Settlements (BIS) is spearheading a number of these proof-of-concept initiatives. For example, Project Mariana – a joint project between the BIS Innovation Hub, Bank of France, Swiss National Bank and Monetary Authority of Singapore – has successfully tested the cross-border trading and settlement of hypothetical euro, Singapore dollar and Swiss franc wholesale CBDCs between simulated financial institutions on a public blockchain. Another notable initiative from BIS to watch is project Agorá, which will investigate “how tokenised commercial bank deposits can be seamlessly integrated with tokenized wholesale bank money in a public-private programmable core financial platform”. BNP Paribas has been selected to participate to project Agorá with 40 other private firms and 7 central banks.
The European Central Bank’s (ECB’s) wholesale Central Bank Money (CeBM) program has been a particular focus throughout the year, with two waves of experimentation and trials. The aim is for market participants to test the three settlement solutions available at present from the Banque de France, Bank of Italy and Deutsche Bundesbank. Following the program, the ECB will collect information on the solutions to determine which – in part or whole – would work best for a potential future solution to settle tokenized assets between financial institutions at the European level.
Security token experimentation landscape expansion
The EU’s DLT Pilot Regime regulation will be another focal point for 2024 and beyond. Previous industry efforts have predominantly centered on tokenizing unlisted instruments, where blockchains may offer the most immediate benefits. The Pilot Regime sandbox gives market participants and infrastructure providers an opportunity to explore listed security tokens in a regulated framework. The emergence of DLT market infrastructures in the frame of the EU DLT pilot regime would foster broader industry involvement and collaboration, and enable experimentation on a wider scale. It would also allow European regulators to gather information they may be able to use to adapt current regulations in the most appropriate way.
Under the EU Pilot Regime regulation, both existing regulated market infrastructures (such as trading venues, central securities depositories and central counterparties), and entities that are new entrants, can apply for a specific status to operate a DLT market infrastructure. This regime consists of making these DLT market infrastructures exempt from specific requirements under the existing market infrastructures’ Union laws. One innovative feature within the regime is the DLT TSS status, which authorises entities to combine trading and settlement activities on a DLT platform, provided that certain specific conditions are met.
Security tokens so far have enabled investors to invest at the primary market level, but without a liquid secondary market it is hard today to transfer them. A DLT TSS infrastructure that the wider market ecosystem can connect to could promote development of a secondary market and unlock additional activity. The UK financial market infrastructures (FMI) sandbox – the Digital Securities Sandbox – has been similarly set up to test and adopt developing technologies and FMI practices, including but not limited to DLTs.
Digital Assets ecosystem interoperability
Past initiatives primarily took place within individual organizations or among small groups to test ideas and gain expertise. The next step would be to create a broader ecosystem, with the sector eventually reaching the critical mass of connected participants that is likely needed to realise the full benefits blockchains offer.
The ECB trials, EU DLT Pilot Regime and other industry wide projects (e.g. Agorá) seem to be part of a shift towards deeper industry collaboration, and the creation of common market practices and standards. Enhancing interoperability to resolve the fragmentation that currently plagues the digital assets space is another area demanding attention.
Tokenized assets at present are managed across a range of blockchains. Initiatives are now making headway on resolving these fragmentation issues, with two examples being the initiatives led by Swift and Digital Asset.
Rather than market participants needing to develop the connectivity to different blockchains individually, the Swift global messaging platform has conducted experiments that use its existing infrastructure – which is already used by a large number of organizations – as a single point of access to multiple networks. By allowing the transfer of tokenized value across multiple public and private blockchains, Swift says it can help “remove significant friction slowing the growth of tokenized asset markets and enable them to scale globally as they mature.”
Digital Asset is similarly exploring how its Canton Network could drive interoperability. The Canton Network is a privacy-enabled, blockchain-based “network of networks” that allows previously siloed financial systems to connect, and for institutional assets, data and cash to synchronize across applications. For example, a digital bond and digital payment on two separate applications can be composed into a single atomic transaction to enable simultaneous delivery versus payment (DvP) exchange. The Canton TestNet environment to test the infrastructure was released last year, with its MainNet version rolling out in 2024.
Interoperability between the traditional and digital assets worlds to create a more integrated, holistic environment is another area requiring investigation. Issuing a financial instrument in tokenized form may bring valuable efficiencies at the primary market level, and may improve investor access to different asset types, including real estate, private equity and private debt. But with subsequent trading opportunities and liquidity availability limited, the ability for tokenized instruments to easily switch back to traditional formats could potentially help promote secondary market activity and broader digital asset take up.
“The digital assets landscape is evolving, and the coming year promises to bring substantial additional industry- and supervisory-led change. Our Securities Services business will be engaged with these initiatives as we continue to collaborate with market counterparts, industry bodies, authorities and clients. We are for instance a very active participant in the ECB’s CeBM program, testing the three solutions available across various roles and use cases,” BNP Paribas wrote.
Along with external collaboration efforts, internally the bank’s partnering closely with entities across the BNP Paribas Group to trial an integrated digital assets model spanning the whole value chain, from origination to distribution to custody. Workstreams include programs to tokenize fund shares and DvP settlement of digital bonds against digital cash.