The BIS Innovation Summit held in Basel, Switzerland, in May 2024, brought together policymakers, senior executives from the financial and technology industries, and academics from around the world to discuss the accelerated pace at which technological innovation is progressing, and the opportunities offered to the financial sector and to central banks, as well as how central banks are tackling the risks that arise with such innovation.
John Salmon, Co-head of the Hogan Lovells Global Digital Assets and Blockchain Practice who attended the summit, provided his views:
“The bold and innovative approach of the leading central bankers and invited guests was heartening to witness. It was also encouraging to see that the central banks understand the need for a clear way forward from where we are today in order to keep pace with a fast-moving industry.”
Parties, Small Steps, Big Leaps and Tiramisu
The General Manager of the BIS, Agustín Carstens, spoke on both days of the conference and set out his vision for what he and his colleagues have termed the “Finternet” —notably, he made the point that, in the context of the Finternet, “everyone’s invited to the party”. The term helpfully shines a spotlight on what is at the heart of this vision of a future financial system, i.e. the concept of multiple financial ecosystems which connect with each other, similar to the Internet. Moreover, rather than systems and processes in financial services being designed based on what service providers are able to deliver, the Finternet must be user-centric. Siddharth Shetty from the Foundation for Interoperable Digital Economy made reference to the universal nature of smartphone technology that enabled the global adoption of smartphones—similarly, the technology of the Finternet must be universal to allow for financial inclusion. Reference was also made to the Unified Payment Interface in India, a protocol and settlement system which revolutionised the digital payments infrastructure in India by enabling interoperability between a range of market players.
Mr Carstens further emphasized that central banks have a duty to support the development of a financial system which was fit for the future. A recurring theme throughout the summit was the importance of collaboration between public and private institutions—indeed, many of the projects at the BIS Innovation Hub depend on the joint efforts of public and private sector partners around the world.
Changes to the financial system could be made through small steps, tweaks and improvements—but in some cases, a “giant leap” would be required to deliver fundamental upgrades to the a financial system. A prime example of a giant leap of technology innovation in the financial system would be the use of tokenisation—as noted in Mr Carstens’ speech:
“Tokenisation is, in my view, a technology with transformative potential for the financial system...When correctly used, tokens could increase the speed, lower the cost and heighten the efficiency of financial transactions.”
The idea of bringing together multiple types of tokenised assets into a single programmable platform—i.e. a “unified ledger”—is fundamental to the vision of the Finternet. This does not mean that there should only be one single ledger that provides the infrastructure for an entire economy. Rather, such unified ledgers may function as part of the building blocks that make up the Finternet, where multiple platforms may interoperate with each other via APIs.
The basic idea involves bringing together digital representations of central bank and commercial bank money and other tokenised financial assets on the same (or on interoperable) ledgers and, by leveraging the power of programmability through the use of smart contracts, enabling more efficient, secure, and synchronised movement of money and assets. Such an infrastructure should provide the basis for a unified approach which is usable across diverse asset classes, geographies, and use cases, reducing the need for siloed architectures that ultimately prevent the full realisation of efficiencies and benefits of tokenisation. It may also allow for compliance and governance features to be embedded directly into the relevant technology.
What about the law?
Developing the technology for the Finternet may not necessarily be the biggest hurdle to overcome; instead, novel operational and legal issues may present more difficult challenges towards the adoption of the Finternet. Implementing appropriate governance and regulatory frameworks will be critical to the successful adoption of any new financial system.
A key issue is the uncertainty around the regulatory characterisation of tokenised financial assets. In particular, there needs to be clarity in terms of the legal status of tokenised money, such as tokenised deposits—in some jurisdictions the legal treatment of tokenised deposits is unclear, and it was recognised that such an issue should be tackled as a matter of urgency. Other legal questions arise in the context of settlement and the legal status of other types of tokenised instruments—importantly, it became evident from the various discussions taking place throughout the summit that “settlement” in the context of tokenised assets is as much a legal issue as it is a technological one.
The Oxymoron – Stabillity vs innovation
As Villeroy de Galhau stated in his keynote speech, innovation has a cost. However:
“…as central banks, we must keep up with developments if we are to remain benchmark players”.
There is an inherent oxymoron between central banks’ duty to provide monetary and financial stability, and innovating, which inevitably involves a degree of change and risk-taking. There is also a desire on the part of central banks to innovate for the public good. Ultimately, central banks must be innovators themselves, to ensure that the way in which central bank money is made available complements the landscape of the 21st century, such that central bank money can continue to fulfil its role as a stability anchor in any new financial system.
Use of Distributed Ledgers
Many of the speakers throughout the summit emphasised the importance of using distributed ledger technology (DLT) appropriately as key to a technologically-enabled reform of the financial system. In a panel on “Technological innovation to enhance existing infrastructures”, Tony McLaughlin of Citi posited that trusted third parties such as SWIFT would continue to have a place in the reformed system and that messaging services would play an important role—the critical change is the notion of a shared idea of state between multiple participants in a financial transaction. By way of analogy:
“If you’re trying to organize a dinner party with 10 people, and you can do it by email or by WhatsApp, which is easier? The WhatsApp is easier, but why? You can reach everyone, but the other thing that is different is, in the messaging group, everyone who participates knows the exact status of the arrangements. You don't have 5 people turning up with tiramisu!”
Artificial Intelligence: Challenges, Risks, and Opportunities
Artificial intelligence was recognised as a key driver of innovation in financial services, and both its risks and opportunities were discussed at length throughout the summit. For example, Jeremie Harris of Gladstone AI explained the concept of "alignment risk", where, in brief, an AI system developing creative ways of achieving its programmed objectives may lead to unanticipated and unexpected side effects—although a key benefit of developing AI tools in the first place is to be able to leverage such technology to generate ideas and solutions on our behalf, the current paradigm is not necessarily conducive to the safe, ethical or trustworthy use of AI.
Emily Prince from the London Stock Exchange Group made the point that while financial services companies are huge generators of information, such data is often not easy to consume; this may be due to various operational or technical barriers, which may restrict the ability of financial services entities to analyse and use data effectively. Another challenge is whether financial institutions have put appropriate governance and risk management frameworks in place with respect to their own design, use, and scaling of AI solutions.
It was further noted that many of the major technology companies are investing heavily in generative AI. In essence, the ability to increase the capacity of a generative AI system is correlated with the amount invested in developing processing power—it was noted that Microsoft is reportedly investing $50 billion a year in its data centre infrastructure. A related issue is that of energy consumption and the significant amount of power required to power and train generative AI systems—this is comparable to the concerns surrounding bitcoin mining.
Additionally, there was real concern over the potential for AI to “turbo charge" cyber-attacks. While AI can provide new tools for financial institutions (e.g. in the context of fraud detection), in the hands of bad actors, AI may also give rise to sophisticated cyber-attacks against financial institutions. However, as Mr Harris noted, any conversation about the risks of AI should be coupled with the benefits of AI. What is clear from the discussions throughout the summit is that AI is already delivering tangible benefits to—and holds great promise for—the financial services sector.
