Issue No.

11
Apr - Jun 2016

6BLOCK CHAIN
Taylor Wessing UK

THE BIGGEST
THING SINCE THE
INTERNET?

Distributed ledger technology, or block chain, is best known as the

technology which underpins Bitcoin, the worlds most successful
cryptocurrency to date. Initially treated with some scepticism as a
niche application, it is fast becoming viewed as the most disruptive
technology in decades. Beyond its obvious applications in financial
services, government services, smart contracts and cybersecurity, it
could fundamentally change the way society operates. No wonder that
governments are desperate to get ahead of the curve and, quite literally,
harness its potential.

WHAT IS BLOCK CHAIN?

The terms block chain, blockchain and distributed ledger technology
(DLT), are used more or less interchangeably. The technology provides
a way of creating a shared ledger or database which can record and
track transactions and assets. Each participant sees the identical copy
of the ledger in close to real time.
The rules built into the system determine what constitutes a transaction.
Transactions are passed around nodes. Records of transactions are
aggregated into blocks by miners once the transactions have been
verified by using computational power to assure all members of the
network that the transaction has taken place according to the systems
rules. The purpose of mining is to allow nodes to reach a consensus
about the validity of the transaction. In theory, anyone with a computer
can become a miner by installing some software but the processing
power required to crack the code in order to add a new block to the
chain is enormous. Small- time miners will often pool together but some
miners take the form of large data centres. Incentive to become a miner
is usually provided; Bitcoin rewards its miners with (unsurprisingly)
Bitcoins.
Once a consensus has been reached about the transactions in a block,
it can be linked to another block by a chain using a cryptographic
signature. A new block can only be added to the chain once the
transactions are authenticated and the cryptographic puzzle in the
previous block has been solved in order to link the new block to it.

STRENGTHS

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Resilience to fraud is one of the technologys main features. Anyone

attempting to alter a ledger would have to redo all the calculations
carried out to add the transaction in question to the block chain. They
would also have to redo all the calculations for the blocks which followed
and then be the first to crack the newest block and have it accepted

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Apr - Jun 2016

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6BLOCK CHAIN
Taylor Wessing UK

THE BIGGEST
THING SINCE THE
INTERNET?

into the chain. For the moment, at least, this is thought to be impossible.
To alter the Bitcoin system, for example, it is estimated you would need
to control 51% of the computing power of the miners of the system.
Having said that, Bitcoin miners are already reportedly suffering from
cyberattacks which are putting pressure on current systems.
Distributed ledgers are shared but no single user controls them.
Participants in the ledger keep it up to date and can only amend it
according to the pre-programmed rules of the system and with the
consensus of at least some of its other users. This means that the
ledgers can be both public and secure. A distributed ledger can be
permissioned which means a single or a select group owns it and
verification is carried out by a limited pool of consensus providers. It is
also possible to create hybrid ledgers so you could have a block chain
ledger as an underlying database with top layers of permissions for
different types of users. Alternatively, the ledger can be unpermissioned
like the Bitcoin ledger. It is open source, anyone can contribute to it
and nobody can prevent a block being added once consensus has been
reached.
The distinction between permissioned and unpermissioned ledgers is
likely to be a crucial one in the development and practical application
of block chain technology. The key strengths of block chain are that its
ledgers are a shared but secure record of transactions and ownership
which updates more or less in real time and which shows a complete
history. The Bitcoin ledger, for example, shows every single Bitcoin
transaction which has ever taken place.
The capacity to do away with the need for intermediaries is one of the
greatest attractions of distributed ledgers. Because all transactions
are verified before they are added to the chain, there is far less need
for a central trusted third party or a central bureaucracy to facilitate
operations. In addition, other information beyond the details of the
transaction can be added so that, for example, it is not merely an event
which is recorded but details of ownership or other personal records.
With permissioned ledgers, all participants start off as trusted users
which reduces the need for sophisticated mining.

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The decentralised control of unpermissioned ledgers makes

them particularly resilient to cyber attack and the potential for
pseudonymisation (if not anonymisation) of players provides inbuilt
data protection. Both these aspects can be strengthened or weakened
depending on the nature of the ledger and its permissions. One of the
benefits of block chain technology, especially when combined with
other database technology, is the high degree of control it offers users.
For example, an individual could give data to HMRC and various other
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Issue No. 11
Apr - Jun 2016

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6BLOCK CHAIN
Taylor Wessing UK

THE BIGGEST
THING SINCE THE
INTERNET?

government agencies but the individual could control which data could
be seen by which agency and would also be able to track access to and
use of that data.
For more on data protection and cybersecurity issues, see our article:
How secure is block chain? (http://united-kingdom.taylorwessing.com/
download/article-how-secure-is-block-chain.html)

APPLICATIONS
Finance - The most obvious applications are in the world of financial
services (which we discuss in more detail in our article: Unblocking
financial services - http://united-kingdom.taylorwessing.com/download/
article-unblocking-financial-services.html). The appeal of a ledger
which cannot be manipulated or unlawfully altered to record financial
transactions is easy to see and the reduced administrative cost
associated with genuinely digitised banking is proving very attractive to
banks. Leading banks are collaborating in R3 CEV, a joint venture aimed
at developing standardised private ledgers to be used in the banking
industry and trials have already started.
Government - Government is looking at a range of applications for
block chain technology, particularly with a view to reducing bureaucracy.
The means for government agencies to securely share information
across departments is enticing. Welfare distribution, healthcare, tax
collection, contract management, property ownership, reduction of
fraud, protection of critical infrastructure and distribution and control
of international aid, are all highlighted by the UK government as areas
which would benefit from the use of distributed ledgers. In addition, they
offer the potential for a more inclusive form of government, whereby
individuals could vote more frequently or give voting instructions to local
MPs in an easily transmittable and recordable manner.
Smart contracts - It is not just in government that the use of socalled smart contracts is being explored. Block chain technology
offers the possibility of using smart contracts across the whole range
of businesses. Ethereum, for example, is a start up whose distributed
ledger can carry more data than the Bitcoin one. It allows users to
create relatively sophisticated smart contracts, for example, invoices
which pay themselves when a product arrives, or share certificates
which distribute dividends to shareholders automatically when profits
reach a certain level.

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Asset tracking - While block chain technology started off with a

somewhat shady reputation, with Bitcoin viewed as a payment
mechanism for criminal activities, block chain technology actually
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6BLOCK CHAIN
Taylor Wessing UK

THE BIGGEST
THING SINCE THE
INTERNET?

provides huge potential to reduce fraud and track provenance. Assets like
art and jewellery are traditionally tracked manually with paper documents
used to prove origin. Both the artefacts and the records are open to
forgery. Block chain offers the means for higher forms of verification and
tracking. Everledger is a leading example of using block chain technology
to track assets, in this case, diamonds. It creates an electronic identify for
each diamond, assigns it a digital passport and then attaches that data
to the transaction records held in the block chain. Asset tracking and
sharing is also potentially useful for tracking and managing the internet
of things with the particular benefit that doing so in a distributed ledger,
rather than through centralised databases, is likely to protect from
hacking and surveillance.

ISSUES
Notwithstanding the exciting potential of block chain, there are some
considerable deficiencies in the block chain technology at the moment
which include the fact that it relies on huge processing power and can
only cope with a limited number of transactions per hour (seven Bitcoin
transactions per second, compared with 1736 transactions processed
by Visa America per second). As with any technology, there is the risk
that it could be expensive to implement and that it could quickly become
obsolete or incompatible with other technologies, especially if there is
no agreement over which standards to use. If a standard is agreed or
becomes the front runner, the controller of the standard could wield a
vast amount of power. Another concern is what happens if consensus
breaks down, particularly with unpermissioned ledgers. The controllers
of Bitcoin are reportedly already in disagreement about how to reach
consensus.

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An overriding issue is how to regulate the use of block chain.

Governments see a threat in unpermissioned distributed ledgers which
are not centrally controlled and are trying to work out how to control
their use without stifling innovation (see our article: Building blocks:
developing systems using distributed ledger technology - http://
united-kingdom.taylorwessing.com/download/article-issues-developingsystems-with-block-chain.html). In the UK governments recent report
Distributed Ledger Technology: beyond block chain, an entire section
is dedicated to the disruptive potential of the technology: DLTs pose
a threat to any hierarchical structure through an ability to connect
and operate in a distributed network, without trusted or necessary
intermediaries, by replacing top-down control with consensus. Hierarchies
can have significant disadvantagesbut do offer advantages wherever a
neutral broker is needed; and, for example, in representative democracy
The challenge will be to ensure that DLT and its associated innovations
are directed towards a connected productive society within a supportive

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Apr - Jun 2016

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6BLOCK CHAIN
Taylor Wessing UK

THE BIGGEST
THING SINCE THE
INTERNET?

infrastructure.
At the moment, democracies create their rules through a legislative
process. These rules are interpreted and enforced by people. Block chain
technology allows for people to be replaced by programming. For the
foreseeable future, the programming will still need to be carried out by
people but not necessarily by elected representatives. Bitcoin, for example,
is controlled by a handful of people who developed the technology and the
product. Governments are looking not only to harness the potential of the
technology but also to control it without stifling it. For libertarians, a world in
which control is taken away from centralised power structures is a thrilling
one, but others are worried by the vision of a future in which ever more
sophisticated computer programmes have the final say.
Much will depend on getting the balance between control and openness
right, with permissioned ledgers likely to be favoured by many. Despite some
significant shortcomings including the processing power needed for block
chain ledgers and the current, relatively slow transaction rate, there can
be no doubting the potential of this technology across financial services,
business and government.

Perhaps though, at the very heart of the matter is a

philosophical debate about how society should function.
Who makes the rules? Who controls the infrastructure?
Who can play the system?
While distrust of central government is prevalent across the world, whether
in developed or developing nations, and a lot of people would cheer the
demise of bankers and lawyers as intermediaries, perhaps what the debate
actually boils down to is: who do you trust more - Man or Machine?
This article was first published in March 2016 in Taylor Wessings Download:
Media and Tech Law e-bulletin (http://www.taylorwessing.com/download/
index.html).
Contributed by:

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Debbie Heywood
Professional Support Lawyer, IP/IT
Taylor Wessing LLP, London
(44) 20 7300 7000
d.heywood@taylorwessing.com

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