One of the hot topics at the recent Money 20/20 Conference In Las Vegas was tokenization and the increasing awareness of digital currencies. The first question of course is, what are tokens and what is tokenization?
Tokenization is the process of replacing sensitive data with unique identification symbols that retain all the essential information about the data without compromising its security.
The concept of tokenization, as adopted by the industry today, has existed since the first currency systems emerged centuries ago as a means to reduce risk in handling high value financial instruments by replacing them with surrogate equivalents. In the physical world, coin tokens have a long history of use replacing the financial instrument of minted coins and bank notes. In more recent history, subway tokens and casino chips found adoption for their respective ecosystems to replace physical currency and cash handling risks such as theft.
Antiquated payment systems are being challenged by the raft of new alternative digital payment systems such as new payments like Apple Pay on the one end, and possibly the blockchain on the other.
Tokenization in alternative payment systems
Building an alternate payments ecosystem requires a number of entities working together in order to deliver near field communication or other technology based payment services to the end users. One of the issues is the interoperability between the players and to resolve this issue the role of trusted service manager is proposed to establish a technical link between mobile network operators and providers of services, so that these entities can work together. Tokenization can play a role in mediating such services.
An example is the use of the Kenyan M-Pesa token that converts money to airtime and back to a financial value at point of purchase or transfer between transacting parties on the Safaricom/Vodafone.
The concept of a tokenization or a one-time card number that does not transmit personal data is a similar concept to the blockchain. Technology purists may argue that the blockchain technology has some superior features but to the consumer, the difference is indistinguishable.
The blockchain addresses the tokenization aspect of transactions. Some believe that if digital currency applications followed the strategy used by Google’s Android as opposed to Apple’s closed ecosystem approach, the market could become an opportunity. Offering a product that is open source and virtually free is how Android became the top mobile operating system in the world. Digital currencies could borrow from Google’s playbook.
The consumer does not care what technology lies behind the payment applications that they apply as long as it is secure, frictionless and accessible. Digital currencies need to build a high level of confidence and demand from the merchant and consumer alike with positive brand recognition.
The open-source nature of digital currencies gives them an advantage with technology that can be integrated without the need to navigate a corporate culture. This gives digital currencies a first mover advantage as consumers begin to embrace a digital payment network. Android was able to gain market share by offering apps quickly and therefore opened itself to the early adoption of game changing tech.
Visa announced recently that tokens will be a new network revenue stream. They declared that not only is tokenization the single biggest change that’s been made in the payment networks over the past 15 or 20 years and maybe longer, but that it enables them to control the data. Visa says that tokenization has opened up a whole world to be able to use digital devices to be a meaningful part of the payments flow in a way that those payments wouldn’t have in the past. It wants people to adopt tokenization because it creates a meaningful set of opportunities.
Bring on the token-economy
I often get asked what is the next big thing and where will the new initiatives and startups come from in the digital currency space? I believe the answer lies in securitization and ease of use of the digital finance systems currently under development and in decentralized tokenized apps.
Some presenters at Money 20/20 explained how in today’s global economy, trust is in rare supply. This lack of trust requires the devotion of a tremendous amount of resources to audit and verify records – reducing global efficiency, return on investment, and prosperity. Moreover, incidents such as the 2010 United States foreclosure crisis demonstrate that in addition to being inefficient, the current processes are also terribly inaccurate and prone to failure. New startups are creating new system that can remove the need for blind trust by providing a precise, verifiable, and immutable audit trail that could make auditing public companies easier for accounting firms and thus reduce the compliance costs for such companies. Such companies could also be used to keep track of different stages of a supply chain or a series of business processes, or it could capture in provable form the ever-changing portfolio of reserve assets for any financial company that’s required to back its operations with reserves.
The Distributed Apps sector has been particularly active of late drawing a significant portion of VC funding. This sectors bears watching closely in the coming year.