What is a blockchain and how will it impact insurance?

In the past couple of years, the use of cryptocurrencies like bitcoin for online transactions have exploded. State legislatures are already considering bills enforcing the legality of the underlying technology. But cryptocurrency aside, it’s the core technology behind the virtual cash called “blockchain,” that could transform insurance in the coming years.

Grinnell Mutual’s Vice President of Enterprise Solutions and Chief Information Officer Roby Shay says this technology could impact the industry by speeding up financial transactions and improving verification processes — though it’s not without challenges.

What is a blockchain?

At its core, blockchain is just a decentralized database. It’s a secure way to store data in “blocks.” Blocks are encrypted then connected to each other in a “chain” of users’ computers. A replication of each blockchain lives on all users’ systems, so there is no single database. 

1. A transaction is initiated.
2. A block is created from encrypted data. Each block contains a unique hash (think fingerprint) as well as the hash of the previous blocks.
3. Each party in the distributed ledger system must deem the block valid. The distributed ledger system, or the “nodal” system, is made up of devices that all carry a copy of the blockchain and can verify if the new block matches the chain.
4. The approved block is added to the chain and the transaction goes through.

How does it work?

Blockchains work by storing and verifying data among multiple computers/users instead of in a central place, so no single computer/user has all the information needed to make changes to the data. This makes it extremely hard to tamper with. 

The block

In a blockchain, each block stores three main things:

1. Data. These data are mostly exchange details — to whom, from whom, and what.
2. A hash. A hash is like the “fingerprint” of each block and is unique to that block. Hashes are long lines of numbers and letters.
3. The hash of the previous block. If any data in the block changes, the hash itself changes.

The chain

Each block is “chained” to the previous one using the hash of that previous block. When a hash changes (because data within its own block changes), the change affects only that specific block. The subsequent block contains the original hash. This allows the blockchain to quickly compare among blocks to see if the identifying hashes remain the same, making it easy to identify attempts of fraud. Any hash on a given block that doesn’t match is a red flag.

Hashes are one-way encryptions, so you cannot reverse-engineer a hash to reveal the original data.

The distributed ledger/ nodal system

In traditional database models, one central authority houses and verifies information. If you buy a book on Amazon, all your data is stored with Amazon and is only protected by their security measures. If the data in Amazon gets lost or is corrupted for any reason, there is no way to authenticate compromised information.

In contrast, a blockchain is a distributed ledger/database, meaning that everyone using the blockchain shares the same information. If you buy a book from a business within a blockchain, your information is encrypted and stored throughout that network, but only you can see the actual details of the transaction — what everyone else can see is the hash that marks the transaction as authentic. Information is easy to verify and hard to lose.

People can join a blockchain network by volunteering their computers’ processing power and memory to store and verify information. Devices on the network are called “nodes.”

Real-world examples

fizzy

French insurance company AXA’s product fizzy is a fully automated flight-delay insurance. With fizzy, if the insured’s flight is two hours late or more, the claim is automatically paid without them ever having to file the incident.

Insurwave

Insurwave is a blockchain solution for marine hull insurance. With Insurwave, insurers can track exposure in real time. For example, if a ship enters a war zone, premiums automatically rise based on real-time data and agreed-upon rates. This takes out much of the paperwork and negotiations usually involved after a ship has gone through high-risk areas.

How will it impact insurance?

Insurance, by nature, is highly transactional and requires a high level of information security and trust between insurers and insureds. Though use of blockchain in the insurance industry is still uncommon, many companies are exploring its advantages in accountability, transparency, and security. It also has potential for creating customized contracts, faster and more accurate claims service, and monetizing bid data.

But as exciting as this kind of encryption is, there are still risks:

• Buggy code. As blockchains move to executing business actions, there are more chances for glitchy programming to make its way into the chain.
• Scalability. As more transactions occur, verification times in the public blockchain can increase because the majority of users’ systems must verify the block before it can be added. And with more data on the chain, computers are required to store even higher amounts of info
• Hardware requirements. Public blockchains use a lot of electricity, which is not only expensive, but also creates physical volatility for the machines that run it. The massive processing power required to run public blockchain technology means that companies will have to invest considerable resources to get a blockchain system up and running. For private organizations, this may not be as large of a concern. 

“Blockchain is not a silver bullet,” said Shay. “It isn’t going to fix everything, but it does have the potential to add productivity and to reduce the friction in many insurance processes.”

While it may be some time before blockchain technology is widely adopted by the insurance industry, it doesn’t hurt to keep it on the radar for long-term planning. Startups like Blockchain Insurance Industry Initiative (B3i) are already re-imagining reinsurance with their property catastrophe XOL contract. As companies grow and embrace insurtech, the blockchain is just one of many potential opportunities — and risks — that the industry must face.

“I don’t think insurance has gotten to the point where it’s completely transactional,” Shay said. “Overall, it still requires a relationship with a person or entity you know and trust — one that will be there in your time of need.”