Bonds which make use of distributed ledger technology have been in development for a decade. During that time, the market has accumulated a growing crowd of public and private initiatives that explore how DLT, otherwise known as blockchains, could be used in market infrastructure to improve the issuance, trading and settlement of bonds.
Such fragmentation may seem to contradict the aim of scaling up the digital bond market. In fact, it is a vital foundation for what is to come.
There is a sense that developing DLT systems is motivated, not just by the wish to innovate, but by not wanting to miss out. The volume of tokenised assets should reach $5tr by 2030, believes McKinsey. On Tuesday, Switzerland's SIX Digital Exchange hit the rather lower milestone of more than Sfr1bn of digital assets on its platform.
The European Union has taken notice and perhaps stolen a march on its rivals in Asia and the US by embarking last week on the ambitious European Central Bank Trials. More than a dozen banks, central banks and market operators will test central bank digital currencies for bond settlement.
As the market develops, it will face a choice of whether to get behind a single, cohesive digital system, or persist with fragmented ones striving to be interoperable.
The irony of fragmentation
The present phase of innovation naturally spawns a diverse array of solutions, each with their own strengths and weaknesses.
This is the experimental stage, during which the market needs to test different solutions to find the best. But the price of innovation is fragmentation.
Fragmentation is, of course, an ironic externality in the case of blockchain technology. After all, the very claim of blockchain tech is that it creates a single, shared, incorruptible and indisputable ledger for all.
At the moment, it is not clear to many market participants how they can achieve anything in the bond market more efficiently using DLT than traditional methods — and even if they do believe in a digital future, the development costs of getting there are enormous.
So the mission is to work out how to get from an array of fragmented systems and protocols to something the whole market can use.
The idea of a single blockchain to rule them all is fanciful. After all, financial systems work on trust and it is hard to imagine banks entrusting their and their clients' security and compliance to a single, decentralised system; or to a blockchain built by a rival.
Therefore, the watchwords are harmonisation and interoperability — building a streamlined digital market place where different technologies connect with each other seamlessly, in a standardised way and with no redundancy. This is certainly the version of the future that the ECB Governing Council is getting behind.
The ECB Trials will try out three solutions for the next big problem to fix in building a digital bond market: how to settle cash on the blockchain. But this is not necessarily a tournament. It is thought all three methods — one French, one German and one Italian — could co-exist.
Infancy
The operation of the digital bond market on different, fragmented platforms has been described as a roadblock to its growth. It is a fair comment, although the market is still in its infancy.
To scale, it must develop interoperable solutions that connect the supply of digital bonds with demand at every point in their life, from issuance, through the secondary market, to redemption (or restructuring and default, of course). Until everyone can trade with each other in the way they can in the analogue market, digitalisation will be limited.
For now, though, fragmentation is not a bug but a feature: it drives competition.
From it will come systems built to do what its users need: a market with a single point of access to many blockchain infrastructures.
The market is likely to retain a range of DLT bond solutions, which will be improved to work together, rather than achieving a full-scale, unified ledger. To get to a level of seamless interoperability requires innovation, fragmentation, co-operation and healthy competition.