Singapore Monetary Authority White Paper: Global Layer 1 - The Foundation Layer of Financial Networks

Introduction

The Global Layer One (GL1) initiative aims to explore the development of a multi-functional shared ledger infrastructure based on Distributed Ledger Technology (DLT), developed by regulated financial institutions for the financial industry. Our vision is to enable regulated financial institutions to deploy inherently interoperable digital asset applications across jurisdictions using this shared ledger infrastructure, managed by universal asset standards, smart contracts, and digital identity technologies. Creating a shared ledger infrastructure will unlock liquidity that is dispersed across multiple locations and enable financial institutions to collaborate more effectively. Financial institutions can expand the services they offer to clients while reducing the costs associated with building their own infrastructure.

The focus of GL1 is to provide financial institutions with shared ledger infrastructure to develop, deploy, and use applications suitable for the financial industry's value chain, such as issuance, distribution, trading and settlement, custody, asset services, and payments. This can enhance cross-border payments as well as the cross-border distribution and settlement of capital market instruments. Establishing a consortium of financial institutions that leverage DLT to address specific use cases like cross-border payments is not a new development. The transformative potential of GL1's unique approach lies in developing a shared ledger infrastructure that can be used for different use cases and can support composable transactions involving various financial assets and applications, while complying with regulatory requirements.

By leveraging the capabilities of a broader financial ecosystem, financial institutions can offer richer and more diverse services to end users and bring them to market faster. The shared ledger infrastructure of GL1 will enable financial institutions to build and deploy composite applications that utilize the capabilities of other application providers. This can manifest as institution-level financial protocols for programmatic modeling and execution of foreign exchange (FX) trading and settlement. This, in turn, can improve the interaction of tokenized currencies and assets, enabling synchronized delivery of digital and other tokenized assets for payment versus payment (DvP) settlements, as well as payment versus payment (PvP) settlements for foreign exchange. Further extending this, it can support delivery versus payment versus payment (DvPvP), meaning the settlement chain can consist of a set of synchronized tokenized currencies and assets transfers.

This article introduces the GL1 initiative and discusses the role of the shared ledger infrastructure, which will comply with applicable regulations and be managed by universal technological standards, principles, and practices, allowing regulated financial institutions to deploy tokenized assets across jurisdictions. The participation of public and private sector stakeholders is crucial to ensuring that the shared ledger infrastructure is established in accordance with relevant regulatory requirements and international standards, and meets market demand.

Background and Motivation

The traditional infrastructure supporting global financial markets was developed decades ago, resulting in isolated databases, different communication protocols, and the high costs associated with maintaining proprietary systems and custom integrations. While global financial markets remain strong and resilient, the demands of the industry have become more complex and scaled. Simply incrementally upgrading existing financial infrastructure may not be enough to keep pace with the complexity and speed of change.

As a result, financial institutions are turning to technologies such as Distributed Ledger Technology (DLT) because of its potential to modernize market infrastructure and provide more automated and cost-effective models. Notably, industry participants have launched their respective digital asset initiatives. However, they have chosen different technologies and vendors for their respective initiatives, which limits interoperability.

The limitations of interoperability between systems have led to market fragmentation, with liquidity trapped between different venues due to incompatible infrastructure. Holding liquidity across different venues may increase the cost of capital and opportunity costs. In addition, the proliferation of different infrastructures and the lack of globally recognized classifications and standards related to digital assets and DLT have increased the cost of adoption, as financial institutions need to invest in and support different types of technologies.

To achieve seamless cross-border transactions and fully leverage the value of DLT, a compliant infrastructure designed around openness and interoperability is required. Infrastructure providers should also be aware of the applicable laws and regulations related to the issuance and transfer of tokenized financial assets, as well as the regulatory treatment of products created under different tokenization structures.

The recent working paper from the Bank for International Settlements (BIS) elaborates on the vision of "Financial Internet" (Finternet) and "Unified Ledger," further supporting tokenization and its role in applications such as cross-border payments and securities settlement. If managed properly, an open and interconnected financial ecosystem can improve access to and efficiency of financial services through better integration of financial processes.

Despite the good progress made in the experiments and pilots of asset tokenization, the lack of financial networks and technological infrastructure suitable for financial institutions to execute digital asset transactions limits their ability to deploy tokenized assets on a commercial scale. As a result, market participation and secondary trading opportunities for tokenized assets remain relatively low compared to traditional markets.

The following paragraph will discuss two types of network models commonly used by financial institutions today, as well as a third model that combines the openness of Model 1 with the protections of Model 2.

Model 1: Public Permissionless Blockchain

Currently, public permissionless blockchains are attracting a large number of applications and users because they are designed to be open and accessible to all parties. Essentially, they are similar to the Internet, where public networks can grow exponentially without the need for approval before joining the network. Therefore, public permissionless blockchains have significant potential network effects. By building on shared and open infrastructure, developers can leverage existing capabilities without having to rebuild similar infrastructure themselves.

Public permissionless networks were not originally designed for regulated activities. They are inherently autonomous and decentralized. No legal entity is responsible for these networks, and there are no enforceable service level agreements (SLAs) regarding performance and resilience (including network risk mitigation), and there is a lack of certainty and guarantees in transaction processing.

Due to the lack of clear accountability, the anonymity of service providers, and the absence of service level agreements, these networks cannot be applied to regulated financial institutions without additional protective measures and controls. Furthermore, the legal considerations and general guidelines regarding the use of such blockchains are also not clear. These factors make it difficult for regulated financial institutions to use them.

Model 2: Private Permissioned Blockchain

Some financial institutions have determined that the existing public permissionless blockchains cannot meet their needs. Therefore, many financial institutions have chosen to establish independent private permissioned networks and their ecosystems.

These private permissioned networks include technical features that enable them to implement rules, procedures, and smart contracts in accordance with applicable laws and regulatory frameworks. They are also designed to ensure the resilience of the network in the face of malicious activities.

However, the increase in private and permissioned networks, if they cannot interoperate with each other, may lead to greater fragmentation of liquidity in the wholesale funding market in the long term. If not addressed, fragmentation will reduce the network effects of financial markets and may create friction for market participants, such as inaccessibility, increased liquidity requirements due to the separation of liquidity pools, and price arbitrage across networks.

Model 3: Public License Blockchain

Public permissioned networks allow any entity that meets participation criteria to participate, but the types of activities participants can conduct on the network are restricted. Public permissioned networks operated by financial institutions for the financial services industry can leverage the benefits of an open and accessible network while minimizing risks and concerns.

Such a network will be built on principles of openness and accessibility similar to those of the public internet, but with built-in protections for functioning as a value exchange network. For example, the governance rules of the network might restrict membership to regulated financial institutions. Transactions could be supplemented by privacy-enhancing technologies such as zero-knowledge proofs and homomorphic encryption. While the concepts of public and permissioned networks are not new, there is no precedent for such networks being provided at scale by regulated financial institutions.

The GL1 initiative will explore and consider various network models, including the concept of public licensed infrastructure within the context of relevant regulatory requirements. For example, regulated financial institutions may operate nodes of GL1, and participants on the GL1 platform will undergo Know Your Customer (KYC) checks. Subsequent sections will describe how GL1 operates in practice.

GL1 Initiative

The GL1 initiative aims to promote the development of a shared layer infrastructure for hosting tokenized financial assets and financial applications along the financial value chain.

The infrastructure of GL1 will be unbiased towards asset types; it will support tokenized assets and tokenized currencies issued by network users (such as regulated financial institutions) across different jurisdictions and in different currency denominations. This can simplify processing, support automatic instant cross-border fund transfers, and facilitate simultaneous foreign exchange (FX) swaps and securities settlements based on predefined conditions.

The infrastructure will be developed by financial institutions for the financial services industry and will serve as a platform to provide the following functions:

• Cross-application synchronization
• Composability
• Privacy Protection
• Compatibility with inherent applications of assets that have been tokenized and/or issued on the infrastructure.

GL1 will operate as a technology provider and a public infrastructure provider across markets and jurisdictions. To facilitate the development of the solution ecosystem, GL1 will also support regulated financial institutions in building, operating, and deploying applications on a universal digital infrastructure that covers the following aspects:

• Transaction lifecycle (initial issuance, trading, settlement, payment, collateral management, corporate actions, etc.)
• Issuance and trading of different asset types (e.g., cash, securities, alternative assets)

3.1 Key Objectives

In order to realize the vision of creating more efficient clearing and settlement solutions, and to unlock new business models through programming and combinatorial features, the GL1 initiative will focus on the following aspects:

a) supports the creation of multifunctional networks.

b) enables the deployment of various applications from payment, capital raising to secondary trading.

c) provides an infrastructure for hosting and executing transactions involving tokenized assets, which are digital representations of value or rights that can be electronically transferred and stored. Tokenized assets can be assets across asset classes (such as stocks, fixed income, fund shares, etc.) or currencies (such as commercial bank money and central bank money).

d) Encourage the formulation and establishment of internationally recognized universal principles, policies, and standards to ensure that tokenized assets and applications developed on GL1 have interoperability internationally and across networks.

3.2 Design Principles

In order to achieve the goal of GL1 serving the financial industry's needs, the foundational digital infrastructure of GL1 will be developed according to a series of principles as follows:

• Open and Standards-Based: Technical specifications will be made public and open, allowing members to easily build and deploy applications. Where appropriate, industry standards and open-source protocols (for payment messages and tokens) may be used. If existing standards have not been developed or are inadequate, appropriate efforts will be made to ensure the design is flexible, and proposals for or incorporation into future standards can be made.

• Compliance with applicable regulations and openness to regulatory authorities: The GL1 platform will adhere to applicable laws and regulatory requirements. Policy controls for specific jurisdictions should be developed at the application layer rather than being built into the GL1 platform. Legal and regulatory requirements applicable to members or end users may depend on the nature of business applications, services, and