On Valentine’s Day, two subcommittees of the House Committee on Science, Space, and Technology held a joint hearing on the potential application of blockchain technology beyond cryptocurrency and financial technology. This hearing highlights the U.S. Government’s growing interest in blockchain, a Distributed Ledger Technology (DLT) that has powered platforms for secure and decentralized transactions. While its most visible exponent, Bitcoin, has been a hot topic, blockchain is gaining traction among some federal agencies as a tool of the future.

Given the sheer data demands on modern government, blockchain, which would enable what some call “democratized trust,” shows promise to cut red tape without compromising the security and integrity of government transactions. The potential use cases for blockchain are many—just to name a few: identity management, supply chain management, smart contracts, patents, and foreign aid delivery. Federal government agencies are making their own forays into this area:

  • Department of Homeland Security: prove the integrity of captured data from border devices to help secure the Internet of Things (IoT);
  • GSA: automating the FASt Lane process for IT Schedule 70 contracts to give end-user agencies quicker access to innovative suppliers;
  • Navy: secure sharing of data within the Naval Additive Manufacturing process.

But, the government is still cautious. With a view towards cybersecurity vulnerabilities, Section 1646 of the 2018 National Defense Authorization Act requires DoD to brief on the offensive and defensive cyber applications of blockchain by the early half of this year. In practice, the government has been experimenting mostly through vehicles such as proofs of concepts and Small Business Innovation Research (SBIR) projects. These initiatives, while distinct from traditional procurements, provide low-cost opportunities for entry. Industry should be on the lookout for ways to engage the government and articulate viable uses of blockchain for particular mission requirements.

Blockchains and distributed ledger technology (‘DLT’) are becoming increasingly prevalent in industry. A recent Juniper Research survey found that 56% of companies with more than 20,000 employees were either considering deploying, or were in the process of deploying, blockchain solutions.

At its core, blockchain technology is essentially an engine for processing exchanges of information. It is not a static record. A blockchain is a type of distributed database that tracks transactions in assets and exchanges of information. It is a chronological sequence of verified transactions within a certain network. A ‘transaction’ can be the transfer of an asset, the creation of a new medical record, or the entry into a swap transaction. There is not just one blockchain, just like there is not one database. Different blockchains can be created for different needs, with different operating rules.

A distributed ledger is a distributed database that tracks transactions. Multiple participants have access to the same ‘golden record’ – there is no single official copy. The ledger automatically updates when new transactions take place, and so there is prompt verification of completed transactions across the system. Blockchain is an example of a distributed ledger, but distributed ledgers don’t have to be based on blockchain.

Application to Supply Chains

Supply chain management has long sought an efficient, accurate, and paperless process. A system that records each event, is transparent when it needs to be, confidential at other times, designed to meet the regulatory obligations around government filings, commercial demands, insurance claims, and on and on.

One of the touted merits of a DLT supply chain is that it would solve challenges such as provenance (diamonds), sourcing (origin claims), important admissibility issues (forced labor), and even emerging issues such as conflict minerals.

Role of DLT in Tackling Modern Slavery

Modern slavery is a complex crime and it is estimated that 46 million people worldwide are in some form of slavery. DLT could be a powerful tool to address gaps in supply chain data and increase the efficiency of data sharing helping to improve traceability and transparency of supply chain labor standards. For example, DLT could assist companies to verify the working conditions of people involved in production. Increased collection, analysis, and sharing of data would help companies to identify and prevent slavery and could assist law enforcement agencies in tackling this insidious crime.

In circumstances where there is greater focus than ever before on corporate transparency, tracking supply chains and ensuring human rights are protected is increasingly important. The UK Government released new guidance in October 2017 on the Modern Slavery Act 2015 (MSA) which suggests that even companies that do not reach the £36 million turnover threshold should consider voluntarily producing MSA statements and there has also been increased NGO oversight particularly of large UK companies. Blockchains and DLT could provide the traceability and trust that companies need to combat modern slavery while at the same time improving corporate transparency.

What’s next?

In 2018, you can expect to see more implementations, so now is the time to develop a blockchain strategy and to develop a risk profile so that you will be ready to take advantage of the benefits of this new technology.

Crowell & Moring Can Help

Exploring Blockchain

We provide in-house CLE programs and information sessions on blockchain and DLT, helping clients understand both the technology and the regulatory issues of implementing a blockchain or DLT solution, as well as promising use cases in specific industries.

Creating a Blockchain Strategy

We offer in-depth workshop sessions for companies considering implementing a blockchain or DLT network, including identifying regulatory hurdles to adoption, assisting with network diligence, negotiating network agreements, and addressing the full range of issues relating to joining a network.

Ready to Join a Network

And, once you are ready to join a network, our team works to negotiate the legal agreements and provide a deep-dive review of operating procedures, cybersecurity and privacy concerns, and regulatory issues that will impact your success.

Blockchain and Your Supply Chain

Since our previous Client Alert, distributed ledger technology (DLT), also known as “blockchain,” has continued to find new applications in supply chain security and documentation. DLT provides an “append only” chain of transaction documentation that can be shared widely or narrowly to provide a strong record for import and export supply chain records.  A number of high profile announcements illustrate the resources being devoted to DLT and supply chains.

Creating a blockchain is something that is theoretically possible on a large scale (see https://azure.microsoft.com/en-us/solutions/blockchain/). The question is, is it right for you?

Many supply chain documentation issues can be addressed through DLT; just as ERP software programs such as SAP and Oracle brought enterprise-related transactions into a new era, DLT offers to transform additional aspects of the documentation related to import and export.  Expectations must be managed, however.

DLT is a robust digital record, but as trade agencies begin to rely on blockchain for their operations, importers and exporters must also consider whether to transition their supply chain documentation to DLT. Blockchain is essentially the creation of a strong digital record of both digital (such as signatures) and analog (real world) events. If an importer uses blockchain for declarations to CBP, for instance, the importer will have an advantage in demonstrating the strength of the links in the supply chain, but the underlying analog events remain subject to audit and verification. DLT cannot eliminate fraud in the documents that are appended to the blockchain, so self-audits are still required. But, the DLT can reduce the amount of time and effort that goes into such audits.

Crowell & Moring’s “Blockchain Gang” has been involved in the assessment and development of supply chain applications. Please click here to read about the firm’s recent success in helping establish the world’s largest investment in DLT.

For further information, please contact Jeff Snyder, Jenny Cieplak, Jana del-Cerro

U.S. Forced Labor Update

The most recent Department of Labor report on Goods Produced by Child Labor or Forced Labor lists 139 goods from 79 countries; industries include: agriculture, fisheries, construction, apparel, textiles, footwear, furnishings, and minerals, among others. NGOs are also investigating and reporting on labor trafficking.

Following the amendments to section 307 made by the Trade Facilitation and Trade Enforcement Act (please click here for Crowell & Moring’s Client Alert), CBP made conforming amendments to its regulations. Its website provides the following guidance: “CBP encourages stakeholders in the trade community to closely examine their supply chains to ensure goods imported into the United States are not mined, produced or manufactured, wholly or in part, with prohibited forms of labor, i.e., slave, convict, indentured, forced or indentured child labor.” CBP Guidance on importer due diligence can be found here.

Importers are undergoing investigations now that have not yet reached the “withhold release order” level; now is the time to consider supply chain audits. Crowell & Moring lawyers have experience with supply chain audits and assisting importers undergoing such investigations.

For further information, please contact John Brew, Jeff Snyder, Frances Hadfield, Aaron Marx

North Korea and Forced Labor

Overshadowed by the Russia portion of the new sanctions law, and buried in the North Korea section of the “Countering America’s Adversaries Through Sanctions Act (CAATSA)” legislation, is a provision that creates a rebuttable presumption that most items from North Korea are prohibited because of the use of forced labor. It reads:

‘‘(a) IN GENERAL.—Except as provided in subsection 10 (b), any significant goods, wares, articles, and merchandise mined, produced, or manufactured wholly or in part by the labor of North Korean nationals or citizens shall be deemed to be prohibited under section 307 of the Tariff Act of 1930 (19 U.S.C. 1307) and shall not be entitled to entry at any of the ports of the United States.

‘‘(b) EXCEPTION.—The prohibition described in subsection (a) shall not apply if the Commissioner of U.S. Customs and Border Protection finds, by clear and convincing evidence, that the goods, wares, articles, or merchandise described in such paragraph were not produced with convict labor, forced labor, or indentured labor under penal sanctions.
Key terms remain undefined. Although the impact may be negligible given the low volume of imports from North Korea and the existing sanctions, this formulation presents an example of how Congress might use this tool to address imports from other countries.

For further information, please contact Jeff Snyder

Blockchains and distributed ledger technologies (DLT) have the potential to provide significant tools to address import and export supply chain risk. Will these new technologies eliminate risk? Will they solve the legal challenges companies face in complying with the many obligations throughout the supply chain? Unfortunately, nothing can completely eliminate risk; however, these new tools may help reduce and manage it, thereby easing the compliance burden.

Blockchain technology is at its core an engine for processing and exchanging information and assets. The Bitcoin blockchain, although the most widely known, is just one example of the application of this technology. Financial firms are seeking to use it to track ownership of securities. Power companies are seeking to use it to track power consumption and production. And it also has the potential to be used to track items through a supply chain, for instance from a mine to a plant to a customer, or from a manufacturing operation through an exporter to the ultimate consignee.

A blockchain is composed of “blocks”, which are groups of transactions – or exchanges of information – between entities on the network that are secured and bundled together by the system. These blocks are then organized into a sequence – or “chain” – where their order has meaning. When a block is “closed,” the system wraps it with a unique mathematical wrapper based on its contents, its place in the chain, and the unique wrapper of the block before it (which was similarly based on its contents, place in the chain, etc.). This chain of blocks then serves as a record of the transactions or exchanges of information on the system. The mathematical wrappers, together with the fact that each block on the chain is connected to the prior block and layered on top of the transaction-level security, makes it very difficult to make changes to previous records. This gives it a degree of integrity that makes it very attractive for supply chain applications.

Although a blockchain can be maintained on just one server, typical blockchain systems work by distributing the blockchain ledger across a network of users, which is then maintained collectively – i.e., updates to this distributed ledger are performed by all users and controlled by an agreed upon set of rules and using verifications that are built into the system itself rather than by any one entity or in a central location. These verifications are designed so that, in order to go back and change information, a bad actor would not only have to work through the entire chain of transactions, but would have to make changes in a majority of the instances on the distributed ledger, and do so before anyone else made any other changes. Distributed ledger networks are designed to constantly check the blockchain so that unauthorized changes can be quickly detected and kept out of the distributed ledger.

Additionally, a “distributed network” is very different from the “centralized” networks that are more typical today. Centralized networks are like hubs leading to (and dependent on) spokes; distributed networks look more like fishing nets. If a connection or line is cut, the rest of the net still keeps working. Information can still be exchanged, updated, and verified, and any entities cut off by that outage will have their copies of the blockchain updated when they reconnect.

Various software implementations of blockchain and DLT solutions are being offered for different supply chain challenges, including:

Note that not all blockchain and DLT solutions are broadly open to public participation; many require some type of qualification or verification to participate. Deployments with such requirements are known as “permissioned” versus “permissionless” systems. For example, the Bitcoin blockchain is permissionless – so anyone with a computer can access it using publicly available instructions. By contrast, systems supporting large supply chains would be able to, and likely would, remain closed except to verified users with permission to participate.

Making it work for you. Some observers predict that blockchain and distributed ledger technologies will enable the supply chain of the future; others view it with some skepticism. Who’s right? That is for each company to decide, and as you do, we would like to offer a few recommendations and observations from a trade law compliance standpoint.

  1. Blockchain and distributed ledger technologies can create a record of the events in the import and export supply chains that has more integrity than other methods. How? Unique digital tags can be created at every meaningful point in the product lifecycle. Each actor along the way then “signs” the tag, creating a chain of custody that is reflected in the blockchain ledger. The record itself has integrity by virtue of the genius of blockchain design. However, the underlying events that are “tagged” or “signed” remain a risk. That risk will not be eliminated by blockchain and distributed ledger technologies. Ensuring that all actors in the supply chain accurately “sign” the tags remains a compliance challenge. The benefit comes in the record that the blockchain system creates; once created, it provides a new level of integrity.
  2. There is no information to suggest that any of the trade agencies, whether in an import audit or export licensing context, have relied on or accepted blockchain or distributed ledger technologies in support of a finding of compliance. It may well be some time before we do, and in fact we may never hear of it. These technologies are methods of proving compliance, no more, no less. For now, expect that regulators, especially auditors, will not be familiar with them, and be prepared to demonstrate what they do and do not do.
  3. Blockchain and distributed ledger technologies may be familiar to most banks and financial institutions who in turn understand their role in finance, particularly with respect to letters of credit or other instruments, but other third parties may not have the same familiarity and whether they are vendors, tolling providers, service providers, customers, or others, it will be important to educate them on the tool and its commercial and regulatory importance.

The promise of blockchain and distributed ledger technologies is significant; they have the potential to change the way some parts of import/export compliance are done. Many companies are already exploring how to take advantage of these technologies, including those with high value assets and items at risk for counterfeiting or tampering as they move through the supply chain.

Put in context, blockchain and distributed ledger technologies may be used to confirm compliance with direct shipment rules, verify country of origin claims, obtain duty free treatment under free trade agreements; or ensure compliance with the recently expanded laws prohibiting importation of goods produced using forced labor. For exporters, the ability to track shipments provides a means to authenticate end-users, reducing the chances of exports being diverted to prohibited parties and destinations.