IS LIBRA A FINTECH CHALLENGE TO THE ESTABLISHED FINANCIAL SYSTEM?

Facebook’s announcement of their own digital currency that will launch in 2020 caused quite a disturbance among financial commentators. Many start-ups and small companies have tried their hand at establishing a global reserve currency, but this is the first time a global tech giant has forayed into the arena. How seriously should we take such ambitious claims? Let’s take a look at the main features of Libra and the concerns experts, politicians and commentators have voiced about the viability and benefits of the project.

Libra’s ambition to become a global blockchain currency is based on its main use case – international payments with minimal fees and providing financial services to the global unbanked. Banks and fiat currencies will be by-passed. Users will be able to store Libra in third party wallets as well as in Libra’s own wallet available on Whatsapp Messenger, as well as its own proprietary app.

Libra will run on its own open source blockchain and be governed by the Libra Association, where members will vote on important decisions. The issue of data protection is addressed by keeping Libra’s user data separate from personal Facebook data. This makes linking a specific wallet address or transaction to a name or other identifying information more difficult. The above mentioned Libra Association will earn interest on the money deposited by users in order to keep Libra stable.

 

THE PAYMENT SYSTEM IMPROVEMENTS?

One of the value propositions of Facebook’s project is the huge number of potential users. However, we have seen similar numbers before, as similar payment services are already available in China with Alipay and Wechat. Another strong selling point is the number of large corporate investors backing Libra, a number which is predicted to grow even more over the coming years.

It is reasonable to expect that new payment solutions coming to the cryptocurrency market offer competitive transaction fees and higher or at least equal transaction speed. Facebook claims Libra will be able to operate at 1000 transactions per second. This is far better than Bitcoin, but still three times less than what Visa provides.

Although Facebook claims the data related to Libra will be kept separate from our Facebook data, the easy access to spending could be dangerous to consumers who have difficulties controlling their budget. This is the concern of the U.S. National Foundation for Credit Counseling, as a recent study reveals that people’s spending can be significantly influenced by their social media experiences.

 

THE BEGINNING OF THE END OF FIAT CURRENCIES?

It is hard to take this scenario seriously unless the governments of the world decided to allow tax payments in Libra. And even then, Libra itself would still need fiat for its backing deposits. Let us imagine the libertarian dream of abolishing state-controlled fiat money came true; would its replacement by a currency controlled by a group of corporations really mean the end of manipulation and free interplay of market forces?

Libra will be backed by a basket of five fiat currencies (US dollar, yen, euro, pound sterling and Swiss franc) and short-term government securities, reminiscent of IMF’s Special Drawing Rights (SDR). Unlike deposits in fiat currencies, Libra will not bring any interest to holders. Libra deposits will be invested in financial assets determined by the corporate board, and the board will collect interest from these funds.

What does this mean? If Libra was truly adopted by the majority of Facebook users, the board would suddenly have massive funds available for investment in speculative assets on an international scale, which could add to the mushrooming global credit bubble. Meanwhile, users would be without deposit insurance, such as the ones provided by national governments. Implementation is easier said than done however, as there are several factors that speak against massive adoption, at least when it comes to holding large amounts.

The lack of interest on Libra begs the question: why should anyone hold a large amount of it? An asset with no interest and no insurance will not be very attractive to investors. Libra’s main incentive is then its ability to conduct transactions by simply tapping a button, an ease of use already mirrored by today’s widespread use of contactless cards, QR codes, and smartphone applications.

 

MULTIPLE CURRENCIES AND THE DOWNSIDE OF LIMITLESS AVAILABILITY

We have already pointed out in our previous article on the Narrow Bank idea that central banks are not in favour of safe havens that could accommodate massive capital inflows in time of crises. If Libra could really provide a low-cost, unregulated method for swift transition between global currencies, countries with a history of devaluations could face severe capital drains. Today, transfer fees, bid-ask spreads between currencies, and government regulations act as hindrances to international currency runs, and Facebook claims Libra is set to diminish them.

If users started converting fiat currencies into Libra on a massive scale, the effect would be an even more centralized monetary system. Not only will Libra be controlled by centralized, private corporations unaccountable to the public, like Facebook, Uber and Lyft, but it will further increase the control over people’s money in a system already dominated by a handful of banks and credit card providers. Facebook’s CEO is not even accountable to the shareholders in regards to social media data; what happens when people’s hard earned money gets involved?

National currencies are owned by national governments, and are thus subject to a robust regulatory framework. Libra users will have to rely on Facebook and its corporate partners to secure their funds – not a thing to be done lightly, given the past of the corporate sector.

Imposing a tax on Libra transactions along with KYC/AML procedures would reduce the danger of capital flight, but this would also diminish its uniqueness and bring it closer to existing digital payment platforms.

 

SUMMARY

This will be no public currency oriented toward public good, but a corporate-controlled and commercially motivated enterprise. It is a challenge by corporate giants to state-controlled money using their social media influence to set up an alternative currency.

Will the next step of corporate branding consist of monetizing engagement and loyalty as every retail platform issues its own cryptocurrency? Imagine a digital landscape where buying at different platforms requires changing from one cryptocurrency to another. Would discounts offered by the platform outweigh the conversion costs and the inconvenience, or would users rather make their purchases in universally accepted fiat?

What Libra certainly can do, is garner a lot of attention with the massive funds behind it. The story that is about to unfold will be about trust. Can a corporate entity lead a revolution in a trust-based economy, or will it succumb to the temptation of gathering and selling the users’ transaction data?

Equally important, can a corporation be trusted to keep reserves invested in low-risk assets and not engage in the more speculative strategies of maximizing returns? One should read Facebook’s intent for decentralization as nothing more than a shift from central banks to multinational corporations.

Image source: Adobe stock
David Prezelj
David Prezelj

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