What Is Facebook's Cryptocurrency and Why Does It Matter?

Reuters

What Is Facebook's Cryptocurrency and Why Does It Matter?

Facebook's "Libra" is not just an attempt to corner the global online payments market—it is a direct challenge to the authority of nation-states.

 

More to the point, has the banking industry ever really lost (in business and/or politically) this sort of existential battle?

Then there are more practical considerations. A mountain of them, really. Does Facebook have the capacity to identify its approximately 2.8 billion users and bring them into the Libra ecosystem while meeting the regulatory “Know Your Customer” requirements that are usually expected from financial institutions for anti-money laundering/anti-terrorism financing purposes?  Can the Libra Association sincerely guarantee the viability of its currency without publicly committing to a distinct monetary policy that ensures a stable value relative to the value of goods and services? What sort of taxation issues do Libra users and the Libra Association face from using the currency? Can an “immutable” blockchain of this size comply with numerous regulatory requirements, such as the European Union’s General Data Protection Regulation Article 17 on the Right to Erasure (ie, the right to have personal data deleted), which any EU citizen can invoke? These sorts of questions seemingly go on forever, and the Libra Association will have to answer all of them.

 

The greatest and most glaring challenge to the Libra, of course, is the fact that its creation is a direct challenge to nation-states, which have traditionally held the exclusive right to create, mint, and manage the coin of the realm. In fact, The Denationalisation of Money: The Argument Refined, written by Friedrich Hayek in 1976, makes this point rather clear. Hayek writes that:

When, at the beginning of the modern era, Jean Bodin developed the concept of sovereignty, he treated the right of coinage as one of the most important and essential parts of it. The regalia, as these royal prerogatives were called in Latin, of which coinage, mining, and custom duties were the most important, were during the Middle Ages the chief sources of revenue of the princes and were viewed solely from this angle. It is evident that, as coinage spread, governments everywhere soon discovered that the exclusive right of coinage was a most important instrument of power as well as an attractive source of gain. From the beginning the prerogative was neither claimed nor conceded on the ground that it was for the general good but simply as an essential element of governmental power.

The ability to produce currency is one that nation-states guard with zeal. Apart from being a primary instrument of power, it is immensely profitable. Consider, for example, how much the United States makes from seigniorage—the economic cost of producing a currency, which, if positive, means that the government is making a profit. It currently costs the U.S. government around 11.5 cents to produce a $20 note and 14.2 cents to produce a $100 note. Given that there are currently 1.7 trillion dollars out in circulation and that inflation is increasing annually at a rate of 2 percent, that would mean that the United States government is making billions and billions of dollars each year in profit just for printing money.

There have, of course, been attempts at creating privately-issued money in the past. Yet these have all failed over time because of incentives to cheat, generally giving way to fiat money. Consider an example given by Agustin Carstens, the General Manager of the Bank for International Settlements:

In the period in the United States known as the Free Banking Era, from 1837 to 1863, many banks sprang up and that issued currency with no oversight of any kind by the federal government. These so-called free bank notes did not work very well as a medium of exchange. Given that there were so many banks of varying reputation issuing notes, they sold at different prices in different places, making transactions quite complicated. And as supervision was largely absent, banks had limited restraint in issuing notes and did not back them up sufficiently with specie (gold or silver), thereby debasing their values. This era of “wildcat banking” ended up being a long and costly period of banking instability in the history of the US, with banking panics and major disruptions to economic activity. It was, after some further hiccups, followed by the establishment of the Federal Reserve System in 1913.

Despite the general triumph of central banks in the early twentieth century, there have been holdouts who speak in defense of private currencies. In the aforementioned The Denationalisation of Money, Hayek argues that businesses should have the right to issue their own forms of money. Whether or not these are adopted is debatable, though Hayek indicated that the ideal solution would be a currency based on a basket of commodities. However, these holdouts have generally not been taken seriously, and the notion that private currencies might emerge unto the world once again was dead letter—until Satoshi Nakamoto created Bitcoin.

The advent of blockchain technology has had an effect akin to the creation of the printing press in fifteenth-century Europe: it has robbed a previously invulnerable priesthood of its monopolistic control over a sacred sphere of influence and public life. At the time, the Catholic Church held tight control over religion and society. The mass was celebrated in Latin, the Bible was in Latin, and the monks and scribes who transcribed the Bible weren’t about to do something as daring as produce a vernacular copy. Even if one or two foolish souls did, they could only produce a few copies before being found out, excommunicated, arrested, and possibly burned at the stake like a witch. But with the printing press, the mass production of the Bible in vernacular was possible. A mere century later, the Church split between Catholics and Protestants, the latter fragmenting even further into various denominations.

Blockchain technology can achieve a similar effect: it provides anyone with general competency in computer science with the means to create their own programmable currency from the comfort of their own home. Of course, just because anyone can now do this doesn’t mean that they can do it well. Cryptocurrencies have failed to catch on as a medium of exchange thus far due to a number of reasons, with price volatility being the most cited factor. The Libra, with its strong corporate support and its asset-backed status, is possibly the first serious and credible contender. Like the priesthood of the Catholic Church, central bankers and finance ministers have been put on notice—their reign is now officially under siege.

That Last Argument of Kings

So what comes next?

The short answer is that Facebook and its partners are now facing a regulatory storm the likes of which is rarely ever seen. Far from letting the bull loose, they seem to have woken the bear.

On the European side of the Atlantic, mere hours after Facebook’s initial announcement of the Libra, French finance minister Bruno Le Maire thunderously declared on an interview with Europe1 radio that “It is out of the question that [the Libra] becomes a sovereign currency. It can’t and it must not happen.” He went further, stating, quite explicitly, that the ability to mint currency is an “attribute of the sovereignty of states,” and it must “remain in the hands of states and not of private companies which answer to private interests.” Le Maire then added that he has asked the central bank governors of the G7 to produce a report by mid-July (when the G7’s finance ministers meet) on the Libra, with an emphasis on possible risks, such as terrorist financing and other forms of illegal activity. The Bank of England’s governor, Mark Carney, took a more diplomatic approach, saying that he had an “open mind” to the Libra, and was sympathetic to the notion of making payments easier and cheaper. But he made it clear that the Libra would find no “open door” to its launch and said that if the Libra succeeded in attracting a following “it would instantly become systemic and will have to be subject to the highest standards of regulation.”

In the United States, Rep. Patrick McHenry, a senior Republican on the House Financial Services Committee, asked for a hearing on the Libra in a letter (helpfully posted on Twitter) to the committee’s chairwoman, Representative Maxine Waters. Waters, for her part, has called on Facebook to halt the development of the Libra. While also referencing Facebook’s data policies, she said that the announcement of the Libra demonstrates that “Facebook is continuing its unchecked expansion and extending its reach into the lives of its users.” Meanwhile, over in the Senate, Sen. Sherrod Brown (a senior member of the Senate Banking Committee) said in a statement that “Facebook is already too big and too powerful, and it has used that power to exploit users’ data without protecting their privacy. We cannot allow Facebook to run a risky new cryptocurrency out of a Swiss bank account without oversight.” The committee has already scheduled a hearing on this matter next month on July 16, with no witnesses announced as of yet. Meanwhile, Fed Chairman Jerome Powell disclosed that Facebook “has made quite broad rounds around the world with regulators, supervisors, and lost of people to discuss their plans and that certainly includes us.” He generally echoed Carney’s view that “we will wind up having quite high expectations from a safety and soundness and regulatory standpoint if they do decide to go forward with something.”