The cryptocurrency from social media giant is an interesting mix of free and fiat currencies. However, niggling doubts over privacy and other issues remain
Facebook recently launched a cryptocurrency named Libra, along with several partners such as Uber, Visa, Vadofone and so on. The website states that “Libra’s mission is to enable a simple global currency and financial infrastructure that empowers billions of people”.
Libra like other cryptocurrencies will be based on blockchain technology and allow Facebook users to “send, receive, spend, and secure their money” and thereby “enabling a more inclusive global financial system”.
Initial reactions of Libra were that it is like Bitcoin which is based on principles of free currency, but a deeper analysis suggests that it picks aspects from both fiat currency and free currency.
In a Bitcoin system, the supply of the currency is fixed and there is no central agency like a central bank which can inflate or deflate currency supply. This implies that the monetary system works as per currency demands of people and cannot be influenced by any central agency.
The Bitcoin idea was based on this notion of free currency, which used to exist earlier. Historically, currencies were produced and managed by people and later by individual banks. This led to multiple currencies, leading to monetary chaos, and the function gradually moving to a central agency which was named as central bank. Earlier, the central bank currencies were backed by some commodity like gold or silver, but post World War-II, most currencies became based on just fiat or government order. Hence, when cryptocurrencies came into being, they were not just challenging the government control over currencies, but restore the old world order.
Libra combines both these principles of free currency and fiat currency. It is a cryptocurrency, but will be backed by a basket of fiat currencies. Thus, Libra’s value will change as the value of currency changes in the basket. The advantage of this strategy is that it will limit the volatility of Libra which clearly has been bane of most other cryptocurrencies. They are yet to disclose the basket of fiat currencies, but most likely it will be major currencies such as US Dollar, Euro and the like, which are usually stable or at least not as volatile as Bitcoin whose value changes to the tune of insanity.
A more stable Libra will also hopefully be a better unit of account, medium of exchange and store of value, three features of money which cryptocurrencies have lacked till now. One of the most frustrating things about cryptocurrencies is that they seized being a currency, but instead became an asset. Another problem has been that producing cryptocurrencies on computer networks is a highly energy intensive exercise which is particularly problematic as the world is debating cutting down carbon emissions. It has to be seen whether Libra can help overcome these limitations.
Though this improvement of Libra is its demerit as well. Unlike other cryptos, it does not challenge the hegemony of central bank money, but merely joins their ranks. In a way, Libra resembles a digital version of IMF’s currency – Special Drawing Rights (SDR) – which is also backed by a basket of currencies. Then, most countries have Nominal (and Real) Effective Exchange rates which are based on the same concept of backed by basket of currencies.
Prof Larry White, a proponent of free money in an interesting blogpost compares Libra to a mutual fund where the fund is diversified across a pool of fiat currencies. Others have said Libra is at best another payment application like say Paytm, Google Pay and so on.
Apart from these basics and criticisms over its design, Libra has led to a lot of discussion in the academic and central banking community over its possible impact on policy. So far, Bitcoin and other cryptocurrencies could not really challenge central bank money as it was backed by smaller entities. But Libra is different as it is backed by Facebook and some other leading players. Facebook with its billions of accounts can surely challenge the existing payment and banking systems. Some people are worried that given Facebook’s scant regard for privacy, its own currency will make even financial data available for exploitation.
Prof Katharina Pistor of Columbia Law School wrote that governments should intervene to stop the Libra project as it will require State support in the case of a crisis. Stephen Grenville, former deputy governor of Reserve Bank of Australia, joins Pistor saying a frictionless Libra operating at an international level could lead to global currency run which will require governments to intervene in the form of some tax on capital flows — popularly called Tobin tax.
Noted economist Kaushik Basu has a different view that central banks’ failure to reduce inflation — and unemployment — has led to the rise of cryptocurrencies and same is the case with Libra, too. It will not be right to ban Libra right away as it is not clear whether we have laws to stop the currency which plans to be a global currency.
Mark Carney, Governor, Bank of England, remarked that the central bank welcomes Libra with “an open mind but not an open door”. This implies that the central bank will not easily give way to Libra, but is still open to analysing its design to improve payments systems in the country.
There are many more views and one should expect a lot more to be written on the subject in coming days. Overtime, one should also get clarity over the project as it is still at the conception stage.
These are interesting times for central bank watchers as few imagined that their being a hegemon could be even discussed, leave alone being challenged. These ideas might be far off from replacing the central bank money, but have surely forced these authorities to rethink their strategies in order to remain monopolists of currency.