Search

Libra – a counterweight to the financial scales?

On 18 June 2019, Facebook published the White Paper on its stable coin Libra. The document provides the public with more information about the company’s embarkment on the busy cryptocurrency ride. This move by one of the world’s biggest tech company’s has grabbed the attention from every political, economic and social circle. This article will highlight our take on the introduction of Libra, based on the White Paper.

Stability

Libra is regarded as a “stable coin” because the currency is backed by real assets pooled together to form the Libra Reserve. The Libra Reserve consists of fiat currencies, deposits at partner banks and short-term securities issued by stable governments who have low default and inflation risks.

Having underlying assets is what sets Libra apart from Bitcoin and most cryptocurrencies of which value is driven by speculation. However, Libra’s value will fluctuate when the value of its underlying assets varies.

Decentralisation

The Libra blockchain is not decentralised, even when the ecosystem transitions to “permissionless blockchain”.   

In its current phase, Libra is built on permissioned blockchain (i.e. validator nodes are only accessed by approved entity) and the Libra economy is governed by the Libra Association, which is formed by Libra founding members who invested at least $10m each in the project. Naturally, these members also serve as initial validator nodes unless they choose to opt out.  

According to the White Paper, some notable functions of the Libra Association are:

  • managing the Libra Reserve and deciding how the Libra economy grows and stabilises. The White Paper stresses that Libra Association will not issue monetary policy, to distinguish it from the traditional function of a central bank;
  • being the sole creator and destroyer of Libra in response to demand from authorised resellers when they buy Libra with real assets and vice versa. This is another key difference of Libra from the minting of other cryptocurrencies which solely rely on CPU mining power; and
  • act as “buyer of last resort” to ensure the liquidity of the currency.

Normal users will only transact with authorised resellers who are approved to process large transactions with the Libra Association.

The Libra Association Council will set the pace for and oversee the transition of the ecosystem towards permissionless, i.e. anyone meet technical requirements (including the quantity of Libra they hold) can become a validator node. The first milestone for that goal is by year 5, the Council will allocate 20% of its voting power to validator nodes purely based on how much Libra they hold.

Service fees

Enabling its users to transact freely everywhere in the world with minimal cost is one of the key pillars to the pitch for Libra. However, the service may come at a cost, as users do not receive interest on the money they put into the network and additional financial services may be provided subject to a fee.

Security, AML and KYC

Facebook has set up Calibra Inc., a subsidiary which will process transactions and provide financial services to Libra users. What we know so far is that Calibra users will have their identities pseudonymised and their financial data will be separated from other personal data held by Facebook. Nevertheless such separation is subject to certain exceptions so look out for the further details on how Facebook and Calibra are going to handle the data flow and the risk of data breaches between them.

Some form of ID verification will be required to set up an account with Calibra and for transaction monitoring. How stringent the requirement would depend on the next phases of Calibra’s development where the platform’s ATM/KYC governance is introduced.

The best of both worlds?

The introduction of Libra shows the attempt to combine the stability of a traditional finance system backed by established institutions with the disruptiveness of cryptocurrency powered by blockchain technology.

The currency is still in its proto-type phase, and any conclusion on its success would be premature. The White Paper provides the public with more insight into Libra and the ambitious goal for the currency, but also raises numerous questions.

Firstly, little or no information is available on the ecosystem’s partner banks, custodians, authorised resellers or exchanges. The extent of activities Calibra is licensed to provide is yet to be confirmed. Calibra’s first product to be launched next year will be the digital wallet for Libra, but Facebook does not indicate that e-wallet would be Calibra’s one and only offer.

Another factor that may decide the fate of Libra is how widely the public will use the currency. Remember that Bitcoin was born as a response to the paramount distrust in the conventional banking system after the 2008 financial crisis. The current governance structure of the Libra network may make the currency more attractive in terms of intrinsic value and liquidity but may also lessen its “decentralised, distributed, peer-to-peer, cryptographic proof” appeal.  

The introduction of Libra is another strong push towards a cashless society and promises a global currency. It would be interesting to see the socioeconomic impacts of the currency when it becomes more mature, especially in jurisdictions where Facebook’s access is currently limited.

Where will we go from here?

Facebook’s issuance of Libra has and will set the precedent for other tech giants in every jurisdiction to follow suit. Perhaps, this would pave way for a two tiered monetary environment: cryptocurrencies controlled by tech companies and fiat currencies run by banks. Where the two systems intertwine is the grey area where challenges and opportunities will arise for all market participants.

Having the backing of multinational and wealthy corporations may provide the credibility that cryptocurrency needs after recent scandals. Arguably, one may ask how accumulating financial power in corporations differs from the traditional world operated by global and cash-rich financial institutions. 

Regardless of the hype and scepticism, big players joining the game will bring with them disruption and innovation to the market.

For any more information please contact Suzie Miles or Thanh Lanh-Connolly from our Technology Team on s.miles@ashfords.co.uk or t.lanh-connolly@ashfords.co.uk

Send us a message