Facebook is creating Libra, a global digital currency - The Economist

Facebook wants to create a worldwide digital currency

Libra could be massively disruptive—including to the social network itself

The Economist, June 18th 2019

Libra could be massively disruptive—including to the social network itself

A GLOBAL DIGITAL currency would make sending money across the world as easy as texting. It would do away with fees, delays and other barriers to the flow of cash. It would give those in less developed countries access to the financial system and a way to protect hard-earned wages against runaway inflation. It could trigger a wave of innovation in finance, much like the internet did in online services.

That, in a nutshell, is what on June 18th Facebook promised to launch within a year. Libra, as the social network’s new currency is to be known in honour of an ancient Roman unit of mass (and the word for “pound” in many romance languages), professes to be all about “empower[ing] billions of people”.

The potential is indeed enormous. If each of Facebook’s 2.4bn users converted a slice of their savings into libras, it could immediately become one of the world’s most circulated currencies. It could also, if widely adopted, vest unprecedented power in the hands of its issuer. In a tacit acknowledgment that its mishandling of user data, condoning the spread of misinformation and other sins have devalued its stock with policymakers, users and potential partners—though not investors—Facebook wants to outsource the running of Libra to a consortium of trustworthies recruited from the world of finance, technology and NGOs. The consequences for the global financial system could be far-reaching. So could the impact on Facebook’s business.

If the project lives up to the mock-ups, buying, selling, holding, sending and receiving libras will be a doddle. It can be done in Facebook’s Messenger app or WhatsApp, another messaging-service-cum-social-network it owns—and, later next year, in a standalone app. All at a tap of a smartphone.

So far, so familiar. Messenger already offers payments to Americans. WhatsApp is testing a similar function in India. But these services do not cross borders, and require users to have a bank account. Fintech firms like TransferWise, which offer international transfers to the banked, take a 4-5% cut to wire $200—a third less than Western Union but not nothing. Libra will be global and cheap, and require no bank accounts: more bitcoin than Venmo.

Except that, unlike bitcoins and other cryptocurrencies, libras will change hands in seconds, not minutes, for next to nothing, not a few dollars. The system should handle 1,000 transactions a second at its launch, and more later, compared with no more than seven a second for bitcoin. The virtual coins will be bought with real money, which will top up the reserve backing the currency. This should prevent wild price swings from bitcoin-like speculation.

If it works, Libra could be a money-spinner for Facebook, albeit not directly. Notional transaction fees would not generate much revenue. But libras should allow Facebook to charge more for online ads, by making purchases of advertised products quicker and simpler. It could furnish a new source of data to target adverts, making up for user information Facebook will forgo with the “pivot to privacy”, which Mark Zuckerberg, its boss, proclaimed in March with respect to messaging. Libra would let his company catch up with WeChat, a Chinese super-app which offers payments and other financial services, and whose foreign ambitions are on hold as the Sino-American trade war rages on.

Technically and financially, Facebook could probably pull off such an ambitious undertaking on its own. Not politically. Its culture is more measured than it was in its early years, when it aspired to “move fast and break things”—but only a bit. Chary consumers may choose not to entrust their money to a social network which has, until recently, leaked their personal data left and right. Unless users appear on board, merchants may be reluctant to embrace the currency, however hassle-free.

Enter the Libra consortium. The association, to be based in reassuringly staid Geneva, will take over from Facebook before the first libra has been spent and manage the hard-currency reserves. Facebook has enlisted 28 prospective founding members out of an envisaged 100, each with equal voting rights and operating a node in a decentralised system which issues coins. They include financial firms (Visa and Stripe, among others), online services (Spotify, Uber), cryptocurrency wallets (Anchorage, Coinbase), venture capitalists (Andreessen Horowitz, Union Square Ventures) and charities (Kiva, Mercy Corps)—though, for the time being, no banks. Not a libertarian alternative to the existing financial system, in other words, but a complement.

To add credibility to its promise, broken in the past, to keep social and financial data strictly separate, Facebook has created a subsidiary, Calibra, to run Libra services within its apps. It is unlikely to face hurdles to uptake from Apple or Google. It is impossible to imagine them expelling Messenger and WhatsApp—and later other providers Facebook is inviting to the open-source project—from their app stores, as they have done with other cryptocurrency offerings, many of which have turned out to be scams.

To get Libra going, the consortium will pay merchants to offer discounts to customers who pay in the new currency, financed by a $10m one-off fee each member pays for a seat at the table. Eventually, Facebook would like anybody, not just the consortium, to be able to generate the currency, move it and offer services on top of its “blockchain” (crypto-speak for the database that keeps track of who owns what). At that point, Libra would truly turn into Bitcoin, minus the kinks and the libertarianism.

Hard currency
With a project with so many moving parts, much can go wrong. Although Facebook says it has a working prototype, the technology is untested; sceptics doubt that a 100-node system, let alone a bigger one, could process thousands of transactions per second. Hackers are doubtless champing at the bit.

Then there are consortium dynamics. Facebook will have to prove to the other 99 Libra members that it is truly prepared to give up control. At the same time, because important decisions need a two-thirds majority, someone has to knock heads together. The history of information technology is littered with initiatives which collapsed under the weight of internal conflict.

The biggest barrier may be political. Facebook has apparently consulted many regulators. Initially they should be able to keep tabs on Libra. The providers of digital wallets will have to comply with national rules, like those against money-laundering. Calibra, whose integration into Messenger and WhatsApp will initially make it the dominant wallet, is bound to stoke competition concerns. These may recede as the currency grows bigger and more decentralised, only to be replaced by worries about financial stability.

Libra’s success, then, is far from assured. But it could prove useful even if it flops, for it offers a blueprint for how Facebook itself could one day be governed. The Libra Association’s main task is to oversee the blockchain, ensuring, for instance, that Calibra does not enjoy privileged access to it. An equivalent Facebook Association, some observers have ventured, could be composed of representatives of users, advertisers, data-protection authorities and so on. Their job could be to oversee the “social graph”, another database, which lists all of Facebook’s users and the links between them—and to guarantee that Facebook users can post to another social network and vice versa.

Calls for a Facebook constitution along these lines have grown louder as the social network’s influence on world affairs, from election-meddling in America to genocide in Myanmar, has become apparent. Mr Zuckerberg is no stranger to such thinking. In 2009 Facebook let users vote on big changes in its privacy policies but abandoned the experiment with global democracy a few years later. Last year Mr Zuckerberg announced that Facebook wanted to set up a “content review board” of independent experts—a kind of “Supreme Court”, in his words, which would make “the final judgment call on what should be acceptable speech”.

Asked whether Libra could serve as a model for Facebook, David Marcus, who is in charge of the project, replies that it marks “a coming of age, the moment we recognise that there are some things that we shouldn’t control—and a radical departure from the traditional way of operating things”. Perhaps. But checks and balances would almost certainly make Facebook less profitable. It would be ironic if a new digital currency marked the beginning of the end of Facebook’s money-minting days.

O sistema monetario internacional no século XX: book review

Ao colocar uma resenha de livro abaixo, permito-me remeter, novamente a meu artigo sobre o euro, elaborado no momento em que a moeda comum da Euroland era lançada fiduciariamente, 20 anos atrás.

O euro aos 20 anos; ensaio PRA quando de sua criação (2000)

Paulo Roberto de Almeida

Behind the Scenes at the Central Banks that Created our Modern Monetary System

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01/16/2019Carmen Elena Dorobăț

[From the Summer 2018 Quarterly Journal of Austrian Economics. A review of How Global Currencies Work: Past, Present, and Future by Barry Eichengreen, Arnaud Mehl, and Livia Chitu, Princeton, N.J.: Princeton University Press, 2018, 250 pp.]

The present volume is an engaging and intriguing account of how global currencies, such as British sterling and the U.S. dollar, have risen to global dominance in the international monetary arena, and how currencies such as the Chinese renminbi, for example, could follow in their footsteps. Divided into twelve chapters, the work focuses primarily on the international monetary history of the 20th century, complemented by a comparatively brief account of the 19th and 21st centuries. The narrower focus of the discussion in these chapters—and most of the data supplied in each chapter’s appendices—concerns the composition of foreign reserves, i.e. the balance between holdings of pounds and dollars, and later of yen, euro, and renminbi.

From this, the authors propose to tease out a few new factual discoveries and some implications for the future of the international monetary system. More precisely, they disavow the traditional theoretical view which argues that international currency status resembles a natural monopoly that arises organically from the benefits of using the currency of the most economically (commercially and financially) powerful country in international economic transactions, i.e. a monopoly due to network returns (p. 4), and winner-takes-all and lock-in effects.

Because, argue the authors, this ‘old’ model is not supported by much of the data from the 20th century, they propose a ‘new’ view arguing that multiple currencies can be used concomitantly on an international scale, such as the pound sterling and the dollar during the 1920s. These currencies played “consequential international roles” (p. 11) demonstrating that inertia and persistence due to network effects in international transactions are not as strong as previously thought. Their updated theoretical framework is borrowed from the process of technological development, where new technologies are adopted gradually by users and grow exponentially, thus using an analogy between the workings of international currencies and those of computer operating systems.

Eichengreen, Mehl and Chitu’s discussion also seems to revolve around the interplay between the political sphere and national monetary policies on an international scale, but this insight remains latent throughout their analysis. The authors focus rather on the technical aspects of international currency status and deliberately treat political and monetary matters as separate—in parts dismissing political matters completely.

Chapters 2, 3, and 4 contain a factually rich historical narrative of the origin and development of the holding of foreign reserves, particularly before and after the First World War. Scattered throughout are little gems useful to any scholar of monetary theory, like the fact that “foreign exchange reserves had accounted for less than 10 percent of total reserves in 1880, [but] accounted for nearly 15 percent in 1913” (p. 17).

In Chapter 4 the authors provide evidence of the currency composition of foreign exchange reserves in the 1920s and 1930s that best underpin their ‘new’ view: they find that the dollar overtook sterling as the international reserve currency in the mid-1920s, and not in the 1930s to 1940s as previously thought by monetary scholars. This proves that the sterling and the dollar shared, at the same time, the status of international currency. Contrary to the traditional view, then, international currency status is not subject to a natural monopoly.

To further explain how this came about, the authors show in subsequent chapters the great intervention efforts of the U.S. Federal Reserve to ‘support the market between 1917 and 1937’ (p. 69). The Fed’s heavy-handed approach to trade credit (chapter 5) and international bond markets (chapter 6) propelled the dollar to international currency status over a short period before its collapse during the Great Depression. However—and again disproving the theoretical model—the dollar recovered its status around the time of the Second World War and completely surpassed the British sterling, showing that the status of international currency is, once lost, not lost forever. Rather, it can be regained through the coordinated efforts of a powerful central bank, which can heavily benefit from engineering this rise to global currency status. Moreover, the authors argue, other countries benefit as well from not relying on one global lender of last resort, but rather on a network of lenders. Chapters 9, 10, and 11 discuss along the very same lines the rise and fall of the yen and the euro (with the euro crisis), and the future prospects of the Chinese renminbi, respectively.

Despite the great amount of historical information contained in this book, and the ample new data available to the authors, the volume falls short of the promise in its title. The narrative does not actually show how global currencies work in a comprehensive manner, but only how the global ascension of a currency can be traced back to the behind-the-scenes machinations of a central bank. As such, the subject could have been—and was—satisfactorily treated in a half dozen journal articles published by the authors between 2009 and 2016 (p. xv).

Nevertheless, it is still interesting to note that the geopolitical history of the world can be read through the history of monetary policy, or perhaps, that the history of monetary policy is mirrored in the history of geopolitics. As the authors themselves explain, the dominance of one country’s currency in international exchanges can indicate the “singular leverage” (p. 3) of that country’s central bank over international financial relations and international politics. More importantly, the reverse is also true: the dominance of one country in international politics is a good indicator of the international status of its currency throughout history.

However, because the authors choose to separate the political causes and implications of monetary policies from their economic aspects, the book ultimately provides a rather hesitant and unassuming analysis that makes it feel lackluster. Two questions arise that remain unanswered: Why do central banks benefit from their currency becoming global, if not by preventing domestic inflation from reflecting in their exchange rate and foreign reserves? And why do other countries benefit from having multiple lenders of last resort (multiple reserve currencies), if not by accomplishing the same disguise? Without an answer to these questions, or even an acknowledgment of their existence, the book appears to be a collection of great insights whose potential remains unrealized.

Let me briefly illustrate this by contrasting Eichengreen, Mehl, and Chitu’s analysis of the momentous change in international monetary relations at the Genoa Conference in 1922 with the one put forward by Mises and Rothbard.

The authors discuss in chapter 3 (From Jekyll Island to Genoa) the leading countries’ efforts to restore the gold standard in the 1920s whilst avoiding the deflationary repercussions following the period of great inflation during the First World War. According to the report of the financial commission,

the Genoa resolutions called for negotiating a convention based on the gold-exchange standard with a view to “preventing undue fluctuations in the purchasing power of gold”… The idea was to create an environment in which ‘credit will be regulated… with a view to maintaining the currencies at par with one another (pp. 38–39).

Eichengreen, Mehl and Chitu view this solely as an open effort of Great Britain to recover the lost dominance of the pound sterling, and the otherwise innocent desire to renounce the golden fetters of the pre-WWI gold standard. While discussing monetary competition between London and New York, they fail to pinpoint the nature of this competition, and avoid answering the question whether the new reserve system was “badly designed or badly managed” (p. 41).

In the system’s design lurked a fateful goal: the continued inflation of money supplies. Coordination efforts among central monetary authorities in reaching this goal was a first step toward abandoning the commodity money system. While the authors only seem to skirt around the issue, Rothbard (2010, pp. 94–95) explicitly argued that Great Britain wanted to establish

a new international monetary order which would induce or coerce other governments into inflating or into going back to gold at overvalued pars for their own currencies, thus crippling their own exports and subsidizing imports from Britain. This is precisely what Britain did, as it led the way, at the Genoa Conference of 1922, in creating a new international monetary order, the gold-exchange standard.

Mises had explained this need for policy coordination in a similar way:

Various governments went off the gold standard because they were eager to make domestic prices and wages rise above the world market level, and because they wanted to stimulate exports and to hinder imports. Stability of foreign exchange rates was in their eyes a mischief, not a blessing (2010a, p. 252).

If the various governments and central banks do not all act in the same way, if some banks or governments go a little farther than the others… those who expand [the money supply] more are forced to return to the market rate of interest in order to preserve their solvency through liquidity; they want to prevent funds from being withdrawn from their country; they do not want to see their reserves in… foreign money dwindling (Mises, 2010b, p. 77).

The crucial issue here, therefore, is not the prominence of one currency or another, but that this prominence was engineered to speed up the renunciation of the gold standard, and greatly enlarge the freedom of all central banks to inflate money supplies. The Genoa Conference had thus paved the way for the next steps: the Bretton-Woods conference of 1944 and the “closing of the gold window” in 1971. This process did not unfold without problems, but it created the auspicious environment for inter-governmental monetary agreements, and allowed the U.S. and other powerful nations to employ a “policy of benign neglect toward the international monetary consequences of [their] actions” (Rothbard, 2010, p. 101). This further removed many obstacles to creating “the ideal condition for unlimited inflation” (Rothbard, 2009, p. 1018)—a system mimicking a global fiat currency as closely as possible.

In this light, the desire to engineer global currency status for one nation’s currency is open to another, more somber interpretation, which highlights the pressing dangers of international fiat money. According to Mises (2010b, p. 254):

Under a system of world inflation or world credit expansion every nation will be eager to belong to the class of gainers and not to that of the losers. It will ask for as much as possible of the additional quantity of paper money or credit for its own country.

It is not usual in a book review to criticize the authors for failing to achieve something they did not explicitly set out to accomplish. And yet, How Global Currencies Work: Past, Present, and Future is wanting in both its depth and breadth of analysis. Nonetheless, the abundance of data on the composition of foreign exchange reserves the authors make available is impressive, and their accomplishment in this regard must be commended. The book is easy to read, even though largely technical in nature and much too narrow in its focus.

I remain hopeful that this project will be followed by another, more extensive investigation into the workings of global currencies. An alternative analysis of this data, focused on the differences in kind between commodity and paper money, would provide a much deeper and richer illustration of how global fiat currencies are made to work to serve the political purposes of one powerful nation or another. This would indeed illuminate much of the dark history of monetary policy over the last three centuries.

Dr. Carmen Elena Dorobăț is a Fellow of the Mises Institute and assistant professor of business and economics at Leeds Trinity University in the United Kingdom. She has a PhD in economics from the University of Angers, and is the recipient of the 2015 O.P. Alford III Prize in Political Economy and the 2017 Gary G. Schlarbaum Prize for Excellence in Research and Teaching. Her research interests include international trade, monetary theory and policy, and the history of economic thought.

Contact Carmen Elena Dorobăț