Facebook’s plans to launch a digital currency, Libra, has sent shockwaves through the international finance world and may have sounded the starting gun on a digital currency race. The contestants have been preparing for a while, as has the financial sector, watching eagerly from the sidelines. Questions abound amongst the spectators. What should central banks around the world do about Libra? Is this the next, disruptive generation of currency? Who will win the race?
The short answers to those would be ‘something,’ ‘probably,’ and ‘perhaps China.’
To add a bit of context: Libra could force central banks to innovate at uncomfortable speeds. At the same time, its upsides could lead to foundational shifts in the world economy, perhaps weakening the US dollar and strengthening the Chinese Yuan. China seems to be thinking along the same lines, judging on recent news stories about its plans to forge ahead with a new digital version of its currency.
Stablecoins for the Future
Giving Libra a boxer-like introduction for the currency arms race: in the blue corner, hailing from 1 Hacker Way and trained by Zuckerberg & co, the Libra stablecoin. In the red corner: pretty much every central bank! Let’s get ready to (insert copyrighted phrase here).
Stablecoins are cryptocurrencies backed by underlying assets. They are regarded as more stable (hence the name) than other forms of cryptocurrency. Cryptocurrencies are a subset of digital currencies. Compared to traditional forms of currency, stablecoins’ strengths include faster, cheaper transactions.
In the case of Libra, its value is pegged to a range of currencies, including the dollar, pound, and yen but not Chinese yuan.
Users will convert their currencies to Libra and then be able to use them either to buy things or to transfer to other users. It will be linked to the Messenger and WhatsApp apps as well as a standalone app. The business case seems based around a couple of central pillars: money transfer, which can currently cost up to seven percent of the transferred amount, and potentially ad revenue. The latter will likely rise as customers will click on a Facebook ad, go directly to the company’s website, and immediately make a purchase with Libra.
Libra Sends Financial Institutions into Overdrive
The announcement of Libra has seen global-scale furrowing of brows and crossing of arms from central banks and financial institutions.
One of the central issues is that Libra could become a threat to national currency sovereignty, removing nations’ power to dictate the development of financial systems. Furthermore, the necessary financial regulations to govern international cryptocurrencies launched by a tech behemoth aren’t in place.
France’s finance minister, Bruno LaMaire, stated that he could not “authorize the development of Libra on European soil.” Across the Atlantic, Facebook was recently hauled before legislators in Washington (again), this time to explain exactly how Libra will work and promise that it doesn’t challenge existing currencies. One of the social media giant’s main counterarguments is that because Libra will be pegged to existing currencies, it doesn’t threaten national currency sovereignty, nor risk damaging exchange rates.
While lawyers will no doubt fill volume after volume with arguments for and against Libra, it looks set to hit the markets in 2020. Once public, it joins the often extremely well-funded ranks of disruptive FinTech solutions that are changing the way finance works in the 21st century.
China Ahead of the Pack?
A side effect of Libra is that it seems to have made China bring forward its plans of creating a digital currency, in part because China sees Libra as a potential third party in a fight over becoming the world’s most popular currency for business and transactions.
China plans to launch a digital version of the yuan that could have similar advantages to Libra—namely, faster, cheaper transfers. With the ongoing trade war, a digital yuan could enhance Beijing’s economic clout. It could also be used for trade with, for example, Asia and Africa, creating a financial version of its Belt and Road Initiative. If, for instance, a Kenyan importer and Chinese exporter can complete a trade both faster and cheaper using a digital yuan, the dollar’s position as a stable intermediary for international trade becomes weakened.
Harvard economist Kenneth Rogoff eloquently summed up what that could mean when asked by NBC News: “The dollar’s status as the global reserve currency helps lower borrowing rates for all Americans across the board, not just for the government,” he said.
The World Moving
China is far from the only country looking at going digital when it comes to cash. At least 15 national banks across 5 continents are exploring digital currencies, in part because of the perceived risk of both China’s digital yuan and Facebook’s Libra weakening their currencies.
In the US, the Federal Reserve recently announced plans for a new, round-the-clock, real-time payment and settlement service called FedNow Service. Critics have noted that it will not go online before 2023 or 2024, giving competitors a long lead. Others are likely to move ahead at a dead sprint.
The general manager for the Bank for International Settlements (which is perhaps best described as a central bank for central banks) Agustin Carstens, recently told the Financial Times that central banks are likely to issue digital currencies ‘sooner than we think,’ adding, “The issue is how will the currency be used? Will there be discovery of information, or data that can be used in credit provision, and how will data privacy be protected?”
Will Stablecoins’ Revolution Be Televised?
Carstens’ rhetorical question highlights a central issue facing stablecoins, as well as digital currencies in general. They promise huge upsides for business and private customers alike, like ease of use, cheaper transfers, and more control. Digital currencies could potentially also lead to banking for the many people and small businesses, especially in the developing world, who remain unbanked, thanks to digital delivery of financial services.
However, they are still surrounded by unanswered questions. The protection and nature of the data that is collected during their use is a central issue. For example, patents registered by the Chinese central bank suggest that it may be able to track every time digital money changes hands. In other words, anything you buy would be registered. Watchdogs have warned that Libra may be a bit fuzzy when it comes to privacy and the data that will be collected.
In more ways than one, the situation mirrors developments in spaces such as self-driving cars, biotech, and AI. Public organizations, on the other hand, are forced to wrangle with their potential societal consequences. It seems to lead to bottlenecks where private entities (and China) move faster than legislators can.
However, central banks looking to drag their heels and call a time-out may have to look to Sweden. Privately-owned digital payment solutions are becoming so popular that paper money may cease to exist as a viable form of payment within a few years. The situation has led the national bank to warn that it may soon run out of time if it is to wrest control of digital payments from the hands of private companies.
I’d bet my bottom, digital dollar that other countries will soon follow suit. Given current developments, I might be better off betting my bottom yuan if I want to cash in as soon as possible.
Image Credit: Image by Gerd Altmann from Pixabay