Can Libra Repeat The History Of Bretton Woods?
The coexistence between cryptocurrencies and national Fiat currencies.
In this story, I’m going to discuss Libra which is the new Facebook private currency just announced by the giant of the digital economy: Facebook. By reading the white paper of Libra, the mission is «to enable a simple global currency and financial infrastructure that empowers billions of people.»
My Initial understanding of this new cryptocurrency is that Facebook (Fb) is going to expand the activities well beyond its global digital advertising business, that is almost 98% of its revenues. Simply, Fb is planning to monetize the messaging services like WhatsApp and Messenger already used by 1.5 billion people. Thanks to this innovation, we can predict that can become the most massive e-commerce and payment tool in the world and it might compete with Banks as a new global digital currency in competition with Fiat money.
In a sense, it could become a sovereign global coin.
Although the project seems very interesting to reach a decentralized financial system, many issues arose about this project.
In particular, the most important question is: “Why should we trust the new global coin and the new financial system formed by Facebook? “ The answer is not “in the wind” as a wonderful song said, but is in the “Libra Blockchain and cryptology!”
Simply, My opinion is that Facebook is doing business with a new winning and disruptive business model, based on Distributed Ledger Technologies (DLTs) and cryptology. After this announcement, we can also say that any discussion about the intrinsic value of cryptocurrencies is over and Blockchain and cryptology are predicted to become a standard in the new internet of Blockchain.
The plan is to:
>Generate a new decentralized blockchain
>Create a stable cryptocurrency
>Build a smart contract platform
>Form a new opportunity for responsible financial services innovation
Together with the new coin which will be supplied starting from 2020, Facebook also aims to launch a crypto wallet (Calibra) that will operate through Messenger and WhatsApp. The tool will power peer-to-peer transfers and the retail payments to build a new cryptocurrency on a secure, scalable and reliable blockchain. The coin will be backed by a reserve of real assets governed by the Libra Association, a consortium of partners that includes Visa, MasterCard, and Uber.
The Libra currency is built on the “Libra Blockchain” and according to its white paper, it is intended to address a global audience with a software open source so that anyone can build on it, and billions of people can depend on it for their financial needs. The white paper explains that the main goal is to create an open ecosystem of financial services that developers and organizations will build to help people and businesses hold and transfer Libra for everyday use.
Libra is completely different from open and permissionless Blockchain, at least in the beginning, and it can’t be compared to Bitcoin or Ethereum or other cryptocurrencies. In permissionless systems, participants are allowed to submit transactions to the ledger and validate them; in permissioned DLTs, only authorized participants are validators and hence permission is required to become a node following the protocol.
The Libra Blockchain will be decentralized and formed by a collection of validators that work together to process transactions and maintain the state of the blockchain. These validators also represent the memberships of the Libra Association, which will provide a framework for the governance of the network and the reserve that backs the coin. Initially, the association (and validators) will consist of a geographically distributed and diverse set of Founding Members. These members will be organizations chosen according to objective participation criteria.
The Final War: Central Banks Vs. Cryptocurrencies
The community and the financial world reacted to Facebook’s announcement in different ways. The most of comments were very negative but, probably, they missed the fact that Libra could accelerate the process of an effective decentralization of finance that is what we need together with new most effective monetary policies that can impact the business cycle.
In my opinion, the true question is more if the Libra Blockchain will be scalable or not rather than if Libra may become a sovereign currency or not because it will not be the single one.
I think, indeed, that Libra represents a fundamental milestone in the evolution of cryptocurrency and the coexistence with Fiat money. Until now this scenario has not been accepted by central authorities, notable persons and well-known economists.
All of them have already started to declare that Libra has nothing to do with Blockchain and it cannot be accepted by the States.
However, I remember some of their critics…
For example, the economist Nouriel Roubini often criticized Blockchain, calling it the most “over-hyped — and least useful — technology in human history.” He has often declared that “Crypto is the mother or father of all scams and bubbles.” Also, Nobel Prize 2008 winning economist Paul Krugman expressed his skepticism about cryptocurrencies and Blockchain. He stated that cryptocurrency, despite its cutting-edge technology, has “set the monetary system targeted back by 300 years”. He said that the cryptocurrency, unlike fiat currencies, does not have an underlying value. According to him, the benefit of cryptocurrency is “merely a bubble.” He further postulated that even gold and silver, in addition to holding a “store value” have more real-world applications than the cryptocurrency since they can be used for things like jewelry and other real items. As I discussed in the past, this analysis was wrong because they missed the potential and opportunity for money and finance to be decentralized thanks to the technologic factor.
Once again, the Bankers expressed critics and skepticism, highlighting the risks associated with cryptocurrencies as a tool for crime purposes.
LThe Governor Francois Villeroy de Galhau announced that France is creating a G7 task force to study how central banks ensure cryptocurrencies like Facebook’s Libra are governed by regulations ranging from money-laundering laws to consumer-protection rules that are one of the most important thing to clarify of course.
Bank of England, Governor Mark Carney, said:
“Libra had to be safe, or it would not happen, and that the world’s major central banks would need to have oversight.”
I’m seeing that the mainstream is that Libra is positioning itself as a new global sovereign currency like a sort of digital US dollar to replace old financial institutions. Although it is something that could happen, today is premature to say it, because there is also another possible scenario on the ground that is the ‘coexistence’ between cryptocurrencies with real functionalities and fiat money. This scenario could be happen because necessary for the entire system driven by technologic innovations and the new internet.
Authorities may regulate but they can’t stop it because it’s an endogenous process of the evolution of economy and technology.
Unfortunately, I’m feeling that Bankers and Governments are trying to organize a final war against cryptocurrencies like Libra. Fundamentally, they can’t accept the idea to decentralize the financial system and loose power. However, they will have to pay attention this evolution of money, because if they try to block this decentralization, I think they will be losers in a black hole without getting the opportunity to evolve their old business models and monetary mechanisms.
Although Facebook can represent a real threat since it can become the most powerful centralized structure on the earth (is it a news?), however, we need to say that Facebook is also trying to use Blockchain and digital money to solve real needs that other companies or financial institutions do not want to solve.
Will cryptocurrencies survive? It is premature to say “Yes” or “Not”.
Instead of creating a total war, the states should study how cryptocurrencies could be regulated properly and compete in the market that is evolving through a new digital monetary era driven by technology and new payment systems.
The Central Banks will have to understand how decentralized money and credit transmission mechanisms can innovate monetary policies. By this way they will have a real impact on Business cycles and the real economy for the benefit of all humankind.
If they understand how to move to the next level of the digital economy and money, probably, the black hole will become a sparkling light where to move and find new monetary policies and credit transmission mechanisms thanks to cryptology or other innovations.
As I will explain hereafter, discussing on Bretton Woods, I’m surprised to read the comments of bankers and politicians who can’t understand what Libra is and what it can represent for the future. I think that if they knew history, they could have a more clear vision about the innovations and how to regulate Libra. Also Libra Association has to pay attention on the past to avoid the same mistakes.
I can anticipate, indeed, that if Facebook had the idea to become a sovereign currency, it would not be a great idea because its structure could be weak per nature. At certain time, indeed, speculators could attack Libra and it’d collapse.
There is no dilemma here, but the valid expectation of a coexistence between national currencies and cryptocurrencies with real functionalities like Libra’d be able to create.
Libra will be a medium of exchange and payment in Facebook ecosystem. What we need to clarify is the playing field but I don’t think that we should stop it.
The reaction of the crypto community was mixed, and almost everybody highlighted the main difference between Libra and Bitcoin, that is the ‘trust’. Of course I agree on that, because Bitcoin buyers don’t need to entrust any third party with their money or information, whereas Libra users shall trust the Libra Consortium.
The community seems to be against Libra, fundamentally for three main reasons:
> Security and privacy
Joe Lubin, the co-founder of Ethereum, manifested many concerns about Libra. He pointed out as Facebook is not eliminating subjective trust, but imploring us to trust in Libra, and saying that we shall believe that one Libra coin will have ‘intrinsic value’ by being backed by a basket of currencies and government bonds, rather than the capriciousness of daily cryptocurrency price swings. Moreover, although Libra aims to be an open source and a decentralized system, however, in the beginning, the codebase will be accessible partially and, I think, it is not so obvious that will be possible to create and scale an efficient or secured ecosystem in Facebok.
Although I have some concernings about the projecr compared to the original scopes of Bitcoin and cryptcurrencies, however, I’m less negative than others. I think, indeed, that Facebook is tracing the route, and other big Tech companies will move towards new crypto asset business models.
This scenario may represent the beginning of the ‘coexistence’ between national fiat currencies and cryptocurrencies with real functionalities (even if only a few of them will compete with those issued by Central Banks). I imagined this scenatio in my book ‘imagine there’s no currency’ where I explained my intuition about the ‘functioning curve of cryptocurrency’
in fact, what intrigue me when I analyze cryptocurrencies, is the decentralisation of the financial system and new mechanisms of supply and credit transmission mechanisms that can impact the business cycle.
Thanks to Libra, the coexistence between cryptocurrencies and national fiat currencies is possible and in that sense a decentralization of the monetary system will be now more likely than we could have believed until a few months ago.
Unfortunately, the financial establishment is still debating if cryptocurrencies match the criteria of money and if they are a sufficiently stable store of value or an efficient medium of exchange. Frankly, I consider this discussion over. What is happening with Libra is a great chance to change the perspective of Central Banks and Governments about digital money and monetary policies.
From a strategic point of view I highlighted several times the opportunity that the most significant players of the internet could have moved strategically towards Blockchain, changing their business model to become a ‘central’ player of this technology revolution, eventually joining other companies of different industries to capture all together new commercial and economic value from Blockchain and the decentralization of the financial system. The easiest way to do that would have been formed private and permissioned networks of Blockchains amongst them like Libra did effectively.
Libra and Bretton Woods
As said, Libra is designed to be a stable digital cryptocurrency that will be fully backed by a reserve of real assets (the Libra Reserve) and supported by a competitive network of exchanges buying and selling Libra. This approach is similar to how other currencies were introduced in the past guaranteeing that a country’s notes were being traded in for real assets, such as gold or other Fiat currencies. Instead of backing Libra with gold, though, it will be backed by a collection of low-volatility assets, such as strong fiat currencies, bank deposits, and short-term government securities in currencies from stable and reputable Central banks.
In my opinion, Libra will be helpful to push Central Bank to start to explore digital currencies with similar characteristics. A likely scenario is that Facebook’s cryptocurrency will be a powerful force for good in developing countries, obliging local governments to maintain the value of their fiat currencies purchasing power. The central concept behind the Libra Reserve, indeed, is that, since the volatility of these assets does not change in the short term, then the supply of cryptocurrency Libra should follow, staying relatively stable.
Try and imagine that if Calibra happens, the users of its suite of platforms (including Messenger and WhatsApp) will transact in the cryptocurrency with merchants for any goods or services. Well, what could happen?
I imagined a very similar scenario in my book where I thought that the massive adoption of cryptocurrencies would have happened for specific reasons such as where internet giants like Facebook or Amazon could have started to use their cryptocurrencies or facilitate their spread out. In particular, I wrote that they could have built a cryptocurrency and an eWallet with new cryptocurrencies that people could have used to pay for things with the partnered business. I thought that “Facebook could also have offered a cryptocurrency to make payments through its social platforms”.
Looking at the history of the U.S., we could compare this mechanism of Libra to the rule of the gold standard or better Bretton Woods, where USA plaid a central role in the global monetary system. Looking at the history we can, indeed, learn so much.
The Bretton Woods agreement created in 1944 after the Second World War, forced Allied countries to enter into a new monetary system accepting the U.S. dollar as a reserve rather than gold, while the U.S. government pledged to keep enough gold to back its dollars. In 1971, the Nixon administration terminated the convertibility of U.S. dollars to gold, creating a fiat currency regime. Under the Bretton Woods agreement, countries promised that their central banks would maintain fixed exchange rates between their currencies and the dollar. A new system was created with the objective of having stable exchange rates with the idea that this could help the reconstruction of economies after the War and avoid the return of the competitive currency devaluations as occurred during the 1930s. The characteristic of that monetary system was to fix exchange rates (adjustable) backed by the dollar whose value was supported by the price of gold and managed by the International Monetary Fund (IMF). The exchange rate of each country’s currency remained fixed, staying within narrow bands. The agreement stated that national central banks had to defend the money by speculative attacks alongside the IMF. If the currency of any country became overvalued or undervalued, the State could have negotiated a change in exchange rates through the IMF. The mechanism ensured that when there was a depreciation of the currency to the dollar, the bank had to buy its money in foreign exchange markets. This action would have decreased the currency’s supply and raised its price.
On the other hand, the bank would have had issued more money, increasing the supply and decreasing its price. The system would have allowed America, which was the only country able to print dollars, to become the dominant currency in the world economy. The dollar became a substitute for gold, and the value of the dollar increased. The consequence was more demand for the dollar, even though its worth in gold was the same. This discrepancy in amount planted the seed for the collapse of the Bretton Woods system three decades later but, the system did give States more flexibility compared to the Gold standard regime. The Collapse of the Bretton Woods System came in 1971 after the US stagflation, inflation, and recession that was the result of the dollar’s role as a global currency. In 1971 in the face of a massive attack on the dollar by speculators who thought that it was over-valued, Nixon announced that the dollar would no longer be convertible to gold. In 1973 the system ended.
Finally, can Libra repeat the history of Bretton Woods? Does Libra have the interest to become a sovereign currency?
So far, according to the Libra Reserve structure and White Paper, many doubts seem to emerge and Facebook shall clarify and adjust many things if it does not intend to repeat the Breton Woods history, because it would be a no sense.
We can just learn history to understand the future.
If Facebook had the idea just to replace national currencies, indeed, even if possible in theory, it would not be a good idea because Libra could become unstable per nature and it would fail its main mission.
In order to reach its mission, the Libra Association will have to create the proper mechanisms to coexist with fiat money in the ecosystem as a ‘functioning cryptocurrency,’ and an evolute payment system, improving the White Paper and the strategy as soon as possible (before that USA and European States or institutions and authorities will try to stop the project).
Can Facebook contribute to the ‘decentralization of finance and credit?’
It’s premature to say it!
My feeling is that, if Facebook adopts the right strategy and mechanisms to control the supply of Libra, the new virtual currency will be powerful but not a sovereign currency and the project could be accepted by the monetary authorities. Otherwise, the risk to repeat the history of a new Breton Woods is concrete.
Although, at the writing time, the project has just been announced and there are still a few comments in the news, I think that this project will have the merit to push the debate between Governments and Central Banks to change their monetary policies and find new solutions to impact the business cycle.
Moreover I predict that other powerful cryptocurrencies will come soon, includEd those issued by Central Banks, like the Chinese one.
Libra has to revise its strategic approach, clarifying mechanisms and assets In the reserve, because if it will be pegged too much to US dollar the scenario of Bretton Woods could come back once again.
Finally, I think that this new digital currency will also inspire developing countries to be united in similar projects to stabilize neighboring economic areas, to incentive trade and discourage government budget deficits and debts. That’s the reason why I firmly believe that Central Banks and Government of developing countries will move soon towards digital similar currencies to make neighboring economic areas stronger.
The only way to block this process would be banning the cryptocurrencies and Libra, but it would be hazardous in the free world.
My personal contribution to the development of the crypto community thinking was the attempt to explore alternative economic models, studying the ‘Demand of Money’ and the ‘Demand of cryptocurrencies’ that I called the ‘functioning curve of cryptocurrency.’ The curve explains the factors that could drive the potential demand of fiat Money and any cryptocurrency in a market with rational expectations.
The curve aimed to explore the intuition of an alternative economic model concerning cryptocurrencies demand and possible alternative monetary national and regional equilibria in any State or neighbouring economic area driven by the technologic variable.
It is intuitive to demonstrate that if large numbers of households and sellers may start to adopt cryptocurrency with ‘real functionalities ‘ just as a consequence of the Blockchain/DApps development and other DLTs technologies, the demand of fiat money would decrease, while the request of cryptocurrencies would grow by an exclusively endogenous process until alternative monetary equilibria are formed naturally in a sort of free competition driven by the market forces.
Following this sort of competition between fiat money and crypto currencies, Central Banks could assume a role of control and regulation of the market and participants. Unfortunately, Monetary Authorities fear this scenario.
From an academic point of view, my intuition was inspired by a few economists like John Maynard Keynes, and Friedrich Hayek with regarding his studies about capital, money and the business cycle. He argued that “a monopolistic governmental agency like a central bank can neither possess the relevant information which should govern supply of money, nor have the ability to use it correctly.” In his Prices and Production(1931), Hayek stated that the business cycle resulted from the central bank’s inflationary credit expansion and its transmission over time, leades to a capital misallocation caused by the artificially low interest rates. Hayek claimed that ‘the past instability of the market economy is the consequence of the exclusion of the most important regulator of the market mechanism, money, from itself being regulated by the market process.’
I support the need of a new monetary school and thinking to explore the importance of technology and cryptology for the credit transmission mechanisms to impact the business cycle and to create a decentralised supply of money that may be a new angle of the future of money.
This article is the property of Alessandro Raffelini and may not be used without his express written permission. This is article represents the opinions of the Author. These opinions expressed do not constitute an investment prospectus or an offer of securities or an investment solicitation in general in the financial market of cryptocurrencies.
Alessandro Raffelini is a strategist and a corporate finance Advisor to Venture Capital, Private Equity, international family offices (London). He is a Blockchain and crypto analyst. Feel free to contact me on twitter, Medium or LinkedIn.
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