‘The best defense is often a good offense’ — Banking, Libra & Blockchain
The recent announcement that Facebook is developing a crypto-currency (Libra) backed by a collective of central bank currencies and bonds has been met with a significant amount of fanfare from the blockchain community. The Libra token will enable an entirely new ecosystem within the social media giant’s empire.
It will allow them to commercialize previously uncommercial projects, provide a pivot point on how they address privacy through a potential pay to play to model for legacy businesses, as well integrate them within the global financial system through a transactional currency that will see them partnered with global goods and services providers.
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Unless you have been living under a rock, I am sure you have heard about blockchain by this time. While blockchain…
Is Libra just PayPal 2.0?
The largest single benefit of Libra is that it can be moved peer to peer without ever entering a regulated Banking system. Something that PayPal could never offer. The cost savings of eliminating an increasingly redundant function, in this case, Banks, is significant. However, are they really redundant? Banks perform a critical role during their AML/KYC processes. They ensure that the proceeds of crime, and or sanction nations and entities cannot enter the Banking system. Preventing them from access to the majority of goods and services that require a Bank account. As we move closer and closer to a cashless society the impact of this role becomes more and more critical. As well as this, the data the Banks collect on us is used to build individual credit profiles, supplemented by third-party providers, which further strengthen economic growth through the creation of credit. Banks obviously benefit dramatically from this requirement by Regulators. Outside of traditional lending practices, the Tier 1 capital created by forcing savers into the Banking system is leveraged to build out Investment Banking divisions including equities, credit, commodities, FX and rates trading as well as M&A and prime brokerage businesses. It is critical for Banks to ensure that ‘wealth’ is maintained within the banking system. Without it, they lose a large part of the edge that they leverage to generate alpha.
Facebook’s Libra, is the continuation, and most likely the biggest step in the integration of technology companies with the financial services industries. Technology companies have been for some time disrupting other industries which are well documented. They have been playing at the edges in FinTech however regulation remains a major hurdle. It is expensive for a start-up, and to some degree prohibitive for the large technology companies, without the know-how and infrastructure and contacts to navigate Global Regulators and Central Banks. However, technology solutions are coming that will enable adherence to KYC and AML requirements and dramatically reduce the costs and barriers for FinTech companies to seriously compete with Global Banks and provide meaningful savings for clients. These solutions won’t look like traditional services, and yes it will take some time for adoption. However, we now have an entirely new generation of ‘banking clients’ who have grown up in an age of digital assets and social media. The integration of the two makes complete sense. Sending ‘value’ between users for services is something which has already been hugely successful with WeChat. With an increasing number of streamlined external tech solutions for KYC/AML appearing it seems increasingly likely that Facebook will at least be able to circumnavigate some of the hurdles that Regulators will throw at them. However, it is more than likely that the Banks will apply considerable pressure to lawmakers and regulators to slow down the development and or stop it to ensure that they remain central to and increasingly evolving banking landscape. It must be noted that Democratic Rep. Maxine Waters, within 3 hours of the Facebook announcement, was already requesting that Facebook pause development. French Finance Minister Bruno Le Maire was saying ‘it is out of the question [that Libra] become a sovereign currency. It can’t and it must not happen.” He went on to highlight concerns around privacy, money laundering and terrorism finance, before calling on his group of central bank governors to commission an in-depth report on Libra and the potential ramifications.
Senior executives of major Banks haven’t been asleep at the wheel when it comes to technological advancements. However similar to servicing a Boeing 747 mid-flight, it is extremely difficult to affect change on the legacy systems in organizations such as banks. On top of this given the speed of evolution in technology, coupled with significant red tape within financial institutions, the ability to attract talent (technologists) has been a major hurdle in their defensive strategy against emerging technologies. High flying start-ups offer flexibility, equity, leadership as well as meaningfully higher wages than major Banks.
A great defense is often a good offense. Every good coach will eventually let on that you need to score points to win the game. And the Banks haven’t been scoring. However, in the game of technology, the old rules no longer stand. Facebook and it’s crypto-currency Libra, are the first major step for technology companies taking a major stake in the financial ecosystem and it won’t be the last. Libra will force a significant uptick in developer activity across the entire blockchain ecosystem.
Bitcoin will be a net benefiter of the Facebook’s actions alongside a lot of the other protocols, with the amount of development that will follow the Tech giant, as well as introducing ~2.5b users to digital assets as well as security mechanisms to hold them. The adoption of smart contracts, asset ownership via cryptographic technologies, blockchain AML/KYC solutions will continue to increase. Facebook will accelerate this adoption with the launch of Libra and the solutions that will appear around it to support its operation. Bitcoin remains a fully decentralized solution with its utility confined to a store of value, whereas Libra’s indicated utility is as a currency for micropayments backed by central bank currencies. It is not a competitor to Libra. It is an alternative store of value, similar to gold, where no central organization controls the overall supply of the underlying asset.
The centralized control of underlying assets has been the core value proposition on the Banking community since the abandonment of the gold standard. Banks identified an opportunity to expand credit, build new products and enable a financial system that the world has become accustomed to over the last 50 years. Whether this system (monetary policy) is now broken given historical low rates, dovish stances of most central banks, slowing global growth, adversity to austerity for democratically elected governments and record debt levels is an entire article by itself. However, regardless of whether Central Banks can inflate their way out of 10 years of QE, the next 5–10 years, Banks will need to evolve their functions. As technology companies and protocols encroach on previously wall guarded functions and erode their economies of scale, it will become increasingly important to stop playing defense and pivot their businesses to remain relevant.