By Nir Yaacobi, Economics Lead, GoodDollar
At the root of the Libra white paper, the writers describe the privatisation of money making, which hitherto has largely been a process monopolised by governments. Although there have been a number of alternative currencies launched (including crypto and others), ultimately they have fallen short as mediums of exchange.
The profit from money printing is known as seigniorage and people are willing to pay it for the utility they receive from using it as a means of exchange and store of value. That is because money is a crucial factor in the economy. As the economy grows, more money is required, in the same way as more electricity and trucks are needed. And as manufacturers of trucks make a profit from the demand for trucks, also the manufacturers of money — i.e. the governments — make a profit from the need for money.
The monopoly of the government (actually the central bank) enables it to sell money at a much higher price than its production cost by adjusting the amount of money so as to maintain its price. Printing money is one of the resources of the government budget. When governments are tempted to print more than what is needed to maintain a stable price their currency suffers inflation.
If Libra will be indeed a better means of exchange, it would challenge the monopoly of the governments and probably will take a larger share of the money market and the profit of manufacturing this money. This “profit” is actually the source for paying the validator nodes of the Libra blockchain. One thing that governments could do is to fight Libra with regulations and taxes but, as history suggests, Facebook probably will prevail in this battle.
So if and when people will start using Libra on a large scale, it is likely to increase the quantity of money in the global economy and thus could potentially cause inflation. In order to fight this inflation, central banks would have to raise the interest rate on their own currencies. Or sell bonds to absorb their excess money — correlated to the amount of bond Libra Association would buy to its reserve. That would shrink their money market share and the gains involved with it and with a higher interest rate to pay for their bonds could put pressure on their budget.
Economists distinguish between some types of money based on its degree of liquidity, from the most liquid to the less. As it is more liquid it is a better medium of exchange but less useful as a store of value, and vice-versa.
The types include:
M0 — Known also as the monetary base: the cash money created by a central bank (coins and banknotes).
M1 — Known as money supply, or money stock: includes M0 + current (checking) bank accounts, This money is created also by the banks.
M2 and M3 — M1+ all kinds of bank deposits: money market securities and money market mutual funds. These assets function as a store of value and not being used as a means of payment. However, they can quickly be converted into cash or current accounts (M1) so affect the purchasing power in the economy.
M1 is usually what economists mean when they say “money”. As a storing-value asset, money (M1) is inferior, it has no yield and can lose value due to inflation. The reason people and firms hold money is to meet cash-flow needs and uncertainty. If we could have all of our proceeds and spending at the same time, once a month with no uncertainty, we would hold all our surplus in other assets like bank deposits or securities. Or if exchanging from yielding assets to money and back came without a cost (including no time spent), then people might not hold money at all.
Much like how the Libra blockchain has in effect made transferring money almost costless, I predict that sooner rather than later we will make the purchase and realisation of security and deposit frictionless. Then we might need money only for a brief moment. We could then hold our surplus within securities.
Imagine the scenario. When Adam wishes to transfer money to Eve, the app linked to Adam’s account will briefly sell the security for Libra, transfer the Libra to Eve and then buy a chosen security to Eve’s account. Money in this setting is a temporary entity and negligible.
So in the near future, Libra may change the game of money entirely. And in the long run, we might not need to hold money at all. The income of the Libra association will shrink to its operating cost due to the small number of Libra coins, with no monopolistic rent. We as users will gain what they may lose.
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