Facebook Libra vs The Open World
A tale of two networks
Summary of the previous post
This article is a follow up to a post we published shortly before the official release of the Libra Whitepaper and announcement of the Calibra Wallet. In the previous post, we outlined some of the fundamental differences between a permissionless natively crypto asset like Bitcoin and a permissioned, fiat currency backed stablecoin like Libra.
While there were a number of elements to Libra that surprised us, specifically around Libra’s smart contract platform, we were most surprised by how accurate the prelaunch view was. The internet has spent the last few months speculating around what type of cryptocurrency Facebook would bring to market, and while we didn’t get everything right, Facebook basically brought to market the coin the market expected.
The many faces of Libra
What is Libra Coin, The Libra Foundation, The Libra Investment Token, and Calibra
Facebook announced the creation of four different products, all with similar sounding names. Let’s break them down and discuss the purpose of each and how they work in the Libra ecosystem.
The Libra Coin
This cryptocurrency will run on the blockchain created by the Libra Foundation. Libra Coin will be backed by a collection of currencies, presumably held in custody by reputable world banks. The Libra Coin will be fully backed by state-issued assets. This reserve will be a collection of low-volatility assets, including bank deposits and government securities in currencies from stable and reputable central banks. Users of the network will submit local currency, which will be stored by world banks, and receive Libra Coins in return.
The Libra Foundation
The Libra Foundation, domiciled in Switzerland, will create the Libra blockchain and launch a new cryptocurrency, not surprisingly called, Libra. To date, there are 28 members of the Libra Foundation, such as Facebook, Visa, Coinbase, A16Z, and others. Each of these members has committed to pay at least $10M USD for membership.
In exchange for this investment, they will be awarded Libra Investor Tokens. Libra Investor Tokens give investors the rights to interest generated from money stored in custody at central banks. Members will run validating nodes to the network and will have voting rights on future development of the blockchain, including which third-party products can be built upon it, and who can be accepted as future members.
Facebook has stated they plan to grow the initial membership from 28 to 100 by launch, scheduled for mid-2020. Facebook is working to gain the approval of as many governments as possible to ensure a large total addressable audience.
The Libra Foundation will ensure that network activity does not violate any laws and regulations on both a global and local level, including relevant KYC and AML laws, which are friction points for government approval of cryptocurrencies.
The Libra Investment Token
This token will not be available to the general public. It will initially be sold to Libra Foundation Members in order to fund the creation of the Libra Blockchain, to fuel growth and adoption of the Libra Coin. Facebook has committed to growing the membership of the Libra Foundation to ensure the Libra Investment Token will be widely distributed and not controlled by a small group of corporations.
Initially, the Libra Founding Members will make the governance decisions regarding the Libra Blockchain. Facebook is interested in widening that control to all owners of the Libra Investment Token and aims to make that transition over the next five years.
The whitepaper states that the organization’s goal is that over time, the founding members will have less and less control over the network. No sizable organization to date has succeeded at transitioning from centralized to decentralized.
Calibra
Calibra is a for-profit company spun off as a new subsidiary of Facebook. Registered as a Money Service Business in the USA, Calibra will be responsible for creating the crypto wallet to be used to purchase, hold, and transfer Libra coins. Calibra will initially be included in Facebook Messenger, Instagram, WhatsApp and as a stand-alone app. The Calibra wallet will be designed as a custodial wallet, meaning funds will be held by Calibra the corporation enabling Calibra to reverse transactions, freeze accounts and refund balances. Custodial wallets are closer in line with traditional bank accounts than cryptocurrency wallets, thus providing an easier on-ramp for first time crypto users.
Customers in approved countries will be able to apply to use Calbira by passing a standard KYC and AML process. Facebook has the most comprehensive and rich data on western customers, rivaled possibly by Google, giving them the ability to create a KYC process with less friction than competitors.
Customers will submit national currency, such as USD, via a bank transfer or credit card payment. This money will be added to the Libra Foundation’s reserve pool and the customer will be issued the equivalent amount of Libra Coin, based on open exchange rates. Customers can then use Libra Coin, via the Calibra wallet, as a means of exchange between themselves and other users, or to pay for services such as Uber and other platform partners.
Libra — The Good, The Bad, and the Ugly
We believe Libra is the most interesting thing to happen to the crypto space since the creation of Ethereum. Libra aims to solve many of the issues preventing mass adoption of cryptocurrency, but will face many of its own challenges.
The Good
Libra solves a number of problems found in the general cryptocurrency space, namely focused on price volatility, usability, network effect, and programmability. These are issues currently being worked on in the larger crypto space.
1 — Volatility
Volatility in a currency is found when the varying demand for the currency fluctuates on a short term basis enough that the exchange rate with fiat currencies swings widely. When the price of an asset is growing quickly, owners of that asset are unlikely to want to spend it, preferring to spend currency that is not increasing in value. When the price of an asset is decreasing quickly, merchants are unlikely to want to receive that currency, preferring to be paid in a currency that will not lose its value. High volatility makes a currency hard to spend by both parties.
Libra will create a loose peg to major fiat currencies by creating a reserve backed by a basket of government-issued currency and short term securities. This peg will ensure that, while the price fluctuates given market demand, the price will stay within the “Goldilocks” zone, never rising too much or falling too much to prevent a challenge to spenders or merchants.
2 — Usability
Facebook is a master of consumer product design. We are confident the digital wallet produced by the Calibra team will be easy to use. Facebook has years of experience optimizing onboarding and retention, two of the most challenging aspects of any consumer product. The data collected by Facebook’s trifecta of the modern internet, Facebook Messenger, Instagram, and WhatsApp will be used to ensure that the right audience is introduced to the Libra Coin with the correct messaging and value offering.
3 — Network Effect
The Libra Foundation members have access to a massive audience. Facebook alone provides services to over 2 billion users. Facebook has partnered with the largest payment providers in the world, such as Visa, Mastercard, and Paypal. With this audience, we anticipate the Calibra wallet will launch with hundreds of millions of users.
The current crypto market is estimated to include roughly 50 million users worldwide. Out of the gate, Libra will easily increase this number by 5–10x. Currency requires a network effect to be relevant. If there is no one else that uses the money you are using, it is (arguably worthless) and hard to spend.
Calibra will solve this chicken and egg problem by ensuring that lots of people own and use Libra. Facebook has perfected the art of building engaged networks. Facebook will ensure that as Calibra is rolled out on a regional basis, there will be great incentives for signing up and getting your friends and family to sign up.
4 — Programmability
The most exciting and surprising announcement for the Libra blockchain was the inclusion of a new programming language, Move, which will eventually enable third-party developers to build advanced financial applications on top of the Libra Blockchain.
Facebook recently launched the Libra test net, complete with a limited set of functions available for developers to begin experimenting with the Move programming language. The path to allowing third-party developers to build applications for Libra is unclear. We know that upon launch, only Libra Foundation members will have the right to create software for the Libra Blockchain, but over time this will be opened up to a larger public circle.
From the Libra Whitepaper:
The association will work to foster the development of the Move language and determine a path for third parties to create smart contracts once language development has stabilized — after the launch of the Libra ecosystem.
The Bad
While Facebook is a master at consumer experiences, they will face many challenges with the creation of a new currency. The main challenges will focus on privacy, domestic regulation, and global acceptance.
Privacy Concerns
Facebook is less than a year into the backlash of the Cambridge Analytica scandal, where 87 million users’ data was sold for the purpose of political campaigning. This combined with election interference accusations has resulted in scrutiny over Facebook’s data management and unethical use of private information.
This was not the first time Facebook came under fire regarding the use of personal information. In 2010 it was revealed that CEO Mark Zuckerberg broke Facebook’s privacy policies for his personal gain in the early years of Facebook’s life. The young CEO was caught mocking the naivety of his user base for taking trust in his platform, a conversation he later came to confirm and admittedly regret.
Facebook can predict when a couple is about to have a child, file for divorce, or move to a new location. Facebook’s friends recommendation algorithm can connect you with people you completely forgot existed. Facebook knows which clothing you like, what food tastes you have and which upcoming blockbuster is likely to get you out of your home and into the theatre. Facebook plays such a central role in so many people’s lives, that access to all of our financial records may be the final straw that forces regulators to break the company up through ongoing examination of its anti-competitive policies.
The excerpt below, taken from the Calibra Customer Commitment Publication, outlines some of the trust challenges associated with moving to a financial system controlled and operated by private companies.
Domestic Regulation
At home, Facebook is facing a number of challenges as lawmakers begin a general pushback to the social, political, and economic impact large tech companies have on America. Facebook’s entrance into financial markets has only exacerbated some government officials’ concerns.
Representative Maxine Waters, chairwoman of the U.S. House Financial Services Committee, called for Facebook executives to testify before Congress and asked the company to halt development of Libra until lawmakers and regulators have reviewed the project.
Global Acceptance
While Facebook struggles to gain approval on its home turf, foreign governments have taken a strong stance. In countries with emerging economies, Facebook introducing a non-sovereign currency can potentially represent the downfall of the local currency. One of Facebook’s stated goals of the Libra project is to “bank the unbanked.” Implementing a premium banking system for the underbanked populations of the world directly undermines the existing power structures, and is unlikely to go unchallenged by local governments.
Facebook is already banned in China. Russia has stated they will not allow Libra to be used to pay for goods and services. India’s central bank, the RBI, has caused Facebook to second guess it’s aspirations to launch in the southeast Asian giant. France’s Finance Minister is quoted as saying “It’s out of the question that the Libra become a sovereign currency.”
While it is still too early to judge where the Libra Coin will be accessible on a global scale, we can see that Facebook has its work cut out in winning over governments and partners that may not want a financial revolution that they cannot control or get their cut.
The need to balance user privacy and compliance is a tightrope walk for the Foundation. On one hand, Libra needs to be compliant with regulations, on the other hand, that compliance cannot overly hinder innovation. The Libra whitepaper is riddled with ambiguity regarding many regulatory elements. We will need to wait and see if Facebook wins over regulators and exactly how this balance is met.
The Ugly
The greatest challenges facing Facebook will be in the areas of compliance and governance. In order to gain acceptance from world governments and to attract reputable companies like Mastercard, Visa, Uber and the like, Facebook needs to ensure that Libra abides by all international laws and regulations surrounding money transfers.
In order to gain global regulatory acceptance, Calibra, and the Libra Foundation will need to limit privacy and enforce censorship. Censorship resistance has to date been a main value driver behind the cryptocurrency movement.
The decentralized nature of open crypto networks such as Bitcoin and Ethereum have enabled truly global access and limitless innovation, similar to other open projects like Linux.
The US government recently published a letter to Facebook requesting they halt the development of Libra until Congress has a chance to review and regulate. In our post on probable crypto endgames, we predict the creation of a US state-backed cryptocurrency which will come to market in the next five years. It is our view at this moment that Libra will become this coin, through heavy regulation and limitations imposed by the US government.
Where does Bitcoin fit in here?
Bitcoin is a limited supply, permissionless digital asset that knows no borders and can be controlled by no state. Bitcoin adoption has grown significantly since its 10-year-old conception by the pseudo-anonymous creator Satoshi Nakamoto.
While some countries, specifically non-western, have expressed negative views on Bitcoin, it is rare to see a regime that has succeeded in preventing their citizens from participating in the network. Bitcoin has become a global commodity currency, albeit with high volatility, creating the opportunity for large financial gains, and large losses. As the network adoption grows, the short term volatility diminishes and the daily liquidity grows, making it easier to use Bitcoin as a means of exchange and store of value.
Onramps from fiat to Bitcoin presents the largest challenge for many that are interested in Bitcoin as an investment, or a hedge against the current financial system. The second largest challenge in owning Bitcoin is in proper storage. Managing a crypto wallet is a new concept for the recently initiated.
The propagation of Libra Coin to hundreds of millions of people will directly address these two issues. Facebook via Calibra will put cryptocurrency wallets in the hands of roughly 1 out of 4 people on the planet, and take on the non-trivial task of teaching a massive audience how to use digital coins. Once this large population owns Libra Coin, the barrier to trading Libra for Bitcoin and other digital assets will be far lower than trading fiat money for crypto.
Bitcoin has the best brand, the easiest to understand value proposition and the most liquidity of the entire crypto ecosystem. It is because of these features we feel Bitcoin will be a natural first purchase for Libra Coin holders that wish to begin investing in crypto. Libra may be responsible for a mass influx of new Bitcoin owners, which would produce a positive price impact.
What is Ethereum and the Open Finance Movement?
Ethereum is the leading smart contract platform. Smart contracts enable third-party developers to create custom applications that run directly on the blockchain. The primary use for smart contracts is to create applications which automate functions around moving financial assets. The open source nature of the blockchain, combined with open interoperable third-party code creates an environment where multiple projects can be stacked on top of each other to lower the cost of creating powerful and advanced distributed finance applications.
Over the past year, this process of stacking open source finance applications has become the focus of the Ethereum community, and a primary smart contract value proposition. The future of Open Finance often called DeFi looks very similar to the future proposed by the Libra Foundation, open accessible finance, for everyone on the planet.
Ethereum has seen a massive growth around DeFi in the past 18 months, with products such as decentralized stablecoins, lending platforms, derivatives, savings accounts, predictions markets, synthetic assets such as commodities and stocks, insurance and more. As each new open source app comes to market, future developers gain a richer toolbox to envision and create more advanced consumer products.
History doesn’t necessarily repeat itself, but it often rhymes
A crash course on iOS vs Android
12 years ago Apple introduced a handheld PDA, camera, and phone called the iPhone. The iPhone was not the first smartphone, but it did change the market forever. Comparing the iPhone to competitive PDAs at the time was night and day. The iPhone was sleek, refined, focused on a closed user experience aimed at mass adoption. PDAs were often clunky, business focused and aimed to techies. Overnight the iPhone created a new standard of what was to be expected from “smart” devices.
Apple was able to create the iPhone’s robust, polished user experience by controlling every aspect of the hardware, software and carrier relationship. Only Apple can build iPhones, only Apple can update the OS, only Apple can determine valid code. This closed, walled-garden approach continued with the release of the App Store. Developers needed to use the tools Apple created, purchase a license to develop on the iPhone and submit their apps for approval by Apple.
Via a short leash, Apple ensured that the experience every user encountered was a delightful one. Apple created a market for the $500+ mobile phone. The incumbents were shocked and unable to keep up.
Google had a secret smartphone project, titled “The Android” which had been in development for years. The day the iPhone was announced, as legend has it, the Google team threw away what they were working on and started over.
Google saw the walled-garden approach Apple had taken and decided to take the complete opposite approach. Where only Apple could build iPhones, Google announced anyone could build an Android phone. Where Apple only permitted a vetted group of developers to build apps for the iPhone, Google announced anyone could not only build software for Android, but the operating system itself would be open source and any team could customize it and release their own improved version.
What happened over the next decade is a common story in the history of software. Innovation coalesced around open source. Practically every phone developer ditched the in-house OS they were using for their phones and adopted Android. Every developer that had an idea for a mobile app, used the developer kit of their choice and started tinkering on Android.
Fast forward 10 years and iPhone’s market share has dropped from 95% of modern smartphones to ~20%. The open nature of Android attracted the largest network effect around developers, manufacturers, carriers, and customers.
Apple taught the world how to make PDAs a mass audience consumer product, and Android developers took those lessons and brought them to the far reaches of the planet that the iPhone was unable to reach.
We see a direct parallel to what is happening in the blockchain space. Facebook’s Libra Coin, and the Calibra Wallet will teach the blockchain community how to create a mass market product, and the open source sector of this market, currently led by Ethereum, will learn and grow far beyond the reach of Libra.
Interoperability for developers
The next stage of smart contract development will focus on cross-platform deployment and interoperability. As software platforms mature, the tools to develop once and deploy everywhere become more robust.
Today, a developer can create software for multiple pairs of competing platforms such as Mac and Windows, iPhone and Android, Playstation and Xbox without needing to double the development work.
We anticipate a similar progression regarding platform development in the crypto space. Entrepreneurs aiming to create innovative new business models will start out blockchain agnostic, building software that is compatible with Libra and public blockchains like Ethereum.
Development tools will enable “build once, deploy anywhere”. We are already looking at the progression of these tools and investing in the space. Companies like Loom Protocol, which provides a low-cost scaling solution for game development on the Ethereum blockchain have announced interoperable support for additional blockchains such as EOS, Tron and Cosmos, all with little extra work for developers.
As developers gain exposure to multiple blockchains, they will take advantage of the nuanced differences between the chains. It is here that the open, permissionless chains will demonstrate their advantage through a richer set of features and potentially fewer legislative roadblocks.
How the market will grow as a whole
Facebook, through its user base, will bring the paying customers needed to attract quality entrepreneurs to the space. Think of this as AOL kick-starting the consumer internet by littering all of America with floppy disks in the 90s. Once enough of America was online the opportunity was ripe for the creation of new businesses.
New business models will emerge and support the entire ecosystem, both on Libra and the open blockchain space. Users will recognize the value propositions of these new businesses and adoption will grow beyond the network seeded by Facebook.
The open blockchain space will offer a richer experience for both users and entrepreneurs, and will gradually dwarf the user base siloed in the Libra ecosystem.
Mac vs PC, AOL vs the general ISP, iOS vs Android. As we said before, we have seen this progression before and history often rhymes.
Permissioned can be built on permissionless but not the other way around
A great way to emphasize the fundamental limitations of bringing to market a closed platform is in the fact that closed can never become open.
Historically when we look at totalitarian regimes, we see very little history of them “opening themselves” and a long list of revolutions through military force, civil disobedience, and regicide.
The Libra platform, complete with the Libra Foundation, and Calibra, COULD, in theory, be built on top of Ethereum. Ethereum would be impossible to build on top of Libra. This is a fundamental difference that will impact the growth of these ecosystems for years to come.
Open networks will capture the majority of the world population
While Libra will be an amazing competitor to WeChatPay, Paypal and Venmo, regulation will prevent the majority of the world population from participating in the ecosystem built within the walled garden of Libra. For the rest of the world, open, programmable blockchains will provide the tools and services that bank the unbanked, and modernize the global financial infrastructure.
Permissioned will be polished, but open will catch up
Like the iPhone, Libra will demonstrate what a consumer-focused user experience needs to look like. Libra will teach the open source world how to onboard customers and how to keep them engaged and happy. Libra will come out like a rocket from the gate, change blockchain forever and then be eroded away as innovation begets innovation in an open, borderless, permissionless industry.
Libra is a validation of this space, and will go down in history as the catalyst that took open crypto networks mainstream
Our fund strongly believes in the vision outlined in the Libra Whitepaper. Building a borderless financial system, which enables third-party developers to create unique experiences will have a huge positive impact on the world.
We believe that Facebook’s entrance to the Smart Contract Blockchain market is a validation from large tech companies that our view on the evolution of this market is correct. We also believe that the open platforms will outperform, and out-innovate anything that can be produced within the Libra network.
This is an exciting time to be involved in the cryptocurrency space.
Who we are, what else we wrote
Lionschain Capital is a thesis-driven long-short hedge fund investing in and trading crypto assets. Founded in December 2017, Lionschain mitigates short term volatility through active risk management. We take a hands-on approach to identify which early-stage teams are building the infrastructure that will evolve this industry and give birth to the next generation of the internet and world finance. We spend all day researching the crypto market, and attempt to understand why someone would want to invest in Crypto, have we bottomed, where we are going, and what is interesting happening in this space.
