The Zuckerdollar and the dominance of giant tech firms

@LawAhead

Digital currencies such as Bitcoin have so far failed to revolutionise the international payment system. Will Facebook’s Libra deliver the unfulfilled promises? Will the giant technology companies disrupt and dominate the world’s financial system?

Author: Bernardo Correia Barradas is a lawyer specialised in banking and finance law and a consultant at the Payment Systems Development Group at the World Bank

 

In a premonitory article published here in Lawahead, I wrote that “private ledger technologies may still have an opportunity to showcase their value and utility in cross-border payments and remittances” [1]. In June this year Facebook [2] launched the much-awaited Libra digital cryptocurrency, a global currency designed to allow people – with focus on the financially excluded – to move money around globally “as easy and cost-effective as – and even more safe and secure than – sending a text message or sharing a photo” [3].

Is this the game-changer that blockchain aficionados have been waiting for? Well, in a nutshell, no. It doesn’t look like it and it can even represent – due to the international widespread and high-level criticism the project is receiving – a heavy blow to the crypto community hopes since now authorities all over the world, especially those who have been so far restraining themselves from moving forward with regulation over cryptocurrencies, might be compelled to act.

Since I’ve started writing this article the topic went through a series of events that unfolded at a vertiginous speed for a period of over two months starting with IMF managing director Christine Lagarde statements, made in early June during a G20 finance ministers’ meeting in Japan, warning about the giant tech firm’s dominance of the world financial system. On June 18, there was the release of the long-waited Facebook’s Libra White Paper and on July 2, the Committee on Financial Services from the United States House of Representatives sent a letter to Mark Zuckeberg, Sheryl Sandberg and David Markus, requesting (demanding?) an immediate moratorium on any movement forward on Libra and Calibra (the proposed digital wallet) [4] [5]. On July 4, a decision from the Spanish Supreme Court on a bitcoin fraud-related case [6]. The “Libra Tsunami” is still ongoing with the involvement of high-level officials in both the United States and Europe [7], reason why we should be careful in approaching this topic and expect significant developments in the near future [8].

It will be interesting, for example, to see how the European Central Bank under Christine Lagarde – should her designation be approved by the European Parliament – will approach not only Libra and cryptocurrencies in general but also see how big tech companies in the financial sector and Central Banks will embrace the issuance of digital currency [9].

Is Libra the game-changer that blockchain aficionados have been waiting for? Well, in a nutshell, no.

 

What is Libra?

Libra, according to the official Libra White Paper is “a simple global currency and financial infrastructure that empowers billions of people”, made of three parts: the Libra blockchain, a reserve of assets designed to give it intrinsic value; and the Libra Association, that governs it.

The Libra Blockchain is a permissioned blockchain (however, their promoters state in the White Paper that the goal is for it to become permissionless, i.e., where anyone who meets the technical requirements can run a validator node [10]) that will be open and allowing consumers, developers and businesses to use the network, build products or solutions and even offer financial services. The concept adopted by Libra is therefore similar to the approach taken by Ethereum – with the exception of being initially permissioned – where, alongside the cryptocurrency (Ether) anyone can use the network, build on top of it, run smart contracts, etc. According to their promoters, a new technical approach will allow the Libra blockchain to overpass, or at least mitigate some of the constraints of other blockchains, namely in terms of transaction throughput, efficiency and energy consumption [11].

The Libra Currency, founded on the Libra Blockchain, is a digital cryptocurrency designed to be a stable cryptocurrency fully backed by a reserve of real assets – the Libra Reserve – and supported by a network of exchanges buying and selling Libra. By being stable, Libra promoters assure the value of the cryptocurrency will not fluctuate significantly based only on expectation, demand and supply, but instead will be backed by an adequate pool of low-volatility assets such as bank deposit in fiat currencies. Only authorised resellers [12] will be able to access the reserve and transact large [13] amounts. The payment by the resellers of fiat into the reserve is how the coins are minted by the association, that, in turn, automatically destroys such coins when the demand contracts, i.e., when the resellers withdraw fiat from the currency in exchange for coins. This approach is completely different from how other cryptocurrencies are minted (for example Bitcoin with the mining and the cap in the total amount of coins). Conceptually, Libra also grants greater stability since the number of minted coins will be, at all times, backed by fiat money and other low-volatility convertible assets. However, the association does not set monetary policy and the Libra may appreciate or depreciate as a result of FX market movements, as any other international currency, especially, following the fluctuation in the value of the underlying assets.

There are, however, some gaps and major concerns with the Libra Currency, some raised by the United States Congress is the lack of oversight, systemic risk to the international financial stability, privacy and trading risks [14], and money laundering and financing of terrorism – the latter is a special case for concern since the Libra Blockchain is “pseudonymous and allows users to hold one or more addresses that are not linked to their real-world identity”.

Will it work?

In theory, as it is designed, Libra can work in terms of allowing people to transfer money from point A to point B in a timely and efficient manner by converting their local fiat currency into Libra, sending the token representing a certain number of Libra (or a percentage of a Libra) to a digital wallet belonging to a person in another country, that, in turn, will either use the received Libra(s) to pay for goods or services, or exchange it by an equivalent amount in their own currency.

However, there are still many doubts surrounding the project, namely and just to name some: how will Facebook / Libra Association address the risks highlighted by the United States Congress, the European Central Bank and other authorities and regulators? How will the system be deployed and what will be the specific role of resellers and exchanges in terms of applying costs, charges, fees [15]? What are the concerns for customer protection? How broadly accepted Libra will be? Finally, how will Governments and regulators worldwide react?

 

Will giant technology companies disrupt the world financial system?

The international financial system is not exactly very stable nor populated by well-behaved players, as the global financial crisis of 2007-2008 showed, and  todays´ big tech companies are apparently not either better or worst in terms of behaviour than traditional stakeholders [16]. However, as Senator Warren already publicly stated [17], the big tech companies like Amazon, Google, Apple and Facebook can be considered, from a market and competition point of view, as too big. They are not, currently, too big in the financial and payments sector – Apple, Google Pay and Facebook Messenger payments’ adoption  results are so far modest– however, having a huge share in their respective core markets and, considering their vertical integration strategies – specifically Amazon’s – they do pose a risk for any sector, in terms of potential market control. A company like Amazon, launching its own payment system and/or currency, could collect clients data, advertise its own products and services based on such data, transport, deliver or provide such products or services, collect the payment directly through its own system, etc. Furthermore, allowing Big Techs to enter the financial and payments’ market will provide them with perhaps one of the few sets of data that they still don’t have at this stage: our wealth and financial habits. Although a person’s wealth can nowadays be somehow inferred by the Big Techs through the use of clever algorithms and AI [18], those companies still don’t have direct access to the data and the one they are able to collect is still incomplete and inaccurate. To know the customer’s wealth and financial habits would go a long way to better target and customise the advertising and offer of products and services.

Allowing Big Techs to enter the financial and payments’ market will provide them with perhaps one of the few sets of data that they still don’t have at this stage: our wealth and financial habits

In what concerns payments [19] it is worth noticing that the second Payment Services Directive [20], in its article 11(5) establishes that the national authorities may, where a payment institution [21] is engaged in other business activities in addition to payment services, require a separate entity for the payment services business. Such separation, together with PSD2 provisions on professional secrecy, data protection and Europe’s GDPR [22], may somehow limit the scope of the Big Tech ability to collect and use our financial data.

In any case, the sheer size of the Big Techs seems to grant some credit to Senator Warren and Christine Lagarde’s concerns. On July 22, 2019, Facebook Inc had a market cap of 572.6 Billion US dollars against Banco Santander’s – Spain largest bank and Europe’s second by market capitalisation – 70 Billion. HSBC, the largest bank in Europe, had on May 18, 2018, a balance sheet total of 2.470 billion Euros against Facebooks’ more than 64 billion USD at the end of that year [23].

If Facebook or Google decide to fully enter into the financial, banking and payments market they need not to fiercely compete with Santander or HSBC, they could simply buy them.

 

Conclusion

It is not clear if Facebook was anticipating the current backlash around Libra, but what is clear is that Facebook’s move sounded the alarm in both Washington and Brussels [24] and the somehow dormant concerns over cryptocurrencies and the increasing dominance of Big Techs on both sides of the Atlantic suddenly merged and received a wake-up call.

Facebook’s project, however altruist and selfless as it may seem, may well lead not to a more democratic and affordable international payment system but to a significant increase in international (and national) regulation on cryptocurrencies and crypto-assets as well as to a sterner approach to the current dominant position of the Big Techs.

There is one very significant detail in the Libra project that caused all the fuss around it and may well prevent it from succeeding: Facebook. When the Head of the IMF and an US Senator and Presidential Candidate are claiming that we are excessively big and powerful, perhaps creating a trillion-dollar world currency is not the most adequate answer to prove them otherwise.

 

Bernardo Correia Barradas is a lawyer specialised in banking and finance law and a consultant at the Payment Systems Development Group at the World Bank. Bernardo studied Law, European Law and Economical Criminal Law at the University of Lisbon, University of Buenos Aires and Catholic University of Portugal. Since 2013 his focus of study and research have been in payment systems and payment services, financial inclusion, fintech and blockchain/DLT, with several courses attended and/or organised in the US, Spain and Portugal. Bernardo is currently a student at IE’s first Master in Legal Tech.

Note: The views expressed by the author of this paper are completely personal and do not represent the position of any affiliated institution.

 

  1. Blockchain in Payments: A tale of unfulfilled promises https://lawahead.ie.edu/blockchain-in-payments-a-tale-of-unfulfilled-promises/
  2. More precisely the Libra Association, an independent, not-for-profit membership organization headquartered in Geneva, Switzerland, of which Facebook is one of the almost 30 founding members; however, and according to the Libra White Paper: “Facebook teams played a key role in the creation of the Libra Association and the Libra Blockchain (…)” and “Facebook is expected to maintain a leadership role through 2019”.
  3. Introducing Libra” in Libra White Paper https://libra.org/en-US/white-paper/.
  4. Letter from the United States House of Representatives Committee on Financial Services to Zuckberg, Sandberg and Marcus (Facebook), dated July 2, 2019: https://financialservices.house.gov/uploadedfiles/07.02.2019_-_fb_ltr.pdf.
  5. A very interesting article on this topic: “The new humble Facebook is playing with fire in Washington”, Wall Street Journal, July 19, 2019.
  6. The Criminal Chamber of the Supreme Court, ruling on a fraud case, stated that Bitcoin is “in a bilateral transaction, an exchange or consideration intangible asset if accepted by the parties, but in no way, it is money or can be legally considered as money”. Ruling 326/2019 from June 20, 2019 (in Spanish): http://www.poderjudicial.es/search/openDocument/4531032d6c25c96f/20190705.
  7. Or mostly in the United States and Europe, See 24 below.
  8. Whilst finalising this article on July 23 the United States Justice Department opened a new antitrust review of big tech companies and the details of the settlement between Facebook and the Federal Trade Commission came to public.
  9. Carstens, A (2018a): “Money in the digital age: what role for central banks”, lecture at the House of Finance, Goethe University, Frankfurt, 6 February.
  10. For detailed information on permissioned and permissionless blockchains: https://lawahead.ie.edu/blockchain-in-payments-a-tale-of-unfulfilled-promises/.
  11. Namely with the design and utilization of the Move programming language and the adoption of a Byzantine Fault Tolerant (BFT) consensus approach. A detailed explanation can be found in the Libra technical paper: https://developers.libra.org/docs/the-libra-blockchain-paper.
  12. Such authorised resellers do not currently exist, the Libra Association is, according to the White Paper, “discussing ongoing relationships with principal cryptocurrency trading firms and top banking institutions as authorised resellers”.
  13. The White Paper includes the expression “large amounts” (https://libra.org/en-US/about-currency-reserve/#the_reserve) which seems to indicate that other entities, such as exchanges, may be allowed to transact small amounts of fiat and Libra in and out of the reserve.
  14. See letter in [5], paragraphs 3, 4 and 5, such risks are emphasised by the signatories of the letter as more conspicuous “in light of Facebook’s troubled past”.
  15. For example, due to the intended stable nature of Libra, how will the exchanges profit? By applying exchange rates to the currency conversion? Or, will they make money from buy and sell Libra thus betting on (and impact on) the currency’s evaluations and devaluations?
  16. In May this year European Union anti-trust authority fined five major banks (Barclays, Citigroup, Royal Bank of Scotland, JPMorgan and Japan’s MUFG Bank) a total of 1.07 billion euros for collusion: https://www.france24.com/en/20190516-eu-fines-five-major-banks-currency-collusion.
  17. https://www.nytimes.com/2019/06/26/us/politics/elizabeth-warren-break-up-amazon-facebook.html.
  18. For example, by going through visited pages, location (that may indicate travelling), photographs showing cars, houses and expensive cars, the individual’s apparent job (that we normally disclose in apps like Facebook, Tinder…), etc.
  19. Notwithstanding the references made to payments and to the legal and regulatory framework applicable to payments, cryptocurrencies are normally not covered by such frameworks and it is not clear how will the authorities, in this case the European, consider Facebook’s Libra, if a cryptocurrency outside the scope of payments’ framework or, as a payment system or payment service. In any case, due to the entrance of the Big Techs in the payments’ market and the similarities that exist between the Libra and traditional payment systems and schemes, the mentions are useful.
  20. Directive (EU) 2015/2366 of the European Parliament and of the Council of 25 November 2015, commonly known as “PSD2”.
  21. Google Payment Ireland operates in the European Union pursuant to an authorisation as payment institution granted by the Central Bank of Ireland under the PSD2.
  22. General Data Protection Regulation – Regulation (EU) 2016/679 of the European Parliament and of the Council of 27 April 2016.
  23. Data collected on July 25, 2019, from Bloomberg, Business Insider and Yahoo Finance.
  24. Since the most vocal reactions have come from the United States and Europe, possibly because Facebook it is an American company and the Libra Association established itself in Switzerland, in the geographic heart of the EU, furthermore, and due to the specificities and relatively closeness of the Chinese market, considering Libra’s business model largely based on remittances and cross border payments, the US and the EU would be the two of the largest and most relevant markets for Libra.

References and further readings

IMF warns of giant tech firms’ dominance”, BBC News, June 8, 2019, https://www.bbc.com/news/business-48566024
“The rise of the global mega-firms – why the IMF is worried”, BBC News, June 14, 2018, https://www.bbc.com/news/business-44483305
Libra White Paper: https://libra.org/en-US/white-paper/