Facebook’s Libra is a bank. It’s not the end of the dollar. Critics are correct that Libra isn’t about the blockchain — that’s just the mechanism for the bank.
House Financial Services Committee Chair Maxine Waters, D-Calif., is right: It’s a really bad idea to let Facebook run a giant unregulated bank. It’s a further invasion of users’ lives and a drinking straw into their assets. Like Facebook is going to solve all the banking problems that our corrupt Congress and captured regulators won’t address?
The stuff about helping people without bank accounts is nonsense. No one cares about people who have no money. Moreover, the unbanked already have options. India’s state bank handles remittances for villagers. Would Libra compete? And Facebook can’t introduce Libra in countries that restrict cryptocurrencies or have capital controls.
But even if every phone holder in Africa were able to use it, it would strengthen dollar/euro primacy. Libra would be like the dollar peg for a national currency in developing countries. Libra would be de facto dollarization. Zimbabwe has just gone back to its own currency after a decade of dollarization (things did not go well).
Libra would be a stablecoin — backed by credible currencies. Commentators rightly call this a digital dollar. It could even be inflationary, which is actually good in the eyes of bankers, who hate deflation. There’s deflation in Europe right now, and central bankers here think inflation is too low. It’d be good for the euro to have it in the basket.
The white paper says Facebook is going to make loans. Libra would be a fractional reserve banking by Facebook, just like when a bank creates money by making a loan. There is no limit on the amount of Libra that would be created. That’s what fractional reserve backing is. Banks create money when they lend.
The description of the reserve is self-contradictory. It says Libra will be “fully backed,” but it can’t be fully funded if Libra is making loans. Libra will not be backed dollar-for-dollar, but by a reserve consisting of a basket of currencies and securities. It would be like bank capital, but with no limits or restrictions, if Libra were not regulated as a bank. The initial reserve will be a private placement. Indeed, the description of the Libra reserve shows that the reserve itself is intended to be a moneymaker for the early investors, to which it will pay dividends.
This is a bank. Libra would legally be a bank because it would take deposits and make loans (12 USC section 1841(c)(1)(B)). Users will have to make dollar/local currency deposits of equal value to Libra they use. A deposit is not a bailment. There is no difference between a Libra purchase and a checking account deposit, except that the latter is federally insured and Libra would not be (12 USC section 1813(l)).
If Libra is an uninsured deposit of dollars made by as many as 2 billion unsophisticated retail investors for the right to use it, what is it really? It’d be a giant money market fund. What happened when money market funds held by little investors broke the buck in 2008? That was what is euphemistically called a liquidity event requiring a U.S. government bailout. Then the SEC had to make rules saying that money market funds could indeed trade at less than a dollar a share — but only for big investors. Um, why would we want to allow Facebook to create an unstable asset for little investors, which is what Libra would be?
Facebook seems to want Libra to have a market, but not too much, and establish trading in it. The reserve will be a buyer of last resort to sustain the price of Libra. Facebook wants low volatility. Putting a floor under the price sounds like limited-hangout manipulation. The reserve won’t be actively managed, but authorized resellers will tap it to convert Libra. Crypto holders usually want to convert their crypto into dollars.
If there is trading, there will be shorts — indeed, Facebook couldn’t stop the Chicago Mercantile Exchange from creating a futures contract. Will the early investors who are trying to maintain its value be allowed to trade Libra? They will have inside information. Recently it was disclosed that a European Central Bank official (who could conceivably become the next head of the ECB) was disclosing inside information to hedge funds trading euros, and we were supposed to accept this as completely normal (which sadly it is for Europe).
Would Libra be an instrument to coax people into giving up cash? Central bankers want to get rid of cash. People don’t want to give up cash so interest rates can go negative — the various cashless experiments bombed. Libra may be another way to try to get people to voluntarily give up cash. They won’t earn interest. Indeed, some observers believe Libra would cause negative interest rates by creating demand for liquidity to back it. Again, crypto is just the mechanism.
But suspicious educated elites are fleeing Facebook! Libra might be a way to bring them back by pushing payment convenience. Even the ostensibly educated are awfully addicted to convenience. They let Alexa spy on them. They talk to Siri. They wear Fitbits and let their auto insurers track them. They mourn their Jibo social robots. And then on to 5G spying appliances!
Libra is about stealing millennials and younger generations from banks and credit cards. Credit card companies are playing along because they’re terrified — they get fees on every transaction. Banks are also scared. Payment processing is a useful service but its margins are not high. Facebook is promising no fees. Uh-huh. Until Libra gets a monopoly? Puh-lease. There’s no way there won’t be a skim.
Facebook already has payment apps, but they weren’t taking off. And none of its competitors in payments use blockchain. Apple has Apple Pay. Apple could create a $2 trillion bank if it wanted to, but for now it uses the credit card mechanisms. Libra would be a bank that bypasses all that. Facebook will have to federally register as a money transmitter (31 CFR section 1010.100(ff)(5)(i)(A)). It has seven state licenses already. Libra may be more than money transmission.
Can Libra be used for tax evasion or money laundering? As a money transmitter or a bank, Libra would be subject to money laundering rules (18 U.S.C. sections 5318(h), 5322(b)). Acting as an intermediary, accepting money of dubious origin, and passing it on is money laundering. The legal standard of knowledge for the dubious origin of the money is actual knowledge — a very high bar. Willful blindness counts.
Facebook holds the information and is susceptible to a subpoena. What do the designers mean by pseudonymous? A holder can attach any name to an account, but has to give a government-issued ID to Facebook. The information presumably will be there, but it may be difficult to ferret out. And Facebook has to care enough to keep track of things. Facebook says machine learning will catch suspicious transactions and seems to want to open the blockchain to third parties to police it.
In theory, Libra should not launder money. In practice, it might be able to because its blockchain would make enforcement more confusing. Libra might have the information, but who is going to ask for it and who is going to get it? It’ll be a needle in a haystack. If the authorities want information, is Facebook going to dig it out for them? When they can’t even figure out how much the Russians spent in 2016? Facebook hasn’t shown itself to be trustworthy with information.
Should Facebook be allowed to create money? Not without a banking license. To the extent that it is a currency, Libra would take us back to the days before central banking and the Federal Reserve. Banks issued their own currencies, which sold at a discount when taken to another bank or another state. Libra’s designers seem to think they can uphold its value because its scale would presumably avoid a discount. Libra could introduce a huge amount of systemic risk. It could be an end run around the SWIFT system in that it would be analogous to a gigantic clearing system. Who would stand behind that? Uncle Sugar, of course.
Banking is undemocratic. Fed independence is undemocratic. If we let banks create money and don’t let the federal government do so through deficit spending, that’s undemocratic. That’s what the creation of the Federal Reserve was about — centralizing money creation in private banks. That’s what President Andrew Jackson fought with Nicholas Biddle about. Matt Stoller’s argument is really that we don’t need yet more undemocratic money creation.
What about all the other undemocratic things Facebook is accused of doing? Libra may be a war chest that insulates Facebook from further regulation. It may make Facebook harder to break up or regulate as a utility. And too big to fail — Libra might be a clever way to entrench Facebook forever. Regulators should stop it before it starts.