Facebook’s cryptocurrency and the regulatory challenges ahead
Joshua Prior, a law graduate from the University of Exeter, takes a look at the social media giant’s latest venture — Libra
The current online payments market is extremely fragmented. Existing players include the likes of Venmo, Wechat and Alipay. Facebook, with its creation Libra and digital wallet Calibra, seek to produce the first comprehensive, large scale online payments system. Although in its infancy, many regulators appear to be taking what seems to be contradictive positions on the yet to be released virtual currency. After their failings to regulate previous virtual currencies like Bitcoin, many see this as an opportunity to get it right and shape the role such currencies play in the economies of the future.
What is Libra?
As set out in Libra’s whitepaper, Libra is “a simple global currency and financial infrastructure that empowers billions of people.” However, there is a degree of ambiguity surrounding the yet to be released virtual currency. It has proclaimed itself to be a “cryptocurrency” operating on its own “Libra blockchain”. Upon closer inspection, these labels do not reflect the true nature of either and what has been created here appears to be a rather unique product. This article will focus primarily on the cryptocurrency aspect as this is the most important when understanding how to regulate the technology.
In order for a virtual currency to be classified as a cryptocurrency, the following criteria must be met:
1. It should only exist digitally
2. There is no central issuer or regulating authority
3. It operates on a decentralised system which records and issues new units
4. It relies upon cryptography to prevent counterfeiting and fraudulent transactions.
From the above it can be understood that the units are encrypted, hence ‘crypto’, and said units may be used as a medium of exchange, hence ‘currency’. In an interesting turn of events, U.S and Finnish regulators have classified certain cryptocurrencies, most recently Bitcoin, as a commodity rather than recognise it as a valid currency in an attempt to regulate it.
Turning to Facebook’s Libra, the virtual currency begins to appear less like the other more traditional cryptocurrencies. Firstly, in order to counter the extreme volatility previously experienced by its counterparts, Libra is backed by a reserve of physical assets, these include bank deposits and short-term government securities in currencies from stable and reputable central banks. Therefore, a more suitable label may be ‘stable coin’.
Most importantly however, is the presence of centralised governing body named the ‘Libra Association’. This is comprised of an initial 24 founding members and will reach the proposed 100 members by the time it launches in the first half of 2020. Members so far include Uber, Spotify and Coinbase, among others. It is worth pausing here to consider the breakdown of existing members. Most notably, traditional banks and baking institutions are absent. Furthermore, 75% of all members are US based, with not a single member from Asia. These two characteristics may reflect the currency being a contester to the traditional banking sector and position as a direct competitor with more established payment systems like Asia’s Wechat and Alipay.
Membership status does come at a cost, this is a $10 million (£7.7 million) upfront commitment by means of investment in Libra. Although initially investors, these members will soon assume the role as the currency’s regulators. The role of the Association, in the context of a blockchain network, is to operate as a node, validating transactions, minting new coins and burning existing ones, akin to the role of a central bank. This leads it to lean more towards a ‘permissioned’ system, which Facebook maintains will later transition to a ‘permissionless’ system in which anyone may become one of such nodes. As it stands however, this defining feature ultimately outlaws the product as a cryptocurrency altogether.
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As Libra is not a cryptocurrency per se, it will not be competing with the likes of Bitcoin but rather as a direct challenge to traditional banks and sovereign monies. It is this trait that attracts the attention of regulators, who are wary of the potential issues surrounding privacy, illegal activities and terrorism funding.
Path to regulation
Libra is set to launch before the end of 2020. One issue for regulators, is that their timeline for regulation often lags behind the pace at which technology develops. Successful regulation involves rapid action but in a sector which is unprecedented, the path to regulation is not entirely clear. For a number of states, most notably India and Russia, the case is much more straightforward. Due to their existing policies surrounding the prohibited use and possession of crypto assets/currencies, Libra may lack the supporting legal frameworks to operate in those jurisdictions. This greatly undermines the extent to which this may be viewed as a truly global currency and work counter to the objective of practically eliminating remittance costs. However, with Libra not exactly falling under the traditional cryptocurrency category, it may initially evade such regulations as a matter of interpretation.
Bank of England
Arguably the more optimistic, Mark Carney, Bank of England governor recognises the currency’s potential for assisting those without access to traditional banking services and the unbanked. However, Carney was quick to state that Libra will be subjected to the “highest standards” of regulation as if such a technology is successful it can become “instantly systemic”.
The French have adopted what appears to be the most sceptical and pessimistic view of Libra. French Finance Minister Bruno Le Maire said that while Libra might become a digital means of transaction, it must not become a “sovereign” currency like the dollar or the euro. Key issues centre around the use of Libra for illegal activities and terrorism funding. These concerns originate from existing cryptocurrencies which have and currently are being used in dark web enterprises due to the anonymity blockchain users enjoy. Facebook has answered these concerns by stating that they have developed their own process of identifying users on the platform as a means of mitigating these risks. However, such a process underlies what many regulators and users alike are wary about: privacy issues. Facebook in the past few years has undergone a myriad of privacy breaches, with the notorious Cambridge Analytica scandal seriously undermining the company’s reputation on a global scale. Although Facebook have attempted to distance themselves through creation of the Libra association, their leading role in the project leaves many questioning the security of user’s financial data.
President Trump has tweeted, “If Facebook and other companies want to become a bank, they must seek a new Banking Charter and become subject to all Banking Regulations, just like other Banks”. This is reflective of many U.S regulators who have begun to view the implications such a currency might have on the wider banking sector. In this case, they will not seek to regulate the matter from a crypto perspective but rather enforce their restrictions through the traditional, well tested and long-standing banking regulations.
Libra will pose a unique challenge to regulators and law makers alike. Facebook has recognised that its success depends on their compliance with governments to work towards a mutually beneficial relationship. How this will be achieved and on what terms is uncertain, but if users are to be fully protected, what is required is global cooperation and a unified stance in the manner in which this is dealt with.
Joshua Prior is an international student currently undertaking the LPC at BPP with a view to begin training in 2022. He is interested in cryptocurrencies, connected and autonomous vehicle technology and Fintech.
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