On thin air: the fortune of Libra on the hands of the US Congress

Photo: Andrew Harrer/Bloomberg News

Under the alternative digital currency model, Facebook is proposing its own cryptocurrency: Libra. Like others, it will play a currency role, serving as a means of global transactions directly between users without the need for banks. The difference would be in the proposal to be controlled by a select group of entities and to be backed by a reserve with low-volatility assets to ensure that its value is stable.

With the effects of the recent Cambridge Analytica case in mind, the US Congress has expressed concerns about this cryptocurrency. Earlier this week, both the Senate and the House of Representatives held hearings on the proposal, which consisted mainly of presenting a series of questions to David Marcus, the head of Calibra – Facebook’s subsidiary, created to deal with the currency.

In today’s post we present the Libra debate and some of the concerns raised by congressmen and congresswomen during the hearings.

What do we know about the currency

In the white paper that presents it, Libra is simultaneously characterized as financial infrastructure and cryptocurrency. Like other known cryptocurrencies such as Bitcoin and Ethereum, it is based on the so-called blockchain. This feature enables that the logs on transactions and on who holds which values are distributed among network participants, thus being independent of a centralizing entity (such as a bank). There is, however, an important innovation: only authorized entities can operate as transaction validators in the Libra network, while in the Bitcoin network, for example, any participant that meets the technical requirements is able to do so.

And who are these authorized entities? So far, 28 organizations, mostly US companies, each contributing a minimum investment of $ 10 million.

Libra Association members

Together, these entities founded the Libra Association: a formally non-profit Swiss-based consortium responsible for currency governance. Also according to the white paper, it is expected that the Association will have about 100 members by the proposed date of launchingin the first half of 2020. In the consortium, the decision-making processes will be conducted by a council in which each founding member may have up to 1% of the total votes.

In that council, Facebook will be represented by Calibra, a subsidiary created by the giant to operate as a digital wallet provider. A digital wallet functions, for cryptocurrencies, similarly to a bank account; through it, users will be able to manage their Libras. Although it is only one of the 28 founding members, Calibra – and therefore Facebook – has played a central role in the public presentation of the currency, in the development of its blockchain and in the creation of the association.

Although the iconography and the name of the coin have to do with the “air” element (associated with the sign of Libra of the zodiac), another specificity of Libra is in its backing: a reserve of low-volatility assets (bank deposits, short term government securities, etc.). This would reduce fluctuations in its value – a common problem in the cryptocurrency market.

Unlike existing cryptocurrencies, such as Bitcoin, it will not be possible to mine Libra. The issuance of new units would occur only on the occasion of their purchase with the Libra Association. Similarly, currency burning would occur through its sale to the consortium in exchange for reserve assets. Interest on these assets would be used to cover system costs, secure low transaction fees, serve as a basis for further growth and adoption, and pay dividends (profits) to early investors.

Concerns and contingency measures

Since its announcement, Libra has sparked immediate reactions from regulators internationally. Representatives from France and the European Parliament expressed strong concerns about the proposal, as did the G7 – which announced the creation of a task force to address it. In the US case, regulatory anxieties regarding the proposition led the Senate and House of Representatives to call public hearings with Facebook on July 16 and 17, 2019, respectively.

The general tone of the hearings was skepticism, by most of the public representatives, regarding the proposal. With few exceptions – which highlighted its innovative character and the company’s openness to dialogue – they have shown significant mistrust of Facebook as the head of a digital currency, recalling the recent scandals in which the company was involved, notably the aforementioned Cambridge Analytica affair.

We point out below some of the concerns pointed out by congresswomen and congressmen at the hearings:

• Scams – lack of information security could expose Libra users’ financial data and leave them vulnerable to scams.

Facebook’s Response: The company claims that it has been investing in information security that protects encrypted data, and has even developed its own programming language (the Move) and a version of the blockchain specifically to ensure the security and efficiency of this product.

• Financial stability – given the size of its intended user base, several members of Congress questioned whether the Libra Association and/or Calibra would be classified as “systemically important financial institution”, regulated entities whose failure could trigger a financial crisis. If so, the consortium and Calibra would be subject to strong regulations by the US authority in the matter.

Facebook’s Response: it would not be up to them to decide which regulatory agencies would treat the Libra at that time.

• Legitimacy and transparency – unlike sovereign currencies, issued by public authorities, Libra will be issued and governed by a consortium of private entities, raising questions about the legitimacy and accountability of these decision makers. The criteria by which founding organizations were selected are not clear. In addition, the use of reserve interest to pay dividends (profits) to early investors appears to contradict the formally non-profit content of the Libra Association.

Facebook Response: Libra would not aim to compete with sovereign currencies and the association would not be profitable in itself, although its members may receive revenue from the initial investments.

• Privacy – Facing the failure to allow data usage by Facebook-connected applications that have spawned the Cambridge Analytica scandal, users are questioning their consent levels and controls over which of their data can be shared with third parties or accessed by platform.

Facebook Response: decisions about privacy and use policies would not be up to them, but the Libra Association Council, and there would be no sharing of the personal data treated by Calibra with other companies of the Facebook group. 

• Competition – there is a current debate in the US about the possibility of dismantling technology giants to combat monopolistic formations and anti-competitive practices. In this context, members of Congress question whether the Libra Association would have attributes of an oligopoly and whether the integration of Calibra’s portfolio with the other services of the Facebook group would signal potential abuse of the company’s market dominance.

Facebook response: there would be interoperability with other portfolios on Facebook services.

• Targeted advertising – Facebook works under this business model, collecting user data to improve it. It is reasonable to assume that your database would be significantly increased with information about which users are transacting with each other and knowing what products are actually purchased by them.

Facebook response: there would be no direct control of Facebook on the platform, and its operation would be independent of the services offered by the company, therefore no data would be exchanged.

• Jurisdiction – Since the Libra Association will be based in Switzerland, lawmakers question the applicability of US regulations to it, especially with regard to clients based in countries subject to US economic sanctions (such as Iran).

Facebook response: the consortium would also be overseen and regulated by US authorities (such as FinCen) and would comply with its anti-money laundering (ALM) sanctions.

• Diversity – members of Congress question the criteria used to select the 28 founding members of the Libra Association, the absence of user representatives on the consortium board, and the large numbers of members from countries other than those where the target public lives (Nigeria, Pakistan and India, for example).

Facebook Response: The plans would be for the Association to have around 100 members or more until its launch, and it is hoped that concerns about diversity can be addressed then.

• Illicit financial flows – the possibility of using pseudonyms announced in the Libra proposal, combined to the fact that the product aims at the unbanked and will seek to be accessible to those who do not meet formal requirements, raises concerns related to its possible use for criminal activities. Since the idea is that currency is global, identity verification and the possibility of tracking the real user of a transaction are important points to be concretely addressed in currency policy.

Facebook’s Response: it claims that the registration in the Calibra wallet will be conditional upon document authentication and that the service will implement AML measures. (It should be noted, however, that Calibra will be just one of the many portfolios that can be used on the platform)

The contradictions of the proposal persist

On the one hand, some attention has been given by the creators of the currency to regulators, especially for their willingness to answer questions from US regulators before launching Libra. However, this importance was directed at only a few jurisdictions (US and other G7 members), which are not where the proposed service are headquartered (Switzerland), which raises some doubts about whether there will be accountability of the Libra Association in relation to the promises made to US parliamentarians in public hearings.

Likewise, the answers offered to the concerns raised by the majority of Congress members were not at all satisfactory. No concrete measures have been put forward to guarantee the security and privacy of users’ data, hinder improper use or imposition of permission for use by commercial partners of the Association. The response on measures to diversify and prevent the formation of an oligopoly on the Libra Association’s governing council also did not envisage any initiative to include user representatives.

Other contradictions perceived in Facebook’s discourse during the hearings: presenting as just another member of the Libra Association, but also making promises on behalf of the entire consortium; stating that the Association is not for profit, but being unable to explain how the payment of dividends to early investors would not consist of profit; arguing that it intends to have maximum transparency on the project and, however, being opaque in relation to the process of constitution of the founding members of the Association.

This leads us to one last question: the Libra Association looks at the underbanked and the unbanked, that is, those who are economically marginalized by the current financial system, but did not dialogue until then with regulators of the countries that concentrate this population. That is, perhaps one of the major shortcomings of this global crypto-concept proposal is that it is failing to consider the needs of this public at the same level that it considers the concerns of potential competitors or governmental and commercial partners of the work.

Interested in learning more about the current political debate in the US about the future of big tech? Learn more in our blog post on the issue.