Recently, Facebook announced its intention to launch a “cryptocurrency” called Libra in spring of 2020.
This is not really ground-breaking news given that currently many so-called cryptocurrencies (in our opinion, digital asset units) already exist and circulate in the market, which are based upon blockchain technology. However, Facebook’s announcement has aroused much interest as well as concerns of a diverse nature, among others the fear of a lack of security in the system and the impact that it may have on the control of monetary policy in different countries. The reason for this revolves around the scalability of the project; initially, Libra shall be available for more than 2,000 million users, in an almost immediate form due to the existing clients of the social network Facebook and other platforms associated with Libra, such as Uber or Spotify. Its penetration into the market and in society will be fast given that is will allow the immediate payment for goods and services as well as the transfer of Libras, for an extraordinarily low cost, and in any case, much below that of the banks. The speed and economy are associated with blockchain technology, which with Libra shall eliminate a large proportion of intermediaries from transactions, although not in all transactions as we shall see. Furthermore, it shall be serviceable for hundreds of millions of unbankable persons or those who do not have a commercial relationship with the banks.
How Libra works and how it differs from other so-called cryptocurrencies:
“Libra” is the brand which identifies the digital unit of value created based on blockchain technology in a DLT (Distributed Ledger Technology) environment where operations carried out with Libra are validated in a centralised private network. Here we may find a fundamental difference to other cryptocurrencies such as Bitcoin, which operates with a decentralised public DLT, so that Bitcoin transactions are carried out through validation in an indefinite number of nodes each one of them with the same weight and value, without any organisation or centralisation. On the other hand, the Libra DLT is private and centralised, and operates with selected entities which are responsible for validating operations, acting as selected nodes, which implies that potentially one single node may have more value than another. Among such entities are UBER, VISA, MASTERCARD or PAYPAL. The Libra project contemplates reaching 100 companies who shall act as authorised nodes. Therefore, in Libra there is no decentralisation, since it is an authority which decides upon which of the authorised nodes verify the operations. The owner of the blockchain is who decides how many and which devices may act as nodes.
Whereas in a decentralised DLT it is very difficult for a successful cyber attack to take place, a private network is exposed to greater risks given that the attack may orient itself against a determined number of nodes which, if it is successful, would collapse the functioning of the cryptocurrency.
It is important to point out that the use of Libra is not limited to Facebook users and that other users of different platforms, such as for example, Uber, Ebay, or others in which users may pay for goods or services with Libra instead of fiat currency, may also participate.
Conventional currency exchange operations into Libra and vice versa shall take place via an App (wallet) in the environment of an intermediary which shall be called “Calibra”, an entity controlled by Facebook. This App would form a part of the Facebook Apps category, although independent Apps may also have access to the exchange system, inasmuch as Libra is based upon an open blockchain code which allows any developer to construct applications (Apps) capable of integrating themselves into the platform. Calibra shall reach agreements with cryptocurrency exchanges (authorised by the board of Libra) which would ensure an exchange flow between Libra and traditional currencies in exchange for a commission, which Calibra would negotiate and the user would pay for. It remains unknown whether the system would allow exchange with other cryptocurrencies.
In order to bring Libra closer to the concept of “currency” in its traditional sense, it is essential that its market value is reasonably stable. With this objective, the intrinsic value of Libra shall be backed by an exchange or traditional fiat currency and by securities. Details regarding how this mechanism would work in practice and which currencies or securities would form a part of this guarantee exchange have not yet been revealed.
According to the organisation, the governing body of Libra shall be governed by a board with its headquarters in Switzerland, formed by a maximum of 100 members where each authorised member has one vote. Access to this select group of members of the board shall be available to companies which meet 2 of the following 3 requisites: a) sales in excess of 500M dollars per year; b) more than 20 million clients; or c) ranking amongst leading international companies. Criticism has arisen because although each member has a single nominal vote, the relevance of Facebook shall always be greater since it is the developer of the project, for reasons of interdependence and due to the existence of customer relations with other members of the board. It remains unknown whether a right of veto or qualified votes or the mechanism to take decisions for accepting or terminating its members exists. Each member of the board must contribute funds of 10 million dollars annually in order to operate one of the nodes of the private network, and furthermore, they must undertake to accomplish that Libra is globally accepted as a cryptocurrency.
As far as the technology supporting Libra is concerned, Facebook has opted for a private centralised blockchain, the main arguments for this basically being of a technical and practical nature. A decentralised blockchain does not allow immediate transactions to take place on a large scale given that the consensus of thousands of nodes is required for the validation of a transaction, which implies a lot of time and energy; whereas the centralised DLT does allow this because the number of nodes is limited, but it has the downside that the cryptocurrency is subject to the effective control of an organisation which controls preselected nodes which validate the transactions. As we have already mentioned, decentralised blockchains lack an organ of control. In the centralised blockchain, given that the nodes that operate work on the basis of being “reliable”, it is not necessary to pursue the consensus of an indeterminate number of anonymous nodes, but one must ask who determines the trustworthiness of the selected nodes and which independent body supervises them. Therefore, it is a cause for concern that the control of a future currency which aims to convert itself into a cryptocurrency on a universal scale lies in the hands of a small number of companies and their leaders. In other words, if up until now the State had such control over monetary policy through its central bank, the irruption of a cryptocurrency on a large scale would seriously undermine this privilege, without ruling out that in the end the board of the Libra cryptocurrency manages to decisively influence said policy or even substitute the State in such functions.
Another aspect to be considered which is derived from the irruption of Libra are the effects on the control of the market and the concentration of power in companies forming part of its board, in such a way that they impede or restrict the free competition of the market. That is to say that the companies who wish to be included in the Libra environment and have options for gaining or conserving clients who operate with Libra must accept certain access conditions which may be burdensome or restrictive with regards to competition. Likewise, and although the intention to enter into loan activities has been denied, from a technical viewpoint, these activities shall be a natural consequence of Libra, as well as technically possible. In this case, Libra and its associates may be converted into shadow banks, but without being subject to the strict regulation which the traditional banking sector endures, meaning a considerable distortion of the market and a comparative and not easily justified aggravation.
It is also necessary to consider the massive generation of data, which Libra shall collect, mostly of a personal and confidential nature. The crossover of data of Libra transactions with the platforms of the companies associated with Libra will generate enormous databases of a high value, composed of very detailed and sensitive personal information regarding the habits and preferences of the users. ¿How will such data be processed and who will have access thereto? ¿Will users be fairly compensated for the release of such data? On the other hand, and no less worrying, is the fact that the operations in a decentralised blockchain are virtually irreversible while in a centralised one, such as Libra, the history may be altered; this possibility provides an open door for data handling and fraud .
For the time being, one cannot speak of a cryptocurrency as an authentic traditional currency, but rather as a digital asset. The cryptocurrency does not yet meet all the requirements which characterise a conventional currency since it lacks a tolerable stability in its value, it is not legal tender and it is not generally accepted as an instrument of exchange and payment for goods and services. However, there is no reason to believe that it could not become as such if the lawmakers allow the emergence of the Libra and its subsequent development. But the question is ¿which lawmaker? At the moment, Facebook is negotiating with the US government, but one must ask if this is sufficient, given that Libra will have a global and immediate impact on markets, society and monetary policy on a world-wide scale. The intervention of the lawmaker on this cryptocurrency centres on the definition of the nature of Libra: dealing with it as a currency or a “security” will mean that it automatically falls within specific and restrictive legislation as happened recently with the crypto-IPOs when they were subjected to the legislation of the securities market; this marked their end since they became subject to long and costly procedures for launching share offerings and the crypto-IPOs lost their essence: speed and economy. However, cryptocurrency, if handled as mere digital assets and not as securities or conventional currency (with current legislation), will face no obstacle to their use or exchange in the market. The reality is that so far the legislator has taken a wait-and-see position, in so far as the volume of cryptocurrency transactions is pretty scant in absolute terms. Nevertheless, with the Libra project, because of the immense scalability, it is expected that the original concept will have to conform to a format which allows the States to supervise and control it, so that finally Libra will not be allowed to emerge as a currency in itself, but rather as a digital asset for the exchange of goods and services in specific commercial environments. It may well turn out that the market itself shapes its definitive profile and nature in the end.
Eduardo Vilá
Vilá Abogados
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12th July of 2019
