Facebook Libra – the cryptocurrency arms race has begun…
Facebook announced the launch of Libra, a new digital currency that aims to transform how we pay and transfer money.
Calibra, Facebook’s Libra ewallet, has the potential to shake the entire payments industry through its scale and value.
However, Libra faces multiple challenges, including regulatory hurdles and Facebook’s chequered past with privacy and data security.
Facebook’s Libra could lead to the start of a new cryptocurrency arms race with other tech giants jumping in with their own versions i.e. Google, Apple, Amazon, etc.
People want a frictionless financial system, which Libra can provide: Our recent fintech survey results shows 64% of Australians want better value for their banking, while 41% want more convenience in banking. Libra’s ecosystem of minimal cost and real-time payments to any two users around the world is a proposition unmatchable.
People value trust in financial services: Our fintech survey results shows trust is a real consideration for consumers when it comes to money (40% of Australian’s don’t trust a digital bank while 52% would use Apple card based on trust). However, Libra has been developed to build the public’s trust in its value, security, and privacy – hence we believe trust can be won over time.
Libra is a real threat with the backing of its founding members: The scale and backing of Facebook, eBay, Uber, Lyft, Spotify, Mastercard, Visa, Stripe and PayPal alone can reach billions around the world and have the potential to cause significant changes to consumer behaviour in ways that smaller neobanks potentially cannot.
The entire payments industry will be ripe for disruption: If Libra gains widespread adoption, it will reinvent how we pay. New players like Facebook’s Calibra will clearly threaten the traditional finance sector.
Since Bitcoin’s 2008 whitepaper, digital currencies such as Bitcoin and Ethereum have enjoyed a rollercoaster ride when it comes to value and publicity, with new coins entering the space as fast as they leave. However, no coin to date has permeated into our everyday lives. But Libra changes everything. On the 18th June 2019, Facebook announced the launch of Libra, a new digital currency, by the first half of 2020. It aims to allow frictionless financial transactions between billions of users around the world.
Backed by some of the world’s best-known technology companies, Libra will be a ‘stable coin’ that will disrupt payments providers and banking institutions if it succeeds. Digital currencies have been historically met with harsh scrutiny and enforcement from financial regulators worldwide due to money laundering, taxation, and security concerns. We expect Libra to face the challenges and in fact expect greater scrutiny given Facebook’s chequered history when it comes to privacy and data security. In this report, we look at how Libra works, the commercial implications of Libra, and explore the risks and challenges that Libra may face.
How Libra Works
In its simplest terms, Libra is a digital currency that can be spent for good and services, transferred to others, or converted back to a fiat currency. However, Libra from a governance, technical, and commercial perspective will have ramifications for the entire world. Why? Because Facebook and its partners are reinventing ‘cash’ for the modern age into a frictionless experience for anyone with access to the internet.
The Libra Association – Benevolent Overseers or a Crpyto Oligopoly?
Figure 1. The Libra Association’s Founding Members
Whilst leading the development charge for Libra, Facebook knew its poor trustworthiness and track record in privacy would cause significant backlash if it had complete control over Libra. As a result, Facebook recruited like-minded companies as founding members for the Libra Association. The Libra Association is the democratic governing body headquartered in neutral Geneva, Switzerland that will oversee the development and operations of Libra. While Facebook and its e-wallet subsidiary Calibra will continue to lead the Libra Association through 2019, Facebook and its affiliates will be on equal footing to all other founding members after Libra’s launch.
The founding members (Figure 1) are a diversified group of well-known companies from various industries; payments, tech and marketplaces, telcos, blockchain, venture capital, and other non-profits and academia. Not only have they each invested US$10m into Libra to have their say in the Libra Association council, they are responsible for managing the network of ‘validator nodes’ that underpin the Libra Blockchain, managing the assets held by the Libra Reserve, and promoting open identity and decentralisation. In the initial years post-launch, Libra will be reliant on the founding members to grow the network but will be increasingly less reliant on the founding members as the Libra network grows. Whilst there were 28 founding members at announcement, Facebook targets 100 members by the launch.
The Libra Currency and Reserve – Legitimacy is built on stability
A defining feature of the Libra currency will be its value preservation. Most digital currencies rely on speculation and investment to drive value as they have no supporting underlying asset and as a result, they have failed to achieve widespread adoption. One of the Libra Association’s goals is the widespread adoption of Libra currency, and hence the Reserve is important to Libra’s success as it provides the key mechanism to achieve value preservation.
Figure 2. Determining the value of Libra Currency
SOURCE: Libra, Venture Insights
Overseen by the Libra Association, the Reserve will fully back each Libra with a diversified basket of stable currencies, such as the US dollar, British pound, Euro, Swiss Franc, and Japanese Yen. Every fiat currency cashed into the ecosystem will be credited a Libra on a one-to-one basis to ensure the assets backing Libra match the supply of Libra in the ecosystem. By doing so, the value of each Libra is ideally only determined by the Reserve’s asset value so that Libra does not affect any monetary policy itself. The reserve’s assets will be supposedly held in globally distributed and secure investment-grade rate custodians.
The Libra system will create three types of beneficiaries:
The users; Libra will make sending money as simple as a message; instantly, securely, and at low cost. Venture Insights’ recent fintech survey shows that 64% and 41% of users would consider using a financial services disruptor because they expect them to offer greater value and more convenience respectively. For these users, Libra would be very enticing as it allows them to spend and transfer funds overseas easily and at much lower costs than what is possible today.
The investors; interest revenue yielded from the reserve’s assets will be used to fund further growth and development of the Libra ecosystem, including grants to non-profits and engineering R&D. Once Libra’s operational costs are covered, any surplus interest will be returned to investors as the holders of Libra Investment Tokens. However, these dividends to investors will only be paid if Libra’s reserves grow significantly.
Libra financial service providers; As Libra is an open-source platform with a built-in API, new entrants can create financial services over the Libra ecosystem. Facebook’s subsidiary Calibra has already announced their intentions to offer loans, credit, and remittances after becoming the digital wallet for Libra.
Challenges – The threat of Libra is real
Libra has been marketed to target the unbanked and vulnerable, providing a way for them to access finance with minimal barriers and frictions. While Libra itself will be a frictionless cross-border currency that threatens to disrupt the payments market, it requires an additional product layer to be built on top of the currency. This will start with digital wallets such as Facebook’s Calibra that allow users to access and pay with their Libra through Facebook services, including WhatsApp and Instagram. This could lead to users altogether bypassing the traditional payments infrastructure. (Figure 3).
In the US alone, banks, card networks and payment processors in aggregate have up to US$90b per year at risk in transaction fees. Multiple founding members will benefit significantly from bypassing this current infrastructure using Libra’s lower cost ecosystem. In 2018, Uber processed more than US$43b worth of card payments, generating about US$1b in credit card processing fees. Even a 10% reduction in transaction costs would improve Uber’s bottom-line by US$100m. The other founding members such as Lyft, Paypal, Spotify, Stripe and Ebay would be equally incentivised to grow the Libra network. With this incentive and their combined global user base of over 3 billion, they have the capability to successfully scale Libra.
Figure 3. Traditional payments infrastructure.
For other new entrants in the payment space, such as Afterpay and Square, the impact is less pronounced. Whilst there may be some upfront development costs, these companies could mitigate the effect of Libra becoming the consumer currency of choice by integrating it into their current systems through the open-source library provided by Libra. However, there remains the possibility that they themselves may be disrupted by other entrants. Facebook’s Calibra has already stated it is likely to offer additional profit-generating financial services as Libra matures, such as consumer loans and credit, remittance, portfolio management, and payment solutions (QR and contactless).
Can Libra be trusted?
Libra’s success is almost completely dependent on how they win the trust of regulators and the public. However, because the Libra project was born from Facebook’s labs coupled with Facebook’s numerous privacy issues over the past few years, it won’t be surprising if the regulators and the public are sceptical of Libra and Calibra.
Consumers have had concerns with Facebook’s abuse of their privacy. Over the past two years, Facebook has lost an estimated 15 million users in the US. After being brought before the US Congress and into the global spotlight following the Cambridge Analytica incident, Facebook has been on a mission to turnaround its public image. Our fintech survey has shown that trust is a significant factor for Australians in accepting new financial services providers (Figure 4). With Apple’s recent foray into financial services, we found that of those interested in Apple-branded cards, 52% of Australians would use Apple-branded cards based on their trust for Apple.
Figure 4. 2019 Fintech survey results on the reasons against financial services uptake
SOURCE: Venture Insights
While Facebook has tarnished its reputation and trust, it has attempted to distance itself from Libra as it repairs its reputation. Facebook has setup the Libra Association as a democratised organisation with other reputable founding members so that it will have lesser influence over Libra, while Mark Zuckerburg has devoted privacy as a key priority at Facebook. Facebook’s ewallet subsidiary Calibra will also not share any account data with Facebook or any third party without customer consent, other than for security and compliance.
From a regulatory perspective, Facebook and Libra are likely to be challenged globally on multiple fronts. As a pre-emptive action, Libra has taken a proactive stance on regulation and has invited dialogue with regulators and policymakers. Yet without delving too deeply into the many concerns that regulators have with Facebook, Libra may cause the ACCC to expand the scope of its Digital Platforms Inquiry to also cover digital currencies and associated over-the-top services. The ACCC’s Digital Platforms Inquiry has recently released a preliminary report detailing recommendations to limit the market power of BigTech, such as Google and Facebook, and improve privacy and consumer protection laws. Note: For a summary of Facebook and Google’s initial response to the ACCC’s preliminary report, including an outline of the key takeaways and commentary from the ACCC, see our report ‘ACCC’s Digital Platforms Inquiry – more regulation on the horizon’.
A new arms race for payments?
With this announcement, Facebook joins Apple into their foray for fintech dominance. Banks are already under pressure from neobanks and other fintech startups, and the entrance of BigTech illustrates that real disruption is here for financial services. Australia’s first fintech minister, Jane Hume, has noted that it was important the fintech industry be “as fluid and nimble as possible”. Most BigTech firms have some well-known products, such as Apple Pay, Google Pay, and Samsung Pay, and are increasingly investing in new fintech technologies. Chinese BigTech firms – Alibaba, Baidu, and Tencent – have grown to dominate Asian markets with their payments technologies in recent years, leapfrogging the traditional banking system with such impact that it required Chinese authority intervention. India’s 2016 cash restriction has also seen new payments systems flourish, with Berkshire Hathaway investing US$360m into a leading Indian mobile payments firm, Paytm. Developed markets have seen slower disruption as incumbents retain their market share in the already largely banked populations. However, the launch of Apple Card is the first significant product to challenge incumbents. To learn more about the threat of the Apple Card, see ‘Apple Card – allowing the fox into the henhouse’. Now with the expected launch of Facebook’s Libra, we can expect the other BigTechs, such as Google and Amazon – to respond with their own disruptive fintech products.
It’s been less than a week since Facebook announced the launch of Libra and there has already been significant backlash. European regulators view the new currency as a threat to national sovereignty and the G7 nations have setup a special task force to determine the risks of digital currencies like Libra on the financial system. Clearly, there are many technical, regulatory, and economic issues with Libra that need to be discussed. The launch version of Libra will also only be a permissioned system. Libra expects to become a permissionless system as it evolves, meaning there will be no single entity able to exercise control over the ecosystem. How will the world respond when Libra transitions to a permissionless system?
If regulators somehow approve Libra, this will be a major step towards a truly cashless society and completely shift how the western world pays and thinks about money. BigTech, banks, other financial services incumbents will not be sitting idly whilst Libra continues to develop. Behind the scenes, they will be developing their own solutions. Facebook has a blockchain solution and digital currency. Apple has an ewallet and credit card. What will we see next?