Mon. Dec 9th, 2019

Planet Compliance

Innovation & Regulation in Finance

Facebook’s Libra Crypto Plan and the Regulatory Response

12 min read

When Facebook last month announced its plans for a new cryptocurrency, it did not take long for regulators around the globe to respond to the news. Here is an overview of the regulatory responses and what to make of it.

With more than 2,000 cryptocurrencies out there you would think we had enough, but rumors were circulating for some time that Facebook would take a second stab on creating its own digital currency. After the short-lived attempt to establish Facebook Credits as a means to enable users to purchase items in games and non-gaming apps on the social media platform, the tech giant is now back in the crypto arena.

On June 18, it announces its plans for a new digital wallet for a new digital currency and showed its ambition to bring financial services to everyone. The whitepaper claims that “the world truly needs a reliable digital currency and infrastructure that together can deliver on the promise of the internet of money. Securing your financial assets on your mobile device should be simple and intuitive. Moving money around globally should be as easy and cost-effective as — and even more safe and secure than — sending a text message or sharing a photo, no matter where you live, what you do, or how much you earn. […] Now is the time to create a new kind of digital currency built on the foundation of blockchain technology. The mission for Libra is a simple global currency and financial infrastructure that empowers billions of people.”

 

Using the common model of a Swiss foundation, Libra is developed by the Libra foundation, “an independent, not-for-profit membership organization headquartered in Geneva,

Switzerland”, and the list of its founding members is an impressive one, consisting of payments giants Visa, Mastercard and Paypal, telecom multinational Vodafone, Fintechs like Stripe and tech unicorns Uber and Lyft as well as ebay and Booking together with some of the most important VC firms. With the list to have approximately a hundred names on it by the time Libra is launched in 2020 and aminimum investment of $10 million, the foundation has money to burn.

A stablecoin that will be fully backed by a reserve of real assets, it is nonetheless not pegged to a single currency and as such subject to fluctuations in local currencies as the value of the underlying assets moves.

The overall concerns that regulators hold towards cryptocurrencies and Facebook’s shambolic privacy record meant that a reaction from lawmakers wouldn’t take long. Something Facebook rightly anticipated as reports confirmed that it had been discussing its plans with authorities for a while.

 

 

The United States Senate Committee on Banking, Housing and Urban Affairs

As a result, the U.S. Senate Banking Committeesent a letter to Facebookasking a number of questions regarding privacy, security, and other legal and regulatory concerns related to Calibra and consumer protection on May 9, and the Committee will hold a hearing on July 16 on Libra. In its letter to Mark Zuckerberg, the committee has “requested information from Facebook regarding how it makes data available that can be used in ways that have big implications for consumers’ financial lives.” In its statement the Banking Committee stresses that it “has been examining approaches to data privacy, including the impact on the financial services industry and how companies collect and use information in marketing and decision-making related to credit, insurance or employment.  In February, Chairman Crapo and Ranking Member Brown invited responses from interested stakeholders on the collection, use and protection of sensitive information by financial regulators and private companies. The Committee built on this effort by holding a hearing on privacy rights and data collection in a digital economy.”

Further in the letter, Crapo and Brown say, “As the Committee moves forward with additional hearings to build the record for legislation, it is important to understand how large social platforms make data available that can be used in ways that have big implications for consumers’ financial lives, including to market or make decisions on financial products or services that impact a consumer’s access to or cost of credit and insurance products, or in ways that impact their employment prospects. It is also important to know how they are using financial data in profiling and targeting consumers.”

 

The questions that Zuckerberg and co. will have to answer are:

1) How would this new cryptocurrency-based payment system work, and what outreach has there been to financial regulators to ensure it meets all legal and regulatory requirements?

 

2)   What privacy and consumer protections would users have under the new payment system?

 

3)   What consumer financial information does Facebook have that it has received from a financial company?

 

4)   To the extent Facebook has received consumer financial information from a financial company, what does Facebook do with such information and how does Facebook safeguard the information?

 

5)  Does Facebook share or sell any consumer information (or information derived from consumer information) with any unaffiliated third parties?

 

6)  Does Facebook have any information bearing on an individual’s (or group of individuals’) creditworthiness, credit standing, credit capacity, character, general reputation, personal characteristics or mode of living that is used (either by Facebook or an unaffiliated third party) to establish eligibility for, or marketing of a product or service related to, (1) credit, (2) insurance, (3) employment, or (4) housing?

 

7)  How does Facebook ensure that information bearing on an individual’s (or group of individuals’) creditworthiness, credit standing, credit capacity, character, general reputation, and/or personal characteristics is not used in violation of the Fair Credit Reporting Act?

 

The U.S.House Financial Services Committee

 

To underline the seriousness of the situation and as a further example of the resistance the Facebook plans are experiencing from American lawmakers serves the statement of Democratic Representative Maxine Waters who is the chair of the House Financial Services Committee. In response to Facebook’s announcement that it plans to launch a cryptocurrency, Waters asked the tech giant to pause work on the cryptocurrency:

“Facebook has data on billions of people and has repeatedly shown a disregard for the protection and careful use of this data. It has also exposed Americans to malicious and fake accounts from bad actors, including Russian intelligence and transnational traffickers. Facebook has also been fined large sums and remains under a Federal Trade Commission consent order for deceiving consumers and failing to keep consumer data private, and has also been sued by the government for violating fair housing laws on its advertising platform.

With the announcement that it plans to create a cryptocurrency, Facebook is continuing its unchecked expansion and extending its reach into the lives of its users. The cryptocurrency market currently lacks a clear regulatory framework to provide strong protections for investors, consumers, and the economy. Regulators should see this as a wake-up call to get serious about the privacy and national security concerns, cybersecurity risks, and trading risks that are posed by cryptocurrencies. Given the company’s troubled past, I am requesting that Facebook agree to a moratorium on any movement forward on developing a cryptocurrency until Congress and regulators have the opportunity to examine these issues and take action. Facebook executives should also come before the Committee to provide testimony on these issues.”

On July 2, the request gained further momentum through a joint letterfrom the Committee Democrats addressed to Zuckerberg, Sheryl Sandberg, Facebook’s Chief Operating Officer, and David Marcus, Chief Executive Officer of Calibra. The letter is a request that Facebook and its partners immediately agree to a moratorium on any movement forward on Libra and Calibra, stating that “because Facebook is already in the hands of a over quarter of the world’s population, it is imperative that Facebook and its partners immediately cease implementation plans until regulators and Congress have an opportunity to examine these issues and take action. During this moratorium, we intend to hold public hearings on the risks and benefits of cryptocurrency-based activities and explore legislative solutions. Failure to cease implementation before we can do so, risks a new Swiss-based financial system that is too big to fail.”

In consequence, the Committee will convene a hearing entitled, “Examining Facebook’s Proposed Cryptocurrency and Its Impact on Consumers, Investors, and the American Financial System” on July 17.

 

Federal Reserve

As part of the Federal Open Market Committee statement, Jerome H. Powell, Chair of the Board of Governors of the Federal Reserve System, announced that

On the question whether he is concerned that new digital currencies like Libra could undermine the Fed and erode your power to influence the economy, he answered that in his opinion we are a long way from digital currencies replacing central bank currencies and as such was not too concerned about central banks no longer being able to carry out monetary policy because of cryptocurrencies or digital currencies. Though the Fed does not have plenary authority over cryptocurrencies as such, it would still play into its world through consumer protection and money laundering and as such it would be looking into it especially since Libra comes potential benefits but “also potential risks, particularly of a currency that could, you know, that could potentially have large application”.

 

The Bank of England

According to the BBC, Facebook founder Mark Zuckerberg met Bank of England governor Mark Carney in April to discuss the opportunities and risks involved in launching a crypto-currency. Following the announcement, Mr Carney saidthat the BoE, “the Fed, all the major global central banks and supervisors, would have direct regulatory oversight” to ensure it is safe and does not allow money laundering or finance terrorism. He also stressed that “Facebook cannot expect its new Libra currency to benefit from the same unregulated free-for-all that helped the company achieve a dominant position in social media”, and that Britain’s Financial Conduct Authority would also have a major supervisory role to play.

The Financial Conduct Authority

Talking about the FCA, Christopher Woolard, Executive Director of Strategy and Competition in a speechthis week shared his thoughts on the significance of Libra and the regulation of innovation. In this speech, he also explained the FCA’s approach to new products and services including the questions it will seek answers on when evaluating Libra and other stablecoins:

  • What is this thing, why is there a new term and what problem is it trying to address?
  • Who is it for – wholesale banks or retail consumers? Is it within our regulatory scope or outside?
  • Is this really an innovation or just something old in a new, flashy wrapper?
  • Is this potentially to the benefit of consumers and competitive markets or is it likely causing harm by increasing complexity and other risks?

At the same time, he highlighted that the FCA expects any would-be cryptoasset issuer to be asking a few of their own before launching a product, i.e.:

  • Is my product a beneficial innovation for consumers and markets? Or does it include hidden bugs and unmitigated risks?
  • Am I prepared to be open and cooperative with domestic and international regulatory agencies? How do I approach issues like anti-money laundering?
  • Will the target market I have in mind for this cryptoasset be able to make an informed and balanced judgement of the risks and benefits of investing in or using such an asset?
  • Finally, and most importantly, have I completed the regulatory, legal and technical due diligence in advance of launching a new product or service?

 

Banque de France

The Banque de France also made it clear that Facebook’s libra will have to comply with central bank rules, as pointed out by its Governor Francois Villeroy de Galhau. In an interview published on the BdF’s website, he pointed to the many open questions the project faces. The first would be the exact definition of basket of currencies it supposedly will be linked to. Would its value then be directly determined by the level of the currencies that compose this basket? Or would it also depend on the assets where the counterpart of the libras would be invested, which would lead to a more volatile value? Galhau said that these questions are crucial for potential holders as well as how easily they could sell or exchange libras. This will of course be part of the substantive discussions the BdF wants to have.

He also shared his concerns about the purpose of the project. Would it primarily serve as a means of payment between its members? While there might be room for improvement for todays cross-border money transfers, there is an inherent money laundering risk Libra will have to address as well as the threat of cyber attacks. He also has doubts about the blockchain as it is a very promising technology in his eyes but not yet tested on a large scale. And lastly he mentions the protection of personal data collected, which remains crucial.

If, on the other hand, the project wants to go beyond payments, offer banking services (deposits, financial investments, credits …), then it will have to be regulated like a bank, with a banking license in all the countries where it will operate. He said that in order to examine all these points the G7 had decided to create a task force to study the project.

Finally, the third big question he says is the stated ambition to create a global private currency since throughout history, private currencies have never had a happy ending because a private entity that issues a currency has not received a mandate from citizens, and must not hold them accountable; in the long term, it inspires less confidence than a public authority.

The Reserve Bank of Australia

Jumping to the other side of the globe, Philip Lowe, Governor of the Reserve Bank of Australia (RBA), chipped in on the discussion following a speechon the Australian Labour Market and Spare Capacity.

Lowe has been a critic of cryptocurrencies and when asked about the implications for Libra, he said that “there’s a lot of water under the bridge before Facebook’s proposal becomes something we’re using all the time”. He addedthat “there are a lot of regulatory issues that need to be addressed and they’ve got to make sure there’s a solid business case, so we’ve got to be careful before we jump to conclusions.”

 

What to make of it

Does so much headwind mean that Facebook’s coin is already in trouble before it really started? No quite. Cryptocurrencies have been facing regulatory headaches  for some time and the authorities, of course, had to make it clear that Libra was facing extensive quizzing from regulators but given Facebook’s struggles regarding data protection, this is hardly surprising. After all, Mark Zuckerberg doesn’t do this only out of the goodness of his heart but for the immense value that the data from Libra transaction holds. Lawmakers also need to make sure to show that they have their voters’ best interests in mind and wouldn’t be swayed by big money from tech giants, so it is also a political maneuver. What it means is that Libra will face a lot of scrutiny and maybe a little bit on top of it before it can aim to take the crypto world by storm.

 

 

 

 

 

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