John Mauldin from Mauldin Economics ponders what kind of money we will be spending in the future and examines the prospects for Facebook's Libra cryptocurrency

By John Mauldin *

As I work on my book about the future, I think a lot about how possible events will affect our money. But I also think about something else: What kind of money do we want to spend?

The answer may seem obvious: dollars, euros, yen, all government-issued fiat currencies that are the economic waters we swim in. Most of us have never known anything else. Nevertheless, these currencies are not natural phenomena. People created them. People can also leave them for something else, just as they left older currencies.

I can hear the chorus now: Fiat currencies are coming and going, but gold is forever. And now it's a drummer for Bitcoin. Yes, yes, but it is tough to buy groceries with gold or Bitcoin.

There are good reasons to think that we could once again see some fiat currencies disappear. If so, what "something else" will be money in the future? Five years ago, I said I expected to see a commodity-backed cryptocurrency finally emerge and potentially become the currency of the future. Several people actually have it too, but without gaining a lot of traction for a variety of mostly good reasons.

Facebook's recently announced venture project t may be the proverbial better mouse mushroom. On the surface it seems to address some of the problems similar offerings have. But at this point, it's really just an idea, and I'm not convinced it's ready for the first time. There are many disadvantages and we will go into some of them.

As you will see, Libra can find a place in the new money system, but not without a long battle. Powerful forces have different ideas.

But the point of this letter is not to praise or bury the Weight, but to think about the future and mechanics of financial transactions. I can go almost anywhere in the world and use my own form of electronic money: credit cards. Many people use their phones and in some stores you just go in, pick up the items you want and leave them behind. The store recognizes your face and bills your account. Yes, you need currency to pay that account. But that transaction happens "behind the curtain."

That's what makes Weight interesting and worth discussing. The scales, or something similar, have the potential to reduce the friction behind the curtain. Economic friction is everything that prevents markets from operating according to the textbook model of perfect competition: distance, restrictive regulations, imperfect information. Visible or not, these generate additional costs for consumers.

Some of us at a certain age remember that we traveled to Europe and paid 1[ads1]0% or more just to exchange dollars for pounds or francs or lira. "Mom's" in Kinshasa (back when it was Zaire) would sit in certain areas of the city with currencies in a collapsible unit, willing to exchange dollars, pounds, francs, Swiss francs and others for local currencies. It was your international exchange system and there was a lot of friction. Fortunately, I had dollars that were better than some of the local currencies.

The big promise of blockchain technology is the potential to reduce friction for not only currency exchange, but all kinds of transactions. There are literally hundreds (if not thousands) of entrepreneurial companies trying to use blockchain in different industries. And it's starting to happen.

Trust Issues

Libra is the technology people like to call "vaporware." There is no salable product yet – just a concept with some names and money behind. When I predicted something almost exactly like Libra, Facebook was not on the list of obvious players at that site. It should have been.

Libra is Facebook's idea, but the company – obviously aware that it has confidence in public trust – has assembled a consortium to manage the project. This "Libra Association" currently has 28 members. They are mostly payment processors, technology and telecom providers, venture capital managers and a few nonprofit organizations. Facebook is itself represented by a newly formed subsidiary, Calibra.

Look at the list of current members of the Libra Association:

Source: Libra.org

The first thing I noticed – which surprised me a lot before I understood the association's math – is that there are no big banks. My general assumption is that large banks, in connection with government regulators, will produce the most important electronic currency. But then again, note that MasterCard and Visa are members. As well as PayPal and other financial payment systems. Hmmmm … Unlike Bitcoin, Libra is not "mined" by solving math problems. It will be fully supported by financial assets, which the association says will consist of cash in different currencies, government bonds and similar short-term debt. Everyone will go into a "Libra Reserve" when users contribute money, and every Vigence will be part of that account. The value will fluctuate against conventional currencies, but not as much (or so they hope).

This is similar to the so-called "stablecoin," a kind of cryptocurrency designed to deliver the benefits of blockchain technology while tied to conventional low-volatility assets. The leading one, called Tether appears to be working, but has encountered some problems. How do you know that the reserve benefits are actually there? This requires a lot of trust, something Facebook has not exactly served to the audience it supposedly serves. But MasterCard or Visa? Since most of us have at least one of their cards, we seem to trust them.

Although I really don't use Facebook, my wife is an aficionado. (I'm more of a Twitter guy .) It's a handy way to connect with a long family and keep up with community events, something Shane does for me. I know that targeted advertising is why it's free. I don't mind – up to a point. The problem is that Facebook uses your data in unexpected ways most of us would never consent to if they specifically asked us, which they do not. Not to mention the large, profitable firm's apparent inability to store our data securely.

It has long been clear that this is not just a mistake. Mark Zuckerberg founded the company on the principle, "Move fast and destroy things." It's the culture, and it's not something he can easily change, even if he wants to, and it's not clear he does. However, he is making some moves to separate our customer information from Facebook's social network. I'm not sure it will be enough to please the public, not to mention politicians and regulators across the globe.

Know Your Customer

Libra faces another challenge that may be even greater. Much of the "unbanked" economy likes that is in the shadows. People use cash and cryptocurrencies as part of tax evasion, scams, crime or terrorists. Facebook says it does not want to facilitate such activity. But how do you stop it?

Regulators have forced the banking industry to adopt robust "know your customer" practices. You must identify yourself to open an account. The banks report all suspicious activity to the authorities. It hurts legitimate businesses and investors, but a necessary one.

American and European regulators may not require this level of scrutiny from Libra, but they will certainly make some demands. There is no way that they will turn it into something like Bitcoin.

Facebook has millions of fake accounts engaged in all kinds of less than honest activities. That is the core of the business model; more eyeballs means more revenue. The company is beginning to police the public more strictly, but sincerity is questionable at best. So the Libra project's DNA, so to speak, tells it to a) collect lots of data b) don't worry too much about its accuracy, and then c) use the data to make money. This is contrary to the way Weight will have to operate, if it is to do so legally, as Facebook and its affiliates say is their intention.

However, Libra says whatever the different governments require. It still provides a lot of sensitive, private information about people's assets, spending on habits, travel and more. Can we a) rely on Libra to keep the data outside of Facebook's links, and b) rely on Libra, Facebook, and who else is involved to protect them from cyber thieves?

Just look at all the other data breaches that have happened, supposedly sophisticated banks and other institutions that spent billions on protecting their systems. Should Libra invest that kind of money on security? If so, where does it come from?

Libra itself intends to earn "float" income on the assets. In theory, you will give dollars or euros to Libra, and they will convert them into a basket of currencies, bank assets and so on. The organization will live by the interest and pay you nothing while (you hope) not using your information to its own advantage.

Let's go back to that stablecoin concept. A basket of currencies is not very stable. Fortunately for me, my friends at Gavekal (the exceptionally youthful appearance of Will Denyer in this case) took the trouble to measure the stability of both the dollar and the IMF's Special Drawing Rights (SDR). They found that dollars for at least US dollars would be more stable. It even works that way for holders of the Indian rupee and other currencies. (Of course, if you live in a country like Venezuela, Libra can be a sacred gift to you if you can find out how to get it.)

Source: Gavekal Research [19659003] So if Libra not going to pay me any interest and it's not really a good store with value, what is my motivation to "invest?"

Now, if MasterCard wants to give me a card that uses the Weight of my transactions when I go to Europe which gives me less friction than I now get when I pay with my credit cards, I'm all over it. There is something going on behind the curtain. And some very smart little kids will find out very quickly if the Libra MasterCard is actually a good deal and post it on Twitter where I will read about it.

If it works, this is a form of return on the money you put into Libra. But that "interest", no matter how much it is, can also be a problem … and not just for Libra.

Out of the Madrasses

The companies involved in Libra do not risk their capital and brand names because they hope for a small success. They want this to work and work great. But if that happens, the size itself will start to have a systemic effect.

Consider the process. Currently a pile of paper circulates, Bitcoin and other sub-radar channels. How much is unclear – certainly many billions of dollars / euros / etc, and possibly trillions. Economically, it is like cash stuffed in mattresses. The banks cannot lend because they do not have deposits.

Imagine Libra is attracting some of the money. Pick a number – $ 500 billion is as good a guess as any other. Anything less will probably disappoint Zuckerberg and friends. What happens to those $ 500 billion (in different currencies) that are no longer stuffed in mattresses? It will go into the Libra Reserve and be used to buy low-risk assets such as government bonds.

(Now it's a separate question if Libra can do this without a bank charter, which will certainly complicate life. But set it aside for a moment.)

What happens to short-term interest rates if a large amount of new capital deciding to buy in? Answer: rates are falling.

Where, right now, are the courses for government securities in Japan and large parts of Europe? Answer: already below zero. In fact, today's $ 13.7 trillion of government bonds pay negative interest.

Where, right now, are the courses for government securities in the United States? Answer: not yet zero, but led the way.

The supply of safe liquid assets that can serve as the "stable" part of the Weight of Liquidity is limited. If Libra, or something similar, succeeds in drawing earlier underground money into the banking system, short-term interest rates will fall even lower than they already are. This is a problem for banks, which are already on thin ice in Europe. There is also another reason to believe that NIRP will eventually reach US shores. That may explain why banks have no interest in supporting Libra. To them, the whole idea is toxic. They might love to have more deposits, but not at any cost, and this one will be quite high.

It can also explain the immediate bipartisan outrage from elected officials. They do not like Facebook in the first place. Politically influential bank officials probably made the dissatisfaction known. Hence the fierce criticism.

And it will not be lost on regulators and governments that blockchain currencies threaten their "seigniorage" revenues. Bitcoin, like gold, is a small rounding error in the large scheme of seigniorage. The scales, or something like that, can be big enough to be noticed.

I should note that Facebook executives did not do a very credible job of answering all the questions in last week's hearings of the Senate and House. They generated more questions than answers. If I understood what I was reading correctly, the most interesting point was that they hoped Switzerland would somehow regulate the Weight, but that they did not actually talk to Swiss regulators. And last I saw, Switzerland has negative interest rates. This seems to be "go fast and destroy things."

That said, it is also possible that governments will issue enough new debt to take off this newly-released capital. They have no problem increasing their spending. Last week's budget agreement in Washington may have averted a government shutdown, but it came at the expense of a continued trillion-dollar deficit, which is the optimistic case. All bets are off if the recession strikes.

Barriers

Then Vågen has a tough range to do. We'll see how it goes. But the point remains: Fiat currencies don't work that well, either. What will work better?

I still think a properly designed, well-regulated commodity-supported cryptocurrency is the best option. But it can only work if the authorities allow it. They do not have to ban alternative currencies; Authorities have many ways to make them impractical.

For example, in the United States, the IRS considers Bitcoin to be an "investment." Any change in value between the time you acquire it and the time you use it is a capital gain or loss. Tracking it for every cup of coffee you buy would be a chore. The scales are likely to face the same problem. And speaking of taxes, the tax authorities only accept dollars. You must have enough of them to pay your taxes. Similarly, the government pays millions of workers and contractors in dollars. Ditto Social Security and other benefits. A huge portion of the economy will not spend any weight-like alternative money. This will further limit growth.

These obstacles will eventually fall, but it will not be tomorrow. I think we will see a lot of experimentation over the next decade. New money is coming. We just don't know what it will be.

Throwing the Gauntlet

All that being said, I would not bet that Libra did. While you and I, gentle readers, may be a bit skeptical of our privacy in Facebook's hands, hundreds of millions if not billions of millennials won't even think about it.

And if you're one of the big banks that has been working on a blockchain cryptocurrency? Many do.

Facebook was just the starting gun. And they do the banks with permission to run the regulatory divide first. Will it give Facebook a first mover advantage? Hard to say. Remember MySpace? Not all first movers are created equal.

Will it happen? I certainly think it will. Does it make a big difference for you and me which of the big players (expect many) out there to be the eventual winners? Not really. All we want is less friction or transaction costs. The sooner the better.

Here are some links for those who want a deeper dive. The last two are particularly thought provoking.

* This is an article from Mauldin Economics & # 39; Tanks from Frontline, John Mauldin's Free Weekly Investment and Economic Newsletter. This article was first published here and is used by interest.co.nz with permission.