Libra, Facebook’s digital currency, is focused on helping the world’s poor and unbanked.
So Facebook should know that in an economic crisis, the poor are the most vulnerable. They’re barely surviving on what they earn. If their earnings shrink even slightly, they’re in deep trouble. And they can’t ask banks for loans or friends for financial help.
If Facebook truly wants to help the poor, it has to do more than give them access to fundamental banking and payment services. It also has to protect their businesses and savings when economic turmoil hits.
Frankly, I don’t see how Libra will accomplish this. Here’s why.
Travel back in time with me to 1997. I had a flourishing business in Indonesia bringing in products and technology from the U.S. for both businesses and consumers. Then the Asian financial crisis hit. And 95% of my business clients shuttered their companies. The rupiah – Indonesia’s currency – crashed, ultimately losing 85% of its value. My customers stopped buying from me and began the more important battle of surviving.
Individual consumers could no longer afford American goods. Businesses could no longer pay off their dollar-denominated loans.
In less than a month, I was stuck with warehouses full of goods that nobody could pay for. It was a lost cause.
I quickly pivoted my business to focus on Indonesia’s oil and gas industry, where both earnings and debt were in U.S. dollars. My business survived.
Now imagine if Libra had existed in 1997. Indonesian entrepreneurs used it to facilitate payments and access loans, but their customers didn’t use it. Those businesses would still be in trouble because their loans would be in a currency that was still tied to a bucket of global fiat currencies (the dollar, pound, euro, Swiss franc and yen). So the loans would be just as difficult to pay off with a rapidly depreciating rupiah. It’s a repeat of the dollar scenario that actually happened.
Let’s change the scenario a bit and assume half of those entrepreneurs’ customers used Libra for all or most of their transactions. These businesses would still be in a catastrophic situation. If the vast majority of sales were conducted in Libra, then customers using the rupiah (the other half) would no longer be able to afford them. Businesses would have to nearly double their Libra sales to maintain their level of revenue. That works only with incredibly big profit margins or very modest amounts of debt.
We have to think about these situations. Economic crises like this haven’t been banished from the planet. Facebook can talk all it wants about bringing the world’s unbanked in from the cold. But can it protect them from the next round of economic crises? If not, what’s the point?
The Good and the Bad
There are numerous possible Libra scenarios – both good and bad – that need to be considered. One scenario that shouldn’t be dismissed is that instead of creating a measure of economic stability, Libra could plunge countries into economic chaos and perhaps civil turmoil.
Take my experience in Indonesia. As a businessman, it was a nightmare. But as an American spending U.S. dollars for hotels, food and everything else, it was ridiculously cheap. The suit that cost me $1,000 a month prior cost only $200 after the crisis hit. I was literally paying $0.25 for a pack of cigarettes.
While that was good for me and the small community of expats who lived in Indonesia, it was terrible for the local population.
So imagine if half of today’s Indonesian population did its business and shopping in Libra when a 1997-like economic crisis hit.
Half of the population would be protected from a rapidly depreciating local currency. But half wouldn’t. Indonesia could have a civil war on its hands. The Libra haves against the Libra have-nots.
This isn’t an extreme or unlikely scenario. Indonesia experienced massive and violent riots in 1998 that could be directly traced to the economic crisis. The streets of Jakarta resembled a war zone.
Also, the countries of the fiat currencies to which Libra is tied aren’t immune to economic crisis. As we’ve pointed out many times, these countries have taken on enormous debt. A reckoning of some sort is bound to take place sooner or later.
Too Early for a King
Facebook deserves praise for wanting to help the world’s 1.7 billion unbanked people. But it’s too early to crown Libra king. Libra is not a panacea for the world’s economic problems. Libra may be a digital coin, but it comes from, and is tethered to, the world of fiat currency and legacy banking. So it comes with all the accompanying problems.
I’ve witnessed up close what it’s like to put debt in one currency and earnings in another. Indonesians loved the dollar until it decimated their economy.
Libra is an ambitious and overhyped business endeavor. It could make the world a slightly better place. But if we’re not careful, it could also make it a lot worse.
Co-Founder, Early Investing
P.S. We’ll be out celebrating the Fourth of July holiday tomorrow, so we won’t send our usual Thursday First Stage Investor article this week. But we’ll be back in your inbox as usual starting Friday.
Source: Early Investing