Libra Has a Flawed Crisis Model, Says Ex-IMF Economist

Libra's revised whitepaper resembles clearinghouse certificates that the U.S. used to prevent bank runs before the Federal Reserve was created, a former IMF economist says.

AccessTimeIconApr 28, 2020 at 6:00 a.m. UTC
Updated Sep 14, 2021 at 8:33 a.m. UTC
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A former senior policy adviser to the International Monetary Fund (IMF) said libra's ill-defined relationship with the Federal Reserve has pushed those behind libra to adopt emergency protocols similar to the ones the U.S. ditched more than 100 years ago.

American economist Barry Eichengreen, who was an IMF policy adviser in the late 1990s, said in a blog post Saturday with fellow academic Ganesh Viswanath-Natraj that emergency protections found in the revised libra white paper were similar to the clearinghouse certificates the U.S. used to prevent bank runs prior to the establishment of the Federal Reserve in 1913.

It isn't obvious whether the Fed would step in to help the proposed currency in an emergency to act as a lender of last resort, write Eichengreen and Viswanath-Natraj. Libra's white paper instead proposes the network operators could issue "redemption stays" to prevent funds being taken out of the Libra Reserve – the reserve of real assets that underpin libra's value – or charge additional penalties to those still wanting early redemption.

"Financial historians will recognize these devices for what they are. They resemble the clearinghouse certificates issued by bank groups in the U.S. in the 19th century in response to bank runs and financial crises," say Eichengreen and Viswanath-Natraj.

Beginning in the 1850s, the U.S. relied on a network of privately owned clearinghouses to prevent bank runs through issuing loan certificates. The idea was these would act as a form of quasi-currency that could take over as a means of payment when market confidence in notes issued by a single bank hit rock bottom.

But as Eichengreen and Viswanath-Natraj argue, this private clearinghouse system "created a situation where not every dollar was as good as every other dollar. It was this unsatisfactory state of affairs that led to the establishment of the Federal Reserve System in 1913."

It appears Eichengreen and Viswanath-Natraj believe libra's emergency protocols could simply be a stopgap until such time as a clearer relationship with the Fed is defined. They cite parts of the libra white paper that say an unspecified "third-party administrator" could be brought in to provide emergency liquidity in a crisis.

But that all depends on whether the Fed chooses to support libra. Eichengreen and Viswanath-Natraj argue that "the authors of the [white paper] have doubts about whether the Fed will be a compliant lender of last resort to the market in LibraUSD."

Libra's revised white paper, released earlier this month, dropped the original plan to launch one digital asset that would be pegged to a basket of 30 fiat currencies in favor of issuing a handful of stablecoins each pegged 1:1 with a different fiat currency.

The change was a major concession to the politicians and central bankers who said libra could become a rival to the currencies issued by governments.

Eichengreen and Viswanath-Natraj argue there are still unanswered questions to how libra could affect monetary sovereignty. "If residents of another country shift into LibraUSD, that country’s central bank will lose the ability to earn seigniorage. It will lose control of monetary conditions. It will lose the ability to backstop local financial markets," the blog post reads.

Neither libra nor Eichengreen responded to requests for comment by press time.


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