Libra book cutting room floor: Previous basket-based currencies

Facebook’s Libra 2.0 plan moves away from the main on-chain currency being the Libra token backed by a currency basket, to their fall-back national currency stablecoin plan, where the “Libra” is calculated in real time from the national stablecoins. And the new version won’t include the Singapore dollar.

This means that for the prospective Libra book, I probably won’t have to add a short history of currency baskets before I can talk about why the  original plan for the Libra reserve was ridiculously terrible.

This is just as well, ‘cos I couldn’t quite work out where to put the fragment below. But I did this homework — mostly cribbing my references from the illustrious J. P. Koning — so you may enjoy it anyway.

Please comment with any corrections — I might end up using this stuff somewhere!

I haven’t been blogging so much because I’ve been trying to write book words — where 200 book words is about as much work as 1000 blog words. I’m tweeting word counts daily — feel free to cheer me along. [Twitter]

 

 

Previous basket-based currencies

With the end of Bretton-Woods in 1971 — the final collapse of the gold standard — major currencies started floating in value against each other.

This caused problems for international financial markets — they couldn’t reliably price long-term bonds in foreign currencies. Multiple organisations, public and private, came forward with basket-based artificial currency units.¹

The International Monetary Fund (IMF) launched the Special Drawing Right (SDR) in 1969, to compensate for a shortage of international liquidity due to tight US monetary policy — it was a paper substitute for gold. The SDR was created with a value of one dollar, or 0.888671 grams of fine gold.

When the gold standard was finally abandoned, the SDR’s value was calculated as a basket of currencies. The SDR’s basket is reviewed every five years; since October 2016, the SDR has been 41.73% US dollar, 30.93% euro, 10.92% Chinese yuan, 8.33% Japanese yen and 8.09% pound sterling.

The SDR is a way of keeping the accounts for a reserve — not a currency as such. The IMF and the Bank of International Settlements (BIS) give all their accounts in SDRs — though BIS used to use 0.29032 grams of fine gold as its unit of account. Some international agreements state financial limits in SDRs, such as the Convention on Limitation of Liability for Maritime Claims.²

The European Unit of Account (EUA) was first defined by the European Payments Union in 1950 as 0.888671 grams of gold — one dollar — and first used outside the EPU in 1961, when Kredietbank Luxembourgeoise issued a bond denominated in EUA.³ The EUA switched in 1975 to a basket of currencies from the European Economic Community. The EUA was replaced by the European Currency Unit, another basket, which in 1999 became the euro — a proper stand-alone currency.

Private currency baskets in the 1970s included the Eurco for European bond issues, the Arcru (Arab Currency-Related Unit) for oil-producing countries in the Middle East, Barclays’ B-Unit for international commercial transactions, and Crédit Lyonnais’ International Financial Unit (IFU). None of these ever had much uptake, and none exist now.

Libra seems to be the first proposal to use a basket-calculated unit of account as the actual currency.

There’s an issue of demand here — we’ve had internationally-recognised currency baskets since the SDR in 1969. In that time, nobody has started a currency based on SDRs, businesses don’t trade in SDRs, and banks don’t offer accounts denominated in SDRs — the one attempt at such a banking product, by Chase Manhattan in 1975,⁴ failed for lack of customer interest, when the dollar got stronger.⁵ The private basket currencies all failed as well. The synthetic unit that survived is the one that transmuted into the euro, an ordinary general currency.

It’s not clear that anyone wants a basket-based currency — any more than they learn a synthetic international language to do business (such as Esperanto), instead of whichever natural language is most useful at the time (such as English). Libra may have miscalculated market demand for such a thing.⁶

Libra’s basket is roughly in the proportions of the SDR as of 2019 — but with the Singapore dollar, and without the Chinese yuan. (Libra told the US Senate Banking Committee in September that it would not include yuan in its basket.⁷)

The Singapore dollar is not quite a fiat currency — it’s fully backed by a reserve of assets, held as a basket of various currencies, maintained by its central bank, the Monetary Authority of Singapore (MAS). The MAS’s goal is to keep the exchange rate as stable as possible compared to Singapore’s main trading partners — given that Singapore is a tiny country, whose gross imports and exports are more than three times GDP.⁸

The Libra Reserve would need to be managed very like the Singapore dollar. Libra has a similar goal of maintaining steady and predictable exchange rates.

The Singapore dollar is small, and not very liquid on foreign exchange markets — it’s a strange choice for the Libra basket.

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3. Ivo Maes, Ilaria Pasotti. “The European Payments Union and the origins ofTriffin’s regional approach towards internationalmonetary integration.” NBB Working Paper, No. 301, National Bank of Belgium, Brussels, 2016.