15 September 2021

Is Facebook’s new cryptocurrency about to upend the global financial system?

By Toph Cottle

Facebook’s proposed cryptocurrency, Diem, is poised to take over the crypto market and change global financial systems for the better. Yet, no one seems to be paying attention. Here’s why you should:

Hours after the announcement of Diem on June 18, 2019, the Chair of the House Financial Services Committee, Maxine Waters, asked Facebook to suspend development of their cryptocurrency project. ‘The cryptocurrency market currently lacks a clear regulatory framework to provide strong protections for investors, consumers, and the economy,’ she said in a statement.

Waters, and the majority of Representatives, had good reason to worry. In 2016 there were 644 cryptocurrencies; in early 2021, there were 4,000. The creation and popularisation of this asset class have quickly taken over financial markets. But here’s the big issue with most cryptocurrencies: They aren’t actually currencies.

Currencies must have four key qualities. A store of value, a unit of account, a standard of deferred payment, and a medium of exchange. Many people have earned immense wealth in Bitcoin, Ethereum, and Dogecoin, but this does not mean they are a stable store of value. Volatility in the crypto market is a severe concern. In one week (May 5-12, 2021), Bitcoin fluctuated between $64,360 and $46,000. Because of this, cryptos are not a reliable store of value, unit of account, or method of payment. ‘It is worth one bitcoin’ or ‘I will pay you back in bitcoin” means very different things depending on when it is said.

One key difference is that Diem isn’t a classic cryptocurrency, it’s a ‘stablecoin’ with it’s value pegged to the dollar. By attaching their value to an existing currency, stablecoins are, well, ‘stable’ – however, they have yet to become major mediums of exchange. Volatility problems give stablecoins a distinct advantage over cryptos. Holding a cryptocurrency tied to the dollar isn’t much of an investment, and before using them, the crypto coins typically need to be traded back into dollars. This liquidity issue makes stablecoins useless until they are universally accepted. Diem has partnered with Visa, Mastercard, Uber, and other major outlets to overcome this problem. Diem will also enable users to send money abroad without costly fees, which will be attractive to Facebook’s many users.

Following Waters’ intervention, Facebook slowed their rollout of Diem to accommodate policymakers. But rather than simply waiting, the social media behemoth also became involved in the law-making process to ensure its future.Two years later, it seems Facebook’s patience is finally about to pay off. Diem is weeks away from launching. 

Congress is still putting the finishing touches on the final rules, but all signs are pointing towards the recommendations of Jerome Powell and Janet Yellen. That is, issuing stablecoins will require a bank charter, approval from the Federal Reserve, and FDIC insurance. In 2020, the proposed STABLE Act also included these rules. In preparation, Diem has partnered with Silvergate Bank in California, giving them the bank charter needed to continue development. The likely regulation specifically focuses on stablecoins, cryptos tied to the value of a government-issued currency like Diem, Tether, and USDcoin. Bitcoin and Ethereum are less concerning to the US financial regulators, because, despite their name, they aren’t actually currencies, and as such, they don’t affect the supply of money.

Diem is also committed to ending the large amounts of criminal activity that occur in crypto markets. Since the inception of decentralized finance, criminal activity has been able to operate without barriers. Elliptic estimates that between 2011 and 2019, 60 to 80% of transactions were from known ‘bad actors’ involved in criminal activity. Diem is committed to working with governments worldwide to help end the amount of crime occurring in crypto markets.

Diem has a great opportunity to become a global currency instantly due to the sheer number of Facebook and Whatsapp users, and their ability to use regulation to crowd out the competition. Certainly, other cryptocurrencies will remain in the market, but for all intents and purposes of a currency, Diem is poised to take over the market.

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Toph is a SOAS University of London and Johns Hopkins SAIS master’s student. He has worked in Kiribati, Madagascar, and The Netherlands with various financial institutions working towards financial inclusion and debt sustainability.

Columns are the author's own opinion and do not necessarily reflect the views of CapX.