How dodgy is digital money?
It has long been predicted that the internet will create its own currency and we’ll no longer need notes and coins. The technology’s there, so why hasn’t it happened?
It has long been predicted that the internet will create its own currency and we'll no longer need notes and coins. The technology's there, so why hasn't it happened?
What is a digital currency?
A medium of exchange that exists only in cyberspace, replacing paper and coins with digital units. Ten years ago, futurologists were certain that digital money would be an inevitable part of the wired world. After all, if you can use the internet to order goods, bid at auctions and download music, why not use it to bypass banks and send each other money?
But it hasn't happened. Instead, the story of digital currencies from DigiCash in 1998 to CyberCash, Beenz and Flooz a few years later has been a tale of failure, thanks, says BusinessWeek journalist Michael Mandel, to the fact that digital cash has been "a solution in search of a problem" these past ten years.
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For the vast bulk of online transactions, credit cards do just fine and also give consumers good legal protection against fraud and error. For extra security, online payment systems such as PayPal, now owned by Ebay, which operate as go-betweens for the bank accounts of buyer and seller, have proved popular too.
Is a digital currency different to electronic money?
Yes. Electronic money (e-money) is essentially a pre-paid form of an existing currency stored on an electronic device, such as a mobile-phone handset or a plastic card containing a chip or magnetic strip. In Japan, e-money is already part of the fabric of everyday life, especially for young, time-strapped professionals, who typically use cash stored on their mobile phones to pay for low-value transactions at convenience stores and street kiosks. The e-cash service exploded after DoCoMo added electronic money transmitters to its latest mobile phone last year.
In the UK we have just started using e-money in the form of the Oyster card. Tube and bus users buy a card and store money on it (you can top them up any time), which they can then use to pay fares (touching a device that debits the money as they enter and exit the transport system). The cards' creators hope they will be able to expand the Oyster card into a popular system that can be used to make many other kinds of small transactions (Hong Kong's Octopus card scheme works like this). This is all very convenient, but it's not a new currency, merely a handy way of spending an existing one.
So how does a digital currency work?
The idea of digital currencies is that they are genuinely new. Users buy units of a digital currency via an exchange system, such as OmniPay, and access their accounts over the internet, using the funds in their accounts to move money to other account holders. The recipient can then either keep the digital currency, or change it back into regular money. E-gold, one of the more successful currencies, says it has about 1.2 million funded accounts and that transactions worth around $1.5bn took place in e-gold in 2005.
All told, there are currently at least a dozen operations offering online currencies including WebMoney and NetPay based everywhere from Russia to Panama. Eight, including E-gold, claim to be backed by actual gold bullion. All take a percentage fee on transactions.
Isn't this system attractive to money launderers?
That's the worry. In countries such as Britain and the US, financial institutions and transmitters of cash (such as Western Union) are legally obliged to keep an eye on their customers and report suspicious activity to the authorities. But E-gold does not fit into the legal definition of a bank, and although its offices are in Florida (and it keeps its gold in London and Dubai), the firm is registered in the Caribbean haven of Nevis.
As a result of the lack of regulation, E-gold has proved popular for cybercriminals and money launderers who want to move big sums of money, says BusinessWeek. For example, an investment scam shut down by the US financial regulator in 2001 used more than 25,000 E-gold accounts. Thieves selling stolen bank-account details on the web (at sites such as Dumpsmarket.com) often use E-gold as their currency-of-choice, as do some paedophile websites. E-gold founder Doug Jackson, an ex-medic who says he started E-gold as a libertarian project to free currencies from government manipulation by tying money back to the gold standard, denies turning a blind eye to such activities. But the US authorities seem unconvinced. On 19th December, FBI and Secret Service agents raided E-gold's offices, although no charges have yet been brought.
What next?
Confidence, or trust, is the key to making any currency work, which is why digital currencies have been so slow to take off and why setbacks, such as that with e-gold, are so serious. No non-traditional bank has yet been able to command the trust that any significant transaction needs which is why, even online, virtually all transactions still begin and end with a bank account denominated in a regular currency.
GoldMoney the trustworthy alternative?
GoldMoney is E-gold's main rival as a gold-backed digital currency, but its self-regulation is much stronger than E-gold's. GoldMoney's holdings of the precious metal are audited annually by Deloitte & Touche, who also make recommendations on security measures. As a result, according to BusinessWeeks Brian Grow, "a number of gold buffs and law enforcement officials see GoldMoney as a reputable alternative" within the digital currency field. The Jersey-based firm is run by James Turk, a precious metals trader and ex-Chase Manhattan banker, who checks the identity of new customers against lists of suspected criminals measures apparently viewed by E-gold as expensive and unnecessary.
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Simon Wilson’s first career was in book publishing, as an economics editor at Routledge, and as a publisher of non-fiction at Random House, specialising in popular business and management books. While there, he published Customers.com, a bestselling classic of the early days of e-commerce, and The Money or Your Life: Reuniting Work and Joy, an inspirational book that helped inspire its publisher towards a post-corporate, portfolio life.
Since 2001, he has been a writer for MoneyWeek, a financial copywriter, and a long-time contributing editor at The Week. Simon also works as an actor and corporate trainer; current and past clients include investment banks, the Bank of England, the UK government, several Magic Circle law firms and all of the Big Four accountancy firms. He has a degree in languages (German and Spanish) and social and political sciences from the University of Cambridge.
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