Private Currencies

This page looks at digital private currencies, internet-based schemes operating in competition to national currencies such as the US Dollar or Yen and distinct from electronic payment mechanisms that use traditional currencies.

     concepts

Private currencies have a long history and have been the subject of enthusiasm roughly every thirty years since the 1850s, timing that we attribute to generational change or the business cycle.

In essence, any individual or institution can issue a private currency that's independent of the national currency and underpinned by contract law (or merely good will) rather than the national powers highlighted at the beginning of this guide. One guru thus quipped that "he who owns a computer not only owns a printing press, but also a mint".

The key challenge is to secure widespread acceptance of the nongovernment money - irrespective of whether it is embodied in paper, on a chip or merely consists of digits in cyberspace. Governments - as libertarian icon Friedrich von Hayek noted in his Denationalisation of Money: An Analysis of the Theory and Practice of Concurrent Currencies (London: Institute of Economic Affairs 76) - tend to have greater suasion than the currency issuer next door who's equipped only with a photocopier or a personal computer. Establishment costs have been high and consumers have been inhibited by what one observer characterises as the "you first syndrom" (the currency version of network externalities): few consumers will seriously engage with 'funny money' until it's in general use and offers clear advantages over the national currency.

As a result, there have been few recent attempts to establish large-scale private currencies that are fully negotiable and that aren't restricted to customers of a specific business, participants in an industry sector or members of an affinity group or geographical region. Most private currencies offline have been quite restricted -

'frequent flyer' or 'air miles' loyalty schemes run by specific airlines and not convertible into cash or negotiable outside that business

Disney Dollars and other coupons used instead of national currency within a particular precinct

consumer loyalty tokens such as trading stamps, offering delayed discounts on goods from retailers and not recognised by financial institutions or businesses that don't participate in the particular scheme

transaction card based incentive schemes, such as Flybuys in Australia, that reward use of a particular card/account (and have largely supplanted trading stamps in many countries, despite efforts by US trading stamp issuers to rebadge their operations, with S&H Green Stamps repackaged as Greenpoints and Gold Bond stamps similarly refashioned as Goldpoints. )

barter-style community currency schemes on the LETS (Local Exchange & Trading Scheme) model - concerned with local services and not intended for redeption outside the particular community - or internet-based schemes such as the defunct US Lassobucks.com

Academic interest has centred von Hayek's notion of competing private currencies, claimed to be less susceptible to debasement or other manipulation by government that he attributed to inflation and depression. The chief executive of Australia's central bank somewhat tartly dismissed that notion as an academic exercise -

these proposals really belong in the world of technical curiosities. They can be argued to work in theory, but the fact is that there is no working example of such a system anywhere in the modern world ... [with] proponents describing something that is either not workable ... or something that is much more radical than most people would be prepared to accept.

     the schemes

The 1990s saw promotion of a range of private currencies that were promoted as a unique "global digital currency", "the first web currency" and "a new kind of money for safe online transactions".

That reflected claims that

the real questions are not whether there will be digital money, but how long will it be before most paper currency and coin is eliminated, what portion of digital money will be issued by private institutions, as against governments and central banks today, and how much of that will be gold. Digital money will eventually become the dominant form of money because it is less costly to handle than cash, cheques, or credit cards, and it is more secure and efficient.

It also reflected perceptions that consumers were eager to engage in B2C, particularly across national borders, but were fundamentally inhibited by credit card fees, currency exchange costs, uncertainty about exchange rates and anxiety about online fraud. We've suggested elsewhere on this site that the strength of those inhibitions was overstated (and is changing as the online population normalises).

The new digital currencies were independent of government - a major attribute for some promoters and consumers - and weren't recognised by major financial institutions. They were thus distinct from stored value cards or other schemes that used existing currencies such as the Deutschmark. Most were designed for use online only. Several were explicitly promoted for use as an international currency in transborder electronic commerce (no conversion fees, minimal establishment and administrative charges, no restrictions on currency flows).

In practice, start-ups such as Beenz.com, Flooz.com, E-gold and Goldmoney.com and noncommercial initiatives such as MojoNation haven't moved beyond serving as online trading stamps or the passports issued by self-declared principalities. They are useful in conjunction with a specific promotion, service or vendor but in most cases didn't gain the necessary recognition from consumers or businesses. And after considerable angst among central banks and other currency regulators midway through last decade, they consequently appear to be causing less concern to government.

     Beenz and Flooz

Beenz.com for example was founded in March 1998 but folded two years later. Competitor Flooz.com commenced in September 1999 but expired along with Beenz. The groups had expanded from the UK and US to employ around 500 staff in 27 offices across the globe.

They were conceived as internet micropayment schemes. Etailers initially provided consumers with the new currency as a reward for purchases (akin to traditional trading stamp and electronic loyalty schemes such as frequent flyer miles). The promoters also freely distributed some of the new currency, both to gain publicity and to ensure that there was enough currency in online circulation to secure the interest of etailers.

Consumers could use that money to purchase goods/services from the issuing etailer or from another entity that accepted the currency. Money in the currency could be transferred online from one member account to another, but its negotiability was restricted. Customers did not have the right to convert the digital money into traditional currency at the issuer. It wasn't recognised by banks and wasn't convertible into other virtual currencies. Consumers weren't entitled to "any compensation of any kind" if the currency issuer suspended operations.

The demise of Beenz highlights problems when the currency issuer goes belly-up (a circumstance that's more likely than the national repudiation of sovereign debt or destruction of a currency's value). With the writing on the wall Beenz.com told holders of its currency that they had 10 days to spend their beenz money. Most beenz-accepting etailers thereupon refused to accept the currency, as beenz.com would no longer convert it into cash.

That was particularly painful for consumers holding large amounts of beenz: like participants in airline frequent flyer or other loyalty schemes they found that when the issuer expired they were left holding ... nothing. (Holders of Tsarist of Confederate government bonds or shares in exotic railways at least had a colourful document for recycling as wallpaper: you can't use a digit in your harddrive to exclude the wind, paper the holes in your shoes, wrap garbage or build a kite).

Legislative and business responses varied. Germany's 1999 and 2000 electronic commerce legislation has been construed as prohibiting use of digital private currencies by that country's retailers. In the UK, where the government had repealed the Trading Stamps Act 1964, there were suggestions that a new cybermoney enactment would be necessary. The earlier Act, like other consumer protection measures in Australia and the US from the 1950s, had regulated issue and advertising of trading stamps. They were required to be redeemable for cash, with clear identification of their cash value and the issuing company.

     goldbugs

Other digital private currency schemes claimed to be backed by gold or, even more dubiously, to enjoy special protection because the servers were located in the Carribbean islands.

E-gold is characterised as "gold itself, circulated electronically ... the ultimate worldwide free market currency" acessible from your personal computer or mobile phone:

100% backed at all times by gold bullion in allocated storage. Other e-metals are also issued: e-silver is 100% backed by silver, e-platinum is 100% backed by platinum, and e-palladium is 100% backed by palladium.
... e-gold is always as good as the gold it's backed with - this year, next year, a thousand years from now.
... e-gold is entirely backed by a physical commodity rather than debt or other financial instruments; therefore, e-gold is the only currency in the world free of financial risk.

E-gold was reported as having around US$5.47 million in revenue, US$16 million in gold and 114,000 accounts in 2000 (compared with PayPal's US$100 million revenue, US$1.5 billion transactions and 17 million customers).

Other gold schemes include GoldMoney, E-Bullion ("Send us your gold coins, bars & bullion and we'll convert them to international E-Bullion™ currency"), 3PGold, OSGold and e-Dinar. The latter has attracted attention over claims that it's used - or merely might be used - by Islamic terrorists, although traditional currencies seem to be just as popular.

The World Gold Council, understandably, was cautiously optimistic about anything that would encourage consumption of the shiny stuff, releasing a report on Digital Money & Its Impact on Gold (PDF) that commented

the costs of using digital gold will need to be competitive in comparison with other payment methods, such as credit cards, bank transfers, and alternative digital payment methods, and there will need to be an increase in the availability of liquid gold debt instruments in which to invest. The success of companies who enter this market will depend on their ability to design and market digital gold products that meet the needs of consumers, businesses and investors to a greater extent than current systems.

That's consistent with Peter Bernstein's crisp account in The Power of Gold: The History of An Obsession (New York: Wiley 00) of popular responses to the shiny stuff. A 1999 article by Michael Swaine, noting the enthusiasm of some fringe political groups for alternative currencies commented that

E-gold is more like a banking system - I think. But it's a banking system for people who consider existing banking systems a fraud and an invitation to disaster because there is nothing real backing the bank notes and other tokens of value in circulation. This system is backed by gold.

...which matters greatly to some people. Perhaps it should matter to me, but I don't see why. I freely admit that I have no idea why anyone should want to use this particular metal as a fundamental basis for value in all exchanges of goods and services. What this service does suggest to me, though, is that we may before long have competing currencies that reflect the politics or paranoia of the spender. Sort of like having "Save the whales" printed on your checks, only more so.

     the new political order?

The following year Rich Karlgaard in Forbes Magazine asked

Where do you store your wealth? As much as I like the American dollar, I like American private currencies even more. I trust John Chambers and Scott McNealy to do the right thing and to treat my wealth with respect more than I trust [US Treasury Secretary] Larry Summers to do the right thing.

Experience with major corporations such as Enron and WorldCom (and with their accountants/auditors) suggests that trust in individual businesses to provide a stable currency long-term might be misplaced.

A 2001 profile in Wired, with characteristic hype, commented that

Finding bits of 141 bars of gold circulating on the Net is a little like a coelacanth, a financial fossil come to life. Don't be fooled. E-gold is hotter than plutonium.

... if the Internet is going to become the engine of global commerce it's cracked up to be, it needs a currency it can call its own - a currency as nonproprietary and international as the Internet itself. "And gold seems to be the logical candidate," he says, "because after all, that's gold's traditional role. It's international money."

But if gold does good things for the Internet, says [GoldMoney entrepreneur] Jackson, the Internet does even better things for gold. E-gold isn't your great-grandfather's gold standard. It's new and improved, Jackson argues, fortified by the rigor of free-market discipline and the openness of digital networks. And if you think that's no big deal, well, Jackson - a 45-year-old former oncologist and entirely self-taught economist - would like you to know that his invention represents "an epochal change in human destiny" and "probably the greatest benefit to humanity that's ever been thought of."

In promoting "peer-to-peer finance with nanobucks" Kevin Kelly's Out of Control: The New Biology of Machines (London: Fourth Estate 94) trilled -

e-money will break the monopoly of financial Brahmins. ... All manner of clever financial instruments will surface once the masses can drink from the same river of electronic money as the pros. ... The law of the Net is: he who owns a computer not only owns a printing press, but also a mint, when that computer is linked to e-money. Para-currencies can pop up anywhere there is trust (and fail there, too).

US libertarian J. Orlin Grabbe's 1999 Smart Cards and Private Currencies explained that the target was both Big Brother and the Brahmins -

the whole objective is to denationalize money, to decentralize it, to put it beyond the control of regulatory authorities who operate to maintain a government or central banking monopoly, to create mobile network banks that do not become sitting targets for Big Brother information collectors, to distribute private currency operations in such a way that they can be said to exist in no single political or legal jurisdiction — or for that matter cannot be said to exist in any jurisdiction. Electronic monetary transactions will take place out there, somewhere in cyberspace, unobserved by third parties. The intent is to deliver an honest service at an honest price, and to give the user of the system complete privacy.

We've suggested elsewhere in this site that privacy, trust, 'honest prices' and transparency are interrelated. Irrespective of notions of social responsibility (with taxation paying for community goods and the infrastructure so enjoyed by the cyberselfish) it's unclear whether a currency scheme based on "complete privacy" and unadulterated by government involvement would be viable on a global scale. Some reports have suggested that between five and ten percent of Beenz in circulation were fraudulently obtained.

An enthusiast for the Murabitun sect's Fatwa Concerning the Islamic Prohibition of Using Paper-Money as a Medium of Exchange asked

You want to be radical? You don't need to blow up the bank, just burn your bank account. For that you need an alternative. What is the alternative? E-dinar.

In practice the currencies don't appear to represent a major advance on traditional retailer and airline loyalty schemes (which added a few 'points' to every time the consumer made a purchase).

     Studies

There have been no comprehensive studies of the digital private currency schemes, perhaps unsurprising given their quick arrival and even quicker departure.

Particular legal issues are highlighted in The New Virtual Money: Law & Practice (New York: Kluwer 99) by Olivier Hance & Suzan Dionne Balz. For banking and inflation concerns see the 1996 Bank of International Settlements' Implications For Central Banks of the Development of Electronic Money (PDF), Mark Bernkopf's 1996 Electronic Cash & Monetary Policy article and other resources highlighted earlier in this guide.

Funny Money: In Search of Alternative Cash (London: HarperCollins 99) by David Boyle offers a tour - for us overly indulgent - of private currency schemes. He edited the entertaining collection of comments from the likes of Ezra Pound and US populist Ignatius Donnelly (otherwise famous for claiming that the earth was hollow, with entry points at either Pole ... so convenient for parking one's flying saucer) in The Money Changers: Currency Reform from Aristotle to E-Cash (London: Earthscan 02).

John Matonis' 1995 Digital Cash and Monetary Freedom paper and Richard Rahn's The End of Money - And The Struggle for Financial Privacy (Discovery: Seattle 99) highlight libertarian attributes of digital private currencies, at their worst a mix of survivalism and the freedom not to pay taxes. Adam Mikkelsen's 1999 paper on Electronic Money & the Market Process - How Digital Developments are Opening New Frontiers for Liberalism comments that

Perhaps the most exciting aspect of digital cash is the potential for it significantly to reduce the ability of governments to collect tax. If individuals are paid in anonymous and encrypted digital cash, without the need for intermediary banks, declaring transactions conducted using digital cash to the revenue, and the income derived from them, becomes essentially voluntary. Unless government had access to all phone lines, and to the decrypted information contained on each hard drive of the computers in a particular jurisdiction, it would be difficult to tax income derived in digital cash, particularly income derived from assets held or services performed offshore

Two perspectives are provided by Harold Fox's The Economics of Trading Stamps (Washington: Public Affairs Press 68) - considering debate in the US since the 1930s about competition policy, consumer protection, inflation and other concerns - and Barry Eichengreen's superb Globalizing Capital: A History of the International Monetary System (Princeton: Princeton Uni Press 96).

There have been no major public studies of claims that most digital gold accounts relate to online game activity and that enthusiasm has been exploited by ponzi schemes such as E-Biz Ventures ("returns of 40% to 100% in seven to ten days" using the digital metal).

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