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Pick 'n' mix money


(Giles Keating)

In one form or another, e-money is now burning holes in the pockets of thousands of people around the world. Although few of those participating in digital-cash trials have yet realised it, the new money puts into those pockets most of the trading power of a City foreign exchange dealer. Although governments don't yet realise it, once small traders begin to take advantage of the power of their electronic purses then airlines, supermarkets and other big corporations could rapidly become mints, printing their own currencies in competition with the government-issued stuff..

The reasons underlying such developments lie in the ease of electronic transactions, large and small. But the consequences go far beyond the electronic world. As everyone becomes a currency trader, governments will have to pay attention to fighting inflation as never before. And to fight inflation effectively, central bankers may have to worry about the supply of frequent-flyer miles. Here's why.

Most e-cash is carried on smart cards which “fill up” with cash by connecting to a bank over the network. But once full, they swap money back and forth with other cards independently. Because the card is such a safe, convenient store of value, it is only a matter of time before it also begins keeping track of other sorts of tokens. Pay a supermarket with e-cash and the store could easily credit the card with the loyalty points it offers for frequent shoppers. Pay an airline and the card would be charged with air miles. From there, it will only be a small step for the airlines to allow people to transfer miles electronically to another person's account; a mechanic eager to have air miles to take his family on holiday might well value them more than the busy executive who already travels too much on business.

And why should the process stop with supermarkets and airlines? Auto companies already offer points that can be accumulated to use for discounts on cars; stores offer various loyalty schemes. Once these go online - and become transferable - there will be a proliferation of non-bank, private-sector near-moneys.

Here's where the regulatory issues crop up. The most obvious, but least worrisome, is that money is only as good as its issuer. Airlines and even auto companies go broke. That's bad news if you just accepted payment of 50,000 miles on a carrier which goes under. Even if that didn't actually happen, rumours of it could make those miles virtually valueless overnight. Today, similar things happen to accounts in shaky banks and to the currencies of politically unstable countries.

In practice, consumers are probably savvy enough to avoid putting too much trust in Fly-By-Night Airlines; only blue chip companies will be successful in creating near-money. Yet even they might be tempted to do something more insidious than default outright. Suppose an airlines finds that fewer of its miles are being redeemed, because people are busy trading with them on the Net. Then it might become more generous in the number of miles given away per paid flight, thus

gaining a competitive advantage over other carriers. After all, the whole reason for giving away miles is to fill seats, not to create currency.

If the airline puts out too many miles, then there would be a flood of requests to use miles for flights, which the airline would not be able to meet. It would initially have to ration them by making reservations hard to get, and eventually it would probably create “air-mile inflation” by upping the number of miles needed to obtain a free flight.

Nevertheless some - who knows, maybe even most - companies will realise that it is in their long-term interest to maintain the value of their near-money, even if that means ignoring some opportunities to boost market share. These companies will eventually build up a strong reputation, and they will be able to carry on issuing near- money even when others crash. They will come to play the same role in the near- money markets that sound currencies like the Deutschemark, the dollar and the Swiss franc play in real money markets.

Should dollars, Deutschemarks and air miles all become so freely available, governments with shaky records in maintaining the value of their currencies will find it increasingly difficult to issue any notes and coins. Why would anyone want to hold an unstable currency when stable ones are so easily available? Equally, the rationale for Europe's single currency will also disappear, since existing major currencies would be usable day-to- day across the whole continent. And there is no need for all those major currencies to be issued by governments.

Free from political pressure to swell the money supply by easing credit, raising spending and cutting taxes all at the same time, companies may yet prove the most able guardians of value in the currency world. Instead of just printing money to pay for spending programmes that voters want, politicians would have to limit themselves to what their countries can afford. With that threat to motivate them, would anyone be surprised if politicians try to stop e-cash before it forces them to be honest.

Giles Keating is global manager of economics at Credit Suisse First Boston. This article first appeared in “Wired 2.04 UK”.



E-cash: Vapourware in the making


Right now the arguments are at the arcane stage, similar to the Dos and PIP battles that took place in the late 70s when there was still a discussion over which personal computer operating system would be the de facto standard. Dos' triumph allowed the world to disregard Amstrad, Amiga, Macintosh and the DEC Rainbow, settling on one very mediocre operating system. The digital cash combatants liken their struggle for ubiquitousness to the operating system battle, and other 19th and 20th century infrastructure decisions such as railroads, highways, a banking system based on paper money, and the concept of stock markets. Exactly how much room there is for competing electronic cash systems is unclear, but the key issues of privacy and stability as viewed by the consumer, will not be at the centre of most business decisions about the digital cash infrastructure. As with most macro decisions, especially macroeconomic ones, the consumer is viewed as a constituency and individual preferences or rights are considered only when they mesh with

business strategies that contribute to return on investment.

Digital cash is no different. It is true that people need some better way to buy, sell or barter goods in a global society, and that presently this is done in a clumsy and expensive manner. Currency conversions handled through credit cards, for example, are less expensive to the consumer than the bills-for-bills transactions at the local Cambio, because it is cheaper to transact electronically through a credit card. The advent of digital cash will make the electronic transaction even cheaper and will probably put the Cambio out of business.

Less expensive is good for everybody because under a digital cash system the institutions controlling the money will not make less profit - in fact they will probably make more - and the users will get better service for less. The efficiency of electronic money provides the extra profit margin in spite of a lower transaction cost, and the increased frequency of transactions provides the volume needed to increase total profit.

No more paper trails

But money isn't everything; there is also sex and privacy. Everyone in the race today is aware of, and working toward (or away from), the privacy issue and sex depends on privacy in ways that digital cash could easily upset. Today, a worldwide cash economy supports crime of all types, including drugs, weapons, slavery, tax evasion, and every kind of property theft. Entire industries exist because of the ability to do business using untraceable cash. Digital cash could change all this if it makes every transaction traceable. And a world without these predatory systems would have few down sides when viewed by non-criminals.

However, is a system such as David Chaum's DigiCash is used which, through an encryption process makes digital money spendable but not traceable over networks such as the Internet, then the potential for cash-based crime, including kidnapping and extortion, could rise dramatically. It does not take much intuition to conclude that the opportunity for increased crime would be fulfilled by opportunists.

So digital cash is a social evolution, as much as it is a monetary revolution, and the question is whether society is ready to accept a system such as Mr Chaum's which provides total freedom to spend large amounts of untraceable cash.

Banks, which currently enable - and sometimes control - the flow of the world's cash, do not believe in Mr Chaum's system, and Mr Chaum, for whatever reason, has often been unwilling to license his technology to those institutions that want to use it. Banks today, as well as most governments, prefer a totally traceable and accountable system of electronic cash.

The right to privacy?

Relying on evidence of their present spending habits, people worldwide, law- abiding and not, don't want a totally traceable system. But there is probably not much chance of their voices influencing the final decision. It will be the result of many decisions caused by events and circumstances, the way that many decisions caused Dos to become the standard PC operating system.

As usual, the world's governing class is

not dealing with, discussing, or making decisions about this important digital cash issue. On one side David Chaum is the spokesperson for the privacy rights of everyone, whether they are a Mafia boss or Mother Teresa. On the other side of the discussion is every bank in the world and most governments which tend to believe that the most information they have on people the better.

Already in New York, there is quiet debate over how anonymous the electronic tolls should be on the bridges that connect Manhattan to the rest of America. A pre- paid, window-affixed plastic box with a receptor that picks up a signal as a car passes through a toll booth could easily record the time, date and other information as it deducts the amount of the toll from the digital cash held in the chip inside the box. Or it could ignore the details of the transaction, recording only the cash deduction.

If you have an illicit meeting on the other side of the toll bridge, do you want your spouse's lawyer to know how often and when you crossed that bridge? Do you want sex to become even more tangled with money and privacy?

The digital cash solution, therefore, is no solution at all when it comes to making the world a better place. Neither side will effectively improve our quality of life. And each digital cash philosophy has its obvious social drawbacks.

More technology must be implemented. David Chaum's privacy extreme needs to continue to evolve so that our lives are improved in ways not possible today. For example, we do not currently benefit from the unpaid taxes of organised crime, and if technology is to provide us with better lives, then digital cash should be able to provide privacy as well as eliminate the forces in society which benefit, but don't contribute.

Best for you..or them?
It seems that when technology only creates more complicated arguments for the same old postulates - as digital cash seems to be doing - it is not serving us well. Digital cash appears to be not an easy new way of purchasing goods, but a tool to increase profits of the transaction companies, or to make underground business easier. Neither of these scenarios do much for society. Technology must help solve our problems, not raise them to new levels of sophistication, or in the case of digital cash, create an environment in which crime, as well as government oppression, could flourish.

Digital cash in its most recognisable form - a phone card - relies on the promise of the phone company that there will be ample phones which will accept the card, and that the cash value of the card will be redeemable on demand. It is an unquestioned step backwards to the days when individual banks or other institutions printed their own script, with or without the implied representation of a government. The chance of BT not being able to stand behind a few million pounds worth of phone cards is remote, and, while BT is unarguably more stable than many governments around the world, there is no guarantee that the cash value of anybody's digital cash will be secure. The present system, moving along rapidly without any liquidity guarantees, will have failures. Just as David Chaum's encryption method which ensures privacy is mathematically provable, so is the probability of a digital wallet packed with unspendable money representing an issuer that has gone

bankrupt.

Bankruptcy, however, cannot be the norm or the system will not survive. The question of interest earned by the issuer of this digital money will be a critical one, and is one that excites the issuers. The concept is based on the proven profit structure that launched American Express. By offering something called Travellers Cheques, American Express took cash and gave you its own paper, which you spent at your leisure. Until the merchant presented your cheque for payment, American Express used your money. The intrinsic appeal of millions of people giving companies interest-free loans, is not lost on the many companies entering the digital cash arena.

During the last US presidential campaign, the slogan, “It's the economy, stupid,” was the way the Clinton campaign showed the people that the Bush administration was out of touch. Clinton concentrated on pocketbook issues that Americans were concerned about, and this strategy helped him win the Presidency. The digital cash movement is social, stupid, not economic. Unfortunately, money-oriented people, with the exception of David Chaum, are laying the ground rules, and these rules will serve their originators well. In the countries where privacy is not protected, there will be none. Data about people will provide information that will be used by governments and marketeers in an effort to control or persuade individual activities.

Before we get this far, however, permutations of current systems will provide the testing ground for public opinion and government involvement on a country-by-country and culture-by-culture basis. Companies like First Virtual Holdings which use a unique system of verifiable credit-card pin numbers for purchases over the Internet, or CommerceNet which uses encrypted credit card payments, will push us towards the compromises that will be made in security, privacy and low-cost transactions for goods in the global marketplace. They are easy to use and fit easily into the trackable system, we are used to with credit card purchases.

First Virtual pushes the capability of Net- based commerce further by acting as the merchant banker for vendors who sign-on to sell goods. If these vendors do not offer credit card payment already, First Virtual will act as their credit card clearing house, allowing even the smallest enterprise to open for business offering today's best answer for Net commerce, the credit or debit card.

Worth a try
Hypothetically, an unemployed person can sell recipes, or advice, or other information, and make themselves employed without accepting common employment conditions such as leaving the home, getting a babysitter, or commuting to an office.. In this respect, electronic commerce is opening a pure vendor- customer channel unencumbered by social overheads such as the need to wear a tie (or any clothes at all), or by economic overheads such as the need to own a car, buy a bus pass or pack a lunch.

Its purity eliminates discrimination based on the world's favourite criteria: race, gender, religion, sexual orientation, or ethnicity; and places goods in the marketplace based solely on their appeal to the buyer, bypassing a cultural value system which might otherwise prejudice a sale. It could be the first step in a bias- blind socio-economic system, and if it is,

it will be nurtured by the early adopters and not governments or banks or financial institutions.

This article by Louis Thorp first appeared in “Communicate”, May 1996.


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