Are On-Line Currencies Virtual Banknotes?

Stephen F. Quinn and William Roberds
Economic Review, Vol. 88, No. 2, 2003

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The history of money is marked by innovations that have expanded the role of "inside money"—money created by the private sector. For instance, the past few years have seen the development of several types of on-line payment arrangements, some of which have been dubbed "on-line currencies."

This article examines the likely success or failure of on-line currencies by means of a historical analogy. The discussion compares the introduction of on-line currencies to the debut of the bearer banknote, the direct predecessor to modern currency, in London in the late 1600s.

The key innovation of the earliest banknotes, the authors argue, was to provide final payment under circumstances in which extant payment systems could not. The discussion considers how on-line currencies may be able to fill the same role in the context of e-commerce.

The authors note some conspicuous similarities between on-line currencies and physical banknotes. Both payment methods emerged to meet the need to conduct remote transactions (via the Internet or across physical distance), both face the risk of buyer-side fraud, and both have responded to the need for a new payment technology to allocate this risk. The authors stop short of calling on-line currencies "virtual banknotes" because it remains to be seen whether on-line currencies will gain sufficiently widespread acceptance to become a circulating medium of exchange.

June 2003