October 15th, 2009
Courtesy of The Guardian, a report on the continuing development of the economies of virtual worlds and social networks. As the article notes:
“…Virtual currencies like these are used for transactions in online worlds and social networking sites. While real-world currencies are on the slide, many virtual ones are going from strength to strength. In the second quarter of the year the equivalent of $144m (£91m) was traded on the LindeX, the official currency exchange of Second Life, where residents buy and sell Linden dollars for their US counterpart – a 20% increase on the previous quarter, while the US economy shrank by 1%. Trading activity increased by 6% in the last quarter of 2008.
“New ideas about money are beginning to evolve,” says Dave Birch, a director of Consult Hyperion, a management consultancy that specialises in electronic transactions. “You’d have a tough job convincing me that the pound is any more ‘real’ than World of Warcraft gold. Where is your starting point? The UK hasn’t had a gold standard for the past three generations.”
Old money, new money
It’s not the first time that virtual currencies have been mooted as the future of online payments. Several were launched in the late 1990s; but the likes of Beenz and Flooz were doomed to failure, suffering fraud and lack of consumer interest.
Lisa Rutherford, president of Twofish, which manages virtual economies for social, gaming and entertainment services, says the online landscape has changed. “If you’ve going to do a large-scale universal currency, you need to have a certain level of scale, and it needs to be serving a certain purpose. That’s really what the fundamental shift has been.”
Massively multiplayer online games have long featured complex virtual economies where players can purchase items and skills for their avatars. In Second Life, US dollars can be converted into Linden dollars and vice versa through channels in the virtual environment. Eve Online, however, operates a closed system: ISK brought by the player can only be used in the virtual environment, and conversion into real-world currency is prohibited.
Users caught breaching the rules are banned, but a black market has developed nonetheless; a Google search for “Eve ISK” lists hundreds of websites selling it along with other virtual currencies.
Eve Online’s economy is now more or less player driven, says Eyjólfur Guðmundsson, a PhD economist who works for Eve Online’s developer, CCP. “It is simply monitored by us just like any other economy in the real world is by a central bank, finance minister or national economic institute.”
Without careful oversight, cash can accumulate in the system, causing inflation. Linden Lab uses several controls to keep the exchange rate in Second Life relatively stable at about 265 to the US dollar. These include the pricing and promotion of various “sinks”, such as the cost of uploading content or posting classified ads, which remove currency from circulation. The volume of new Linden dollars available for purchase can also be adjusted.
Second Life’s European residents pay VAT on some purchases in order to comply with EU tax regulations, and virtual economies could also be subject to further taxation in future.
“The controversy is whether taxable income is in fact created at the point when you obtain the virtual assets,” says Vili Lehdonvirta, a researcher at theHelsinki Institute for Information Technology who studies virtual economies and goods.
Despite careful oversight, even virtual worlds are not immune to financial chicanery. Allegations of a massive theft recently started a run on EBANK, which handled deposits in Eve Online’s ISK currency. One of the bank’s founders was accused of stealing about 250 billion ISK, exchanging it for £3,115. A similar incident in Second Life led Linden Lab to prohibit residents from offering interest or any direct return on an investment without proof of “an applicable government registration statement or financial institution charter”.
Lehdonvirta expects to see further regulation of virtual banking. “This is the direction it needs to go in the future if these virtual currencies are to be used as a serious platform for commerce,” he says.
While some entrepreneurs keep a significant balance in their virtual accounts, most people have a relatively small amount stored online. “For example, while Second Life residents hold roughly $25m in Linden dollars, this is spread across millions of accounts,” says Tom Hale, chief product officer at Linden Lab.
Big in China
By comparison, China has taken to virtual currencies in a big way. Last year nearly $2bn of virtual money changed hands in the country, according to the China Internet Network Information Centre. Most virtual currency is spent on virtual items, but Chinese consumers also use it to purchase physical goods and services – a practice the Chinese government recently clamped down on.
Social networks have also launched their own currencies. Facebook credits can be used to buy virtual gifts – such as cupcakes, toys and flowers – from the Facebook Gift Shop. Select developers may soon be able to incorporate Facebook credits into their games and applications, with Facebook getting a cut of the profits. Business Week recently reported that Zynga, creators of the Mafia Wars Facebook game, could make $100m from its virtual offerings this year, mostly from Facebook sales.
Startups such as Jambool and Spare Change have launched virtual currencies that are interoperable across a range of games, applications and social networks, but Twofish’s Rutherford believes only a company of Facebook’s size can deliver the “brand promise” that would give a universal currency widespread appeal. Hale thinks that eventually there will be “a few dominant virtual currencies that by dint of their size become exchange currencies, just as the US dollar is to the global economy today”.
With faith in real-world currencies shaken by the financial crisis, perhaps virtual ones will find a more receptive mainstream audience in future.”
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