Virtual communities have proliferated in recent years – a phenomenon triggered by technological
developments and by the increased use of the internet. In some cases, these communities have
created and circulated their own currency for exchanging the goods and services they offer,
and thereby provide a medium of exchange and a unit of account for that particular virtual
This paper aims to provide some clarity on virtual currencies and tries to address the issue in a
structured approach. It is important to take into account that these currencies both resemble money
and necessarily come with their own dedicated retail payment systems; these two aspects are
covered by the term “virtual currency scheme”. Virtual currency schemes are relevant in several
areas ofthe financialsystemand are therefore ofinterest to central banks. This, among otherthings,
explainsthe ECB’sinterest in carrying out an analysis, especially in view ofitsrole as a catalystfor
paymentsystems and its oversight role.
This report begins by defining and classifying virtual currency schemes based on observed
characteristics; these might change in future, which could affect the current definition. A virtual
currency can be defined as a type of unregulated, digital money, which is issued and usually
controlled by its developers, and used and accepted among the members of a specific virtual
community. Depending on their interaction with traditional, “real” money and the real economy,
virtual currency schemes can be classified into three types: Type 1, which is used to refer to closed
virtual currency schemes, basically used in an online game; Type 2 virtual currency schemes have
a unidirectional flow (usually an inflow), i.e. there is a conversion rate for purchasing the virtual
currency, which can subsequently be used to buy virtual goods and services, but exceptionally
also to buy real goods and services; and Type 3 virtual currency schemes have bidirectional flows,
i.e. the virtual currency in thisrespect actslike any other convertible currency, with two exchange
rates(buy and sell), which can subsequently be used to buy virtual goods and services, but also to
purchase real goods and services.
Virtual currency schemes differ from electronic money schemes insofar as the currency being
used as the unit of account has no physical counterpart with legal tender status. The absence of a
distinct legal framework leads to other important differences as well. Firstly, traditional financial
actors, including central banks, are not involved. The issuer of the currency and scheme owner
is usually a non-financial private company. This implies that typical financial sector regulation
and supervision arrangements are not applicable. Secondly, the link between virtual currency and
traditional currency (i.e. currency with a legal tender status) is not regulated by law, which might
be problematic or costly when redeeming funds, if this is even permitted. Lastly, the fact that the
currency is denominated differently (i.e. not euro, US dollar, etc.) means that complete control
of the virtual currency is given to its issuer, who governs the scheme and manages the supply of
money at will.
There are several business reasons behind the establishment of virtual currency schemes. They may
provide a financial incentive for virtual community usersto continue to participate, or create lock-in
effects. Moreover,schemes are able to generate revenue fortheir owners,forinstance floatrevenue.
In addition, a virtual currency scheme, by allowing the virtual community owner to control its
basic elements (e.g. the creation of money and/or how to allocate funds), provides a high level of
flexibility regarding the business model and business strategy for the virtual community. Finally,
specifically for Type 3 schemes, a virtual currency scheme may also be implemented in order to
compete with traditional currencies, such as the euro or the US dollar.
The first case study in this report relates to Bitcoin, a virtual currency scheme based on a peer-topeer network. It does not have a central authority in charge of money supply, nor a central clearing
house, nor are financial institutionsinvolved in the transactions,since users perform all these tasks
themselves.Bitcoins can be spent on both virtual and real goods and services.Its exchange rate with
respect to other currencies is determined by supply and demand and several exchange platforms
exist. The scheme has been surrounded by some controversy, not least because of its potential to
become an alternative currency for drug dealing and money laundering as a result ofits high degree
The second case study in this report is Second Life’s virtual currency scheme, in which Linden
Dollars are used. This scheme can only be used within this virtual community for the purchase
of virtual goods and services. Linden Lab manages the scheme and acts as issuer and transaction
processor and ensures a stable exchange rate against the US dollar. However, the Second Life
scheme has been subject to debate, and it has been suggested that this currency is more than simply
money for online gaming.
Thereafter, a preliminary assessment is presented of the relevance of virtual currency schemes
for central banks, paying attention mostly to schemes which are more open and linked to the real
economy (i.e.Type 3 schemes).The assessment coversthe stability of prices, ofthe financialsystem
and ofthe paymentsystem, looking also at the regulatory perspective.It also addressesreputational
risk concerns. It can be concluded that, in the current situation, virtual currency schemes:
− do not pose a risk to price stability, provided that money creation continues to stay at a low
− tend to be inherently unstable, but cannot jeopardise financial stability, owing to their
limited connection with the real economy, their low volume traded and a lack of wide user
− are currently not regulated and not closely supervised or overseen by any public authority,
even though participation in these schemes exposes users to credit, liquidity, operational and
− could represent a challenge for public authorities, given the legal uncertainty surrounding these
schemes, as they can be used by criminals, fraudsters and money launderers to perform their
− could have a negative impact on the reputation of central banks, assuming the use of such
systems grows considerably and in the event that an incident attracts press coverage,since the
public may perceive the incident as being caused, in part, by a central bank not doing its job
− do indeed fall within central banks’ responsibility as a result of characteristics shared with
paymentsystems, which give rise to the need for at least an examination of developments and
the provision of an initial assessment.
This report is a first attempt to provide the basis for a discussion on virtual currency schemes.
Although these schemes can have positive aspectsin terms of financial innovation and the provision
of additional payment alternatives to consumers, it is clear that they also entail risks. Owing to
the small size of virtual currency schemes, these risks do not affect anyone other than users of
the schemes. This assessment could change if usage increases significantly, for example if it were
boosted by innovations which are currently being developed or offered. As a consequence, it is
recommended that developments are regularly examined in order to reassessthe risks.
From the ECB's Virtual Currency Schemes, aka the "Bash Bitcoin Boondoggle"