USING E-CASH IN THE NEW ECONOMY: AN ECONOMIC ANALYSIS OF MICROPAYMENT SYSTEMS

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 USING E-CASH IN THE NEW ECONOMY: AN ECONOMIC ANALYSIS OF MICROPAYMENT SYSTEMS Mchelle Baddeley Gonvlle & Caus College and Faculty of Econocs and Poltcs, Cabrdge, UK b150@ca.ac.uk ABSTRACT The growth of electronc coerce s dependent upon the eergence of effectve electronc payent systes. Whlst payents for large purchases can be ade relatvely easly usng credt/debt cards, sall-scale electronc coerce s constraned by the lted nature of exstng e-cash (or cropayents ) systes. Ths paper outlnes the evoluton of electronc payent systes, leadng to an analyss of the essental characterstcs of e-cash, and croeconoc / acroeconoc plcatons of the developent of e-cash. Fnally, the key characterstcs of successful electronc payent nnovatons are analysed usng bnary dependent varable estaton technques on data derved fro the Electronc Payents Systes Observatory (epso) database. Keywords: e-cash, cro-payent systes, e-coerce 1. Introducton Electronc coerce s growng at an ncreasng pace and fnancal nstruents are adaptng to the ncreased volue of spendng takng place over the Internet (Econodes, 001). Untl now, ost buyers have used credt arrangeents or checkng accounts as the prncple eans of payng for Internet purchases. There s however, a 'prce ubrella' underneath credt-card transactons that akes the an excessvely costly fnancal nstruent for low-value purchases (Rvest, 1998). Gven the transactons costs nvolved wth card transactons, the opportunty gap that reans n ters of e-oney products les n developng a popular alternatve to conventonal cash as a convenent way to ake sall payents ( cropayents 1 ). For any Internet transactons, electronc cash (ecash) could provde a potentally superor substtute for conventonal onetary nstruents. Most exstng electronc sall payents schees are n essence account-based systes edated by ddlepeople, n practce n uch the sae way as a bank or credt nsttuton acts as a fnancal nteredary. Accountsbased payent echanss lack soe of the key characterstcs of conventonal cash, e.g. coplete anonyty and low transactons costs. Fnancal cryptographers are atteptng to harness the lower coputatonal and/or adnstratve transactons costs of electronc payents schees n order to devse an effcent electronc cropayents schee whlst retanng n electronc cash the vrtues of conventonal cash (e.g. n ters of securty and anonyty) and soe of the coputatonal and techncal dffcultes have been overcoe (van Soeren, 001, van Soeren et al., 003). But attepts at a practcal pleentaton of e-cash systes have et wth lted success because logstcal probles rean; to soe, the wdespread adopton of e-cash systes sees to be a dstant prospect (Odlyzko, 003). Ths paper begns wth an analyss of deas about the evoluton of oney, appled to odern fors of electronc oney systes. Then the characterstcs of electronc cash relatve to conventonal oney and other electronc payent systes are outlned followed by an exanaton of the potental croeconoc and acroeconoc plcatons of e-cash systes. The evoluton of electronc payent systes wthn the real world s analysed usng data derved fro the Electronc Payents Systes Observatory (epso), whch s run by the European Central Bank (ECB) as part of ts ontorng role. These data are used n a bnary dependent varable analyss of the characterstcs of successful electronc payent servces. The paper concludes wth the observaton that whlst e- cash systes have the potental to change onetary systes by drectly atchng buyers and sellers n exchange, there s stll a long way to go n developng effectve and extensve e-cash systes. And the further evoluton of wdely accepted systes wll requre the co-operaton of governents, central banks and busness. 1 Mcro-payents systes are defned as e-payent solutons that allow for payents up to 5 Euros (Carat, 00). Page 39

Baddeley: Usng E-Cash n the New Econoy: An Econoc Analyss of Mcropayent Systes. Defntons of electronc oney In understandng the evoluton of electronc oney, t s useful frst to defne electronc oney and then to exane soe of the specfc characterstcs of e-oney n general and e-cash n partcular. Fullenkap and Nsoul (004) argue that one of the puzzles surroundng the evoluton of electronc oney has eerged because of confusons over ternology and defntons. Ths pont s recognsed by the Basel Cottee of the Bank for Internatonal Settleents (BIS): electronc oney s dffcult to defne because t blends partcular technologcal and econoc characterstcs (Basel Cottee, 1998; BIS, 1996). In addton, dfferent e-oney schees wll vary accordng to ther techncal pleentaton, the nsttutonal arrangeents requred to support the, the way n whch value s transferred, the recordng of transactons and the currency of denonaton (BIS, 1996). Ths eans that several defntons of electronc oney have evolved over te. In broad ters, electronc oney can be defned as onetary value stored on an electronc devce ssued on recept of funds or accepted as a eans of payents (Carat, 00, p. 11). Ths rrors the offcal defntons publshed by ECB and BIS n focussng on the stored value aspect of electronc oney (e.g. BIS 1996, Basel Cottee, 1998). The ECB (1998, 000), followng the frst offcal defnton ssued by the European Monetary Insttute (EMI, 1996), defne electronc oney n the followng ters: Electronc oney s broadly defned as an electronc store of onetary value on a techncal devce that ay be wdely used for akng payents to undertakngs other than the ssuer wthout necessarly nvolvng bank accounts n the transactons, but actng as a prepad bearer nstruent. Agan, the focus n ths defnton s on the pre-pad aspect of electronc oney. The Basel Cottee (1998) further dvdes types of electronc oney nto the categores of electronc purses (hardware or card based) and dgtal cash (software, network based). But whether these nstruents are balance-based (.e. account based) or token-based (.e. nvolvng the expendture of electronc tokens), the essental characterstc s ther pre-pad nature. For ths reason, credt cards and debt cards are regarded as access products or electronc payent systes, rather than as electronc oney (BIS, 1996; Basel Cottee, 1998). 3. Characterstcs of electronc oney 3.1 The Evoluton of Money In analysng whether or not electronc cash can evolve as an effcent and flexble facltator of exchange n the Internet econoy, t s useful to revse theores about why and how conventonal oney has evolved over te. Money plays a nuber of roles n econoc actvty: t s a unt of account, a eans of deferred payent, a store of value and a edu of exchange. Accordng to a Mengeran vew, the evoluton of oney has taken place n a context of econosng on te, effort and scarce resources (Menger, 189; Alvarez, 00). All econoc exchanges, ncludng the exchange of oney for goods and servces, nvolve transacton costs and these hnder the tradng of goods and servces. Econosts regard transactons costs as a for of econoc frcton: f econoc frcton s reduced, ore productve potental wll be released. The Mengeran vew asserts that oney has evolved over the centures to nse the frcton of transactons costs that are nvolved n edatng exchange. The process can be seen fro the developent of the very frst onetary products. Conductng econoc transactons n barter econoes was uneconocal: a double concdence of wants between buyers and sellers was the necessary pre-condton for exchange. Transactons costs were consderable because a lot of te and effort was nvolved n fndng a sutable barter partner. At frst glance t ay appear that e-cash s the opposte havng the potental to lead the onetary syste to an even hgher evolutonary pont. To a non-techncan, the transactons costs nvolved n e-cash ay see to be alost zero whlst the benefts are uch the sae as conventonal cash. But the pcture s n fact ore coplex. Another eleent n the evoluton of oney was the need for dvsblty and fungblty. Lts on the dvsblty of goods and servces created probles: f a loaf of bread s worth a tenth of a goat, what's the soluton? The advent of coodty oney ade the process of transactng ore econocal by allowng people to specalse n producton accordng to ther strengths and by enablng onetary authortes to nt cons n convenent denonatons, creatng dvsblty and fungblty: when people wthdrew cons fro a bank they dd not have to wthdraw the sae cons that they deposted because all cons of a partcular denonaton were hoogenous and standardsed. Ths reduced the coplexty of exchange. As for the role of governent, wthn a coodty oney syste a onetary authorty s not essental. As long as people beleve that ther coodtes or cons represent purchasng power then the coodty s ts own For analyses of the nature and evoluton of oney, ncludng electronc oney, see Daves, 00 and Soloon, 1997; Baddeley and Fontana, 004. Page 40

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 guarantor. But governent usually has a key role n legtsng conage by affxng a stap to guarantee that a con contaned a gven aount of precous etal. Nonetheless, rsks of counterfetng and debaseent reaned. Also, usng coodty oney whether based upon gold, other etals, or cgarettes, eant ether that extra resources were devoted to producng ore of the coodty; or that ltatons had to be posed on the use of the coodty for non-onetary purposes. Also, costs were ncurred n storng, holdng and carryng coodty ones. An early soluton cae va token oney: wth trusted goldsths ssung transferable certfcates to regster gold reserves, coodty oney could survve wthout the need to carry around the coodty tself. Gradually, the ssung of notes by prvate banks was supplanted by central bank control of cash n the econoy. Intally, central banks ssued convertble paper currences e.g. the gold standard or dollarsaton. The developent of convertble paper currences allowed a decrease n the costs nvolved n the producton, storage and use of oney. The average cost of prntng and storng a bank note or con are far less than the value of that note or con. It s lkely that electronc oney wll have the capacty further to reduce these producton and holdng costs, though the role of governent s lkely to be constraned. Another dstnctve characterstc of conventonal oney over electronc oney s the portance of fat oney: oney that s declared by governent fat to be legal tender wth people beng oblged to accept t as such. It sees unlkely that governents wll be wllng or able to declare slar fats wth respect to electronc oney. Ths s the essence of the proble wth any for of non-coodty oney: why would a person hold soethng nherently worthless as a store of value or edu of exchange? They hold t because they beleve n t; usng fat oney as a edu of exchange s vtally dependent upon a socal conventon. Ths s the essence of the Chartalst vew, popularsed by Knapp (194), of oney as a socal relaton. Whlst there are stll rsks of forgery and fraud assocated wth fat oney, the ost portant advantage that fat ones have s that they are cheap. They are cheap because they are based upon a socal conventon supported by trusted nsttutons and a legal syste. Credblty s crux of the syste; fat oney cannot work f people are not prepared to use ther tokens as a edu of exchange. And for people to be prepared to use tokens n exchange, the tokens ust be legal tender or at least alost unversally acceptable. Ths s one of the key probles for e-cash: encouragng people to adopt the conventon. For conventonal oney, relable onetary nsttutons support the fat; odern central bankers focus on the nteractons between onetary polcy, nflaton and purchasng power. It follows that the prvate producton of oney ust be llegal: f anyone can produce onetary tokens, central banks would not be prepared to guarantee the value of oney and the socal conventon would collapse. But for electronc cash, the prvate producers are the nnovators and onetary authortes have had lttle drect pact on the varous e-cash alternatves avalable. So hstory shows that all oney has evolved to eet a set of essental requreents ncludng wde acceptablty; low producton/carryng/storage costs; fungblty, dvsblty; and resstance to forgery. 3 For future developents n electronc oney, there s no doubt that technology has evolved to a stage at whch e-cash systes wll be able to supplant conventonal cash systes n ters of soe of these characterstcs. Conventonal token or fat ones do ncur producton, storage, carryng and handlng costs whch, whlst less substantal than those nvolved n coodty oney systes, are stll lkely to be greater than the costs of effectve e-cash systes. In addton, f systes can be devsed to lt on-lne processng costs, e-cash systes have the potental to be ore secure than conventonal cash systes. However, any barrers rean f e-cash systes are to replcate the lqudty, ubquty and anonyty of conventonal cash, partcularly as ease of access to conventonal cash has ncreased wth the prolferaton of ATMs (The Econost, 000a, p. 1). 3. Constrants on the evoluton of e-cash Soe of the constrants on the effect evoluton of e-cash systes eerge n desgnng nstruents that are able easly to c soe of the essental characterstcs of conventonal cash, e.g. n ters of effcency, wde acceptablty, securty, anonyty, easy transferablty (ncludng an ablty to support ultple payents). Effcency: The costs nvolved n producng and storng electronc cash are lkely to be lower than those nvolved wth prntng, storng and carryng conventonal cash. These cost savngs wll create soe gans n ters of econoc effcency f the use of e-cash becoes ore wdespread. However, the costs nvolved n exchangng e- cash are relatvely hgh n coparson wth the costs nvolved n exchangng conventonal cash. The current technology used n securty protocols nvolves relatvely hgh transactons costs and s not econocal for cropayent systes (Foo, 1997). Innovatons such as NetCard can support cro-payents by ncorporatng a dgtal sgnature nto a whole stck of cons that can then be spent ndvdually (wth a gven erchant). Ths syste allows a reducton n coputatonal coplexty for seres of low value payents to gven erchants but s not partcularly helpful for custoers who want to spend ther cons at a nuber of dfferent stes (Anderson, 000). 3 For a ore exhaustve suary of the desrable propertes of e-cash, see Neuann and Medvnsky, 1998; Cho, Stahl and Whnston, 1997. Page 41

Baddeley: Usng E-Cash n the New Econoy: An Econoc Analyss of Mcropayent Systes Another way of reducng the transactons costs nvolved n dgtal payent systes s va de-couplng the varous tasks that characterse the exchange of goods and oney thereby akng the syste ore sutable for low value transactons (Kravtz, 1998). Voucher schees, lottery tcket and con-flppng protocols all have the potental to nse the nuber of essages nvolved n each transacton (Rvest, 1997; Foo, 1997; Lpton and Ostrovsky, 1998). Foo's ethod also transfers the processng burden onto banks, whch ay be approprate f banks have the specalst sklls and technology to be able effcently to edate fnancal transactons. In addton, electronc vouchers can be transferable but the proble reans that they cannot c conventonal cash because drect exchange between buyers and sellers s not possble - fnancal nteredares are stll nvolved and ths wll ncrease the transactons costs of exchange. In addton, con-flppng and lottery tcket protocols are based upon the assupton that econoc agents are rsk-neutral and wll be satsfed wth far bets. It does not address the ssue of rsk-averse econoc agents who prefer guaranteed sus of oney to far bets. Acceptablty: No exstng e-cash s unversally acceptable; ost are not even wdely acceptable. Exstng e- cash systes are fors of 'nsde' oney (avalable to a select group of nsders) and ths s partcularly true for vendor-specfc schees. If an e-cash syste s to be successfully adopted, t wll have to attract a wde consttuency,.e. to becoe outsde oney. It s because current e-cash schees are not wdely accepted that they ust pggyback on the non-cash oney supply.e. bank deposts and credt accounts. Ths ples that e-cash s just a eans of re-dstrbutng 'IOU oney' (.e. based on depost and credt accounts) and fnancal nteredares ust necessarly be nvolved n ts exchange. Ths contrbutes to the overall transactons costs nvolved n the exchange of depost-based electronc cash systes. In conventonal cash systes, there s a sple blateral nteracton between buyers and sellers; the fact that no ddle-people are nvolved eans that the transactons costs are lower. Ths blateral exchange works because t s based upon a trusted socal conventon: cheap bts of paper/etal represent value. The backng of powerful nsttutons s requred to support ths sort of fragle socal conventon. What are the plcatons for effectve vrtual cash systes? Soe observers ay beleve that we wll coe to lve n a world of 'Dsney dollars and Vrgn pounds' (Brch and McEvoy, 1997). However, ost people are too rsk-averse to trust ther fortunes to the fate of a sngle prvate enterprse; hstory has shown that even the ost successful ult-natonal copanes do not necessarly prosper forever. If an e-cash s to survve as a true cash syste, then t requres the backng of trustworthy, stable nsttutons such as central banks these could pleent coon protocols and act as unfyng nsttutons. The developent of e-cash as a for of outsde oney sees unlkely f e-cash systes do not receve ths sort of governent backng. Securty and Anonyty: Hypothetcally, the potental securty of vrtual oney s greater than that of conventonal oney gven the sophstcated prntng and counterfetng ethods used for conventonal cash. For e- oney however, adopton of wdely avalable technologes that are taper-resstant s lted by the US governent's regulaton of strong cryptography, ncludng export lts on long (.e. coplex) keys. It s only n practce and because of governental constrants that the securty and prvacy of e-cash systes s lted (Swre, 1997). Many exstng e-cash systes, partcularly those that can be used wth a nuber of dfferent erchants, are not copletely anonyous because the ontorng of ther use s actually essental to the proper operaton of these systes n order to prevent the double spendng of vrtual cons. Ths ontorng ay be very costly requrng colluson between nsttutons. The use of a conventonal cash syste allows drect nteracton between buyer and seller and so t s not possble to ontor transactons takng place edated usng conventonal cash. Anonyty s ensured. Conventonal cash wll be preferred by those nvolved wth crnal actvtes as long as crnals and tax evaders beleve that electronc transactons wll always leave soe trace (Goodhart, 000). It can be argued that coplete anonyty s not desrable fro a socal welfare pont-of-vew (de Solages and Traore, 1998). In theory, a syste of anonyty that s only revoked by soe trusted authorty when crnal actvtes take place would ean that crnal actvty could be ore effectvely ontored and punshed n a world of e-cash. But, n practce, the whole pont s that crnals would not use a syste that they beleve allows effectve ontorng and punshent. Even wth such a syste, untl coplete anonyty can be assured electronc cash cannot substtute copletely for conventonal cash for llct transactons and there wll always be a deand for conventonal cash, whether or not agents adt ther real reasons for holdng t. Partal / coplete transferablty and ultple payent systes: Wthn any syste of e-cash, there are dffcult trade-offs to anage between anonyty/prvacy and securty/relablty. These trade-offs surface n assessng the desrablty of easy transferablty of e-cash. Sander and Ta-Sha argue that non-transferablty s an portant feature for e-cash systes as t poses lts on crnal abuses (Sander and Ta-Sha, 1997). However, whlst ltng transferablty wll reduce the potental for fraud, non-transferable e-cash systes wll be less flexble and ore costly. Assung that double spendng of electronc cash can be prevented, an e-cash syste that allows ultple-payents s lkely to lower the onetary costs of transactons. However, for any e-cash systes devsed Page 4

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 so far (e.g. lottery tcket and voucher systes) each unt of e-cash can only be spent once, even f the tckets/tokens/vouchers are transferable before use (Rvest, 1997; Foo, 1997). So each unt of currency s only partally transferable,.e. t s transferable only untl t s spent. In contrast, conventonal cash s spent any tes by any dfferent people; t s copletely transferable. In response to ths proble, soe ultple-payent schees have been suggested (Pagna and Jansen, 1997). In ultple payent systes, the costs of ssung electronc cash wll be greatly reduced as long as there s an effectve echans to allow a gven unt of currency to be transferred easly between any buyers and sellers. If ths transferablty s possble and a token can be spent any tes, then the average cost per transacton of ssung a gven unt of currency wll tend towards zero. The use of ethods such as Chau's blnd sgnature schee (BSS) have soe potental to proote transferablty f a central-bank can ssue sgned cons and release ts publc sgnature key to all traders and consuers so that they can authentcate e-cash receved (Chau, 199). Concerns about cre and fraud can also be addressed wthn such schees,.e. by usng far BSS n whch trusted authortes have the power to ontor suspect transactons (de Solages and Traore, 1998). However, the proble reans that large databases of past transactons ust be antaned n BSSs n order to prevent double spendng. Ths requreent adds to the costs and lts the scalablty of such systes. Transactons costs are reduced n systes such as NetCash because only outstandng tokens are ontored (Neuann and Medvnsky, 1998). However, these tokens are stll not perfectly transferable because the holders of dgtal tokens/cons do not have to relnqush ownershp of the dgtal con when they spend t and the preventon of double-spendng requres processng te even f ths s reduced n coparson wth other BSSs. In contrast, for conventonal notes and cons, holders relnqush ownershp of a physcal entty when they spend a conventonal note or con and so the ontorng of double spendng s not necessary. 3.3 Constrants on e-cash: soe real world exaples Whlst e-cash systes ay n theory have the potental to provde advantages not provded by conventonal cash systes, as outlned above, desgners of effectve e-cash systes have the task of explotng the effcency gans of electronc transfer whlst ckng desrable characterstcs of conventonal cash n ters of wdespread acceptablty, securty, anonyty and easy transferablty. But any early electronc cash nnovatve e-cash products have not stood the test of te, for exaple schees such as DgCash and CyberCash (The Econost, 000b, p.77-9). Can ths falure to develop e-cash systes n the real world be explaned n ters of the characterstcs outlned above? What underles the success (or lack of success) of real-world e-cash systes? Paypal s generally held to be the ost successful exaple of an electronc cash syste. The essence of ts success les n the fact that t s relatvely wdely accepted, beng the preferred payent syste for the wdely popular e-bay aucton ste (and t was bought-up by e-bay n 003). In addton, the verfcaton systes and buyer nsurance nstruents used by PayPal reassure custoers about the relatve securty of the syste. Anonyty s not a characterstc of PayPal, however, and easy transferablty only apples to people who want to re-spend ther oney wthn the syste; t s ore dffcult to extract oney out of the syste than to set up an account n the frst place. Nonetheless, PayPal does see to have captured soe frst-over advantages n the pleentaton of an effectve cropayents syste and ts custoer base has grown rapdly fro about 185,000 n 000 to over 45 llon by 004 (Sources: The Econost 000b, http://www.paypal.co/). It also has relatvely low transactons costs (http://www.wred.co/news/ebz). The lnks between PayPal and e-bay has been an ngredent for success as t has helped to ensure relatvely wde acceptablty. And t s generally true that barter exchange payent systes desgned copleent soe sort of vrtual arketplace (e.g. Barter Trust, BgVne, LassoBucks) have been relatvely successful (Econost 000b, p. 78). Other real-world cropayent systes have been less successful. DgCash was desgned to c the anonyty of conventonal cash but ran nto probles of lted acceptablty, a proble that was exacerbated not only by the ultplcty of alternatve, ncopatble systes but also by the lted captal fnancng avalable for the project. In addton, the process of transferrng oney nto an electronc nt then to be spent n purchasng dgtal cons was relatvely coplcated (http://news.co.co/). CyberCash s CyberCons syste ran nto slar probles. PayDrect offers systes wth low costs of entry, whch are secure fro a erchant s pont of vew but do not address the proble of erchant fraud. The ntal accounts based syste s relatvely wdely accepted but ts nterface wth user accounts eans that, n prncple, spendng s not anonyous and can be ontored. In 003 PayDrect ntroduced ts World Card a stored value card that can be used to access local currency va ATMs. To an extent ths ay proote easy transferablty but users of the World Card have to be dentfed when the cards are purchased. Ultately the real constrant s an econoc or nsttutonal constrant rather than a technologcal constrant and les n generatng wdespread acceptablty and ths s the proble that has been overcoe ost effectvely by PayPal. Gven the ncreasng donance of PayPal wthn the electronc arketplace, ts frst-over advantage wll Page 43

Baddeley: Usng E-Cash n the New Econoy: An Econoc Analyss of Mcropayent Systes be dffcult to reverse even f effcent technologcal solutons were desgned to c all the other conventonal cash characterstcs outlned above. 3.4 The advantages of e-cash over other fors of electronc payent Evdence suggests that on-lne consuers are dssatsfed wth the way they spend oney on-lne and analysts predct that the use of credt cards to fund on-lne transactons wll declne sgnfcantly n the near future (Econost, 000b). Qute apart fro the constrants outlned above, does e-cash bestow any advantages relatve to other fors of electronc payent? Electronc payents va credt card stll donate the arket and, as explaned above, any e-cash systes have not stood the test of te. Do we need a syste of electronc cash when ost people currently purchase goods and servces over the Internet usng credt cards? One of the an challenges confrontng e-cash supplers s provdng effectve cro-payents systes, whereby sall aounts of oney can be used electroncally. Checks and credt/debt cards do not sut sall purchases; the key proble for checks and credt-card systes s that they are not necessarly effectve for cro-payents because of the costs nvolved n nteractons between fnancal nsttutons (Neuann and Medvnsky, 1998). Usng credt cards and checks nvolves fnancal nteredares thus addng to the transactons costs nvolved n on-lne purchases. If credt-card payents ncur addtonal nterest costs and other charges upon buyers ths wll also add to the costs nvolved wth usng credt cards. Another shortcong eerges because credt-card purchases on the Internet are not anonyous and a person's spendng patterns can be tracked usng credt-card records. The sae s true for echanss usng electronc checks. There s also an ncreased danger of fraudulent use of credt-card nubers by thrd partes. Usng ATM cards/achnes to access conventonal cash s not susceptble to the sae level of fraud because dedcated physcal devces and anonyous PINs are essental to such transactons. It s costly to tap nto telephone networks but t s relatvely easy to collect databases of credt card nubers over the Internet because t s easy to ntercept nforaton (MacKe-Mason and Varan, 1998). So the use of credt cards to buy goods and servces over the phone s not as susceptble to fraud as the use of credt-cards nubers over the Internet. Whlst e-cash ay well suffer fro the sae shortcongs as other fors of electronc payent, the fnancal rsks for ndvdual consuers are reduced. If a consuer s only rskng the loss of a not-partcularly-valuable electronc con, he/she s far ore lkely to conduct transactons over the Internet than f he/she rsks an enorous credt-card bll eergng because soeone has llctly ntercepted hs/her credt-card nuber. Electronc cash therefore has fnancal potental that s not atched by alternatve electronc fnancal nstruents. 4. Soe acroeconoc plcatons 4.1 Macroeconoc polcy: the control of rsk Brch and McEvoy (1997) argue that devolvng responsbltes for ssung of oney away fro governents and central banks wll reove a sngle pont of falure n the econoc nexus between governent, fnancal nsttutons, busness and consuers. 4 Ths s not an unusual vew and any conservatve coentators would herald a prvately-based e-cash syste as a potental truph for lassez-fare captals, for exaple the Cato Insttute (Dorn, 1997). However ths vew s an over-splfcaton because, as outlned above, cash works as a socal conventon and people wll only use e-cash f they beleve that trustworthy, long-lastng and powerful nsttutons are supportng t. Goodhart (000) argues that the pacts of electronc oney for governent polcy control wll be lted. The governent wll stll have control of nterest rates and t wll stll play a key role as the governent s bank. But central banks supervsory roles wll be portant whether oney s physcal or electronc. Governent polcy ust focus on overseeng and supervsng the ssuers of electronc oney. In addton, t sees unlkely that vrtual oney wll ever copletely replace conventonal oney, so central banks wll be needed to antan the convertblty between real and vrtual cash. As far as the ontorng functon s concerned, as the nuber of nnovatve electronc payent systes has ncreased over the years, BIS began, n 1996, to ontor and survey electronc oney developents, recognsng that central banks functons ay need to be talored n response to the electronfcaton of fnance (BIS 000, 001, 004). The ephass of BIS strategy has been on surveyng electronc oney developents to gan a better understandng of how the arket s developng. Furtherore, BIS has recognsed that central banks oversght functons wll be partcularly portant gven the rsks that accopany the use of nnovatve electronc oney products. These rsks wll have plcatons for polcy akers because of the potental for dsrupton to the fnancal syste overall (BIS 1996, 004). For exaple, the Basel Cottee (1998) ephassed that electronc payent systes are crucal to the ncreasng effcency of electronc coerce but these payent systes carry rsks as 4 Sngle ponts of falure ncrease the vulnerablty of electronc payent systes because llct attacks can be targeted ore easly. Page 44

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 well as provdng benefts - wth key rsks eergng n the areas of operatonal rsk (assocated wth securty breaches, neffcent pleentaton of electronc systes and suse by consuers); reputatonal rsks, legal rsks and credt / lqudty / nterest rate rsks. One of the key plcatons for acroeconoc polcy akng nsttutons wll be n oderatng these rsks whlst encouragng nnovatve actvty n the desgn of new electronc payent nstruents. These ssues wll be of partcular portance gven the ncreasng globalsaton allowed by the developent of electronc coerce. In partcular, cross-border ssues of regulaton n oderatng rsk are lkely to ntroduce partcular coplexty nto the anageent of the rsks eergng fro the electronfcaton of oney (Basel Cottee, 1998). Slarly, the ECB sees ts role n overseeng and prootng the effcency and securty of electronc payent nstruents and systes but t also sees tself as a catalyst for nnovaton and proved coordnaton (ECB, 003). In these senses, effectve governent nsttutons are ore lkely to reduce than ncrease the sngle pont of falure proble dentfed by Brch and McEvoy (1997). 4. Cyclcal effects Money supply s defned as the volue of bank deposts and cash. As outlned above, exstng rudentary e- cash systes n essence pggyback upon the fnancal servces provded by banks and other fnancal nsttutons. Also, current e-cash systes account for only a sall proporton of transactons. So, all other thngs beng equal, the drect plcatons of current systes for control of the oney supply are lted because central bank regulaton of fnancal nsttutons reans unchanged. However, there s lkely to be an ndrect effect f the avalablty of e-cash systes enables consuers to buy ore goods and servces than they would otherwse consue. Electronc payent systes ake the process of buyng and sellng easer because the transactons costs nvolved n usng the are lower. People do not have to ake the effort to go along to ther bank or ATM. Ths assues that spendng s not constraned by ncoe and that rses n consupton are beng funded by borrowngs. The key ssue here s the avalablty of credt: f a consupton boo s encouraged by credt-funded electronc coerce then the stock of consuer debt wll ncrease. As the stock of debt ncreases, fnancal nsttutons wll pose lts on the ssue of credt but the unsustanable ncrease n consupton wll have created fnancal fraglty and encouraged unstable cycles of boo and bust. 5 In ths way, the easy use of electronc payent systes ay contrbute to volatlty f easer access to credt allows excessve (f teporary) growth n consupton. What are the plcatons for cro-payents systes specfcally? Wthn current systes, credt and depost transactons substtute for conventonal notes and cash. In a world n whch e-cash can c the propertes of conventonal cash (.e. n a world n whch e-cash s ssued by a central nsttuton and used as legal tender), rses n consuer spendng and oney deand wll be agnfed. If people have acqured ther e-cash drectly fro soeone else then they wll not ncur the transactons costs nvolved wth usng a fnancal nteredary and e-cash wll substtute drectly for conventonal notes and cons. Ether way, the oney ultpler wll rse wth falls n the deand for the conventonal notes and cons that consttute the onetary base. Ths ples that governent control of the oney supply wll loosen as electronc fors of payent becoe ore coon and ths could ake effectve governent anageent of the busness cycle ore dffcult. On the other sde of the con: t also eans that the potental for segnorage (value of real resources acqured fro an ablty to prnt oney) wll be reduced. But f governents and central banks want to retan control of the oney supply, then they wll becoe ncreasngly nterested n controllng e-cash systes. They wll do ths ether by ssung e-cash theselves or by anpulatng the nterest rate n order to (try to) control the addtonal fluctuatons n oney deand that eerge fro ncreased use of e-cash. Assung that governents and central banks were to take control of ssung e-cash, another consequence for acroeconoc polcy would eerge n ters of the decreased velocty of oney, reducng the nuber of tes a gven unt of currency s spent n the econoy. Ths follows fro a sple analyss of the quantty theory of oney: MV=PY where M s the stock of oney; V s the velocty of oney, P s the prce level and Y s the volue of output. Gven V>1,.e. f each con s spent ore than once, then t follows that the stock of oney wll be a fracton of the real spendng wthn an econoy (PY) because a gven unt of currency can be spent repeatedly. Ths ay see lke a trval observaton but the plcaton s that the stock of oney wll ncrease and ore e-cash notes and cons wll be ssued copared wth current ssues of conventonal notes and cons. Untl e-cash systes are devsed whch can allow the repeated spendng of electronc notes and cons (n the sae way that conventonal currency can be spent and re-spent) the average velocty of oney wll be reduced as e-cash enters the syste. Ths ples that wth a sple sngle-payent e-cash syste, the lowered costs of ssung e-cash (relatve to the costs of prntng conventonal cash) are gong to be partally counter-balanced by the need to ssue a greater volue of e- cash cf. conventonal cash. 5 Further research could focus on developng deas outlned n Mnsky (1978, 1986) about the endogenety of oney, fnancal fraglty and ther plcatons for cyclcal stablty. Page 45

Baddeley: Usng E-Cash n the New Econoy: An Econoc Analyss of Mcropayent Systes 5. Mcroeconoc plcatons of e-cash systes As explaned above, e-cash has potental advantages not only over conventonal cash systes but also over alternatve vrtual fnancal nstruents. Reduced transactons costs allow ncreases n productvty as ore resources becoe avalable for actual producton. Soe ore specfc croeconoc advantages that wll eerge wth an effectve e-cash syste nclude network effects, pacts on consuers n ters of reducng network congeston and prootng effcent arkets for nforaton; and pacts for producers n ters of ther nnovatve nvestents. 5.1 Network effects In understandng the evoluton of electronc payent systes, t s portant to recognse that these systes are networked goods: ther utlty eerges fro the fact that they are accessed wthn a network of other users. Shy (001) explans that networked goods are affected by a nuber of dstnctve but related characterstcs ncludng copleentartes, externaltes, swtchng costs, lock-n and econoes of scale. Copleentartes eerge because networked products have lttle value n solaton (Katz and Shapro, 1994; Econodes, 1996). Consuers of electronc oney products wll be lookng for a syste that supports ther electronc payents and so copatblty and operatng standards are portant. Network externaltes eerge because the utlty derved fro consupton of networked goods ncreases wth the nuber of agents consung that good (Katz and Shapro, 1985; Econodes, 1996). 6 These externaltes take a partcular for for the fnancal servces sector because of lqudty effects - lqudty wll ncrease wth expanson of the fr (Econodes, 1993, 001). But negatve network externaltes wll also eerge because key players n the network wll have an ncentve to report the prces of fnancal products naccurately (Econodes, 1993). The utlty derved fro the use of an electronc payent syste by a gven consuer s dependent upon the fact that other consuers are usng the sae syste: f other consuers are not usng the sae payent syste, then the value of the syste wll be reduced accordngly. In a dynac context, ths eans that ultple equlbra can exst n whch a producer wll have all the potental consuers wthn the network - or none of the. In the exaple descrbed above: PayPal s an exaple of a syste whch attracts any consuers just because other consuers are usng t; DgCash s an exaple of a syste whch attracted few consuers and so could not reach the crtcal ass requred for t to survve. As electronc payent networks grow, the utlty derved by each consuer wll grow wth the growng acceptablty of the syste. Swtchng cost and lock-n ay apply f exstng a payent syste s relatvely ore costly than enterng t (Shapro and Varan, 1999) whch, as explaned above, s a characterstc that apples to an extent to PayPal because t s easer to set up an account wth PayPal than to get oney out. Fnally, econoes of scale wll ean that whlst there are hgh sunk or fxed costs nvolved n developng an electronc payents nfrastructure, the argnal costs of copyng and dstrbutng electronc payent devces or tokens wll be low. Ths generates a natural onopoly n whch the average cost functon declnes sharply and lts the operaton of copettve forces. These lts are lkely to be ore portant for electronc payent syste producers f the costs of developng new nfrastructure are borne by prvate nsttutons. However, a nuber of the electronc payent systes descrbed above are explotng nfrastructure already n exstence (.e. the Internet), whch suggests that the focus of croeconoc polcy should be on developng effectve systes of access prcng. Ths s partcularly portant gven the proble of network congeston, as explaned below. 5. Network congeston Fro consuers pont-of-vew, when a network such as the Internet s uncongested, t exhbts all the key characterstcs of a publc good (Hallgren and McAdas, 1998),.e. non-depletablty, non-rvalry and nonexcludablty n consupton. Ths eans that the provson of a good or servce does not dnsh because of consupton by an addtonal person; consupton by one person does not preclude consupton by others; and no one can be prevented fro consung the good. As a publc good, an uncongested Internet s susceptble to the free-rder proble: consuers are able to free rde on the benefts wthout ncurrng any of the costs. However, for the Internet, the argnal cost nvolved n ncludng addtonal users, whlst very sall, s nonetheless non-zero. If the nflux of users s draatc enough, then the non-depletablty characterstc of the Internet wll dsappear. Technologcal solutons to ths proble have eerged (e.g. Broadband) but how long wll these solutons last and can they be further developed as congeston ncreases further? As ncreasng nubers of people use the Internet for electronc coerce transactons, congeston chargng s an obvous soluton to the proble but whlst posng charges s one thng, collectng the oney s another. The coputatonal costs nvolved n ontorng congeston and negotatng wth users about congeston chargng see sgnfcant enough but f an addtonal nexus of nteracton between fnancal nteredares, congeston chargers and Internet users s added to all of ths, then the 6 See Lebowtz and Margols (1994) for a dscusson of the absence of network externaltes. Page 46

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 network of nteractons becoes very coplcated ndeed. It s analogous to a congested car-park: f the car-park becoes full not only of drvers and cars, as well as a tcket collector but also of the drvers' bank-anagers (and ther cars) and the bank anager of the tcket-collector etc. etc., then result s nevtable grd-lock. Also, the value of access to addtonal users of the Internet s generally very sall and so the costs nvolved n usng credt/check payent systes are not easly justfable. Wth a low-cost unedated cro-payents syste, congeston chargng would becoe far ore straghtforward. An effectve e-cash syste for cro-payents ay reduce probles of congeston when congeston s exacerbated by large nubers of dfferent consuers usng the Internet for a range of tasks. Internet congeston reflects not only electronc coerce transactons but also nforaton searches. The argnal value of nforaton to consuers ay be qute sall and a fnancal gap exsts between the buyers and sellers of nforaton on the Internet. Agan, ths gap cannot be easly flled by account-based transactons nvolvng fnancal nteredares because the fnancal transactons are too costly relatve to the value ganed fro the exchange of nforaton. The costs of usng credt and checkng payent echanss are not justfable. There's a potental exchange opportunty but exstng payent echanss cannot easly adapt to facltate exchange (buyng 10p worth of nforaton usng a credt card s lke buyng a 10p banana wth a credt card; t s wasteful even f the seller agrees to accept the credt card). Mcropayent schees wll be the way of the future n the arket for nforaton because of the 'prce ubrella' proble entoned above; credt cards are an excessvely costly way to purchase low-value nforaton (Rvest, 1998). At the oent, the fundng of Internet nforaton exchanges s addressed partally va the ubqutous advertsng that takes place on the Internet. However, ths advertsng contrbutes to congeston because t ncreases capacty deands. Nonetheless, buyers of nforaton on the Internet have access to free nforaton. If we thnk about shoppng alls: f all the goods n shops were free, we would fnd that shoppng alls were heavly congested not because people wanted to hang-out n shoppng alls (necessarly) but because they wanted to be n the shops takng the goods. Slarly, the proble of congeston on the Internet has ts source n the fact that the nforaton provded by the Internet s free. An effectve e-cash syste would partally solve the proble because people could be asked to pay a reasonable prce (wthout usng costly payent echanss) for nforaton. The deand for Internet nforaton would decrease accordngly and congeston would probably be reduced. In addton, wth an effectve syste of cro-payents, nforaton provders would be fnancally rewarded for provdng nforaton that they ght just provde at the oent as a publc relatons exercse. If they could effectvely charge a prce for sellng nforaton as well, that would ncrease ther ncentve to supply accurate and accessble nforaton. Overall, the fnancal gap between the sellers and buyers of Internet nforaton would be brdged and the arket would becoe ore dscplned. 5.3 Producton plcatons Soe of the key pacts on producers eerge because of the addtonal adjustent costs posed by nvestng n new technologes. Assung two producers of electronc oney one of electronc oney exchanged va the Internet (Internet oney); one of electronc oney exchanged usng oble technology (Moble oney). Assung Cobb-Douglas producton technology, the producton functons can be descrbed as follows: α 1 α Y = AK L Y = AK α 1 α L Y s output, K s captal, L s labour, α s the elastcty of output wth respect to captal, A represents the autonoous coponents of output, and the subscrpts and dfferentate output and captal n nternet oney versus oble oney respectvely. Labour s assued to be nvarant wth respect to the type of oney producton. The cost functons can be descrbed as a cobnaton of labour, captal and adjustent costs. The real cost of labour s the real wage rate (w). Assung that there s no change n the value of captal goods, the real cost of captal s the su of the real nterest rate (r) and the deprecaton rate ( ). The analyss s splfed to a one perod analyss and by allowng that I n each perod s equal to K (.e. assung 100% deprecaton gves K t-1 =0; therefore I t = K t =K t -K t-1 = K t ). Wth = 1, the real cost of captal s r+1. The real wage rate and real cost of captal are assued to be nvarant wth respect to technology type. Followng a splfed verson of Abel (1983), adjustent costs nternal to the fr are ncorporated nto the fr s decson proble. Splfyng to allow that nvestent and captal are equal n any gven perod (as explaned above), adjustent costs wll be a proporton of nvestent / captal stock. Adjustent costs are assued to be quadratc n for and wll be greater for newer technologes because of the addtonal boltng-down, tranng, anageral and adnstratve costs nvolved n ore nnovatve fors of producton. As the nnovatons assocated wth oble oney are newer than those assocated wth nternet oney, t s assued that the adjustent costs are Page 47

Baddeley: Usng E-Cash n the New Econoy: An Econoc Analyss of Mcropayent Systes hgher for oble oney producers: f the adjustent cost for nvestent n the producton of electronc oney s. Thus the cost functons are of the followng for: γ then for oble oney t wll be φ where 0 < γ < φ < 1 C C = wl + ( r + 1) K + γ K = wl + ( r + 1) K + φ K The profts functons for the two producers wll be as follows: α 1 α = AK L wl + ( r + 1) K + γ K α ( ) ( wl + ( r + 1) K + φ K ) 1 α = AK L The argnal proftablty of captal nvestent for the two dfferent fors of producton wll dffer as follows: d α 1 1 α Y = αak L ( r + 1) γ = α ( r + 1) γ K d α 1 1 α Y = αak L ( r + 1) φ = α ( r + 1) φ K Assung constant output-captal ratos across the two dfferent fors of oney producton and gven d d 0 < γ < φ < 1 t follows that > Ths ples that the argnal proftablty n Internet oney producton wll be greater than the argnal proftablty n oble oney producton; oble oney producton s ore nnovatve and therefore nvolves the hgher adjustent costs. (The valdty of ths assupton wll be tested n the eprcal secton.) It ay be that soe frs ay want to ebark on jont producton of Internet oney and oble oney. In ths case, the addtonal adjustent costs wll pose further constrants of proftablty. Ths effect can be shown by assung Y = Y + Y, K = K + K whch gves a profts functon of the followng for: α 1 α = + = A ( K + K ) L wl + ( r + 1)( K + K ) + ( γ + φ) ( K + K j j = AK L α 1 α [( )] [( wl + ( r + 1)( K) + ( γ + φ) K )] Assung a hoogenous captal stock and constant captal-output ratos across the dfferent types of electronc oney producton, t follows that: d j α 1 1 α = αak L [ ( r + 1) + ( γ + φ) )] j d j Y = α ( r + 1) ( γ + φ) j K Assung that the dfferent sources of adjustent cost are ndependent of each other, t follows fro 0 < γ < φ < γ + φ < 1 that: d d d j > > j The argnal proftablty fro jont producton wll be less than the argnal proftablty fro specalsng n ether Internet oney or oble oney because of the ncreents to adjustent costs. It follows that the rankng n ters of argnal proftablty s as followng: specalsng s ore proftable than dversfcaton n ths one perod analyss. In a dynac context, however, the prospects ght be dfferent because the benefts fro carefully nvestgatng new oney nnovatons ay be fostered fro frst-over advantages - for exaple dversfed frs wll be n a better poston slowly to develop the relatvely nnovatve fors of oney f they have a loyal custoer/erchant base establshed fro Internet oney producton. And when adjustent costs start to fall, these copanes wll be well placed to take advantage of the ncreasngly proftable new arket opportunty. These hypotheses are tested usng the econoetrc analyss outlned n the followng secton. Page 48

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 6. An eprcal analyss In assessng the future for electronc cropayent systes as a future alternatve to conventonal cash systes, an eprcal analyss was conducted usng data derved fro the Electronc Payent Systes Observatory (epso) database. These data are concentrated on EU actvty. All data was derved fro the epso database by asseblng together the characterstcs of organsatons nvolved n the electronc payents ndustry. A prelnary analyss of these data revealed that, underlyng the trend growth n the nuber of nsttutons offerng electronc payent systes, there has been consderable volatlty n the growth of nsttutons offerng cropayents systes n partcular. Fgure 1 shows the nuber of new nsttutons offerng all electronc payent systes fro 1983-00, as recorded n the epso database. These data reveal that there has been a sustaned growth n electronc payent systes, rrored by coensurate rses n nsttutons offerng electronc oney servces as well as cropayent servces. 50 No. of nsttutons 40 30 0 10 0 All electronc payents Electronc ones Mcropayent systes 1983-9 1994 1996 1998 000 00 Fgure 1: The growth of electronc payent nsttutons, 1983 to 00 Fgure shows the evoluton of cropayents systes as a percentage of all electronc payents and these data reveal that there has been consderable volatlty n the advent of new nsttutons offerng cropayent schees: n coparson wth all electronc payent schees, 100% of new fored copanes n 1994 were offerng cropayent servces, peakng agan to 100% n 00. In the ntervenng perod, the nnovatve copanes n the electronc payents sector concentrated ther actvtes n other areas. Durng ths perod of te nnovatons were concentrated n the area of oble telecouncatons and the juxtaposton of oble technologes and cropayents schees (e.g. va oble wallets accessed usng oble phones) becae a focus of new producton. 100% 90% 80% 70% 60% 50% 40% 30% % of total 0% trend 10% 0% 1983-9 1993 1994 1995 1996 1997 1998 1999 000 001 00 Fgure : Mcropayents systes as percentage of all electronc payents systes Page 49

Baddeley: Usng E-Cash n the New Econoy: An Econoc Analyss of Mcropayent Systes In analysng these trends, the condtons for the coercal success of copanes offerng e-payents products was assessed usng the followng odel: P(y=1 A,LM,MOB,MPS,EM) where y=1 f a fr s no longer operatng; y=0 when the fr s stll operatng. The estate of the probablty that a fr wll survve s condtoned upon ts arket donance wth LM (the natural log of the nuber of erchants usng the syste) as the condtonng varable. To capture the nfluence of technologcal choce, the duy varables MOB, MPS and EM are ncluded (equal to one f oble technologes, cropayent systes and electronc oney systes respectvely are offered and equal to zero f not). 7 The condtonal probablty of busness survval was estated usng bnary dependent varable technques. The probablty of survval of a fr for the saple as a whole was 8.4% and thus the dstrbuton s skewed. Gven ths skew n the dstrbuton and the accopanyng ncreased probablty of Type I error, extree value bnary estatons technques were used and copared wth the results fro Probt estatons. The sze and sgns of the estated paraeters fro both sets of regressons were broadly concdent although effcency gans n estaton were seen n the extree value results, as expected, so only the extree value estatons are reported here n Tables 1 and. 8 The results recorded n Table 1 ndcate that the probablty of survval of frs n the electronc payent ndustry s rased f the fr s products have a relatvely wde coverage,.e. there s a postve relatonshp between survval and nuber of erchants usng a syste. Ths s an unsurprsng result partcularly as one of the essental characterstcs of an effectve onetary nstruent s that t be wdely acceptable. More nterestng are the technologcal characterstcs of the survvors: the probablty of survval s, on average, hgher for electronc oney n general, lower for oble oney and hgher f cro-payents servces are offered. As hypothessed above, ths could reflect the eroson of profts wth the greater adjustent costs accopanyng oble technologes. It ght also reflect the fact that the use of oble oney s not yet wdespread. Table 1: Extree Value Estaton: Survval of Frs Offerng Electronc Payent Servces Dependent Varable: Dd the fr survve? (Yes=1; No=0) Estaton technque: Maxu Lkelhood Saple sze: 57 observatons Varable Estated z-statstc Paraeter Nuber of erchants 0.843.1 0.07 Moble technology? -0.91-1.11 0.66 Mcro-payents? 0.985 1.58 0.114 Electronc oney? 0.783 1.36 0.175 Akake nforaton crteron = 0.700 Schwarz crteron = 0.843 P value (H 0 : paraeter = 0) In assessng the theoretcal odels developed n the precedng secton, Table records the results fro extree value estaton of a odel that controls for jont producton, J where J=1 f a fr s offerng oble servces as well as electronc oney. The estated paraeter on J was nsgnfcantly dfferent fro zero, wth a p value approxately equal to one so the results fro these regressons were not partcularly nforatve/relable. Ths result ay have eerged because of ultcollnearty or cronuerosty. Future research wll concentrate on buldng a larger and ore coprehensve database n order ore effectvely to capture the effects of jont producton on fr survval. 7 In addton, estatons were run usng the arket share to assess the predonance of each fr. The paraeters on ths varable were nsgnfcantly dfferent fro zero wth p values of around 0.60. In addton, the ncluson of ths varable coprosed the sgnfcance of the nuber of erchants varable, perhaps reflectng a ultcollnearty proble between the two varables. As the nuber of erchants varables sees to be capturng the pacts of arket donance ore effectvely and sgnfcantly, ths varable s retaned n the estatons reported below though results fro estatons ncludng arket share are avalable fro the author. 8 The Probt results are avalable fro the author. Page 50

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 Table : Extree Value Estaton: Controlled for Jont Producton Dependent Varable: Dd the fr survve? (Yes=1; No=0) Estaton technque: Maxu Lkelhood Saple sze: 57 observatons Varable Estated z-statstc P value (H 0 : paraeter = 0) Paraeter Jont producton duy 41.7 5.48E-08 1.00 Nuber of erchants 0.887.6 0.037 Moble technology? -1.57-1.70 0.0883 Mcro-payents? 1.19 1.79 0.077 Electronc oney? 0.405 0.693 0.488 Akake nforaton crteron = 0.687 Schwarz crteron = 0.867 7. Concluson Developng nnovatve electronc fnancal nstruents has the potental to transfor econoc actvty by prootng the developent of the Internet to facltate low-cost exchange. If an effectve e-cash syste can be developed then t wll have the potental to address any of the ltatons nherent to conventonal cash systes (for exaple n ts capacty to lt fraud and oney-launderng). Ths paper has outlned soe of the key characterstcs of e-cash systes as well as presentng an eprcal analyss of the factors that underle nnovatve success n the coercal e-cash systes. However, an effectve, wdely accepted electronc cash syste has yet to be developed and any portant characterstcs of conventonal cash ust be ncorporated nto current e-cash protocols f e-cash s to act as an effectve substtute for other fors of oney. Also, there are any trade-offs (such as the trade-off between prvacy and polcng) that ust be negotated durng the next stages of cashevoluton. As was seen fro the hstory of conventonal cash systes, cash s based upon a socal conventon and therefore trusted central banks and governents ust play a key role n prootng the developent of effectve and popular fors of electronc cash. Acknowledgeents The author would lke to thank Dr Ncko van Soeren, Chef Techncal Offcer ncpher, for useful dscussons about the technologcal and real world constrants on cropayent systes. Thanks also go to three anonyous JECR revewers for ther helpful suggestons, any of whch have been ncorporated nto ths fnal verson of the paper. REFERENCES Abel, A.B., Optal nvestent under uncertanty, Aercan Econoc Revew, Vol. 73, No. 1: 8-33, March 1983. Alvarez, A., Learnng to Choose a Coodty-Money: Fro Carl Menger to Evolutonary Theory, http://sye00.unv-pars1.fr/progra/paper/c_alv.pdf, 00. Anderson, R., NetCard - e-payent Mechanss for Electronc Coerce, http://www.cl.ca.uk/~c13/project, 000. Baddeley, M. and Fontana, G., Monetary Polcy n the Inforaton Econoy: Old Probles and New Challenges, n New Monetary Polcy: Iplcatons & Relevance Proceedngs of Cabrdge Centre for Econoc and Publc Polcy Conference March 004, edted by P. Arests, M. Baddeley and J. McCobe, Edward Elgar, Cheltenha, 004. Bank for Internatonal Settleents (BIS), Iplcatons for Central Banks of the Developent of Electronc Money, Bank for Internatonal Settleents, Basel, 1996. Bank for Internatonal Settleents, Survey of Electronc Money Developents, Cottee on Payent and Settleent Systes, Basel, 000. Bank for Internatonal Settleents, Survey of Electronc Money Developents. Cottee on Payent and Settleent Systes, Basel, 001. Bank for Internatonal Settleents, Survey of Developents n Electronc Money and Internet and Moble Payents. Cottee on Payent and Settleent Systes, Basel, 004. Basel Cottee, Rsk Manageent for Electronc Bankng and Electronc Money Actvtes, Basel Cottee Publcatons No. 35, Basel, Bank for Internatonal Settleents, March 1998. Page 51

Baddeley: Usng E-Cash n the New Econoy: An Econoc Analyss of Mcropayent Systes Brch, D.G. and McEvoy, N.A., Electronc Cash - Technology Wll Denatonalse Money? n Conference Proceedngs of Fnancal Cryptography Conference, Sprnger Verlag, Berln Hedelberg, 1997. Carat, G., epayent Systes database Trends and Analyss, Electronc Payent Systes Observatory (epso), Insttute for Prospectve Technologcal Studes / European Cosson, March 00. Chau, D., Achevng Electronc Prvacy, Scentfc Aercan, August 199: 96-101. Cho, S.Y., Stahl, D.O. and Whnston, A.B., The Econocs of Electronc Coerce, Macllan, Indanapols, 1997. Daves, G., Hstory of Money fro Ancent Tes to the Present Day (3 rd edton), Unversty of Wales Press, Cardff, 00. de Solages, A. and Traore, J., An Effcent Far Off-Lne Electronc Cash Syste wth Extensons to Checks and Wallets wth Observers, n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1998. Dorn, J.A., The Future of Money n the Inforaton Age, Washngton DC, Cato Insttute, 1997. Econodes, N., Network Econocs wth Applcaton to Fnance, Fnancal Markets, Insttutons and Instruents, Vol., No. 5: 89-97, 1993. Econodes, N., The Econocs of Networks, Internatonal Journal of ndustral Organsaton, Vol. 14, No. 6: 673-99, October 1996. Econodes, N., The pact of the Internet on fnancal arkets, Journal of Fnancal Transforaton, Vol. 1, No. 1: 8-13, 001. The Econost, Cash Reans Kng, The Econost, 19 February 000, London, p. 1, (000a). The Econost, E-cash.0, The Econost, 19 February 000, London, pp. 77-9 (000b). Electronc Payent Systes Observatory (epso), European Central Bank, http://www.e-pso.nfo/epso/ndex.htl. European Central Bank, Electronfcaton of Payents n Europe, ECB Monthly Bulletn, May 003. European Central Bank, Issues Arsng fro the Eergence of Electronc Money ECB Monthly Bulletn, Noveber 000. European Central Bank, Report on Electronc Money, Frankfurt, Gerany, 1998. EMI -European Monetary Insttute, Payent Systes n the European Unon, European Monetary Insttute, Frankfurt, Aprl 1996. Foo, E., A Payent Schee Usng Vouchers, n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1997. Fullenkap, C. and Nsoul, S.M., Sx Puzzles n Electronc Money and Bankng, IMF Workng Paper WP/04/19, Internatonal Monetary Fund, Washngton, 004. Goodhart, C., Can Central Bankng Survve the IT Revoluton?, Internatonal Fnance, Vol. 3, No. : 189-09, 000. Hallgren, M.M. and McAdas, A.K., The Econoc Effcency of Internet Publc Goods, n L.W. McKnght and J.P. Baley (edtors), Internet Econocs, MIT Press, Cabrdge Mass, 1998. Katz, M. and Shapro, C., Network Externaltes, Copetton and Copatblty, Aercan Econoc Revew, Vol. 75, No. 3: 44-40, June 1985. Katz, M. and Shapro, C., Systes Copetton and Network Effects, Journal of Econoc Perspectves, Vol. 8, No. : 93-115, Sprng 1994. Knapp, G.F., The State Theory of Money, Macllan, London, 194. Kravtz, D.W., Hghly Scalable On-Lne Payents Va Task Decouplng n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1998. Lebowtz, S.J. and Margols, S.E., Network Externalty: An Uncoon Tragedy, Journal of Econoc Perspectves, Vol. 8, No. : 133-150, Sprng 1994. Lpton, R.J. and Ostrovsky, R., Mcro-Payents va Effcent Con-Flppng, n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1998. MacKe-Mason, J. and Varan, H., Econoc FAQs about the Internet, n.w. McKnght and J.P. Baley (edtors), Internet Econocs, MIT Press, Cabrdge Mass, 1998. Menger, C., On the Orgn of Money, The Econoc Journal, Vol. : 39-55, 189. Mnsky, H., The Fnancal Instablty Hypothess, Thaes Polytechnc Workng Paper, London, 1978. Mnsky, H., Stablzng an Unstable Econoy, Yale Unversty Press, New Haven, 1986. Neuann, B.C. and Medvnsky, G., Internet Payent Servces, n, L.W. McKnght and J.P. Baley (edtors), Internet Econocs, MIT Press Cabrdge Mass, 1998. Odlyzko, A., The practcal probles of pleentng Mcront, Proceedngs of Fnancal Cryptography 003 Lecture Notes n Coputer Scence #74, SprngerVerlag, Berln, pp.77-83, 003. Page 5

Journal of Electronc Coerce Research, VOL. 5, NO.4, 004 Pagna, H. and Jansen, R., Towards Multple-Payent Schees for Dgtal Money, n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1997. Rvest, R. L., Perspectves on Fnancal Cryptography, n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1998. Rvest, R.L., Lottery tckets as Mcro-Cash, n Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln, 1997. Sander, T. and Ta-Scha, A., Flow Control: A New Approach for Anonyty Control n Electronc Cash Systes, n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1997. Shapro, C. and Varan, H., Inforaton Rules: A Strategc Gude to the Network Econoy, Harvard Busness School Press, Boston, 1999. Shy, O., The Econocs of Network Industres, Cabrdge Unversty Press, Cabrdge, 001. Soloon, E.H., Vrtual Money, Oxford Unversty Press, New York, 1997. Swre, P.P., The Uses and Lts of Fnancal Cryptography: A Law Professor's Perspectve, n Conference Proceedngs of Fnancal Cryptography, Sprnger Verlag, Berln Hedelberg, 1997. van Soeren, N., Odlyzko, A., Rvest, R., Jones, T. and Golde-Scot, D., Does anyone really need cropayents?, n Conference Proceedngs of Fnancal Cryptography, Sprnger-Verlag, Berln Hedelberg, 003. van Soeren, N., The practcal probles of pleentng Mcront, n Conference Proceedngs of Fnancal Cryptography, Sprnger-Verlag, Berln Hedelberg: 001. Page 53