Virtual currencies are not new and are ingrained in our modern culture. For example, airline frequent-flier miles are accepted (in fact expected) both as a means of exchange and a way to store value. According to The Economist (2005), these airline programmes reached the outstanding aggregate value of $700bn back in 2005!
Frequent flyer miles are an example of a centralised virtual currency, as these programmes are controlled by a central administrator (the airline), who may change the terms (and value) of such currency from time to time. We all have witnessed devaluations when airlines arbitrarily impose blackout dates or increase the number of miles needed for travel.
Bitcoin is different. Bitcoin is a decentralised virtual currency because it has no administrator or central repository. Instead, the rules of Bitcoin are fixed by open source software. There are currently about 11 million outstanding Bitcoins, and this number will increase to no more than 21 million outstanding Bitcoins. All Bitcoin transactions are logged on a public ledger without the use of any personal information. Transactions are verified by third parties (called miners) who provide services and computer power to the network.
Bitcoin is a good fit for the social gaming industry due to the high transaction costs experienced online. Welcome to an economy with no chargebacks, no transaction fees, infinite global reach and the ability to perform micro-transactions. Want to pay a customer a referral fee of 10 cents? It can be done with Bitcoin without any transaction cost. Want to sell a virtual good for a penny? A customer can send a penny’s worth of Bitcoin as Bitcoins are divisible to eight decimal places (0.00000001 of one Bitcoin is called a “satoshi”, after the creator of Bitcoin). Want to accept revenue without accepting a deposit of funds and establishing a full customer account? A customer known only by screen name may pay for virtual goods or subscription fees with Bitcoins.
Since its initial release in 2009, industry and consumer acceptance of Bitcoin has been slow for a number of reasons. The anonymity of the system is enticing for purchasers of pornography or illegal goods, which has sometimes caused the virtual currency to be cast in a negative light. And legal uncertainty, especially in the United States, has limited acceptance of the virtual currency.
In March, an enforcement division of the US Department of Treasury released interpretive guidance on their position of the use of certain virtual currencies, including decentralised virtual currencies. Although Bitcoin is not mentioned by name, the Division’s position was that “exchangers” and “administrators,” including certain persons “engaged as a business” in “virtual currency” transactions, are subject to money transmitter limitations and may be subject to licensure requirements. These limitations would make Bitcoin transactions much more transparent in contrast to the anonymity of the current regime.
Valuations of Bitcoin have been extremely volatile primarily due to the increase in the number of Bitcoin speculators. Since the total number of Bitcoins is fixed, it has been debated whether Bitcoin is vulnerable to an inevitable “deflationary spiral” because people have an incentive to hold Bitcoins and delay consumption while fiat currency (currency issued by the government) increases in supply.
Although there is a system to exchange Bitcoins into currency, this exchange industry is dominated by one provider, and disruptions with respect to this one exchange have had a huge impact on the value of Bitcoin. For Bitcoin to ultimately succeed, the exchange market will need to diversify and grow to accommodate the demand. The ease with which Bitcoin enables payments to be made and the ability to efficiently receive micropayments makes it appealing to the social gaming industry. There are various vendors to assist with integrating Bitcoin. However, this market is uncertain and you are cautioned to take extra time and diligence before choosing any partner and to evaluate all the business and legal risks.
This article was originally published in the May edition of UK-based Social Casino Intelligence magazine.