By Kerry Lynn Macintosh


Professor Macintosh analyzes the strategic advantages and disadvantages of credit cards for buyers and sellers. She concludes that Internet commerce needs electronic money in order to achieve its full potential. Professor Macintosh further reasons that the Internet needs "global electronic currencies" that can serve as universal media of exchange, global units of account, and stable stores of value. However, burdensome laws and regulations could delay, or even preclude, the emergence of electronic money. Professor Macintosh concludes that federal regulations and uniform state laws designed to combat money laundering should not apply to electronic payment products. Also, Congress and the state legislatures should work to repeal outdated laws that stand in the way of electronic money.












Nearly two years ago, the Clinton Administration issued A Framework for Global Electronic Commerce.1 The Framework is one of the most radical political documents of this century-not for what it committed government to do, but for what it committed government not to do.

The Framework established five basic principles to guide development of Internet commerce. First, the private sector should lead.2 Second, governments should avoid undue restrictions that might distort development of the electronic marketplace.3 Third, government should work to foster a legal environment that is predictable, consistent, and minimalist.4 Fourth, governments should recognize that the Internet is unique, and requires new policies.5 Fifth, electronic commerce should be facilitated on a global basis.6

The Framework identified electronic payment systems as a key element of global electronic commerce.7 It recognized that, at this early stage in the development of electronic payment systems, the commercial and technological environment was changing quickly, making it hard to develop timely and appropriate policy.8 For these reasons, the Framework concluded, inflexible and highly prescriptive regulations and rules would be inappropriate and potentially harmful.9 Instead, electronic payment experiments should be monitored on a case-by-case basis.10

Since the Framework was released, Internet commerce has increased rapidly in volume, and is projected to be hundreds of billions of dollars by the start of the twenty-first century.11 Because sales cannot go forward without payments, the development of electronic payment systems has emerged as a top priority for innovators and policymakers in the new millennium.

Thus far, credit cards have emerged as the most popular method of payment over the Internet.12 Consumers send their card numbers over the phone lines, apparently confident that existing encryption protocols are sufficient to protect them against theft and fraud.13

Meanwhile, competing electronic payment systems are struggling to survive. DigiCash, Inc. is known as the company that developed eCash, a system for making anonymous electronic payments using digital "coins."14 However, the idea failed to catch on, and DigiCash petitioned for Chapter 11 reorganization in November 1998.15 Smart cards have not fared much better.16 Recently, Citibank and Chase Manhattan ended a smart card pilot program operating in the Upper West Side of Manhattan due to a lukewarm response from the public.17

In this essay, I consider three questions. First, does global electronic commerce need electronic payment systems other than credit cards? Second, if so, what payment systems does global electronic commerce needare the characteristics of these systems? Third, what, if anything, can government do to promote the emergence of the necessary systems?

X. Credit Cards Are Not Enough

Internet buyers seem to prefer credit cards to other electronic payment systems that have been made available to them.18 Why?

One reason is may be simple familiarity. Internet commerce is still new and intimidating to many. It is easier for buyers to make purchases on the Internet when they can use a familiar payment method, like the credit card. As time passes, buyers should become more comfortable with Internet commerce. Innovative payment products, such as smart cards and electronic money, should become more familiar to them.

Even then, however, Internet buyers may continue to prefer credit cards, particularly when making expensive purchases. This is because credit cards offer strategic advantages to buyers in general. Consider these two points:

Every use of a credit card involves a loan to the buyer. This enables her to buy more than she earns. The loan may even be interest-free, if she pays her account off every month. By contrast, if she holds electronic money, she is, in effect, making an interest-free loan to the company that issues the money.19

If a credit card purchase goes sour, a buyer often can avoid loss by asserting her claims or defenses on the purchase against the issuer of the card.20 By contrast, the law makes it difficult to recover cash, once spent, cash cannot be recovered.21 Similarly, a cashier's check-long recognized as a substitute for cash-cannot easily be stopped.22 Electronic money that functions like cash or cashier's checks may face similar constraints.23

However, buyers are only one side of the coin. For sellers, credit cards have the following strategic disadvantages:

  • Unlike cash or cash equivalents, credit card charges are subject to percentage fees.24 These charges erode profit margins, particularly on inexpensive goods and services.

    As explained above, a buyer who uses a credit card may refuse to pay the issuer on the grounds that she has a claim or defense arising out of the underlying transaction.25 When this happens, the issuer may pass the loss back to the seller.26

    Enrolling in the credit card system requires establishing a relationship with a depositary bank, including the signing of a complex commercial agreement.27

    The reason Internet buyers are able to insist on credit card use is because they enjoy a bargaining advantage over online sellers-at least for now. The current success of Internet commerce depends on large numbers of consumers, and therefore they must be coaxed into online purchasing. But this state of affairs is not likely to last long. Electronic commerce will continue its explosive growth. More and more buyers will want to participate. Meanwhile, a larger and more diverse complement of sellers will move online. Consumers will sell goods or services to other consumers. Hobbyists will market digital crafts. Retirees will offer consulting services.

    As the cybermarket matures and diversifies, the balance of bargaining power will shift. Internet sellers who offer low-cost products will not want to pay percentage fees. Those who transmit information goods or services electronically may not want to accept the risk that buyers might reverse the charges later. Consumers and others who make only occasional sales may not be willing or able to enroll in the credit card system.

    Thus, it is much too early to conclude Internet commerce can-or should-rely primarily on credit cards. Soon, Internet sellers who do not like the cost or risk associated with credit cards will demand money from buyers, just as sellers in real space often do. When that happens, the market will need electronic currencies that can circulate from computer to computer, around the world.28

    I. The Internet Needs Global Electronic Currencies

    If global electronic commerce does need additional electronic payment systems, what should the characteristics of those systems be? I have previously argued that the Internet needs "global electronic currencies"-that is, currencies that are privately issued, managed, and denominated.29 Companies that issue such currencies will compete with each other for the business of Internet buyers and sellers.30 Only currencies with stable value and wide acceptance in the marketplace will survive.31

    Global electronic currencies will benefit Internet commerce in three ways. First, the currencies can serve as universal media of exchange. Once a user acquires a global electronic currency, she can enter into transactions around the world without having to pay exchange fees.32 Second, the currencies will provide global units of account, enabling buyers and sellers all over the world to understand what goods and services are worth without calculation.33 Third, and perhaps most importantly, global electronic currencies will serve as stable stores of value. Competition will drive unstable products out of the market.34 Unlike national monies, private currencies will not be subject to the inflationary monetary policies of national governments and the special interests they represent.35

    Some might argue that we could achieve the same advantages with government monies. For example, if the Federal Reserve Board issued its own electronic money, dollars could become the currency for the entire Internet.36

    However, the Federal Reserve Board does not plan to issue electronic money at this time.37 More importantly, the Framework reminds us that Internet commerce should be facilitated on a global basis. A global marketplace should not depend on the currencies of sovereign nations and the politics and inflationary monetary policies that come along with them.38 If allowed to lead, the private sector can develop stable electronic currencies that are free of political entanglements and offer the benefits of universal media of exchange, global units of account, and stores of value.39

    II. How Can We Free Up the System?

    The last of my three questions is the most important for policymakers. If global electronic currency is needed for Internet commerce, then WwWhat, if anything, can government do to encourageand facilitate private companies to developthe emergence of global electronic currencies, or other electronic payment systems for the Internet?electronic payment systems--including global electronic currencies?

    In November 1998, the U.S. Government Working Group on Electronic Commerce issued its First Annual Report on progress made in achieving the goals stated in the Framework.40 In the pages that follow, I offer some constructive advice for the Working Group in three areas: proposed federal regulations, state uniform law projects, regulation, and outdated federal and state laws.antiquated legislation.

    A. Federal regulationsThe Working Group should lobby against proposed Federal laws and regulations

    The Framework calls upon regulators to refrain from imposing "inflexible and highly prescriptive regulations and rules" that could inhibit the development of new systems for electronic payment.41

    To a remarkable extent, the federal government has heeded this call. The Federal Reserve Board has declined to extend Regulation E42 to electronic stored value products.43 As a result, the development of consumer protection policy for electronic stored-value products has been left to the marketplace. Similarly, the Consumer Electronic Payments Task Force has declined to recommend specific regulations for electronic payment systems, recommending instead that market participants develop policies and procedures to address areas of consumer concern.44 According to the Task Force, government should limit its role to providing consumer financial education, monitoring industry developments, and encouraging industry to self-regulate.45

    Unfortunately, however, there is one federal agency that has resisted the call to laissez-faire.

    Pursuant to the Money Laundering Suppression Act of 1994 ("MLSA"), Congress amended the Bank Secrecy Act ("BSA") to require any business engaging in money transmitting services to register with the Financial Enforcement Network ("FinCEN") of the U.S. Department of the Treasury.46 To implement this mandate, on May 21, 1997, FinCEN issued proposed amendments to the BSA regulations.47 Under the amendments, the term "financial institution" would include "money services business,"48 which, in turn, would include issuers and sellers of stored value49 and money transmitters.50 If adopted, the amendments would eliminate any lingering doubt that those who offer or operate advanced electronic payments systems are subject to the BSA.51

    Compliance with the BSA and its regulations is burdensome and expensive.52 By increasing cost and effort, the proposed amendments could slow-or even stop-the development of global electronic currencies, and other innovative electronic payment products.53

    Moreover, some regulations and programs could embroil electronic payment systemspayment systems in political controversy. For example, FinCEN plans to exempt transactions involving stored value and other advanced electronic payment products from suspicious transaction reporting54-but not for long. Already, the agency has invited comments about the manner in which suspicious transaction reporting should apply to transactions involving stored value products.55

    Critics of the proposed regulations have questioned whether stored value is within the scope of the MLSA and its grant of authority to FinCEN.56 Congress did not discuss stored value when the MLSA was under consideration.57 Nor was any evidence produced at that time to demonstrate that stored value or similar electronic payment products were being used to launder money.58 [Header: Federal Regulations]

    Three years ago, when the Federal Reserve Board first proposed applying Regulation E to electronic stored-value products,59 Congress required the Fed to study and report on whether Regulation E would adversely impact the cost, development, and operation of such products.60 Similarly, Congress should direct FinCEN to conduct a more extensive study to determine whether regulation under the BSA could have a harmful impact on the cost, development, and operation of electronic payment systems.61 Like the Fed, FinCEN should be asked to consider whether allowing competitive market forces to shape the development of electronic payment systems would more efficiently achieve the objectives of the BSA.62 If the answer is "yes," then the proposed amendments should not be adopted.

    B. Uniform law projects[Header: State Laws]

    Federal regulators are not the only source of "inflexible and highly prescriptive regulations and rules"63 that could inhibit the development of global electronic currencies. Consider, for example, the Uniform Money Services Business Act ("UMSBA").64 Designed to combat money laundering, the UMSBA would subject money services businesses to a complex system of licensing, examination, reporting, and civil and criminal penalties. "Money services business" includes a person who sells, issues, or provides payment instruments,65 including stored value instruments.66 The term also includes a "money transmitter" who engages in the business of receiving money for transmission or transmitting money.67

    The drafters have included stored value products within the scope of the UMSBA on the reasoning that the use of stored value as a means of payment is similar to money transmission as a process.68 The drafters also are considering whether electronic currency that is transmitted over the Internet falls within the current definition of money transmitter, or needs to be separately addressed in the Act.69

    The drafters have good intentions but are on the wrong track. The question is not whether emerging electronic payment systems bear some resemblance to money transmission as a process, but whether those systems are mature enough to sustain the burden of uniform legislation at this time. For two reasons, the answer is "no." systemsFirst, we have had little or no practical experience with stored value, let alone electronic currencies or other Internet payment systems.70 Under such circumstances, drafting becomes guesswork:

    [I]t is virtually impossible to draw sensible statutory definitions as to whom should be required to be licensed under the stored-value provisions of a Uniform Act.... Even such deceptively simple terms as 'issuer' and 'redeemer,' when applied to stored-value, can mean vastly different things among the dramatically distinct types of stored-value systems struggling to emerge in the marketplace today; in such circumstances, any definitions will be so highly specific to one or another type of provider as to be meaningless.71

    Second, unlike more traditional forms of money transmission, smart cards, electronic currencies, and other innovative payment products are struggling to get off the ground. It may be years before these products are firmly established in the marketplace. Imposing burdensome laws during this critical period in time could delay or even preclude the emergence of the electronic payment systemsmoney that Internet commerce needs. In the spirit of the Framework and the minimalist approach it advocates, the Working Group should ask the National Conference of Commissioners on Uniform State Laws to remove smart cards and other innovative electronic payment products from the scope of the UMSBA.

    C. Outdated federal and state lawsThe Working Group should push for the elimination of antiquated and harmful laws

    Finally, the Framework states that "[e]xisting laws and regulations that may hinder electronic commerce should be reviewed and revised or eliminated to reflect the needs of the new electronic age."72

    This statement is good policy. Over the decades, laws and regulations on payment systems have grown like weeds, creating a dangerous and impenetrable thicket. Often, it is difficult to know whether or how government might apply these laws and regulations to new ideas. Legal uncertainty of this kind can discourage entrepreneurs from developing innovative payment systems.

    Existing laws and regulations can be harmful in various ways. Global electronic commerce requires a high level of innovation. Unfortunately, existing laws often Sometimes, laws place limits on who can innovate. For example, many states prohibit anyone other than a licensed bank from conducting a banking business.73 "Banking" is then defined so broadly that smart cards and other electronic payment products may be included.74 In effect, this precludes non-banks from innovating in the payment systems area.75

    Worse, some existing laws and regulations seem to prohibit innovation altogether. For example, during the Civil War, coins were scarce. Responding to the crisis, Congress authorized the use of postage stamps as currency.76 To secure a monopoly for the stamp currency, Congress added the following provision:

    Whoever makes, issues, circulates, or pays out any note, check, memorandum, token, or other obligation for a less sum than $1, intended to circulate as money or to be received or used in lieu of lawful money of the United States, shall be fined under this title or imprisoned not more than six months, or both.77

    The Civil War is long over, and the postage stamp currency gone. Unfortunately, the U.S. currency monopoly lives on, in the form of this provision. If Internet commerce generates a demand for low-cost information services, buyers will need electronic currencies capable of handling micropayments. But, so long as this antiquated statute stays on the books, no one few may dare to issue a circulating electronic currency that could be used to make micropayments of less than one dollar.78

    State laws can be equally problematic. For example, the California Penal Code Section 648 provides:

    Issuing or Circulating Paper Money. Every person who makes, issues, or puts in circulation any bill, check, ticket, certificate, promissory note, or the paper of any bank, to circulate as money, except as authorized by the laws of the United States, for the first offense, is guilty of a misdemeanor, and for each and every subsequent offense, is guilty of a felony.79

    This dinosaur was enacted in 1872.80 Given the reference to paper money, the statute may not apply to electronic payment systems. Still, words like "ticket," "certificate," and "promissory note" are ominously vague. Laws of this kind, which threaten to make felons out of innovators, endanger our commercial future.

    In sum, the Working Group must push to eliminate laws that could interfere with the free development of electronic payment systemsey. A useful first step would be to identify every federal and state law that could block innovation. in electronic payment systems. Thereafter, the Working Group should work with Congress and the states to encourage repeal of antiquated and obstructive laws.

    III. Conclusion

    In order for global electronic commerce to achieve its full potential in the new millennium, the Internet needs more than credit cards. It needs cash equivalents, including global electronic currencies capable of transcending national politics and monetary policies. To encourage innovation along these lines, government must not only resist the temptation to unleash new laws and regulations, but also work to repeal the legislative sins of its past.