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The Future of Money in the Information Age

Chapter 12: Privacy and Social Protection in Electronic Payment Systems

David Chaum

I would like to address what I think is a misunderstood yet very attractive way to create economic growth: electronic consumer payment systems--both for the physical world and cyberspace. To clarify the misunderstanding, I will begin by describing two different scenarios for building electronic payment systems, each scenario having its own shortcomings.

One scenario is a fully traceable world, ``Clipper cash,'' that is, a world of what I would like to call ``data fascism.'' The other straw man is an electronic payments system that mimics the anonymity of paper currency today.

The Data Fascism Scenario

Think tank studies have indicated that making ordinary consumer payments totally traceable by government would be a way to influence society enormously and curtail all kinds of activity, and cause a kind of homogeneity. Technically it is really very easy to do this. Almost all the new emerging electronic payment systems, in fact, already do this, and no really fundamentally new technology is required.

Basically, there are two ways to trace payments, and you can mix and match them as you like. One is with an on-line system: the consumer goes to a point of payment and is required to identify himself by some kind of biometrics, such as a fingerprint; the consumer's account is accessed; and the consumer can then conduct various kinds of transactions. There are central records of all of these transactions, and the consumer can be locked out of the system at any moment.

Another way to achieve the same effect, which is a little bit trickier, is to empower chips, individual chips that people can carry around and treat as personal bank branches or offices. Like a ``Clipper chip,'' each chip is a little black box, the inner workings of which are inscrutable to and unmodifiable by its holder. Inside the box are mechanisms that ensure that people do not spend more than they really have or go beyond their line of credit. At least that is what should be in that box, but consumers have no real way of knowing what is actually in that box and what it is doing.

For instance, that box might be sending out encrypted messages revealing everything consumers do, which could be collected by all manner of parties. It might even allow receipt of special messages that cause it to go into a secret mode. This might be used to discriminate against certain types of people or enforce arbitrary rules that have been preprogrammed into the chip or that are downloaded. It's a pretty powerful kind of mechanism. Of course, there is always a lingering doubt on the part of consumers about what is really going on in that box and what it will do in the future. And even just that doubt can have a chilling effect on society. Some countries may wish to adopt this kind of electronic payments system, but I hope the United States is not one of them.

Totally Anonymous Electronic Payments

There is a another extreme scenario, a sort of pure form, and it refers to a totally anonymous payments system. I would like to submit that we already have more or less totally anonymous transactions today through the use of paper currency.

Estimates from major banks indicate that the cost of operating the physical money system is between 2 and 3 percent of gross domestic product. And the extent of counterfeiting, of course, is not even acknowledged by the U.S. government. Apparently some countries do report it and it is staggering. It is a tax on society that is used to foster all kinds of other criminal activity. Clearly not a desirable property of the current payments system. There are also other criminal uses stemming from the use of paper currency--such as various types of extortion, black markets, bribery, tax evasion, and money laundering.

When we move to an electronic consumer payments system, it's a new medium, and a different world than the paper world--it creates different opportunities and different vulnerabilities. So we cannot exactly equal paper cash in an electronic medium. But we can come very close, and I'll take responsibility for publishing some papers in the last decade that told in plain mathematical formulas how to do it, and it is no secret.[1See, for example, Chaum (1981, 1989). A summary and update of my earlier work can be found in Chaum (1992).] So, in a sense, the cat is out of the bag.

Achieving Privacy While Protecting Society:

The Best of Both Worlds

Neither system, data fascist not perfect anonymity, is very desirable. What is needed is an electronic payments system to create economic growth and prosperity; it must be a common system that will be able to be widely adopted. Hopefully, it will not have the drawbacks of either scenario.

Now the misunderstanding I mentioned stems from the notion that one must choose between the two scenarios. That is a fairly common way of thinking. However, my research in cryptography over the last decade and a half has taught me that cryptography is extraordinarily powerful. As an illustration, let me explain how we can actually obtain the best of both scenarios.

That result is achieved through the blind-signature technology. Systems based on it are now being launched by Deutsche Bank and other major banks in European countries, and we have it on chip cards and in electronic wallets. The essential idea is simply that instead of receiving digital money from your bank, which you withdraw just like paper money, your computer actually participates in creating the money and actually chooses the serial numbers for you at random. Those serial numbers are then hidden by your computer in a layer of blinding (a special kind of encryption) for which only your computer knows the key. Next, you submit those blinded numbers to the bank for a signature; the bank signs them, to make them worth an equivalent value that it has taken from your account; and, when you receive them back, you can remove the layer of blinding. Thus, when you spend those digital coins, everyone can see that they are signed by the bank, and the bank has to honor them (at least the first time each is spent), but no one, not even the bank, can know which account the money was withdrawn from. Thus, privacy is preserved.

But, since your computer knows the serial numbers of the coins it has created, it can always cooperate with the bank to allow tracing of a coin to the recipient's account. This means the payer can always retroactively and irrefutably reveal the recipient of the funds. With such electronic cash, the various criminal uses--extortion, black markets, bribery--are no more likely than they are with checks today. (After all, what kidnapper would accept payment by check?)

Not only can the recipient always be traced by the payer, but the money has to be deposited into a bank account in order to be verified as valid. Thus, the total revenue received by any entity would be known almost in real time, thereby preventing the hiding of income for tax evasion and many types of money laundering.

Conclusion

Fear of technology is often cited as an inhibitor of its adoption. I think that what will prevent information technology from being fully adopted, and making its best contribution to economic growth, will be fear that personal information may be misused. This impediment must be overcome before we can achieve the full potential of this new medium.

My personal goal is to try to build a payments system that can be widely adopted and that will stimulate economic growth both in cyberspace and in the physical world. The system I envision will also help alleviate many social problems and act as a springboard for increasing individual freedom. All this will come about as consumers realize that the use of electronic payments media does not have to compromise their privacy, but in fact can empower them to protect their own interests.

References

Chaum, D. (1981) "Untraceable Electronic Mail, Return Addresses, and Digital Pseudonyms." Communications of the ACM 24 (2) (February).

Chaum, D. (1989) "Privacy Protected Payments: Unconditional Payer and/or Payee Untraceability." In D. Chaum and I. Schaumuller-Bichl (eds.) Smart Card 2000: 69-93. Amsterdam: North-Holland.

Chaum, D. (1992) "Achieving Electronic Privacy." Scientific American (August): 96-101.

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