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The Future of Money in the Information Age

Chapter 9: Monetary Innovation, Banking, and Regulation

Michael N. Castle

The Possibilities of Electronic Money

Coming from the small state of Delaware that has succeeded economically by producing progressive laws that encourage the development of the financial services industry, I am very intrigued by the possibilities of electronic money. My goal has been for Congress to gain an understanding of these new technologies and encourage the sharing of information by industry to avoid the usual inclination of Congress to come to an issue late and then try to rush in and regulate it.

In 1995, my subcommittee, the Domestic and International Monetary Policy Subcommittee of the House Banking and Financial Services Committee, discovered the subject of electronic money and decided that it might be even more fun than a Humphrey Hawkins hearing with Alan Greenspan testifying. During 1995-96, my subcommittee held four hearings on ``The Future of Money,'' designed to introduce Congress and the public to a better understanding of the new monetary technologies that will power the next revolution in world commerce.[1Transcripts of the hearings are available from the subcommittee's Web site at http://www.House.Gov/Castle/Banking/.] It was immediately clear that one or more of the schemes underway to create new forms of storing, transmitting, and exchanging value would come under the jurisdiction of my subcommittee, the full Banking Committee, and eventually Congress as a whole.[2My subcommittee jurisdiction includes oversight of the Federal Reserve System, the World Bank, other international financial institutions, and currency and coinage, including commemorative coins.] There is nothing like the possibility of grabbing some new turf to get a politician interested in an issue.

Our subcommittee's investigations into this subject have provided an introduction to the emerging electronic technologies and new business opportunities that will drive a worldwide commercial revolution projected to rival the Industrial Revolution. The operative word is projected. Most of the current projections appear to be based less on hard evidence and more on wishful optimism. One projection breathlessly predicts that, by the year 2000, nonbanks will account for as much as 25 percent of the $800 billion in global electronic commerce and payments revenue created by Internet merchants. If that scenario holds true to any significant degree, it is clear that commerce over the Internet, and the electronic means of payment used to facilitate that commerce, will dwarf even widespread penetration of stored-value cards. In this superheated atmosphere, it is hardly surprising to see overnight fortunes created on the strength of the barely tested ideas of very young people.

Hearings on the Future of Money

The first hearing, held on July 25, 1995, involved private-sector entrepreneurs in the field who outlined the potential impact of new technology on future payment systems, the money supply, security, and regulatory compliance issues.

At the second hearing, on October 11, 1995, the subcommittee received testimony from federal entities responsible for law enforcement and management of the monetary system. While the new technology has the potential to revolutionize electronic commerce, law enforcement agencies are concerned about how those same technologies will complicate their missions to counter tax evasion, money laundering, counterfeiting, and fraud.

Regulators accept that monetary policy may be affected by some systems of electronic cash substitutes, that the money supply may be affected, and that some technologies may bring an inflationary potential with them, but they are still willing to wait and watch before calling for regulation. One parochial concern of the Treasury is that, as electronic forms of payments become more widespread, the demand for and thus supply of coins and currency will decrease, and so will the revenue raised by the seigniorage from circulating currency, currently $20 billion each year.

Philip Diehl (1995), the director of the U.S. mint, said he expected to be making legal tender stored-value cards before he minted a new one-dollar coin. I do not know if this is good news or bad news, but it has become clear to me that few things are changing as rapidly as is the climate for applications of new technology on the eve of the millennium. In fact, the Fed has already disclaimed any interest in producing legal tender stored-value cards at this time for fear of stifling private-sector initiatives. Without attempting to pass legislation now, Congress should also learn as much as possible about this business and its offshoots.

The third hearing, on March 7, 1996, explored the strategies both banks and nonbanks are employing to profit from the opportunities and challenges presented by these new technologies. Security First Network Bank, FSB, one of several operating banks that primarily exist on the Internet, displayed computer graphics from its Web site. It hopes to create the McBank franchise of the Internet.

We also learned that nonbank institutions are seizing opportunities to perform bank-like functions in what is currently a regulatory near-vacuum. Coley Clark, corporate vice president of Electronic Data Systems, sounded one of the few notes of caution. He believes that consumers will tend to resist technology until there is a persuasive reason for them to adopt it.

Bill R. Norwood, executive director of the Card Application Technology Center of Florida State University, told us about the FSUCard, a multipurpose stored-value and account-access card used by FSU students. FSU has pioneered the multiple-use card and moved from a closed campus environment into the community as well. Students use the card as an I.D., to access dorms, computer systems, and university accounts, including financial aid and tuition payments. It provides access to bank accounts via the ATM system, and it has a stored-value component that permits its use for cashless, low-value transactions. This includes vending machines, copiers, laundry facilities, calling-card functions, and access of voice mail. Tallahassee merchants have petitioned to be admitted into the system to gain access to the nearly 30,000 card holders. Parents love this card because when they fund it they receive a detailed print-out of all their children's college expenditures.

I am convinced that important consumer interests will ultimately provide impetus for whatever legislation is forthcoming. Security of information is a prime consumer interest both here and in Europe. Transactions will need to be verifiable and controllable from the consumer's point of view. These issues and the response of the market to concerns such as purchase satisfaction guarantees, loss replacement, and personal profile data-base management will be important elements to propel the industry or provoke a legislative reaction. If industry leaders are as nimble and intelligent as they are depicted in the business pages, these problems will be anticipated. Access to valuable personal data on purchasing habits will be paid for with whatever currency suits the task, be it frequent flier miles, gasoline coupons, discounts, or twofers. One current example of privacy selling being tested in San Francisco is that, if you make a local telephone call on certain pay phones, you will be invited to listen to a 30 second commercial in return for a free call.

With sufficient time, technology may be able to answer many of the questions being asked about privacy. Biometric data encrypted on stored-value cards could render them worthless to anyone but the rightful owners. New computer applications such as no-toll, full-duplex telephone conversations via the Internet could launch a new wave of personal computer acquisition and usage.

Private-sector practice should move to establish, by contract, convenient forums for resolving commercial disputes on the Internet that might otherwise involve the conflict of several legal systems. This process is already well underway. One center of research into these topics is the Virtual Magistrate Project for rapid arbitration and settlement of on-line disputes. It is being undertaken by the Cyberspace Law Institute (CLI) and the National Center for Automated Information Research (NCAIR). The genie is truly out of the bottle.

The fourth hearing was held on June 11, 1996, with U.S. and international witnesses invited from business and government. At this hearing, we examined the prospects for international private sector agreement, assuming that the window of opportunity for such agreement remains open.

The Bureaucratic Imperative to Regulate

Future congressional hearings on electronic money and commerce are likely to be driven by specific perceived threats to consumer protection and to the integrity of the monetary system, as well as by the threat of new variations of fraud or other criminal behavior. In this atmosphere there is a possibility that much restrictive legislation will be passed. The reflexive reaction of a regulator confronted by something new is first, to establish jurisdiction, then to protect the public from it.

We are being crowded by the future. The concept of money is rapidly changing from the concrete to the electronic, from government issue to commercially created. Digital forms of money hold enormous potential both for expanded commerce and for mischief.

I believe that private-sector industry groups around the world should consult and start building a common agenda. Standards are needed for interoperability, privacy, security, financial responsibility, and especially consumer rights. Otherwise, the natural bureaucratic imperative to regulate will assert itself and much of the promise of the new technology will be lost.

Reference

Diehl, P. N. (1995) ``Statement of Philip N. Diehl, Director, United States Mint, before the House Subcommittee on Domestic and International Monetary Policy, `The Future of Money,''' 11 October.

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