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eBait

Newsdesk by Newsdesk
Wed 14 Oct 2009 at 16:00
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The State and Cyberspace

The European regulatory response to virtual money

Since 2002, the EU has had in force regulation concerning e-money, which is defined as:
“monetary value, as represented by a claim on the issuer, which is:

  •  •  stored on an electronic device;
  •  •  issued on receipt of funds; and
  •  •  accepted as a means of payment by third parties”.

This requires any person issuing e-money to be authorised by a European national regulator and requires, inter alia, that a purse representing the amount of e-money in issuance is retained by the issuer.  The regulations are currently under review by the European Commission with a view to relaxing them so as to facilitate the extension of the use of e-money throughout the European economy.

Linden dollars issued in Europe would satisfy two of the three criteria for e-money as they are stored on an electronic device, issued on receipt of funds, but not (yet) accepted as a means of payment by third parties (such as other virtual worlds, games or merchants outside Second Life).  While, on this basis, most ‘virtual money’ currently falls outside the scope of e-money regulation, it can still present the public policy challenges set out above.  While some of these could be addressed by extending e-money regulation that is not the approach which is currently being taken.

Taxation

Most European countries have taken the view that, in principle, there is no need for a person to receive something tangible in order to pay tax, but that tax will not apply until virtual currencies are exchanged for real currency.  However, the Swedish example suggests that efforts to collect tax in relation to virtual activities have not been successful.  In 2008 the Swedish tax authorities announced a Virtual World Value Added Tax to cover income generated by sales of virtual goods—it gave the example of sales of game avatars to other users (from which it was estimated roughly US$85.8 million in income is generated).  So far however the Swedish tax authorities have not collected any tax from income for the sale of avatars.

Crime

The United Kingdom government has taken a leading role in Europe in initiating international discussion on the public policy implications of virtual worlds, and in June published the Cyber Security Strategy of the UK which provides for the establishment of an ‘Office of Cyber Security’ and a ‘Cyber Security Operations Centre’ (to be operational by March 2010), which will look to address online crime including the laundering of proceeds of crime through the use of online games.  Initiatives to deal with online exploitation of children are also relatively advanced in the UK.  It is expected that other European countries will be watching UK developments closely.

The Macro-economy

Permeable monetary spaces in the virtual world, such as were being created in China, do theoretically represent a threat to the effectiveness of macro-economic management tools.  However, realistically it is only the large ‘systemically important’ games or virtual worlds which present this threat.  Further, rooted as these virtual monies are in traditional currency and final means of settlement, the risk is mitigated to the extent that convertibility into real currency opens the virtual world developer itself, as guarantor of the virtual currency, to potentially huge financial exposure.  However, the macro-economic effect remains a public policy issue which will need to be kept under review as any e-money proliferates.  For example, a related issue in the future will be how local electronic currencies can maintain their integrity as against stronger universally accepted currencies (an analogous real world issue arises where the dollar, for instance, replaces an enfeebled local currency).

Conclusion

Whatever the current public policy challenges presented by electronic or digital money, of which virtual money is a sub-set, it is apparent that were e-money to replace cash it would solve many more problems than it creates.  The dematerialisation of the economy could serve to frustrate many illegal activities and marginalise the ‘black economy’, increasing tax revenue.   Paradoxically, the best way for the authorities to handle the challenges of the virtual economy may be to anticipate the future of money and hasten the demise of cash.

By Brian McDonnell, Partner, Olswang
Olswang is a full service European law firm specialising in the gambling, media and technology sectors. Brian McDonnell leads Olswang’s Financial Services Regulatory Group and specialises in all aspects of UK and EU financial markets law and regulation. He is a technical adviser to the Securities and Investment Institute (‘SII’), and an examiner for the SII Financial Regulation Examination.

brian.mcdonnell@olswang.com

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