Digital currency

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Digital currency – How does digital currency work?

Digital currency (digital money or electronic money or electronic currency) is a type of currency available only in digital form, not in physical (such as banknotes and coins). It exhibits properties similar to physical currencies, but allows for instantaneous transactions and borderless transfer-of-ownership. Examples include virtual currencies and cryptocurrencies or even central bank issued "digital base money". Like traditional money, these currencies may be used to buy physical goods and services, but may also be restricted to certain communities such as for use inside an on-line game or social network[1].

What is Digital currency?[edit]

In 1983, a research paper by David Chaum introduced the idea of digital cash. In 1990, he founded DigiCash, an electronic cash company, in Amsterdam to commercialize the ideas in his research. It filed for bankruptcy in 1998. In 1999, Chaum left the company[2].

In 1997, Coca-Cola offered buying from vending machines using mobile payments. After that PayPal emerged in 1998. Other system such as e-gold followed suit, but faced issues because it was used by criminals and was raided by US Feds in 2005. Q coins or QQ coins, were used as a type of commodity-based digital currency on Tencent QQ's messaging platform and emerged in early 2005. Q coins were so effective in China that they were said to have had a destabilizing effect on the Chinese Yuan currency due to speculation. Recent interest in cryptocurrencies has prompted renewed interest in digital currencies, with Bitcoin, introduced in 2008, becoming the most widely used and accepted digital currency.

Digital currency is a money balance recorded electronically on a stored-value card or other device. Another form of electronic money is network money, allowing the transfer of value on computer networks, particularly the Internet. Electronic money is also a claim on a private bank or other financial institution such as bank deposits.


Digital currency types[edit]

Digital vs virtual currency[edit]

According to the European Central Bank's "Virtual currency schemes – a further analysis" report of February 2015, virtual currency is a digital representation of value, not issued by a central bank, credit institution or e-money institution, which, in some circumstances, can be used as an alternative to money. In the previous report of October 2012, the virtual currency was defined as a type of unregulated, digital money, which is issued and usually controlled by its developers, and used and accepted among the members of a specific virtual community.

According to the Bank For International Settlements' "Digital currencies" report of November 2015, digital currency is an asset represented in digital form and having some monetary characteristics. Digital currency can be denominated to a sovereign currency and issued by the issuer responsible to redeem digital money for cash. In that case, digital currency represents electronic money (e-money). Digital currency denominated in its own units of value or with decentralized or automatic issuance will be considered as a virtual currency[3].

As such, bitcoin is a digital currency but also a type of virtual currency. Bitcoin and its alternatives are based on cryptographic algorithms, so these kinds of virtual currencies are also called cryptocurrencies.

Digital vs traditional currency[edit]


How does digital currency work?[edit]

Centralized systems[edit]

Many systems—such as PayPal, eCash, WebMoney, Payoneer, CashU, and Ven will sell their electronic currency directly to the end user. Other systems only sell through third party digital currency exchangers. The M-Pesa system is used to transfer money through mobile phones in Africa, India, Afghanistan, and Eastern Europe. Some community currencies, like some local exchange trading systems (LETS) and the Community Exchange System, work with electronic transactions.

Mobile digital wallets[edit]


  • In Jan 2010, Venmo launched as a mobile payment system through SMS, which transformed into a social app where friends can pay each other for minor expenses like a cup of coffee, rent and paying your share of the restaurant bill when you forget your wallet. It is popular with college students, but has some security issues. It can be linked to your bank account, credit/debit card or have a loaded value to limit the amount of loss in case of a security breach. Credit cards and non-major debit cards incur a 3% processing fee.
  • O2 (United Kingdom) invented O2 Wallet at about the same time. The wallet can be charged with regular bank accounts or cards and discharged by participating retailers using a technique known as 'money messages'. The service closed in 2014.

Decentralized systems[edit]


Cryptocurrencies allow electronic money systems to be decentralized; systems include:

  • Bitcoin, the first cryptocurrency, a peer-to-peer electronic monetary system based on cryptography.
  • Bitcoin Cash, a 2017 fork of bitcoin; main differences from bitcoin are larger blocks, different difficulty adjustment algorithm, and lack of Segregated Witness.
  • IOTA, an open-source distributed ledger and an electronic monetary system designet for the Internet of Things. It uses a directed acyclic graph (DAG) instead of a blockchain.
  • Litecoin, originally based on the bitcoin protocol, intended to improve upon its alleged inefficiencies. Faster block times and different mining algorithm compared to bitcoin.
  • Dash, originally based on the bitcoin protocol, it offers the option of instant and private transactions. It is a Decentralized Autonomous Organization.
  • Hatch, a 2018 fork of Dash.
  • NEM, a peer-to-peer electronic monetary system and a blockchain platform which allows for storing digital assets.
  • NEO, an open-source, public, blockchain-based distributed computing platform featuring smart assets contract functionality.
  • Monero, an open source cryptocurrency created in April 2014 that focuses on privacy, decentralisation and scalability.
  • Zcash, a cryptocurrency that offers privacy and selective transparency of transactions.
  • NXT, conceived as flexible platform to build applications and financial services around.
  • Zcoin, a privacy centric cryptocurrency that utilized the zerocoin protocol.

Virtual currency[edit]

Main article: Virtual currency


Law and Regulation of electronic money[edit]





US Treasury guidance[edit]


Securities and Exchange Commission guidance[edit]

In May 2014 the U.S. Securities and Exchange Commission (SEC) "warned about the hazards of bitcoin and other virtual currencies".

New York state regulation[edit]

In July 2014, the New York State Department of Financial Services proposed the most comprehensive regulation of virtual currencies to date, commonly called BitLicense. Unlike the US federal regulators it has gathered input from bitcoin supporters and the financial industry through public hearings and a comment period until 21 October 2014 to customize the rules. The proposal per NY DFS press release “... sought to strike an appropriate balance that helps protect consumers and root out illegal activity". It has been criticized by smaller companies to favor established institutions, and Chinese bitcoin exchanges have complained that the rules are "overly broad in its application outside the United States[4]".

Adoption by governments[edit]

Digital Currency Has Real Value — Here’s Why

As of 2016, over 24 countries are investing in distributed ledger technologies (DLT) with $1.4bn in investments. In addition, over 90 central banks are engaged in DLT discussions, including implications of a central bank issued digital currency.


The Bank of Canada have explored the possibility of creating a version of its currency on the blockchain.

The Bank of Canada teamed up with the nation’s five largest banks — and the blockchain consulting firm R3 — for what was known as Project Jasper. In a simulation run in 2016, the central bank issued CAD-Coins onto a blockchain similar Ethereum. The banks used the CAD-Coins to exchange money the way they do at the end of each day to settle their master accounts.


The Danish government proposed getting rid of the obligation for selected retailers to accept payment in cash, moving the country closer to a "cashless" economy. The Danish Chamber of Commerce is backing the move. Nearly a third of the Danish population uses MobilePay, a smartphone application for transferring money. In December 2015, Sistema de Dinero Electrónico ("electronic money system") was launched, making Ecuador the first country with a state-run electronic payment system.


The Deutsche German central bank is testing a functional prototype for the blockchain technology-based settlement of securities and transfer of centrally-issued digital coins.


The De Nederlandsche Dutch central bank is experimenting with a bitcoin-based virtual currency called “DNBCoin”.


Government-controlled Sberbank of Russia owns Yandex.Money - electronic payment service and digital currency of the same name.

South Korea

South Korea plans national digital currency using a Blockchain. The chairman of South Korea’s Financial Services Commission (FSC), Yim Jong-yong, announced that his department will "Lay the systemic groundwork for the spread of digital currency."


Sweden is in the process of replacing all of its physical banknotes, and most of its coins by mid 2017. However the new banknotes and coins of the Swedish krona will probably be circulating at about half the 2007 peak of 12,494 kronor per capita. The Riksbank is planning to begin discussions of an electronic currency issued by the central bank to which "is not to replace cash, but to act as complement to it." Deputy Governor Cecilia Skingsley states that cash will continue to spiral out of use in Sweden, and while it is currently fairly easy to get cash in Sweden, it is often very difficult to deposit it into bank accounts, especially in rural areas. No decision has been currently made about the decision to create "e-krona". In her speech Skingsley states: "The first question is whether e-krona should be booked in accounts or whether the ekrona should be some form of digitally transferable unit that does not need an underlying account structure, roughly like cash." Skingsley also states that: "Another important question is whether the Riksbank should issue e-krona directly to the general public or go via the banks, as we do now with banknotes and coins." Other questions will be addressed like interest rates, should they be positive, negative, or zero?


In 2016, a city government first accepted digital currency in payment of city fees. Zug, Switzerland added bitcoin as a means of paying small amounts, up to , in a test and an attempt to advance Zug as a region that is advancing future technologies. In order to reduce risk, Zug immediately converts any bitcoin received into the Swiss currency.


The chief economist of Bank of England, the central bank of the United Kingdom, proposed abolition of paper currency. The Bank has also taken an interest in bitcoin. In 2016 it has embarked on a multi-year research programme to explore the implications of a central bank issued digital currency. The regulator also announced that blockchain could be a part of a national project called "Cashless Economy". There are concerns that cryptocurrencies are extremely risky due to their very high volatility and potential for pump and dump schemes. Regulators in several countries have warned against their use and some have taken concrete regulatory measures to dissuade users. The non-cryptocurrencies are all centralized. As such, they may be shut down or seized by a government at any time. The more anonymous a currency is, the more attractive it is to criminals, regardless of the intentions of its creators. Bitcoin has also been criticised for its energy inefficient SHA-256-based proof-of-work.

External links[edit]

See Also on BitcoinWiki[edit]


  1. - Digital currency
  2. Forbes - Digital currency - About
  4. What is digital currency?