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Digital Currencies Part 1: Using Digital Currency to Increase Your Capital

A digital currency transaction on a mobile deviceThis is the first part in a series on digital currencies.

Sometimes I think I know a thing or two about money. I subscribe to the Wall Street Journal, after all, and I even read it once in a while. Then I look at my bank account, overdrawn and bank fees accumulating, and I remember that although I may feel like a guru when it comes to advising friends on how to manage their finances, I’m an astounding failure at managing my own cash. I can’t even manage to remember to put spare change in a piggy bank. Perhaps this is why I’m so interested in digital currency these days — particularly, how to turn some of my few remaining dollars into a windfall of cash through some form of digital transactioning. That’s what everyone is doing these days, right?

We’re all exchanging currency online — not just financial currency but social currency (which I’ll talk about in my next article in this series) — and though we’re not quite to the point where we’re sending restaurant servers to space through our mobile devices (as demonstrated in the video above), there’s certainly an indication we’re headed in that direction. At this time, however, I’m going to provide an overview of two digital currencies that you can use today: one for business purposes and the other more for play (or speculating).

PayPay logoPayPal often comes to mind whenever we think of ways to exchange currency through the Internet. This form of electronic money has been around for over a decade now and has become one of the most widely used financial services providers online. It’s a very simple service to use; all you have to do is have a bank account attached to PayPal to begin buying and selling services and goods online. I regularly use PayPal to purchase all manner of goods and services on the Web, such as books from Barnes & Noble, electronics from Best Buy, and video content from… well, other sites. PayPal is currently even making its service available in brick and mortar stores; in some Home Depot stores you can already purchase a new hammer by simply entering your mobile phone number and a personal identification number at the cash register.

Though I first began using PayPal to purchase or sell items I’d won or sold through eBay, I now use the service’s credit offerings — a credit line you can obtain under certain circumstances, such as demonstrating you are a reliable customer — as my main source of funding for anything I can purchase using PayPal. That way I can buy something even if my bank account doesn’t have enough funds to cover the purchase. It’s a fantastic system, and it’s even helped me improve my credit score.

Although PayPal is a convenient way for me to exchange currency electronically, I haven’t been all that successful at making money using the service. I’m running out of things to sell on eBay, and I’m not quite ready to resort to the world’s oldest profession to encourage more people to send money to me electronically. There are lots of ways to get people to send me money using PayPal, but most of those things — selling stuff, for example — I’m not yet prepared to do. I need money now — as in, yesterday. So I need to begin thinking outside the box and find another digital transactions service that might provide me with a way to make money without having to do much work. Something that bears interest, or something like… the stock market.

PayPal operates more like a bank than a stock market. At one time you could increase the value of your funds through the service’s now-defunct Money Market Fund. These days, there’s no way you can gain a bit of interest using PayPal. But there are digital transactions systems that operate much like the stock market, providing the potential to make a lot of money by turning your dollars into digital coins.

Bitcoin logoOne such service that operates more like the stock market than a bank account is Bitcoin. This service is an entirely different beast than PayPal; it’s considerably more difficult to manage for anyone who is not versed in P2P (peer-to-peer) technology and it involves a bit (no pun intended) more risk than PayPal. Though PayPal is not backed by the Federal Deposit Insurance Corporation (FDIC) and therefore is somewhat risky to use, the service is generally robust and has yet to be hacked to a point of concern. Bitcoin, on the other hand, is not only uninsured by the FDIC but is actually considered illegal in the minds of some congresspersons who recognize that the Bitcoin economy is unable to be taxed at this time.

Proponents of Bitcoin generally view it as a relatively safe and reliable form of transferring funds electronically without having to pay the fees normally charged by services such as Western Union or PayPal. That’s right, Bitcoin is entirely free to use — that is, you need to convert your dollar bills into digital coins (called Bitcoins) in order to participate in the Bitcoin economy, but you do not have to pay fees for your transactions. This is precisely why Bitcoin is so attractive — at least, theoretically. The problem with Bitcoin is that, due to the system operating similarly to a stock market, with the potential for widely fluctuating values of its currency, there is always the risk that the value of the dollars you invest into the Bitcoin economy will lose their value in a dramatic fashion. In fact, this occurred in 2011, and in spectacular fashion.

Heather Schlegel, the American Innovation Leader for Innotribe (the innovation initiative of SWIFT), is currently in the process of researching digital currency transactions systems. She explained to me her view of the participants of the Bitcoin economy, which seems to be generally composed of two categories of participants. One category is composed of users with shared values, including a heavy interest in technology (particularly P2P networking), a libertarian perspective, and a general distrust of the government. These characteristics are in no way absolutes, but they generally describe the type of Bitcoin user who engages in what she refers to as a value-driven economy: they more or less share certain values which drive them toward solutions such as digital currency exchanges. The other category of Bitcoin users (though not entirely distinct from the first) are the speculators: users who aim to use Bitcoin exclusively to generate wealth. They must be able to afford to speculate, so it follows that these are generally wealthy users who have money to “play” with.

I asked Ms. Schlegel what kind of advice she had for anyone interested in investing in digital transaction economies such as Bitcoin. She told me they should experiment with it a bit:

It’s doesn’t have to be a huge amount of money; it could be five dollars, or 10 dollars, or 25 — whatever you can afford to ‘play’ with. You don’t have to move your entire bank account into Bitcoin.

If my bank account wasn’t currently overdrawn, I might take Heather’s advice and speculate in Bitcoin with whatever I could afford to lose. On the other hand, I’ve only invested in the stock market once — just for one day — and came out of that transaction with a bit less money than I started out with. That experience was enough to keep me from avoiding investing in volatile markets again until I know what I’m doing. For now I’m going to keep digging up stuff I can sell via PayPal and look forward to the day when a friend from Virgin Galactic can transmit enough Galactic credits to my Galactic credit account so I’ll be able to take off on a suborbital flight on some future weekend.

Which of these types of digital currencies would (or do) you use? Would you risk your money in the Bitcoin economy or similar digital transaction exchanges?