No More Banking!

Saxo Bank opening

If you haven’t heard the big announcement by Linden Lab that they’re finally closing down “illegitimate virtual bankers” in Second Life, you’ve been missing all the fun 🙂

The announcement on their Official Blog states:

As of January 22, 2008, it will be prohibited to offer interest or any direct return on an investment (whether in L$ or other currency) from any object, such as an ATM, located in Second Life, without proof of an applicable government registration statement or financial institution charter.

As you might expect, getting such a charter is pretty much impossible in almost all countries in the world, so this effectively means: no more virtual banks in the “Wild West” of Second Life. More information is available here (you need a valid Second Life account to log in).

Responses to Linden Lab’s decision have been interesting. Prokofy Neva, for instance, turned libertarian for a while:

And so ends the geek dream of a vast international space where money would never become an option…which made it possible for money everywhere to become an option growing out of every prim with a dollar sign hover-text. Money *is* needed to finance this Wild West world. Where will it come from now?

My old friend Eloise Pasteur, turned economics journalist for Massively, just states:

It will be interesting to see if any of the banks survive this transition, and if they don’t, what comes along in their place. It will also be interesting to see if there is a run on the banks now.

You can bet on that — Eloise’s colleague at Massively, Tateru Nino, usually reporting on community issues, statistics, and events that impact the virtual world, covered the protests at JT Financial, one of the leading virtual banking institutions that will now go out of business:

Of course there are panic withdrawals right now, because, at the end of the day the depositors simply don’t trust the banks to be able to repay the deposits, so everyone wants to get their account completely withdrawn as soon as possible, while the money holds out.

Most “banks” have already closed down their ATM networks, of course — at least the most fraudulent ones. They’ve learned the hard lesson from Ginko — it doesn’t pay off to be honest and stay around to try to fix things. Better to cash out and head for the next Caribbean island 🙂 Others, like the World Stock Exchange, have at least tried to keep their customers informed and provided them options to deal with the “banking ban” in the case it affects them.

The legal groups in Second Life, of course, see this as being only natural. Benjamin Duranske writes on his blog Virtually Blind:

My only complaint with this policy is that it has been too long in coming; it is clear and concise, and it undeniably makes the grid a better place. In the long run, policies like this, which acknowledge the obligations facing a company that offers users the chance to “make real money in a virtual world, that’s right, real money” (emphasis in original), will keep Second Life, and the grid in general, healthy and relatively free of regulation.

The irreverent lawyer Jessika Holyoke, writing on the Herald, suggests that different things are at stake here:

Additionally, Supply Linden generates revenue.  Each purchase of Linden dollars is straight revenue. […] No capital investing in world, because they may be crooks, means that to raise massive amounts of Lindens you have to buy it through the LindeX.

An interesting theory. Would that mean that Linden Lab is actually just covering their own revenue streams by “monopolising” all currency-related issues? Does this mean that Raph Koster’s Metaplace, which will be open source and free, but will require people to buy microcurrency from his company, is actually getting it right?

So, what’s a bank? Strangely enough, some people have found out that Linden Lab defines it as “a network of ATMs”, and what they’re going to do is just to remove the ATMs. That’s the strangest definition of banking ever!

So it means that if you accept payments directly to your avatar, place it on a website, calculate some interest on it, and then pay it back to people, you’re not a “bank”. You’re probably a “financial consultant”. And that is allowed? Weird.

Assuming that clearly this wasn’t the intention of Linden Lab (ie. just a badly written FAQ), and that they are really forbidding virtual banking using their virtual currency, the real question, of course, is “why”, or “why now”.

Interestingly, like so many things in Second Life, there are several “levels” of answers.

Let’s start with the first level. To do banking — ie. accepting payments, manage accounts, pay interest on them by investing people’s money wisely and paying it back, etc. — in real life you need to be chartered to do so. Every country in the world has a regulatory body that validates that a bank has a solid reputation and has its accounting in good standing. The size of the bank hardly matters — they can be a tiny savings account bank accepting customers with just $5 in their pockets, or huge investment banks dealing with trillions of Euros. The important thing is: there is no unregulated banking in real life. Not any more.

What you have, of course, is “underground” banking — ie. sneaky individuals who “offer high interest rates”, popping up a web site or even dealing face-to-face, and disappearing with all your money the next day. RL governments combat them actively. In fact, the more these criminal are captured and put into jail, the more actively a government is placing safeguards on the good standing of their own currency — making it more valuable. (Please refrain from commenting about the “intrinsic value of money” — read a bit about it, the “gold standard” was abandoned in the 1970s by all countries in the world, and currency is just backed up by a country’s government good reputation and international standing. Money is the most widespread “virtual” thing ever invented by us humans and relies only on reputation backing it up.)

So this is rather straightforward: the crooks and petty criminals taking all your money on a website and disappearing with it the next day were putting the whole economy of SL in question. They were actively hurting the economy, by having more and more people completely distrusting LL’s handling of criminal activity (fraud) in SL. So it’s only natural that they would take steps to reduce fraud. Last week we had the warning about the fraudulent L$ exchanges, this week it was about ‘virtual banks’. Good, solid steps to maintain a high reputation on a trustworthy L$. Who can blame LL for doing that? We need a solid L$ to continue to promote the economy using a stable microcurrency.

The next level, of course, is more serious, and passes straight over into real life. People getting defrauded by several venues in SL complain to LL. Abuse reports, of course, do not handle resident-to-resident transactions, and LL ignores them. But then come letters to LL. In some cases, if a really large amount of money is at stake, those complaints might have been written by lawyers. And if LL points out that they don’t regulate transactions as clearly stated by their ToS, what is left for people to do?

Simple: complain with your banking regulatory authorities. Or even file a lawsuit. If you don’t know whom to sue, sue LL to get them to reveal the fraudulent bank’s owner name. This might actually have happened, and in some cases, some of those authorities might have knocked at LL’s door. The possibility is not that far-fetched; we know how LL reacted to in-world gambling. Fraudulent banking would certainly raise a few eyebrows with the authorities, specially because the Ginko case (which very likely was not a fraud, but was seen as one — and perception is often more important than truth) got such notoriety on the RL media.

So this would be pretty consistent with LL’s policies: as soon as they get “a nice talk” with the authorities, they make unpopular decisions (to the residents) to comply with some country’s laws. We’ve seen it happening before, so it’s pretty safe to assume it might be again the case.

But there is a third, “hidden” level. What if Jessica is actually right? Linden Lab has for over a year “dismissed” the income from the LindeX. They’ve always claimed, very strongly, that they just get a very marginal profit from it — it covers the costs of running it as well as the salaries of the Linden employees who manage it. And we were content to take that at face value.

But combine the latest two news — their “warning against other Linden dollar exchanges” and the “shutting down of banks” — and it brings out a strange picture: is Linden Lab “afraid” that the “competition” (other exchanges, banks that hoard L$ and lend money, thus limiting the “need” for users to exchange US$ for L$ at the LindeX) is actually hurting their business?

The question might have profound implications. As Jessica points out, it seems that Supply Linden, the “bot” that makes sure that the LindeX has an adequate L$ supply (not too much to create inflation; not too little to create deflation) might actually be selling L$ — for a profit to Linden Lab, which, after all, is our virtual world “mint”.

In any case, problems aside, an optimist like myself looks upon the new policies, and just sees opportunities. I’m pretty sure that very soon we’ll see real financial institutions entering SL. No, the current, existing ones will not have a chance to get chartered; and you don’t need to imagine that JP Morgan Chase or Citibank are going to enter SL for a handful of L$. But there are lots and lots of small financial institutions, and private financial consultants (who are duly chartered) that might find an economy that turns around over a million US dollars per day interesting enough to “open shop” in SL.

And perhaps this is also part of Linden Lab’s intentions, too!

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