Virtual Currencies and the Laws of Economics

Read an article in the Communications of the ACM about “Social Games, Virtual Goods”.  I think unfortunately you have to pay to read that article unless you’re an ACM member, but the good news is it doesn’t say anything earthshattering except that online virtual currencies are not that different from “brick and mortar” ones.

I remember my first serious contact with virtual currencies.  My son was addicted to Worlds of Warcraft (WOW) years ago, a shoot-em-up game where your shooting is every so much more effective if you buy special weapons, charms, and poweres.  How do you buy them?  “Gold” is the virtual currency of WOW, and you earn gold by killing monsters.  In other words, you have to spend time in the WOW virtual world, and time costs you (non-virtual) money.

All straightforward: it’s like paying to go to a movie, except that the movie is immersive and you want to stay in it, for more and more $$.

Then I found out from my son — there was also an article in the New York Times about it around that time — that there were companies in Asia where workers would go into WOW on your account and build up gold for you.  You had to pay them — my son wanted me to pay them — with regular money so that they would get gold for you.

OK, not too bad: it’s like paying a airline to give you extra miles.  Question is: what determines the exchange rate?

In the case of the airline, the easy answer is: the air carrier sets the exchange rate.  But of course they can’t set it to whatever they want: they have to set it at a price where they can attract a willing buyer.

Same with WOW gold factories: it’s what a rich kid in the developed world can get out of his or her parents balanced against what Marx used to call the replacement value of the poor kid in the developing world.

How about Second Life?  This virtual world — where I have to say I haven’t spent much time (my avatar is still stuck on the Newbie’s Island, I think) — has virtual real estate bought and sold with virtual curency, but the supply of virtual real estate is a constant in the software.  Linden Labs can double the amount of virtual real estate with a few keystrokes and a system rebuild.  I suppose it’s a bit like diamonds, where the supply is controlled to keep the scarcity value up.  But, unlike diamonds, there’s no natural limit on the amount of “goods” that can be created.

Thoughts on virtual currencies?

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About the author

an Gordon is Research Director for Valhalla Partners, a Northern Virginia venture capital firm. Dan has twenty-eight years experience working with technology, as a computer scientist, software developer, manager, analyst, and entrepreneur. Prior to joining Valhalla Partners, Dan was a Director and senior staff member at the PricewaterhouseCoopers Global Technology Centre, analyzing technology trends and consulting on technology-oriented strategies in the software, e-business, wireless, optical, networking, semiconductor IP, and life sciences arenas. He worked with clients from North America, Europe, the Middle East, and Australia. Dan was a Contributing Writer and Contributing Editor to the Technology Centre’s annual Technology Forecast, and a frequent speaker at industry and general business meetings. Before joining PwC, Dan spent 20 years in Silicon Valley as a software technologist, manager, director, and entrepreneur, including senior technical roles at well-known Silicon Valley firms like Symantec, Intuit, and Oracle. Dan has also been involved in startup companies in the applied Artificial Intelligence and Web applications fields. Dan has a B.A. (cum laude) from Harvard University and an M.S. from New York University in Computer Science. He is a Professional Member of the IEEE and ACM. Dan lives in Washington, D.C. with his wife and two children.
  • Daniel Castro

    Facebook Credits are another interesting virtual currency. Unlike with real currencies Facebook has placed restrictions on what types of transactions are allowed (i.e. no “cashing out”), although it has relaxed others recently by allowing users to pay for real-world items like movies with Facebook Credits. The exchange rate is $0.10 USD for 1 credit. Given that Facebook is a global platform, this exchange rate might make sense for users in high-income economies, but is likely too expensive for users in low-income economies. How to resolve this? Perhaps Facebook will end up with multiple regional virtual currencies with tiered regional pricing. The virtual worlds may end up just as complex as the real world.

  • grrusso

    Stopped reading a “WOW, a shoot-em-up game”. OK no I didn’t, but I probably should of. This link should answer some of your questions about determining the value of a good:http://en.wikipedia.org/wiki/Economics#Production.2C_cost.2C_and_efficiency

  • EVE_Virt

    It’s a very disappointing article, unfortunately. One of the more profound things missed, unless I missed it, seems to be an internalised viewpoint per environment / type that is looked at. Bird’s eye view is one thing, but for explorations in these realms immersion is a must. There’s more than one science in the humane sciences department, so to speak.If you’d want to really engage in the general topic, I can thoroughly recommend to start a trial of EVE Online. You’ll be surprised, the learning curve isn’t that of other games. But that only makes sense, it is a virtual world. One server. One emerging dynamic.

  • james_a_lewis

    Second Life is kind of a creaky antique, isn’t it?

  • http://www.facebook.com/profile.php?id=100004422974097 Priyanka Singh