Saturday , February 24, 2024

Prepaid: A New Currency in Disguise

Security Notes

Its roots are old and its practice common: Whether gift cards, concert tickets, or a retainer paid to your lawyer, the idea of paying ahead of receiving the intended merchandise, or the agreed-upon service, is implemented with great versatility.

What drives this practice? The service provider surely loves it. Payment is assured, float is collected, and in many cases, interchange fees are not paid. No downside! But from the payor’s point of view, the picture is more complex. Generally speaking, a payor finds it advantageous to hold his money completely fungible until the moment of the transaction. Prepaying is pre-limiting the funds. It amounts to losing spending flexibility and losing potential interest. Why bother?

Looking deeper into this market, it becomes clear that in many instances the payor is not the owner of the prepaid funds. A third party has a role in the scheme. Gift cards are paid for by the gift giver and used by the gift recipient. Food stamps (in the form of electronic benefits cards) are paid for by the taxpayer and used by the benefit recipients. In cases like these, the prepaid option offers a clear advantage: it guarantees the money will be spent as intended by the giver.

Prepaid money in these instances is regarded as tethered money. That’s money that can be used only in accordance with well-defined terms. We have seen in previous columns that the most impactful attribute of digital money is its being so naturally tethered to a particular owner, to a particular use, to a set time frame, and so on. This agreement in form suggests a functional marriage between digital-money technology and prepaid money.

In 2003, some $1 billion was prepaid into general-purpose cards. In 2012, that sum was 65 times higher. The main driver behind this surge is the growing economy of the unbanked, the underbanked, and the privacy-conscious, as well as the soaring market for loyalty money, reward points, and coupons.

The networks have been quick to see this trend and now offer reloadable cards, which can be paid for in cash but used in cyberspace side by side with the common credit card. Government regulators also see this trend, and new regulations are coming to protect the prepaid consumer.

Much has been made of the clear advantages of prepaid transactions with respect to security and privacy. And as mega-breaches of millions of credit cards keep happening, the prepaid advantage soars into prominence. Is there a profound conclusion here waiting to be drawn? Come to think of it, the greenback started as “prepaid gold” before it evolved into a currency in its own right. The difference was that, at least theoretically, paper dollars were completely reversible to chunks of gold.

With modern prepaid devices, we do have limited reversibility (general-purpose prepaid cards allow cash withdrawal at ATMs), but in general these schemes are irreversible. Let us turn them into a completely reversible form of money. This will remove the psychological barrier against purchasing them.

And we need another adjustment: Make prepaid more versatile, more ad hoc, and increasingly frictionless. Case in point: Thrown off my bike, I fractured my shoulder. My doctor sent me for an X-ray. I filled out the paperwork for my insurer to pay later. Instead, my insurer could have prepaid by sending a digital payment code to my phone, allowing me to shop for a place that would throw in a physiotherapy session for that payment.

This is ad hoc. It would be impractical to issue a card for this purpose. Also, if an existing card had been reloaded, I could have diverted the money elsewhere. But a digital payment code can include all the applicable terms and restrictions, fused cryptographically. Reversibility, combined with tethering prepaid money to an owner (using a pair of private/public keys, or a full name), when applied in conjunction with a smart phone, will do away with the current assortment of prepaid vehicles. And once it proliferates in full, it will turn the phone into our checking account, protected against theft and loss using the cryptographic equivalent of the old travelers checks.

Now stop and think. Prepaid in the form of a digital payment string is … what? It is digital currency! Not Bitcoin, which fluctuates in value, but more like BitMint, which simply reformats the old greenback into a sequence of bits—easy to store, easy to pay, easy to cryptosecure.

Gideon Samid •

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