The Bank of England is warning that virtual currencies could pose a serious threat to financial stability if their growing popularity leads to a mainstream take-up in Britain.
As a result, the bank is urging regulators and the government to develop policies for managing the currencies, such as Bitcoin.
The view is supported by industry experts and lawyers who argue virtual currencies will grow in status as a cheaper and alternative payment system to traditional banking services.
“As Bitcoin becomes more popular, it’s easy to see that consumers will switch their allegiance from banks because the service is quicker and cheaper to use,” said Tim Buckingham, of legal firm Eversheds.
“Virtual currencies may be less secure than hard currency, but this does not seem to worry too many consumers.
Virtual currency risk
“The issue is how to regulate virtual currencies like Bitcoin so they can become a more widely acceptable method of payment.”
The Bank of England explains that hard and virtual currencies pose different risks for consumers.
In a detailed report Innovations in payment technologies and the emergence of digital currencies, the Bank argues that virtual currencies can remove some of the risks involved in banking – but pose additional new risks that are not faced by traditional bank customers.
“Fraud and other ways consumers can lose their cash are different for both payment methods,” says the report.
“With virtual currencies, consumers do not have to reveal their payment details as they make payment, which is a considerable advantage.
“But the risk of losing deposits held directly is much higher.”
The report goes on to discuss that if a bank customer loses their online password, systems are in place to replace access to their account and that their money is never lost.
However, if a Bitcoin investor loses their encryption key, their deposit cannot be recovered.
The report suggests an event as simple as a hard drive crash corrupting data could lead to such an event.
Also, Bitcoin security is designed so deposits are held over a network of independent computer systems to reduce the chances of a hacker gaining access to the online ‘vault’.
However, research suggests hackers would not have to control the whole network, but no more than half of the computers to launch a successful hack attack.
“We have seen a small pool of computers controlling a significant amount of Bitcoin in the past, and that hackers have launched successful attacks against them causing significant losses for some consumers,” says the report.