Virtual currencies represent a digital value that exists only in electronic form. Transactions with virtual currencies do not require any third party or centralized authority. In addition, virtual currencies are stored and traded only through certain software applications.

The term virtual currency was defined by the European Central Bank in 2012 as "a type of unregulated, digital money, which is issued and usually controlled by its developers, and used and accepted among the members of a specific virtual community".

Virtual currencies, which are a type of digital currency, are actively used among members of a specific virtual community. Transactions made with virtual currencies developed by private parties or developer groups, and typically controlled by them, are often carried out on the internet or private networks. While all virtual currencies are considered digital currencies, the opposite is not true. Additionally, these currencies are generally not regulated.

Virtual currency was defined by the European Banking Authority in 2014 as "a digital representation of value that is neither issued by a central bank or a public authority, nor necessarily attached to a fiat currency, but is accepted by natural or legal persons as a means of payment and can be transferred, stored or traded electronically". Bitcoin, Litecoin, and XRP are among the most well-known examples of virtual currencies.

Designed specifically for online use, virtual currencies are a type of digital currency that has no physical equivalent like paper money. Therefore, they are different from central bank digital currencies (CBDC). Virtual currencies, which are not widely accepted as a means of payment in public, are primarily used in gaming communities and have limited areas of use.

Although virtual currencies pose regulatory issues, this situation is slowly beginning to change. For example, Bitcoin (BTC) is a legal tender in El Salvador.

What Are the Types of Virtual Currency?

Closed Virtual Currency

A closed virtual currency is a currency that works within a controlled and private ecosystem. This type of currency is used as a payment method only within specific virtual communities, such as an online video game community.

Examples of closed virtual currencies include special cases such as points assigned to frequent flyers or loyalty points. Additionally, closed virtual currencies cannot be converted to fiat currency or another virtual currency.

Open Virtual Currency

Open virtual currencies work in open ecosystems and can be converted from virtual currency to real currency through online trading systems or ATMs. Therefore, they are also known as convertible virtual currencies.

As open virtual currencies can be exchanged for real currencies, they are generally considered property or capital assets in the United States. Stablecoins and cryptocurrencies are the most appropriate examples of open virtual currencies. Additionally, open virtual currencies are mostly decentralized.

What Are the Advantages of Virtual Currencies?

• Virtual currencies have higher transaction speeds and provide ease of use to the user.
• Virtual currencies do not have physical storage or high production fees.
• Virtual currencies with high transaction speed remove geographic boundaries.
• Decentralized virtual currencies remove intermediaries, allowing two parties to transact directly.
• Virtual currencies can be programmed to complete transactions automatically without human intervention.
• Virtual currencies can be used in many different areas, from game tokens to art pieces.

What Are the Disadvantages of Virtual Currencies?

• Virtual currencies are vulnerable to attacks and there have been many examples of attacks in the past.
• Although virtual currencies have no fees associated with physical storage or expensive production, they do have other expenses. Storage costs are one of these examples.
• Virtual currencies that are generally unregulated do not provide investors with legal rights.
• Virtual currencies traded on exchanges can experience highly volatile price fluctuations.

Differences Between Digital, Virtual and Cryptocurrencies

Although they have similarities in terms of function, digital currencies, virtual currencies, and cryptocurrencies differ in some ways. All cryptocurrencies and virtual currencies are subsets of digital currencies, but the same situation is not true for digital currencies. For example, central bank digital currencies (CBDCs) are digital currencies issued by the central bank and are included in the digital currency subset.

CBDCs, which are an example of digital currencies, are regulated by the government, but virtual currencies and cryptocurrencies generally appear as unregulated currencies.

Cryptocurrencies use cryptographic encryption methods for network security, while this is not true for all digital currencies. Virtual currencies also occasionally use cryptographic encryption methods.