A Virtual World, but a Real Mess

As turbulence in global financial markets has Wall Street on the edge of its seat, the online virtual community Second Life is dealing with liquidity issues that make the real world credit crunch look like a mere hiccup.

Want to see what happens to markets without regulation? Feast your eyes on the Black Tuesday that befell Second Life's now-defunct Ginko Financial, a virtual bank—but with real money on the line.

For those not on the cutting edge of virtual reality: Second Life, an online world created and operated by San Francisco-based Linden Labs, allows users to replicate real-world experiences in a virtual community.

That includes spawning an economy that becomes more sophisticated by the day, as institutions mirroring those in the real world—such as stock exchanges and banks—proliferate and gain momentum.

That's where Ginko Financial comes in. The largest of the couple dozen banks operating in Second Life has declared insolvency after a run on deposits earlier this month.

The potentially permanent loss of assets has been particularly irritating to Second Life "residents" because while the bank is virtual, the funds are real. The local currency is called the Linden ($L) and it is freely convertible into US dollars (the exchange rate that is now hovering around $L270 to the dollar).

Ginko Financial currently owes deposits amounting to 200,000,000 Lindens—around $750,000—to Second Life account holders.

As of now, the bank has stopped accepting deposits, frozen all withdrawals, and converted account holders' balances into "tradeable debt securities" called Ginko Perpetual Bonds in an effort to stave off total collapse (of course, that would not be an option for banks in the real world).

The bonds can be bought and sold on the World Stock Exchange (W.S.E.), the largest of three markets in Second Life, but are currently trading at a substantial discount to face value.

So where's the oversight? Technically, Second Life is governed by the "real world" federal and state laws, but regulators have not yet stepped in to direct the Second Life economy.

So far all supervision has been handled by Linden Labs, which has outlined some financial market FAQs on its blog.

Now that Ginko Financial scare has led to growing call for transparency and regulation, what's next for Second Life? A virtual S.E.C.? An F.D.I.C.?

The good news is, while Second Life grapples to create a stable market economy, the virtual world can serve as a veritable Petri dish for economists, providing an opportunity to see what effects various forms of regulation have on virgin markets (with relatively minor losses along the way).

by Liz Gunnison