Cyberlibertarians who saw the internet as a way of escaping the dead hand of central government must be disappointed. Many believed that the internet offered the ideal testing grounds for one of the most famous predictions of Friedrich Hayek, Mrs Thatcher's favourite economic guru, who suggested 25 years ago that private money would spontaneously arise as a credible alternative to legal tender issued by central banks.

It is nearly five years since the first prototype digital currencies were launched, and a single currency for the internet has yet to emerge, spontaneously or otherwise. Early attempts to solve the money conundrum have not been a success. DigiCash, one of the pioneers in the field, went bankrupt nearly two years ago. Last year Barclays dropped its early experiment in the field, Barclaycoin, based on technology from the US firm Cybercoin, which has also abandoned the e-payments game and gone into payments security.

These early systems were not new currencies - they relied on customers downloading software to install a digital wallet on their PC. The wallet could then be loaded up with transfers from the customer's bank account. Installing the software was a hassle and finding a website enabled to accept payments even more so.

Credit cards have become the default payment system for e-commerce in the absence of a better option, but neither consumers nor merchants are happy. Consumers don't like trusting card details to websites. According to one recent survey, four in 10 UK consumers say they are reluctant to use their credit cards for purchases on the internet, even though security experts promise it is no more risky than giving a credit card number down the telephone or letting a waiter take a card out of sight when paying for a meal. The customer does not bear the major risk for fraudulent transactions whether online or in the real economy.

Fraud is undoubtedly a problem online, but it is e-tailers - not customers - who are paying the heaviest price. Web sites offer would-be fraudsters programmes to download which will automatically generate valid card numbers. Other fraudsters trawl the net picking up credit card details stored on retailers' sites.

Stolen credit numbers were used in 1.2% of US internet sales last year. Some analysts estimate e-tailers are 10 times more likely to be hit by fraud than offline retailers. In the UK, the main banks' clearing house, APCS, estimates online card fraud in 1999 to have equalled £3.7m - or 2% of total card losses.

The real sting for the merchants is that, unlike face to face card sales where the issuing bank bears the risk if the retailer takes reasonable precautions, with any kind of remote card transaction they are fully liable for the cost of the fraud. Not only do they lose the payment, but card companies bill them a $40 "chargeback" for accepting a fraudulent payment.

Credit card issuers already charge web merchants more than real world retailers: 2.5% of sales, plus 30 cents per transaction as opposed to 1.5% plus 30 cents. All of this is cutting into web merchants' already slender profit margins.

Swingeing transaction costs are one reason why cards are hopeless for small purchases - so-called micropayments. They are not much use either if you are trying to pay another individual rather than a retailer - as often happens on internet auction sites.

A bewildering variety of payment systems has emerged as an alternative to credit cards. The sex sites, usually the leading edge for commercial exploitation of the internet, got out of credit card payments some time ago, crippled by fraud. Now they use different systems, including programmes which enable customers to add the cost of visiting the site to their phone bill, or use a third party which holds the customers details to guarantee that credit card payments are genuine. But such sites are themselves vulnerable to hackers.

Paypal promises to take the uncertainty out of person to person transactions - P2P in the jargon. Both parties register their credit card or bank account details, and payments are triggered by sending an email. Paypal will arrange for payments to be taken out of the buyer's account and transferred to the seller's.

If you receive an email with money from Paypal, you have to sign up to the service to get it: a sure fire way of increasing the numbers using the system. But it too has recently fallen victim to fraudsters using false card numbers, and has promised to review its procedures.

Billpoint promises the same advantages for P2P payments on eBay, the web's leading auction site. The big players clearly think there is money to be made from P2P: US bank Wells Fargo has a 35% stake in Billpoint, while Paypal is part owned by Finnish mobile phone giant Nokia.

For micro payments, the choice of payment methods is even more bewildering. Online rewards schemes like Beenz and Flooz which pay people to surf are starting to look more like currencies as they become more widely accepted across the internet.

Other schemes involve variations on the digital wallet: at Y-creds, parents can load pocket money into their offspring's accounts which can then be used to shop at a parent censored selection of online merchants.

ExchangePath, formerly 1Clickcharge, a US site, offers prepaid accounts and P2P payments.

The problem with these substitutes for credit cards is that there are too many of them. Consumers do not want to have to go shopping with a wallet full of dozens of different payment options, but so far there is no accepted standard on which to rely.

David Birch, head of Consult Hyperion, a UK e-payments consultancy, says the race is on in the US and Europe to find secure, convenient solution to internet payments which will unlock the commercial potential of the internet. The ideal system would offer certain features: they would be:
• fraudproof
• private
• exchangeable for a wide range of goods and services
• a reliable store of value, not likely to be eroded by inflation
• downloadable for real economy purchases
• good for small as well as large transactions.

US companies are racing to design software which offers these features, while in Europe the preferred solution is smart cards - where the security information is encoded on a chip rather than in the magnetic strip of the more familiar credit and debit cards. They can store credit card numbers so that the consumer does not need to give the information away over the net or the phone, or they can be loaded up with cash which can be used for small payments.

Birch believes smart cards are the way forward because software solutions will always be vulnerable to hacking. While the security information on magnetic cards can easily be copied and stolen, the security on smart cards means that they have to be literally ripped apart before they give up their identifying information.

With a smart card, users can pay for small and large purchases online without identifying themselves to the merchant - thus offering privacy.

But to become the ubiquitous payment mechanism for the internet, smart cards require extra hardware - readers attached to PCs or set top boxes. M-commerce may well get a headstart over e-commerce simply because some mobile phones already come with readers installed.

But for smart cards to evolve further, the big players have to get together to agree common standards. Brian Gladman, a former security expert for Nato, says the failure to agree common standards so far is because it involves two groups - bankers and technical experts - who don't understand each other.

He believes that although the US hasn't shown much interest so far in smart cards, once they latch on to the technology, they are likely to race ahead of Europe, because their bankers are more technically literate.

If smart cards become the prevailing mechanism for internet payments, it means the end of the dream of private money because the cards will link back to national currencies and to real time payment systems.

True digital money would look very different to the account based systems which are developing as the standard. In an account based money system value is stored in the accounts of a trusted third party like a bank. Money is exchanged by taking from one person's account and transferring to another.

True digital money would be based on a system where electronic tokens - an unforgeable packet of bits - are exchanged. Instead of relying on third party verification or on the banking system as a guarantee of value, in a token system, ownership is all - whoever has the token, has the money.

Oakington, a British company, believes it may have developed the software platform which would allow other players to issue true digital currencies.

The software is still being tested for bugs, but the company says it already has major e-tailers interested in the concept.

Hayek's dream of companies challenging governments for the right to issue money may yet be realised.

Paying your way

e-gold
www.e-gold.com
Number of users 25,000
Spending power Very limited number of sites at present, mostly in the US.
How does it work?
Users buy a chunk of a gold bar which they can then use to make small and large payments on line. The gold is centrally stored and payments are debited from one account and paid into another
Pros and cons
Slightly wacky idea, definitely for the libertarian fringe who have always had an obsession with payments sytems based on gold. Has the advantage of being easily to trade internationally - if you've found another person with an e-gold account. Not widespread enough to be very useful, but hey, who cares about the practicalities? You too can own a chunk of the world's favourite metal.

Surfmiles
www.surfmiles.com
Spending power
Site boasts that it can be used at 140 major e-tailers.
How does it work?
Users earn points for surfing the net. Points can either be spent online or downloaded for real money.
Pros and cons
Free money is always good, but at 30p an hour, you would have to be a pretty dedicated surfer to make your fortune.

Mondex
www.mondex.com
Number of users
One million worldwide, a quarter of whom are in Hong Kong. In the UK, university students are the biggest users
Spending power Online, Mondex is accepted by 3000 merchants.
How does it work?
A smart card with a purse enables users to store money for small transactions, on and off line. In Hong Kong, the cards are used to pay for train tickets
Pros and cons
The granddaddy of smart card systems. It had bad publicity in the UK, when its Swindon based trial failed to catch on. It's proved more successful overseas

ChargitPREPAY
www.glintbill.com
Number of users In development
How does it work?
Users buy a card from a newsagent which can be used to pay for online purchases. Each card has an individual pin concealed behind a scratchpanel. Its value is monitored on the company's website and is debited everytime a purchase is made.
Pros and cons

Cheap way of making micropayments and, because cards can be bought for cash, can be used by people with no bank account or credit card.