Central Bank Digital Currency (CBDC)

Context 

• RBI is working out a phased implementation strategy for the introduction of Central Bank Digital Currency with little or no disruption.
  • The Reserve Bank of India (RBI) has proposed amendments to the Reserve Bank of India Act, 1934, which would enable it to launch a CBDC. 

About Central Bank Digital Currency

• It is a legal tender and a central bank liability in digital form denominated in a sovereign currency and appearing on the central bank’s balance sheet.
• It is the same as a fiat currency and is exchangeable one-to-one with the fiat currency. Only its form is different.
• It can be converted or exchanged at par with similarly denominated cash and traditional central bank deposits.

• It can be transacted using wallets backed by the blockchain and is regulated by the central bank. 
• CBDCs enable the user to conduct both domestic and cross border transactions which do not require a third party or a bank. 

Present Status in India

• India is already a leader in digital payments, but cash remains dominant for small-value transactions.
• In February 2020 RBI bulletin, citing a survey of central banks conducted by the Bank for International Settlements had said some 80 per cent of the 66 responding central banks have started projects to explore the use of CBDC in some form.
  • These central banks are contemplating and studying the potential benefits and implications of CBDC in the economy. 

• A high-level inter-ministerial committee set up by the Finance Ministry had recommended the introduction of a CBDC with changes in the legal framework including the RBI Act, which currently empowers the RBI to regulate the issuance of banknotes.
• The Reserve Bank of India has repeatedly reiterated its strong views against cryptocurrencies, saying they pose serious threats to the macroeconomic and financial stability of the country and also doubted the number of investors trading on them and their claimed market value.
• Union Finance Minister said in a reply to the Lok Sabha that the government has no proposal to recognise Bitcoin as a currency in the country.
  • The government plans to introduce the Cryptocurrency and Regulation of Official Digital Currency Bill 2021 in the ongoing Winter Session of Parliament. 
  • The Bill seeks to ban all but a few private cryptocurrencies to promote underlying technologies while allowing an official digital currency by RBI.

Benefits 

• It would reduce the cost of currency management while enabling real-time payments without any inter-bank settlement.
  • Foreign trade transactions could be speeded up between countries adopting a CBDC.
• India’s fairly high currency-to-GDP ratio holds out another benefit of CBDC as to the extent large cash usage can be replaced by CBDC.
• The cost of printing, transporting and storing paper currency can be substantially reduced.

• They could enable a cheaper and more real-time globalisation of payment systems.
  • It is conceivable for an Indian exporter to be paid on a real-time basis without any intermediary.
  • The risks of dollar-rupee transactions, the time zone difference in such transactions would virtually disappear.
• The adoption of CBDCs can also have important implications for the banking system.
  • CBDCs can cause a reduction in the transaction demand for bank deposits and will reduce the intra-day liquidity for settlement of transactions. 
    • They could also cause a shift away from bank deposits.

Issues in Implementation 

• The fear is that in the absence of the right policy framework, CBDCs could potentially weaken the banking system in the long run by denying them access to deposits and revenue. 
• CBDCs may also pose a threat from a cyber-security perspective. 
• Further, in nations with low financial literacy, the dependence on a digital form of payment may substantially lead to an increase in fraud and financial crimes.
• Furthermore, for an economy to depend on a virtual currency, it would require deeper penetration of high-speed Internet and telecommunication services.

Way Forward 

• The introduction of CBDC has the potential to provide significant benefits such as reduced dependency on cash, higher seigniorage due to lower transaction costs, and reduced settlement risk.
• It would possibly lead to a more robust, efficient, trusted, regulated and legal tender-based payments option.
• There are associated risks, no doubt, but they need to be carefully evaluated against the potential benefits.
• It would be the RBI’s endeavour, as we move forward in the direction of India’s CBDC, to take the necessary steps which would reiterate the leadership position of India in payment systems.

Source: IE