The Reserve Bank of India (RBI) Governor has recently emphasized the potential of Central Bank Digital Currency (CBDC), or E-rupee, in enhancing the effectiveness of cross-border payments. With a focus on expanding its CBDC pilots to incorporate a larger number of banks, cities, use-cases, and audiences, RBI launched pilots for digital rupee at the wholesale level in November 2022 and at the retail level in December 2022.
What is Central Bank Digital Currency (CBDC)?
CBDCs represent the digital avatar of paper currency. Unlike cryptocurrencies that operate in a regulatory vacuum, CBDCs are legal tenders issued and supported by a central bank. They function similarly to fiat currency and offer one-to-one exchangeability with it. Fiat currency is a national currency that does not rely on the price of any commodity like gold or silver. CBDC, or digital fiat currency can be transacted using wallets powered by blockchain technology. It is conceived to bring a balance between the convenience and security of digital forms like cryptocurrencies and the regulated, reserved-backed money circulation of the traditional banking system.
Significance of CBDC and Global Trends
Bahamas was the pioneer in launching a nationwide CBDC â Sand Dollar in 2020. Nigeria followed suit with eNaira in 2020, and China piloted a digital currency e-CNY in April 2020, making it the world’s first major economy to do so. CBDCs possess attributes that can revolutionize cross-border transactions. They promise instant settlement, cheaper and faster payments, and enhanced security. Additionally, they can support financial inclusion and help transform the informal economy into the formal one, ensuring improved tax and regulatory compliance.
Challenges in Adopting CBDC in India
While CBDCs offer several advantages, their adoption comes with several challenges. Key among them are privacy concerns, as user transactions could potentially be tracked by the central bank, posing a threat to transactional privacy and anonymity. The shift to CBDC could also disrupt the banking sector’s functionality if it becomes immensely popular. Other risks include the fast-paced obsolescence of technology, which could affect the CBDC ecosystem and call for higher costs of upgradation, and increased cyber security risks.
The Path Forward
As CBDCs continue to gain traction, central banks need to intensify their research, development, and piloting efforts. Collaborating with financial institutions, technology experts, and other stakeholders is crucial for the successful rollout of CBDCs. Ensuring robust cybersecurity measures and user privacy and data protection mechanisms is essential. Additionally, international cooperation is needed to tackle regulatory, security, and technical challenges associated with cross-border payments.
Relevant Examination Questions
A question mentioned in the UPSC Civil Services Examination previous year papers was: “With reference to Central Bank digital currencies, consider the following statements : (2023) It is possible to make payments in a digital currency without using US dollar or SWIFT system. A digital currency can be distributed with condition programmed into it such as a time-frame for spending it. Which of the statements given above is/are correct? (a) 1 only (b) 2 only (c) Both 1 and 2 (d) Neither 1 nor 2.” The answer was: (c).