India has made significant progress in its use of digital wallets and other payment solutions including NEFT, RTGS, and IMPS. So now, just what is RBI’s digital rupee?
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As bitcoin’s popularity soared in India in 2017, the Reserve Bank of India (RBI) stated unequivocally that it is wary of the non-fiat and volatile cryptocurrency, reports mint. However, emboldened by the success, RBI executive director Sudarshan Sen stated that the central bank, like its global counterparts, is looking at the prospect of launching its own fiat-based cryptocurrency.
After precisely five years, the Reserve Bank of India (RBI) has finally published a conceptual note on the digital rupee, a central bank digital currency (CBDC). The RBI proposed in its concept note to issue two types of CBDC: wholesale for interbank settlement and retail.
For CBDC, competing with cash is of utmost importance. Approximately 89% of all transactions in 2020 were estimated to be cash-based based on volume, according to a McKinsey analysis published in October 2020. The amount of cash in circulation increased by 9.9% to over ₹31 trillion in FY22. According to the RBI annual report, the RBI spent ₹4,984.8 crores on the security printing of banknotes, up from ₹4,012.1 crores the year before.
With CBDCs, central banks from around the world are discussing lowering the operational costs of dealing in cash and financial inclusion while decreasing the risk connected with the backend settlement of physical currency. “Not just the cost of printing but also the whole logistics and security around movement of cash is high,” said Shilpa Mankar Ahluwalia, partner and head of fintech at Shardul Amarchand Mangaldas & Co.
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The last five years have seen numerous changes. India has made significant progress in the area of digital payments, offering a variety of NEFT, RTGS, IMPS, and other digital payment alternatives.
UPI, which was only a year old at the time, completed 104 million transactions worth ₹9,600 crore in November 2017—and will process ₹6,780.80 million transactions worth ₹11,16,438 crore in September 2022. The phenomenal success of UPI in India has now evolved into a worldwide case study.
In regards to transaction volume, UPI is the top retail payment system. UPI’s original goal was to eliminate cash from low-value transactions. According to a December 2021 RBI report, study of transaction data showed that 50% of UPI transactions were for less than ₹200, demonstrating the service’s success.
How much sense does CBDC make in a nation like India where the use of digital currency is already widespread?
“Digital money is already super-efficient. CBDC can add value in conversion from cash to digital. Because people want to use cash for a certain reason, and that’s a mindset. UPI solves the use case. CBDC is only a cash replacement strategy,” an official close to NPCI said, requesting anonymity.
“Digital money is already super-efficient. CBDC can add value in conversion from cash to digital. Because people want to use cash for a certain reason, and that’s a mindset. UPI solves the use case. CBDC is only a cash replacement strategy,” an official close to NPCI said, requesting anonymity. The RBI discussed the programmability characteristic of CBDC in its concept note, which indicates it may be designed to fulfill goals like ensuring it is only used for a specific purpose, etc.
Cross-border payments, where UPI is also making inroads, are the second most significant use case where industry analysts believe CBDC will bring about significant change. “The big advantage for India will be cross-border payments, which are expensive as there is a lot of time, cost and settlement involved. But, to make CBDCs workable for cross-border, it will require a lot of integration with global financial institutions,” Ahluwalia of Shardul Amarchand Mangaldas said. “While the phase 1 launch will look into CBDC’s role domestically, phase 2 will be real value for India in cross-border payments.”
The anonymity component will be the largest problem on the retail side.
The RBI acknowledges in the concept note that in order for CBDC to succeed, it must include all the qualities that physical currency stands for, such as anonymity, universality, and finality. The RBI noted that it would be difficult to guarantee anonymity for a digital currency because every digital transaction would leave some sort of trace.
“Surprisingly, they have weighed anonymity as a significant point. In 2017, RBI was lambasting virtual currency for promoting anonymity. Here, they say we should promote anonymity and preserve privacy. That way, there is a clear contradiction,” said a partner at a law firm which has represented several cryptocurrency exchanges in the past.
The financial industry feels that the statement made by the RBI that KYC/AML will be connected to every wallet is a little ambiguous. “If somebody pays, let’s say, ₹2,000 to a vendor to get CBDCs to spend without a KYC, then it could be anonymous. But if there is KYC needed to even open the account and use it, then it is like Aadhaar-like situation where people will argue Aadhaar is private or not private,” the partner at a law firm added.
“In our country, law and order is very weak. This entire system should change together. If this government can let go of many things, change the law and bring anonymity to the digital rupee, then only it will see mass adoption,” the official quoted above said. “Otherwise, we will end up with a multi-layer system where cash, CBDC, and digital money will exist with very little incremental value-add,” he added.
Nothing, according to experts, expresses the goals of CBDC in crystal clear terms.
“It’s more like because there was one policy statement, followed by a budget announcement, and that all other central banks are exploring this, the RBI is also exploring. The concept note is a lot more open in terms of design and technology choices and whether it will be on a decentralized blockchain. Back in 2017, there was a question of how decentralization and centralization be achieved at the same time?” the law firm partner added.
It is odd that there is no demand for input and feedback either. It is merely a concept note outlining RBI’s current thinking. It appears that RBI may need to wait for a prominent nation to implement it first in order to understand more. The RBI has stated that they will need to carefully consider their choices because there is no precedence.
Kenneth Rogoff, a Harvard economics professor and former IMF chief economist, summarized the note for Mint, saying, “The RBI’s concept note seems very much in line with what other central banks are saying, carefully laying out the issues in very broad strokes without really being too specific about what choices the RBI will ultimately make. India has an important advantage over most countries in that it is far ahead in its identification systems and protocols which are the heart of any attempt to have a retail Central Bank Digital Currency. While it definitely makes sense to be exploring the issue of implementing a CBDC – virtually every central bank is doing it — it remains to be seen whether the functional advantages of a CBDC cannot be better achieved by improving existing current systems. One key question is whether a CBDC will make it harder or easier to balance the individual’s right to privacy and the State’s right to enforce taxes and regulations.”