Rolling Out Central Bank Digital Currency in India

The rise of digital currencies has brought new ways to handle money. Stablecoins, a type of cryptocurrency, offer the stability of being tied to traditional assets. In India, digital finance is changing rapidly with two key developments: the Reserve Bank of India’s (RBI) Central Bank Digital Currency (CBDC or e-rupee) and rupee-backed stablecoins. According to the Bank for International Settlements, digital currencies can reduce transaction costs by up to 50%. If implemented with proper regulations, the e-rupee and stablecoins could create a more efficient and inclusive digital economy in India.

What is Central Bank Digital Currency?

Definition: A Central Bank Digital Currency (CBDC) is a digital form of a country’s official currency issued and controlled by the central bank.

Benefits:

• Safer and easier than cash.
• Reduces costs linked to printing, distribution, and storage of money.
• Prevents risks like counterfeiting and theft.
• Promotes financial inclusion and cross-border payments.
• Helps in transitioning to a digital economy.

Types of CBDC (e-rupee):

1. Retail CBDC:
   • For private users like individuals and businesses.
   • Acts as a digital version of cash for everyday transactions.
   • Features:
     • Safe and always available.
     • Settles payments in real-time or near real-time.
2. Wholesale CBDC:
   • For interbank transactions like bond settlements and nostro transfers.
   • Features:
     • Used by select financial institutions.
     • Improves security and efficiency in large-scale transactions.

Mode of Issuance:

Key Benefits of Central Bank Digital Currency

1. Enhanced Financial Inclusion:
   • Helps unbanked and underbanked people access banking through mobile-based digital wallets.
   • RBI plans offline CBDC-R functionality for areas with limited or no internet.
2. Reduced Transaction Costs:
   • Saves costs by eliminating the need to print and transport physical currency.
   • For example, printing a Rs 100 note costs around Rs 15-17 over its four-year life, which CBDC can significantly reduce.
3. Better Monetary Policy:
   • Enables real-time monitoring of money flow.
   • Helps target specific issues like hoarding or black-market activities.
   • Example: RBI’s wholesale CBDC pilot in 2022 improved interbank settlements.
4. Transparency and Reduced Crime:
   • Traceable transactions can prevent corruption, tax evasion, and financial crimes.
   • FATF estimates that only 1% of global illicit financial flows are recovered. CBDCs can change this with better tracking.
5. Faster Cross-Border Payments:
   • CBDCs can simplify and speed up international payments while reducing costs.
   • Example: India’s G20 focus aims to lower remittance costs globally by 2027.
   • The m-CBDC Bridge Project (with Thailand, Hong Kong, and UAE) showed near-instant settlements.
6. Encourages Financial Innovation:
   • Creates opportunities for fintech companies to develop new payment systems.
   • Example: CBDCs can integrate with IoT for micropayments, boosting India’s smart city initiatives.
   • India has the highest fintech adoption rate of 87% globally, and CBDCs can accelerate this trend.
7. Crisis Resilience:
   • Ensures seamless transactions during crises like pandemics or natural disasters.
   • Example: During COVID-19, welfare funds could have been distributed faster using digital wallets powered by CBDCs.
8. Supports De-Dollarization:
   • Reduces reliance on foreign currencies like the US dollar.
   • Example: India’s rupee-based trade agreements and RBI’s wholesale CBDC pilots for international trade.

Concerns with CBDC

1. Cybersecurity and Privacy Risks:
   • CBDC systems could attract cyberattacks, risking national financial security.
   • Example: The 2020 SolarWinds attack impacted critical systems.
2. High Costs:
   • Developing and maintaining CBDC infrastructure is expensive.
   • Example: Nigeria’s eNaira project incurred significant costs.
3. Impact on Banks:
   • CBDCs could reduce deposits in commercial banks, limiting their ability to lend.
   • Example: Bank of England noted potential reductions in deposits by 4-12%.
4. Technological Challenges:
   • Many areas in India lack robust digital infrastructure.
   • Example: Only 25% of rural India is digitally literate, and 45% of the population lacks internet access.
5. Cross-Border Issues:
   • Different global standards make CBDC integration difficult.
   • Example: m-CBDC Bridge Project is different from the digital Euro or Digital Rupee.
6. Economic Risks:
   • Smaller economies might face dollarization risks if foreign CBDCs dominate.
   • Example: El Salvador faced challenges with Bitcoin adoption.

Rupee-Backed Stablecoins and How They Complement CBDC

Definition:

• Rupee-backed stablecoins are digital tokens tied 1:1 to the Indian rupee. They operate on blockchain technology and offer fast, low-cost transactions.
• Unlike cryptocurrencies like Bitcoin, stablecoins are less volatile.

How Stablecoins Complement CBDCs:

1. Cross-Border Payments:
   • Stablecoins can fill gaps in international payments where CBDCs are not yet compatible.
2. Encouraging Innovation:
   • Enables decentralized finance (DeFi) and e-commerce platforms to grow.
3. Bridging Financial Systems:
   • Acts as a link between traditional finance, CBDCs, and blockchain ecosystems.
4. Initial Support for CBDC Rollout:
   • Serves as a temporary solution until CBDCs are fully functional.

Steps to Effectively Implement CBDC in India

1. Strengthen Digital Infrastructure:
   • Expand broadband access in rural areas through projects like BharatNet.
   • Improve digital literacy with training programs.
2. Enhance Cybersecurity:
   • Use advanced encryption and AI-based monitoring.
   • Collaborate with agencies like CERT-In for threat detection.
3. Integrate with Existing Systems:
   • CBDCs should work alongside current systems like UPI and Jan Dhan accounts.
   • Example: Link CBDCs with Aadhaar for financial inclusion.
4. Educate the Public:
   • Conduct awareness campaigns to explain CBDC benefits.
   • Example: RBI’s DigiDhan Mela model can be replicated.
5. Develop Offline Capabilities:
   • Enable offline CBDC use with technologies like NFC-enabled smart cards.
   • RBI’s offline retail CBDC trials are promising.
6. Ensure Global Interoperability:
   • Align with global standards for cross-border payments.
   • Example: G20’s roadmap emphasizes uniformity.
7. Create a Legal Framework:
   • Address issues like taxation and consumer protection.
   • Example: Integrate the Personal Data Protection Act 2023 into the CBDC framework.
8. Public-Private Partnerships (PPPs):
   • Collaborate with fintech and blockchain startups to design efficient solutions.
   • Example: Use private expertise for user-friendly CBDC applications.

By addressing these challenges and leveraging the strengths of both CBDCs and stablecoins, India can lead the way in building a robust, inclusive, and efficient digital financial system.