Central Bank Digital Currency

• Central Bank Digital currency, known as National digital currency, is the digital form of a country’s fiat currency. A high-level inter-ministerial committee of the Finance Ministry had recommended Central Bank Digital Currency for India with changes in the legal framework including the RBI Act, which currently empowers the central bank to regulate issuance of bank notes.
• According to reports, value of digital payments in India will grow three-fold to touch $1 trillion by financial year 2026 compared to $300 billion in financial year 2021. Though India is a leader in digital payments, but cash remains dominant for small-value transactions due to which India has a fairly high currency-to-GDP ratio. An official digital currency would reduce the cost of currency management while enabling real-time payments without any inter-bank settlement.

About CBDC

It is a form of digital asset issued by the central bank in forms of tokens, instead of printing paper currency or minting coins. This token value is backed by the full faith and credit of the government.

• CBDC is based on distributed ledger technology, like a private blockchain network handled by the government which helps it to trace transactions while maintaining anonymity.
• Globally Sweden is conducting real-world trials of their digital currency (krona) whereas The Bahamas already issued their digital currency “Sand Dollar” to all citizens. China has also started a trial run of their digital currency e- RMB during the pandemic.
• China planned to implement nationwide digital currency by 2022. This is the first national digital currency operated by a major economy.
• The government has proposed to introduce India’s own digital rupee by 2022-23, using blockchain and other technologies, to be managed by the Reserve Bank of India.

Advantages

• Making Financial System More Efficient: As the currency in digital form, it can provide an efficient way for financial transaction. Further, digital currency also solves the challenges of handling cash and coins. It would lead to more efficient and cheaper currency management system.
• Gradual Obsolescence of Paper Currency: CBDC can be made widely available to the public, which will improve our cash to GDP ratio and boost digital payments and reduce tax evasion, money laundering and financial frauds.
• True Price Stability: An effective monetary policy is possible if the real value of CBDC would remain stable over time. Such framework would encourage the systematic and transparent conduct and better transmission of monetary policy.
• Opportunity to Private Players: As the state-backed digital currency can provide investor/consumer protection, the private can confidently invest in the associated infrastructure without any doubts over its regulation. This will improve provision of services to people.
• Reduce Volatility: The national digital currency will be regulated by the RBI. So, there will be less volatility compared to other digital currencies. It would also provide a big boost to India's digital economy.
• Other Benefits: It will promote instant settlements, financial inclusion, safer cross border payments, greater remittance flows, improvements in MSME lending, etc.

Challenges to National Digital Currency

• Cybersecurity Threat: With increased adoption of digital currency, cyber-attacks might increase leading to great economic loss. Ensuring very high standards of cybersecurity are essential for India for successful adoption of CBDC.
• Digital Literacy: Introduction of digital currency is technological advancement. With most of the Indian population lagging in digital literacy, introduction of digital currency will create a host of new challenges to the Indian economy. Efforts on financial literacy should be made by the government.
• Regulation and Taxation Challenges: Introduction of digital currency also creates various associated challenges in regulation, tracking investment and purchase, taxing individuals, etc.
• Threat to Privacy: The digital currency must collect certain basic information of an individual so that the person can prove that he’s the holder of that digital currency. This basic information can be sensitive ones such as the person’s identity, fingerprints, etc.
• Impact on Monetary Policy: The implementation of CBDC in India, which has a large credit market dominated mostly by commercial banks, can have major implications for the current monetary policy as well as the financial stability.

Several global developments such as digitalisation of commerce, the rise of private digital currencies and concerns related to over use of cash in an economy have led to an increased interest in CBDCs. However, it will be an arduous task for the government and central bank to inculcate trust and improve adoption of new forms of currencies among the public.