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What Is a Central Bank Digital Currency(CBDC)?

Most of us do not know what a CBDC is (Central Bank Digital Currency). The idea of a digital currency that uses blockchain technology to facilitate transactions was first introduced in the year 2009. Since then, the idea has been under development in different countries all across the globe at an accelerated pace, with the collaborative efforts of legislative bodies, regulators and researchers.

Central bank digital currencies (CBDC), also referred to as “Digital Fiat Currency”, are not a new concept. However, its introduction in India can be attributed to the Reserve Bank of India (RBI), which launched the Bharat Bill Payment System (BBPS) in December 2016.

The current status of CBDC in India is significant because of its potential to further disrupt the existing payment landscape, especially as it relates to banks and non-bank entities. This article defines the scope of Central Bank Digital Currencies in India and provides insight into how this form of currency might change the way things work for banking organisations and customers.

Understanding the Central Bank Digital Currency(CBDC)

A government-issued currency known as fiat money is one that is not backed by a tangible good like gold or silver. It is regarded as a type of accepted legal money for the exchange of goods and services.

Banknotes and coins served as the traditional forms of fiat money, but technological advancements have made it possible for governments and financial institutions to replace the physical form of fiat money with a credit-based system where transactions and balances are digitally recorded.

Digital currencies and cashless societies are becoming increasingly popular as a result of the development and adoption of cryptocurrencies and blockchain technology. The usage of digital currencies that are backed by the government is therefore being investigated by central banks and governments all over the world.

As soon as they are approved, these currencies will have the full confidence and support of the government that issued them, like fiat money.

Concept Note on Digital Rupee

On October 7, 2022, the RBI released a concept note on the digital rupee (e-rupee), following the creation of a working committee to look into the feasibility of an Indian central bank digital currency (CBDC) in 2020. Additionally, the Indian government stated in the 2022 Union Budget that a CBDC would be established.

According to the RBI concept note, the central bank in India would start experimenting with the digital rupee. Here is an explanation of what the proposed digital rupee, as outlined in the RBI's concept note, would mean for you. Be aware that the digital rupee is still in the development stages and that, based on the results of the RBI's pilot programs, the final design may change.

This Concept Note describes the goals, options, advantages, and disadvantages of issuing an e-Rupee (a CBDC) in India (digital Rupee). In addition to the existing payment options, the e-Rupee will offer one more.

Although it is nearly comparable to banknotes, using digital currency is undoubtedly easier, quicker, and less expensive. It also offers all the advantages for transactions that other digital payment systems do.

This Concept Note was released with the intention of raising awareness of CBDCs in general and the advantages of the digital Rupee in particular. The Note explains the Reserve Bank's strategy for introducing the digital rupee.

The two main goals of the Reserve Bank's strategy are to produce a digital rupee that is as similar to paper money as possible and to smoothly implement the introduction of the digital rupee. The Concept Note also covers important issues including technology and design choices, potential applications for digital rupee, issuance procedures, etc.

It examines privacy issues and considers the impact of CBDC adoption on the banking system, monetary policy, and stability of the financial system.

Key features of Digital Rupee as per Concept Note

     It cannot be mined like bitcoin. This indicates that the digital rupee is unlikely to be affected by the environmental and energy use issues related to bitcoin.

     The RBI has suggested a system in which commercial banks distribute the e-rupee but it is issued by the RBI.

    The digital rupee's retail form is token-based. Basically, you need to get the recipient's public key, which you may think of as an email address, and give them money using your private key (essentially, a password).

     According to the RBI concept note- They do not support the e-rupee with interest. Why? because it's possible for people to take money out of banks and exchange it for digital rupees, which would lead banks to fail.

    An identified individual makes a financial transfer to another. Contrarily, a cash transfer is private; you aren't aware of any previous owners of that particular rupee note. Partial anonymity for the e-rupee has been proposed by the RBI concept note, wherein little payments but not enormous volumes can be anonymous.

     Carrying physical money and notes can be inconvenient when you transact in e-rupee. In addition to this, the RBI has listed various advantages for the entire nation, including financial inclusion, innovation, and a reduction in the price of cash transactions.

    It can be programmed to achieve objectives like ensuring that it is only used for a specific sector (say, agriculture). Alternatively, it might be given a finite life, similar to a voucher, allowing the RBI to increase demand as needed and decrease it as desired. The RBI has not yet made a decision about these features because they have trade-offs.

     For the digital rupee, the RBI has suggested offline functionality, which would allow for transactions without the use of the internet. The same rupee may be transferred to many people, causing duplication. To alleviate such synchronisation problems, the RBI may impose limits on offline transactions or hunt for a technological alternative.

Final Comment

After reading this article, you have a fair idea on what CBDC means, why India is keen on having its own CBDC, and the challenges before the Reserve Bank of India. We started off with what is CBDC, which clearly was an interesting read. But then we moved on to talk about why India needs CBDCs and how RBI is striving hard to achieve the same.

I hope you had fun reading this article ! If you did, please share with your friends and colleagues.

By Akhilesh Kumar Yadav


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