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RBI to Introduce Digital Currency

  • 23 Jul 2021
  • 6 min read

Why in News

The Reserve Bank of India (RBI) is working on a phased implementation strategy for its own digital currency and is in the process of launching it in wholesale and retail segments in the near future.

  • A high-level inter-ministerial committee set up by the Finance Ministry had recommended Central Bank Digital Currency (CBDC) with changes in the legal framework including the RBI Act, which currently empowers the RBI to regulate issuance of bank notes.

Key Points

  • Digital Currency:
    • It is a payment method which exists only in electronic form and is not tangible.
    • It can be transferred between entities or users with the help of technology like computers, smartphones and the internet.
    • Although it is similar to physical currencies, digital money allows borderless transfer of ownership as well as instantaneous transactions.
    • Digital currency is also known as digital money and cybercash.
    • E.g. Cryptocurrency
  • Need:
    • Addressing the Malpractices:
      • The need for a sovereign digital currency arises from the anarchic design of existing cryptocurrencies, wherein their creation, as well as maintenance, are in the hands of the public.
        • With no government supervision and ease of cross-border payments, renders them vulnerable to malpractices like tax evasion, terror funding, money laundering, etc.
        • By regulating digital currency, the central bank can put a check on their malpractices.
    • Addressing Volatility:
      • As the cryptocurrencies are not pegged to any asset or currency, its value is solely determined by speculation (demand and supply).
      • Due to this, there has been huge volatility in the value of cryptocurrencies like bitcoin.
        • As CBDCs will be pegged to any assets (like gold or fiat currency) and hence will not witness the volatility being seen in cryptocurrencies.
    • Digital Currency Proxy War:
      • India runs the risk of being caught up in the whirlwind of a proxy digital currency war as the US and China battle it out to gain supremacy across other markets by introducing new-age financial products.
        • Today, a sovereign Digital Rupee isn’t just a matter of financial innovation but a need to push back against the inevitable proxy war which threatens our national and financial security.
    • Reducing Dependency on Dollar:
      • Digital Rupee provides an opportunity for India to establish the dominance of Digital Rupee as a superior currency for trade with its strategic partners, thereby reducing dependency on the dollar.
    • Advent of Private Currency:
      • If these private currencies gain recognition, national currencies with limited convertibility are likely to come under some kind of threat.
  • Significance:
    • It would reduce the cost of currency management while enabling real-time payments without any inter-bank settlement.
    • India’s fairly high currency-to-GDP ratio holds out another benefit of Central Bank Digital Currency (CBDC) - to the extent large cash usage can be replaced by (CBDC), the cost of printing, transporting and storing paper currency can be substantially reduced.
    • It will also minimize the damage to the public from the usage of private virtual currencies.
  • Issues:
    • Some key issues under RBI's examination include, the scope of CBDCs, the underlying technology, the validation mechanism and distribution architecture.
    • Also, legal changes would be necessary as the current provisions have been made keeping in mind currency in a physical form under the Reserve Bank of India Act.
    • Consequential amendments would also be required in the Coinage Act, Foreign Exchange Management Act (FEMA) and Information Technology Act.
    • Sudden flight of money from a bank under stress is another point of concern.
  • Recent Developments:
    • El Salvador, a small coastal country in Central America, has become the first in the world to adopt Bitcoin, as legal tender.
    • Britain is also exploring the possibility of creating a Central Bank Digital Currency (Britcoin).
    • In 2020, China started testing its official digital currency which is unofficially called “Digital Currency Electronic Payment, DC/EP”.
    • In April 2018, RBI banned banks and other regulated entities from supporting crypto transactions after digital currencies were used for frauds. In March 2020, the Supreme Court struck down the ban as unconstitutional.

Way Forward

  • The creation of a Digital Rupee will provide an opportunity for India to empower its citizens and enable them to use it freely in our ever-expanding digital economy and break free from an outdated banking system.
  • Looking into its impact on macroeconomy and liquidity, banking systems and money markets, it is imperative of policymakers to thoroughly consider the prospects of Digital Rupee in India.

Source: TH

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