RBI launches pilot projects for Official Digital Currency

Content:

RBI Project:

• The Reserve Bank of India will soon start pilot projects to assess the viability of using digital currency to make wholesale and retail payments. 
• These pilot projects aimed to help calibrate RBI’s strategy for introducing a full-scale central bank digital currency (CBDC).
• The RBI is currently working towards a phased implementation strategy and examining use cases which could be implemented with little or no disruption. 

It is examining the validation mechanism — 

• whether token based or account based, distribution architecture, 
• whether direct issuance by the RBI or through banks and degree of anonymity.

Some key issues under examination are regarding the scope of CBDCs — 

• whether they should be used in retail payments or also in wholesale payments  and the underlying technology 
•  whether it should be a distributed ledger or a centralised ledger, for instance, and 
• whether the choice of technology should vary as per use cases.

What is Official Digital Currency?

• A Central Bank Digital Currency (CBDC), or national digital currency or Official DIgital Currency, is simply the digital form of a country’s fiat currency. 
• Instead of printing paper currency or minting coins, the central bank issues electronic tokens.
• This token value is backed by the full faith and credit of the government.

Global  Developments:

• According to the Bank for International Settlements, more than 60 countries are currently experimenting with the CBDC. 
• There are few Countries that have already rolled out their national digital currency. 
• Sweden is conducting real-world trials of their digital currency (krona)
• The Bahamas already issued their digital currency “Sand Dollar” to all citizens
• China started a trial run of their digital currency e- RMB amid pandemic. They plan to implement pan-china in 2022. This is the first national digital currency operated by a major economy.

Its need and importance: 

• The growth of cryptocurrencies such as Bitcoin, Dogecoin, Ethereum etc raised challenges to fiat currencies. 
• The potential and vulnerabilities of these cryptocurrencies forced the central banks to explore the possibility of introducing their own digital currencies.

Importance:

Developing an Efficient Financial System: 

• As the currency in digital form, it can provide an efficient way for financial transactions. 
• India’s fairly high currency-to-GDP ratio holds out another benefit of CBDC 
• Digital currency solves the challenges with Cash and coins – i.e. expenses in storage and inherent security risks like the recent heist in the RBI currency chest.

Investor & Consumer Protection : 

• There are about 3,000 privately issued cryptocurrencies in the world. 
• According to the IMF, the key reason for considering national digital currency is to counter the growth of private forms of digital money. 
• There is a possibility of these companies going bankrupt without any protection. This will create a loss for both investor and creditor. 
• But the National Digital currency has government backing in case of any financial crisis.

Improving Financial Services: 

• Transacting with CBDC would be an instantaneous process as the need for inter-bank settlement would disappear.
• it would be a central bank liability handed over from one person to another.
• They could enable a cheaper and more real-time globalisation of payment systems
• This will improve the 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.

Better macroeconomic management: 

• Current RBI’s work on inflation targeting can be extended to national digital currency also. 
• Since India is planning to ban other cryptocurrencies, the RBI can better regulate digital and fiat currency. 
• Thus upgrading to digital currency and balancing the macroeconomic stability.

Challenges Involved:

Cybersecurity Vulnerabilities: 

• India is already facing many cyber security threats. 
• With the advent of digital currency, cyberattacks might increase and threaten digital theft like the Mt Gox bankruptcy case.

Digital illiteracy: 

• As per Digital Empowerment Foundation in 2018 report, around 90% of India’s population is digitally illiterate. 
• So, without creating enough digital literary awareness, introduction of digital currency will create a host of new challenges to the Indian economy.

Regulatory and Taxation Challenges: 

• Introduction of digital currency also creates various associated challenges in regulation, tracking investment and purchase, taxing individuals, etc.

Invasion of 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.

Suggestions:

• Capital Gains Tax on digital Currencies: The government can follow the western concept of treating digital currency as property and imposing capital gains tax.
• Create digital financial Awareness: The government has to create enough to reduce the digital divide and literacy. Awareness campaigns that inform people about identifying fraudulent methods are the need of the hour.
• Bolstering Cybersecurity:  Government must  create robust policy on information processed in digital currencies, as well as train and equip its law enforcement agencies to handle cyberthreats.