Introduction

• There is uncertainty over the legal status of digital currencies i n India. An unofficial estimate mentions that Indian investors holding around $1.5 billion (Rs 10,000 crore) in digital currencies. The inter-ministerial committee (IMC) suggested a ban on private digital currencies, but it favors RBI-backed National Digital Currency or central bank digital currency (CBDC).
• The draft Cryptocurrency and Regulation of Official Digital Currency Bill, 2021 aims to prohibit all private cryptocurrencies. The Bill also aims to lay down the regulatory framework for the launch of an “official digital currency”.

 

What is the CBDC or National Digital currency?

• A Central Bank Digital Currency (CBDC), or national 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.
• The growth of cryptocurrencies such as Bitcoin, Dogecoin,  Ethereum etc raised challenges to fiat currencies. Along with their other vulnerabilities made the central bank of each country explore the possibility of introducing their own digital currencies.
• According to the Bank for International Settlements, more than 60 countries are currently experimenting with the CBDC. There are few Countries that already rolled out their national digital currency. Such as,
• 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.

 

Need For CBDC in India

• 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). It is 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.
  • Next Big Thing: In a survey conducted by Bank for International Settlements, around 80 per cent of the 66 responding central banks said they have begun working on central bank-issued digital currency (CBDC) in some form.
  • Moreover, China is quietly bringing about a revolutionary change to the currency and payment system by launching its Digital Renminbi.
• 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.

 

Challenges with non-state digital currency

1. Safety and security of cryptocurrencies: This is one of the key issues with cryptocurrency. Mt Gox bankruptcy case is a highlight of this. Mt gox is a Tokyo-based cryptocurrency exchange. After the cyberattack, several thousands of bitcoin went lost and the company is yet to settle the claim.
2. No investor protection: Since the cryptocurrency transactions are anonymous in nature, there is no investor/consumer protection in cryptocurrencies.
3. Conflict of interest: Globally, crypto-currency exchanges act as both custodian and a regulator. So, their own interest and consumer protection get into conflict.
4. Non-regulation: There are some cryptocurrency regulators who often indulge in money laundering and terrorism financing. Further, they are immune to the Central Bank regulation of various countries.
5. The volatility of cryptocurrency: Many cryptocurrencies have only a limited amount of coins. For example, Bitcoins fixed the maximum possible number as 21 million. This creates an increase in demand with each passing day and creates instability in exchange rates. This made the cryptocurrency more volatile in nature.

 

Advantages of rolling out National Digital Currency

• Improving efficiency in the financial system: As the currency in digital form, it can provide an efficient way for financial transaction. Further, digital currency also solves the challenges with Cash and coins. Cash and coins require expenses in storage and have inherent security risks like the recent heist in the RBI currency chest.
• Reducing systemic risk:  There are about 3,000 privately issued cryptocurrencies in the world. According to 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.
• 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 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.
• Helps in 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 in rolling out National Digital Currency

• Potential cybersecurity threat: India is already facing many cyber security threats.  With the advent of digital currency, cyberattacks might increase and threaten digital theft like Mt Gox bankruptcy case.
• Lack of digital literacy of population: Introduction of digital currency is technological advancement. But as per Digital Empowerment Foundation in 2018 report, around 90% of India’s population is digitally illiterate. So, without creating enough literary awareness introduction of digital currency will create a host of new challenges to the Indian economy.
• Challenge in regulation and taxation: 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.

 

Suggestions

• The government can follow the western concept of treating digital currency as property and imposing capital gains tax.
• Enhance digital literacy: The government has to create enough awareness campaigns and inform people about identifying fraudulent methods. This will reduce India’s digital divide.
• Creation of adequate cybersecurity methods: Before the introduction of National Digital currency the government has to create certain important things, such as,
  • Training of law enforcement agencies on handling any threats
  • Creating a policy of basic information assessed while issuing, verifying someone’s digital currency.

 

Advantages of Digital Rupee

• Complete Transmission of Monetary Policy: Digital Rupee will empower the RBI by providing it direct tools to control monetary policy.
  • Directly influenced creation and supply flow using a Digital Rupee will immediately reflect the effects of policy changes instead of relying on commercial banks to make those changes when they deem fit.
  • Safeguarding the Interest of Deposit Holders: The recent NBFC crisis  resulting in the current downturn in the economy and the PMC Bank scandal which has locked out depositors from withdrawing their funds due to high NPAs are a testament to the fragility of our current banking model.
  • Officially backed Digital Rupee will empower the regulators to monitor transactions and credit flow across the economy helping them weed out scams and fraud instantly and secure depositors’ money.
  • Moreover, it will help distract investors from the current bunch of crypto assets that are highly risky.
• New Paradigm For Banking: Digital Rupee will turn every large technology company into a fintech company without the need for permission or partnership with a bank.
  • This will create new incentives for companies to bank the unbanked, while also providing financial services to those who have been at the mercy of banks till date.
• Enabler of Cashless Society: Official digital currencies can play an important role in weaning users away from using cash, which will help control tax evasion.
  • Digital Rupee will also make cashback, remittances, loans, insurance, stocks and other financial products a natural extension using programmable smart contracts.