The RBI’s concept paper on CBDC (Central Bank Digital Currency) sets in motion the process for its introduction. On the face of it, with a lot of digitalisation already in place, the question that arises is whether a CBDC would add any additional value. This has been explained by the RBI.

There are different stages of evolution in digitalisation and CBDC is the last frontier. True, we are transacting with cards, RTGS, NEFT, IMPS, UPI, etc. Having a digital note in the pocket is the ultimate level of sophistication.

The concept paper spells out the broad contours of how the CBDC will play out. The essential features of ‘money’ are that it should serve the requirements of being a medium of exchange, store of value and unit of measurement. Being currency-like means that the CBDC serves these prerequisites. In fact, this is where it scores over cryptocurrencies which have no legal value and cannot qualify as currency as they do not meet these requirements. As CBDC comes from the RBI, there is no risk involved.

CBDC has been defended on grounds of its being more efficient, innovative, being able to foster financial inclusion and reduce operating costs. For it to work smoothly, however, it needs to be accessible to all, especially the poor who may not have access to any electronic device. This can be a challenge when it comes to serving the purpose of financial inclusion.

Cost reduction

Operating cost may not matter for the RBI. But given that physical currency moves across banks through vaults and ATM machines, CBDC will help in cutting down costs. However, it would make several industries like ATM manufacturers and security forces less relevant. Given that the RBI has stated that CBDC will not replace currency but provide an alternative, the fear may not be fully founded.

There are six issues which have been flagged as being part of this exercise. The first is technology. The major challenge here is to make it accessible to those who have limited access to electricity or internet, or are not comfortable with technology, especially smartphones. A large elderly educated population is not comfortable with digital banking.

The question is how does one make “offline CBDC” available to any individual in these categories? Will it be by way of a loaded card? Its use will depend on internet and electricity supply. Besides, parties to a transaction have to be digitally in sync. Will the transfer of funds be akin to G-Pay, PhonePe, etc., or managed differently? There are many unanswered questions here.

The second issue relates to whether this should relate to only wholesale or retail transactions. Here the view is that both would be included; hence the design of the CBDC will be one that can be accessed by not just corporates and banks but also the man on the street. Then, it shall be universal.

The third issue relates to the issuance mode. The paper debates the issuance and maintenance by the central bank or the commercial banks, as both options exist. It opts for the latter which sounds fair as it would mimic how currency is dealt with. Just as individuals go to a bank to withdraw money and not to the RBI, the CBDC would also be managed by the banks through the accounts of the deposit holders.

The fourth aspect of the CBDC relates to the form of issuance. Here the paper talks of it being token based like a currency note or account-based which is akin to bank deposits. The view taken is that the former is appropriate as the holder is the owner and hence there would be no account maintained as such. To this extent it would be like physical currency. This sounds logical.

Fifth, the design of the instrument is addressed. The option is to pay an interest rate on the CBDC which will be an incentive to the holder. Here it states that doing so will put it in conflict with banks which can visualise deposits being converted to CBDC rather than lying with the bank. Alternatively, it could be without interest just like currency.

Interest payment

Since the concept bats for being token rather than account based, logically the vote goes for there being no interest paid. If adopted, theoretically, all e-wallets become redundant and hence this industry should be watchful. Given a choice to lodge balances in the CBDC or a private e-wallet, the former sounds a safer bet.

Stock market analysts would pay attention to the listing of such companies, which would be competing for the wallet’s share with the CBDC.

Last, the concept paper discusses anonymity. There is admission that there will always be a trail once we go digital as the identity of the holder will always be known. Yet if CBDC is to be akin to cash, it is important to note that cash is favoured for its anonymity. While the government has imposed restrictions on the amount of cash that can be used for commercial transactions, currency still has its charm. It can be used for social functions, property transactions, jewellery purchases, etc., where one can remain anonymous.

While the concept paper says that small value transactions will remain anonymous (but every SIM card is identified with an individual), the higher ones will be under the IT radar. Further clarifications are needed.

The RBI has mentioned that everything will be done in a calibrated manner. This is a prudent way forward. But interesting outcomes are possible. Banks today hold on to demand deposits which are part of the CASA balances to shore up revenues.

With wholesale CBDC coming in, companies may prefer to switch or demand add-ons from banks to continue to bank with them. As mentioned earlier, e-wallets may become less relevant as CBDC catches on and currency is replaced, ATMs and rental spaces and accompanying infrastructure would become less important.

There are interesting times ahead for the monetary system as the RBI has switched on the ignition with this rather comprehensive concept paper.

The writer is Chief Economist, Bank of Baroda. Views are personal