The Reserve Bank of India (RBI) commenced a pilot programme for the digital rupee in the wholesale segment on Nov 1, 2022. The regulator has identified nine banks, viz., the State Bank of India, Bank of Baroda, Union Bank of India, HDFC Bank, ICICI Bank, Kotak Mahindra Bank, YES Bank, IDFC First Bank and HSBC, for participation in the pilot. “The use case for this pilot is settlement of secondary market transactions in government securities,” the RBI mentioned in a notification issued on Oct 31, 2022. A pilot project in the retail segment meant for hoi polloi among others is scheduled for launch in a month in select locations.
Some 105 countries of the world are actively engaged in launching their Central Bank Digital Currency (CBDC), or simply digital currency. The RBI’s CBDC is the same as a sovereign currency and is exchangeable one-to-one at par with the fiat currency.
So, what is the fuss all about if the two are the same? Well, the answer is the RBI digital currency will exist only in the virtual world in the form of tokens which, of course, can be converted any time into fiat currency and deposited into one’s bank account. But when it remains a digital token, one would be directly dealing with the RBI through the block-chain technology or the digital ledger. So, what was unimaginable earlier is going to happen now — the RBI, in addition to being a banker’s bank and lender of last resort, will also entertain individuals and others to open accounts with it in the form of a wallet.
To this extent, the RBI would put commercial banks out of business by shutting out the lendable deposits from them. Though the digital currency and the fiat currency would coexist and be fungible, digital currency would be solely the baby of the RBI, thus boosting its acceptability within the country and outside.
However, to the extent people repose their faith in the RBI by morphing their fiat currency into digital, they would stop earning interest on their savings account. In other words, the digital rupee issued would appear on the liability side of the RBI’s balance sheet with commercial banks elbowed out. And to this extent commercial banks would be marginalised and have their wings clipped. Their lending ability would also come down pro tanto.
The CBDC seems to have been a knee-jerk reaction to the existential threat posed by upstart crypto currencies led by Bitcoin. Bitcoin was a challenge to fiat currencies of the world, primarily the U.S. dollar, which long ago ceased to be exchangeable for gold. But then Bitcoin too is not backed by any sovereign guarantee or underlying asset. Its primary appeal is in its scarcity value – only 21 million Bitcoins can be minted as per its digital charter, of which close to 19 million have already been minted. It is the scarcity value that drove its price to a mindless valuation of U.S. $60,000. At the last check, it was commanding U.S. $20,440.
Bitcoin, too, is block-chain technology-driven, which is tamper-proof. Its relentless surge before wisdom dawned made central banks of the world embrace block-chain technology and offer their own digital currencies, shunning the belittling name cryptocurrency. But then the central banks of the world have forgotten one thing — Bitcoin, for example, entices its adherents and wannabe adherents not only for carrying out transactions with ease but also to earn capital gains. The one-to-one equation between the digital rupee and the fiat rupee robs speculators of the possibility of earning capital gains.
CBDC or digital currencies still baffle currency experts. The rationale for it is, indeed, still nebulous and woolly. If cryptocurrencies have been a fad, their ripostes, CBDCs too are a fad. It seems a rebellious novelty is sought to be neutralised with a central bank-backed novelty. To be sure, digital currencies would eliminate counterfeit currency notes inevitable in a fiat currency regime, just as dematerialised shares eliminated fake and mutilated share certificates. To be sure again, the digital rupee, for example, would be usable even by hoi polloi whereas Bitcoins priced at stratospheric levels can only be used in settlement of high-value transactions.
With the potential to disrupt the fiat currency, the RBI digital currency might have the effect of not only upsetting the commercial banking sector’s applecart, but also of undermining the carefully built and popularised UPI payments regime whose centrepiece is the mobile wallet. By creating two parallel banking regimes — commercial bank-based and RBI digital currency-based — the Government could well be pitting one against the other.
Those who are attracted to bank accounts by, among other things, the possibility they offer of earning interest will shy away from the RBI digital currency, but commercial establishments might switch over to digital currency as realisation dawns that their current accounts with commercial banks do not in any case earn any interest. The flip side, however, is the loan and overdraft facilities offered by commercial banks, which the RBI simply can’t offer.
Indeed, the RBI in its new role as banker to individuals would be in a conflict-of-interest situation. Its primary mandate is to manage inflation. Would it be kosher for it to cap withdrawals from one’s digital wallet so as to contain inflation?
It seems the RBI and the Central Government have embraced the CBDC more to be seen with Joneses i.e., in a me-too spirit.
The writer is a freelance columnist for various publications and writes on economics, business, legal, and taxation issues