Throughout history, money has taken many different forms, finally developing into the most widely used, paper currency. During the past decade, money has further evolved into something previously thought impossible, cryptocurrency. The ongoing global wave of currency digitalisation has forced central banks to rethink their attitudes to this new concept. This has led to the emergence of central bank digital currencies (CBDCs), which are essentially traditional money, translated into a digital form, issued and controlled by a respective country’s central bank. Countries such as the Bahamas, China and Sweden have already launched their own CBDCs, putting them ahead of existing markets.
India took a step forward in its Digital India campaign during the 2022-23 budget session of parliament, when the finance minister announced that the Reserve Bank of India (RBI) will begin to issue a CBDC. This was followed by amendments to the Reserve Bank of India Act, 1934, permitting the introduction of digital bank notes. In October 2022, the Fintech Department of the RBI issued a concept note on the CBDC, setting out a framework for its use. The concept note broadly classified CBDCs into two types: General purpose or retail available for use by all in the private sector, including non-financial consumers and businesses, and wholesale in which access is restricted to select financial institutions. The concept note also structured CBDCs into two forms, a token form and an account form. The token form CBDC is like a bearer instrument, which can be transferred from one person to another. In its account form, users of the CBDC are required to keep a record of transactions and balances.
The CBDC will offer a range of advantages, such as providing significantly more efficient and trustworthy tender-based payment options; offering instant, real-time settlements, without added fees or charges; reducing the dependency on physical cash, which itself involves unacceptable risks and logistics, and reducing settlement risks. It will also extend digital payments to those in rural and semi-rural areas, the majority of whom do not have bank accounts. International financial transactions will become significantly cheaper.
Although the implementation of the CBDC promises many advantages and benefits, there are certain challenges, which the RBI must consider, as it recognised in its concept note. The main concern is the anonymity of a transaction, as CBDCs leave digital footprints. However, new technology allows anonymity to be retained up to prescribed limits of transactions as is the case with physical currency. Implementation needs to be carefully thought through and may require robust privacy laws.
There are concerns over data privacy and the misuse of data of the parties involved. Currently, India does not have adequate data protection laws, a challenge for policymakers and the RBI. Lawmakers must formulate and implement robust data privacy laws that adequately protect the personal data of users. As in every digital transaction, there is a real and ever-present risk of hackers infiltrating the systems and carrying out financial crime. There needs to be in place modern technological safeguards to prevent such incidents coupled with adequate compensation to the victims in case those incidents result in loss. The majority of the population lives in rural areas where internet services are not fully available. The CBDC must be available in offline mode as well, providing a major boost to digital currency in those areas.
A reluctance to use digital currency as opposed to the traditional form of paper currency, especially among the not-so-digitally savvy population will require the launch of major outreach and educational programmes to encourage people to make the transition. In the initial stages, exemptions or incentives will perhaps have to be offered to encourage greater usage of the digital currency. Current laws and legal processes will have to be modified to bring the use of currency, protection and liability up to date. This will be crucial in promoting the transition to the CBDC.
India has embarked on an ambitious programme for the digitalisation of its currency. If implemented properly, the CBDC will significantly improve efficiency in existing payment systems and deliver major advantages to the financial ecosystem of the country.
Devyani Dhawan is of counsel and Neha Pethe is an associate at SNG & Partners
SNG & Partners
One Bazaar Lane, Bengali Market
New Delhi – 110001
Tel: +91 11 4358 2000