View from India: Digital rupee pilot carries promise of sovereign backing

The Reserve Bank of India (RBI) has rolled out the pilot project of using Central Bank Digital Currency (CBDC) in the wholesale market for secondary trade.

The RBI is India’s central banking institution, which controls the monetary policy of the Indian rupee. Last week, it rolled out its CBDC, also known as Digital Rupee, e-Rupee or e₹.

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 are the nine banks that are part of the pilot project.

As per CBDC, the digital rupee would be legal tender in a digital form of fiat currency, which can be understood as the Indian rupee. The Digital Rupee is a currency issued by central banks responsible for governing and managing the asset. It is also exchangeable one-to-one at par with the fiat currency.

What comes to mind is whether the digital rupee is similar to crypto currency. The differentiator is that the digital rupee is issued by RBI and has government support, unlike crypto currencies. As indicated by RBI, CBDC is an electronic form of sovereign currency and has the advantages offered by central bank money. This can be understood as trust, safety, liquidity, settlement finality and integrity. Crypto currencies such as Bitcoin and Ethereum could be considered as assets or a payment mechanism, but are decentralised assets and are removed from any government-led mechanism. Crypto currencies leverage blockchain technology and rely on cryptography so that only the recipient can read messages.

This is how the digital rupee could work. The digital rupee would be in an e-wallet provided by a bank or any registered service provider. The e-rupee would be transferred to the general public through a token-based system. For wholesalers, the digital rupee is e₹-W. RBI has conveyed to the media that e₹-W is expected to make the inter-bank market more efficient for wholesale users, as well as facilitate and improve cross-border transactions. Probably the digital rupee may charter a new course in payment mechanisms. Foreign currency conversions may happen without much hassle. Timelines of payment settlements are likely to shrink as transactions happen smoothly and swiftly.

CBDC is of two types, the first being general purpose or retail (CBDC-R) meant for the private sector, non-financial consumers and businesses. It is an electronic version of retail cash transaction. The pilot initiative for the retail segment or e₹-R is slated to begin within a month in closed user groups. Wholesale (CBDC-W) is the second category and is for restricted access to select financial institutions. This is towards the settlement of interbank transfers and wholesale transactions.

RBI’s decision to pilot the digital rupee hasn’t happened overnight. Nirmala Sitharaman, Union Minister for Finance, announced in the 2022 Budget that RBI would bring in digital currency in this fiscal year, which we understand as the digital rupee. Shaktikanta Das, governor of RBI, also indicated the ground was being prepared for the launch.

Perhaps the learnings from various stages of both the pilot programmes could be fine-tuned before the official launch of the digital currency in the coming months. Let’s see what the digital rupee could do. It will probably add to the existing financial system, rather than replace physical cash transactions. With CBDC, it may not be necessary to do intermediate bank settlements. In that sense, CBDC itself may be transacted quite like cash dealings, instead of going through bank balance procedures. The digital rupee may become an enabler for the development of India’s digital economy.

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