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Cryptogram - 14OCT2022

Cryptogram - 14OCT2022

RBI digital currency: Good, bad, UGLY

October 14, 2022

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14 October 2022

In this issue

The good, bad and UGLY of e-Rupee || The Top Five stories this week

Hello, With the release of its first ever comprehensive report on Central Bank Digital Currency (CBDC), the Reserve Bank of India has officially kicked off the process of releasing India’s fiat digital currency, e-Rupee. It signals the central banking establishment’s willingness to finally participate in the blockchain era and submit to the future, because...

But this has become somewhat of a necessity for RBI now, because every other kid in the block is now saying...

While CBDCs have definite upsides – even if many argue that they are limited – there are other reasons as to why the launch of CBDCs by major economies of the world should be looked at with caution, perhaps even suspicion, by all of us. On this issue of Cryptogram, we give you the lowdown on RBI’s CBDC after having read its concept note, and tell you about how it can revolutionise payments but also become the next step in state’s tightening control over our lives.

The newsletter is put together by Giottus Crypto Platform and The News Minute’s Brand Studio. You can read all the previous issues of Cryptogram here.

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THE BIG STORY

The good, bad and UGLY of e-Rupee

Let’s get the basics out of the way first with a quick FAQ. What is a CBDC?RBI defines the CBDC as the digital form of currency notes issued by a central bank and maintained on a blockchain. It is a sovereign or entirely independent currency issued by the central bank (in this case, RBI), in accordance with the country’s monetary policy.Is it legal tender?Yes. Once officially issued, CBDC will be considered as a medium of payment and legal tender by all three parties - citizens, government bodies, and enterprises. Being government-recognised, it can be freely converted to any commercial bank’s money or notes.Is it the same as other cryptocurrencies, like Bitcoin?No. Cryptocurrencies like Bitcoin and Ethereum are decentralized in nature. e-Rupee will be issued and controlled by the RBI, so it will be centralised. But, it will operate on a blockchain. The underlying technology of cryptocurrency (distributed ledger) can underpin parts of the digital rupee system, but the RBI has not decided on this, yet.WTF is the use of e-Rupee?On the basis of usage and the functions performed by the digital rupee and considering the different levels of accessibility, CBDC can be demarcated into two broad categories — general purpose (retail) (CBDC-R) and wholesale (CBDC-W).Retail CBDC is an electronic version of cash primarily meant for retail transactions. It will be used by all — private sector, non-financial consumers and businesses. However, the RBI has not explained how e-rupee can be used in merchant transactions in the retail trade. Wholesale CBDC is designed for restricted access to select financial institutions. It has the potential to transform the settlement systems for financial transactions undertaken by banks into government securities (G-Sec) segment, inter-bank market and capital market more efficiently and securely in terms of operational costs, use of collateral and liquidity management. How will it be structured?A token-based CBDC would be a bearer instrument like banknotes, the person receiving a token will verify that his ownership of the token is genuine. A token-based CBDC is viewed as a preferred mode for CBDC-R as it would be closer to physical cash. An account-based system would require maintenance of records of balances and transactions of all holders of the CBDC and indicate the ownership of the monetary balances. In this case, an intermediary will verify the identity of an account holder. This system can be considered for CBDC-W. How will it be issued? In the direct model, the central bank will be responsible for managing all aspects of the digital rupee system such as issuance, account-keeping and transaction verification. An indirect model would be one where the central bank and other intermediaries (banks and any other service providers), each play their respective role. The central bank will issue CBDC to consumers indirectly through intermediaries and any claim by consumers will be managed by the intermediary. We believe that a small share of rupee in circulation will be converted/added as digital rupee at first – ensuring no significant change to overall money use in the country. THE GOODThe simplest way to understand why we need a CBDC and how it can drastically change our world is to look at what happened in Australia this week: a major outage of the RBA-backed inter-bank transfer system, leaving millions of transactions in limbo and affecting people across the country. If we had a CBDC working on a blockchain, this won’t happen. There will be no intermediary who has to validate transactions, and thus no unintended outages. India is undeniably a world-leader in payments infrastructure, and this is the logical next step to maintain its supremacy. e-Rupee will reduce operational costs involved in physical cash management, bringing resilience, efficiency and innovation in the payments system.It will also provide the public with uses that any private virtual currencies (especially stablecoins) can provide, without the associated risks. It is one of the stated goals of governments across the world to wean people away from risky private cryptocurrencies, and this is a tiny step towards it. THE BADWhile we are world-leaders in payments, where we have definitely been left behind is cybersecurity. CBDC ecosystems may be at a similar risk of cyber-attacks that the current payment systems are exposed to. Being new technology that the RBI is not necessarily an expert in, such attacks can test the robustness of the system at first. The RBI has to focus on upskilling itself on preventing such attacks. The fifth National Family Health Survey states that only 48.7% of rural males and 24.6% of the rural females have ever used the internet. CBDC may widen the socio-economic divide in financial inclusion.Privacy. A CBDC, by design, will further expose our financial transactions and make us vulnerable to snooping by the state. The CBDC is expected to generate huge sets of data in real time. Privacy of the data, concerns related to its anonymity and its effective use will be a challenge.And that brings us to THE UGLYOne word: control. We live in a world where governments are fast devising newer and faster ways to control our lives. Digitisation and data have given the state and big corporations unimaginable control over our lives, forcing us to submit to participating in ecosystems which force us to give up on our privacy and choice. Aadhaar is a good example of this – you cannot live in India without Aadhaar now, so you are forced to enrol, which makes it mandatory to handover your biometric data to the government, and enables the government to track you. A CBDC can do the same.

Image source: Messari

RBI can control individual holdings when required and ‘deduct’ penalties for non-conformance in other aspects of daily lives. Once CBDC adoption reaches a particular scale and becomes a default form of currency to get paid or spend, then a large part of your holdings will be in your wallet – which the government can have access to. So, imagine, you get up one morning and post something online which someone in the government doesn’t like, and your wallet is blocked or your earnings have been withheld. Nightmare.The Way ForwardTechnical clarity must be ensured to decide on the underlying technologies that can be trusted to be safe and stable, and respectful of privacy and control. To make CBDC a successful initiative and movement, RBI must address the demand side infrastructure and knowledge gap to increase its acceptance in rural areas for wide base. The RBI must proceed cautiously, remaining mindful of the various issues, the design considerations and the implications surrounding the introduction of the digital currency.Overall, CBDCs are definitely a welcome addition to global currency use. Rather they can be a natural evolution. However, central bodies like RBI have to build an ecosystem to ensure fair and effective use addressing inclusivity and privacy concerns.

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