Pilot launch of e-rupee for specific use cases

Context: Recently, the Reserve Bank of India (RBI) indicated that it will soon commence limited pilot launches of e-rupee (e`), or Central Bank Digital Currency (CBDC) or digital rupee, for specific use cases.

Key details:

• It has hinted at two broad categories for the use of e-rupee — retail and wholesale.
• It will take the payment system in the country to a new level where the common people and businesses will be able to use the digital currency seamlessly for various transactions.
• The central bank said that the development of CBDC could provide the public a risk-free virtual currency that will give them legitimate benefits without the risks of dealing in private virtual currencies.
• The approach for issuance of CBDC will be governed by two basic considerations:
  • to create a digital rupee that is as close as possible to a paper currency and to manage the process of introducing digital rupee in a seamless manner.
  • The central bank also feels that it is desirable for CBDCs to have offline capabilities to make it a more attractive and accessible medium of payment for a wide category of users.

About E-rupee:

• E-rupee is the same as a fiat currency and is exchangeable one-to-one with the fiat currency.
• Only its form is different.
• It can be accepted as a medium of payment, legal tender, and a safe store of value.
• The digital rupee would exchangeable one-to-one appear as liability on a central bank’s balance sheet.

What are the types of e-rupees?

Based on the 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)

• Retail CBDC is an electronic version of cash primarily meant for retail transactions.
• It will be potentially available for use by all — private sector, non-financial consumers, and businesses — and can provide access to safe money for payment and settlement as it is a direct liability of the central bank.

Wholesale (CBDC-W)

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 in the 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.

Forms of CBDC

• The central bank says e-rupee, or CBDC, can be structured as token-based or account-based.
• A token-based CBDC would be a bearer instrument like banknotes, meaning whosoever holds the tokens at a given point in time would be presumed to own them.
• In a token-based CBDC, 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 record 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.

Model for issuance:

There are two models for issuance and management of CBDCs under the RBI’s consideration:

Direct model (single tier model)

• 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.

Indirect model (two-tier model)

• An indirect model would be one where the central bank and other intermediaries (banks and any other service providers), each play their respective role.
• In this model, the central bank will issue CBDC to consumers indirectly through intermediaries and any claim by consumers will be managed by the intermediary.

What are the advantages of e-rupee?

• Reduction in operational costs involved in physical cash management
• Fostering financial inclusion
• Bringing resilience, efficiency, and innovation in the payments system
• It will add efficiency to the settlement system
• Boost innovation in cross-border payments space
• Provide the public with uses that any private virtual currencies can provide, without the associated risks.

Can e-rupee be transacted in offline mode?

• The offline functionality as an option will allow CBDC to be transacted without the internet and thus enable access in regions with poor or no internet connectivity.
• It will also create digital footprints of the unbanked population in the financial system, which will facilitate the easy availability of credit to them.
• In the offline mode, the risk of ‘double-spending’ will exist because it will be technically possible to use a CBDC unit more than once without updating the common ledger of CBDC.
• But it can be mitigated to a larger extent by technical solutions and appropriate business rules including monetary limits on offline transactions.

About Fiat Money:

• Fiat money is a government-issued currency that is not backed by a physical commodity, such as gold or silver, but rather by the government that issued it.
• The value of fiat money is derived from the relationship between supply and demand and the stability of the issuing government, rather than the worth of a commodity backing it.
• Most modern paper currencies are fiat currencies.

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Source:  Indian Express

Previous Year Questions

Q.1) Consider the following statements:

1. Tight monetary policy of US Federal Reserve could lead to capital flight.
2. Capital flight may increase the interest cost of firms with existing External Commercial Borrowings (ECBs).
3. Devaluation of domestic currency decreases the currency risk associated with ECBS.

Which of the statements given above are correct? (2022)

1. 1 and 2 only
2. 2 and 3 only
3. 1 and 3 only
4. 1, 2 and 3