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Central Bank Digital Currency

GS Paper 3

Syllabus: Awareness in the fields of IT, Space, Computers

 

Source: The Hindu

Context: RBI is in the process of implementing the CBDC in a phased manner for wholesale and retail segments.

Benefits:

  • For social benefits and other targeted payments in a country
  • CBDCs could be used for faster cross-border remittance payments.
  • Inclusive development: universal access attributes of a CBDC could also include an offline payment functionality, thus helping bridge the digital divide.
  • Instant lending to micro, small, and medium enterprises (MSMEs)in India can be possible with the help of CBDC.

Need for CBDC:

  • An official digital currency would reduce the cost of currency management while enabling real-time payments without any inter-bank settlement.
  • Need to reduce cost: India has a high currency-to-GDP ratio. It adds to the cost of printing, transporting and storing paper currency.

 About CBDC:

A Central Bank Digital Currency (CBDC), or national digital currency, is simply the digital form of a country’s fiat currency.

  • Instead of printing paper currency or minting coins, the central bank issues electronic tokens. This token value is backed by the full faith and credit of the government.
  • CBDC is not comparable with private virtual currencies or cryptocurrencies. It will be a sovereign-backed digital currency.

Recent steps towards CBDC:

  • The introduction of CBDC was announced in the Union Budget 2022-23.
  • Government amended section of the RBI Act, 1934 through the Finance Bill 2022.
  • India’s official digital currency is likely to debut by early 2023

Challenges in rolling out National Digital Currency:

  1. Potential cybersecurity threat.
  2. Lack of digital literacy of the population.
  3. Issue with regulation, tracking investment and purchase, taxing individuals, etc.
  4. Threat to Privacy: The digital currency must collect certain basic information about an individual so that the person can prove that he’s the holder of that digital currency.

On Cryptocurrency:

SC Garg Committee recommendations (2019):

  1. Ban anybody who mines, holds, transacts or deals with cryptocurrencies in any form.
  2. It recommends a jail term of one to 10 years for exchange or trading in digital currency.
  3. It proposed a monetary penalty of up to three times the loss caused to the exchequer or gains made by the cryptocurrency user whichever is higher.
  4. However, the panel said that the government should keep an open mind on the potential issuance of cryptocurrencies by the Reserve Bank of India.

 

What Government should do to regulate Cryptocurrency:

  • Enact consumer protection measures like payment guarantee, and dispute resolution. For this, Cryptocurrency based businesses can be tested in the regulatory sandboxes e.g. RBI’s regulatory sandbox for Banks
  • Regulation of digital currency exchanges and administrators.
    • 2020: the EU Commission has officially released the Proposal for a Regulation on Markets in Crypto-assets (“MiCA”).
    • Banning cryptocurrencies might drive crypto transactions underground
  • Awareness: Government should make the public aware of cryptocurrency and its threat
  • Allow framework for taxing the digital currency transaction to avoid tax evasion
  • Transactions: For now countries should ban retail cryptocurrency transactions or be used as financial instruments (e.g. China, Belgium) or cryptocurrency transactions between banks
  • NASSCOM: It says that government should work towards developing a risk-based framework to regulate and monitor cryptocurrencies and tokens.
  • The creation of Central Bank Digital Currency (CBDC) will be a positive step: can better control the money supply (and volatility) and also help in quick financial disbursal of budgeted sums based on smart contract
  • Creating a cryptocurrency ecosystem by improving financial literacy, improving cybersecurity, and digital penetration
  • Global governance through UN or Financial Stability Boards to allow cross-border regulation and a transparent system of digital currency

 

Practice Question

Q. Critically Examine the need for central bank digital currency (CBDC) in India’s economy.

 

Q. With reference to digital payments, consider the following statements: (UPSC 2018)

  1. BHIM app allows the user to transfer money to anyone with a UPI-enabled bank account.
  2. While a chip-pin debit card has four factors of authentication, the BHIM app has only two factors of authentication.

Which of the statements given above is/are correct?

(a) 1 only

(b) 2 only

(c) Both 1 and 2

(d) Neither 1 nor 2

Answer: A

BHIM is a UPI-enabled initiative to make quick and easy payments, developed by NPCI. It has three-factor authentication.

Fig: Three-factor authentication

Q. A digital signature is

    1. an electronic record that identifies the certifying authority issuing it
    2. used to serve as a proof of identity of an individual to access information or server on the Internet.
    3. an electronic method of signing an electronic document and ensuring that the original content is unchanged

Which of the statements given above is/are correct?

(a) 1 only

(b) 2 and 3 only

(c) 3 only

(d) 1, 2 and 3

Answer: C

Justification: There is a difference between digital signatures and digital certificates.

A digital signature is an electronic method of signing an electronic document whereas a Digital Certificate are the digital equivalent (that is electronic format) of physical or paper certificates. Few Examples of physical certificates are drivers’ licenses, passports or membership cards.

A digital signatures are NOT a record, but certificate is. So option 1 is incorrect.

Digital certificate is issued by a trusted third party to establish the identity of the certificate holder. It is used to serve as a proof of identity of an individual to access information or server on the Internet. Hence option 2 is incorrect.

Digital Certificates help prevent someone from using a phoney key to impersonate someone else.