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RBI has proposed a digital currency project

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In a recent note, the Reserve Bank of India (RBI) has mentioned that it is working on developing its own digital legal tender that has the backing of the state.

In a recent note, the Reserve Bank of India (RBI) has mentioned that it is working on developing its own digital legal tender that has the backing of the state.

This is not the first time that the central bank has spoken about such an effort. In the past, statements have been made about putting in place RBI’s very own cryptocurrency. But nothing substantial has taken place on that front, apart from periodic remarks made by the bank’s top executives.

While the RBI did mention about the need for a central bank digital currency (CBDC), it added, for good measure, that regulators and the government continue to be apprehensive about the associated risks around cryptocurrency.

Also read: Calls for Bitcoin Breakdown Grows amid Global De-Risking Sentiment

So, why does the government not ban such currencies? Why did the Supreme Court overturn a ban on banks dealing with crypto exchanges?

Let us first get to the basics.

What exactly are cryptocurrencies and how are they different from the Indian Rupee (INR) or the US Dollar (USD)?

Broadly speaking, cryptocurrency can be described as a private currency, as opposed to regular currencies in circulation worldwide, which are all backed by sovereign guarantees. For instance, a Rs 100 note bears a promise guaranteed by the RBI Governor that the piece of paper is worth Rs 100.

In the case of crypto currency, no such sovereign guarantees exist.

Instead, the value of a crypto like bitcoin is backed by complex programming that is safe, cannot be altered by anyone individually and contains multiple checks and balances with regards to the value. So, the easiest way of understanding crypto is that it is a form of currency, which can be transferred through the internet from one person to the other.

So, now the central bank wants to develop its own cryptocurrency.

The central bank wants to develop its own digital currency. Unlike privately held cryptocurrencies, a CBDC will have the backing of the RBI and in turn, the government. This could take the form of simply converting a share of the total INR in the economy into a completely digital format, where there will be no currency bills to back it up. It will just be in a digital form, backed and issued by the central bank. Just how far the RBI has progressed on this front is not public knowledge, but this is something that is currently under evaluation.

Is RBI the first central bank to offer digital cryptocurrency?

Not at all. In fact, India is lagging far behind with respect to crypto regulations compared to many geographies. For instance, China has been working on a digital currency for years. This is backed by the Chinese central bank and has the approval of the Chinese government. The digital currency is used for transactions through smartphones and is accepted on ecommerce portals, offline shops, and other outlets. The bank is working with multiple local authorities to push up its adoption in different parts of the country.

Okay, so China already has its own cryptocurrency?

Again, it is important to differentiate between CBDC and cryptocurrency because the latter has some basic features, which can never be replicated by digital currencies. Crypto, by nature, works on the basic principle of anonymity. In case of a digital currency, there will be complete tracking by the central bank, just like normal currency.

Second, cryptocurrency is decentralized. There is no one person who has authority over the currency. It gets validated and traded by thousands of tech geeks and traders across the world and is backed by the underlying blockchain technology. In this case a digital currency is just a digitized format of a centralized tender. For instance, China has converted a part of its Yuan deposits into digital format and circulated it in the economy.

Also Read: Crypto is booming — here are 5 ways to make sure you don’t get scammed

But are we not already using some form of digital currency through UPI, QR codes or cards?

Okay, this is where it might get a bit confusing, but the answer is not exactly the same. In case of UPI or card payments, every transaction made is backed by a currency note somewhere. These transactions are done through bank deposits, and these deposits are all backed by INR notes held by banks. In other words, a person can just walk up to a bank branch or an ATM and convert his bank balance into currency notes. In case of digital currency that will not be possible, because it is completely in digital form and there are no bills anywhere to support that currency. It works on people’s trust on the country’s banking system.

Wow! That is a lot to absorb in one go, but I have one burning question, why bother about another new form of currency?

That is the million-dollar question. Ask any top Indian banker or regulator and they have a similar reply with respect to crypto: what is that one problem that crypto is solving that fiat currencies like Dollar or INR cannot? May be the answer lies in the shift in the balance of power. Philosophically speaking, it takes power away from a central authority and distributes it among the masses. It challenges the authority of the state and the central banks and the current financial system, which moves the world. Otherwise bankers believe that digital payments and innovations in instant fund transfers are enough to drive financial inclusion in the world. At the most, there could be some form of digital currencies that takes financial services to the masses at a lower cost.

Got it, last question…

What is the legal status of crypto in India?

Crypto is neither banned in India, nor is it legalized – making it hang somewhere in the grey zone. The RBI had banned banks from dealing with crypto exchanges, but that embargo was overturned in March 2020, by the Supreme Court of India. There is a bill pending with Parliament, which seeks to make trading, owning or holding any form of cryptocurrency illegal, but that draft law is yet to see the light of the day. So technically there are crypto exchanges working actively across the country, doing their own due diligence, and working mostly as trading platforms. The RBI, which is prioritizing macro- economic stability in the country throughout the pandemic, has not said much about crypto, but the industry is hopeful something positive will come out soon.

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