A Central Bank Digital Currency (CBDC) can reduce the cost and time for government support to reach people during desperate times
By Abhimanyu Girotra
RBI recently released the framework for the establishment of a new umbrella entity (NUE) for retail payments. NUE would set up and operate new payment systems in the retail space and help reduce some risk as National Payments Corporation of India (NPCI), which developed Unified Payments Interface (UPI), now facilitates over 1.5 bn transactions a month—more than those done by debit and credit credits put together. Given the sticky adoption and only a few payments apps dominating the UPI market, RBI intends to create a parallel retail system.
It is a great initiative and also an opportunity not just to defray payments concentration risk but also solve some of the problems that have stalled India’s growth. These are essentially five problems: First, the payments system should reduce the cost and time for government support to reach unbanked and underbanked people. Second, it should ensure ease of access to credit for small and medium businesses. Third, improve the effectiveness of the implementation of monetary policy. Fourth, the new payment system should effectively counter risk from unregulated new digital currencies like Bitcoin. Last, it should discourage money laundering and tax evasion.
While it is still in its infancy and no country has officially implemented it, a Central Bank Digital Currency (CBDC) could potentially solve the above problems. CBDC is the digital form of fiat money, a digital equivalent of banknotes and coins.
Retail CBDCs can be issued directly by the central bank to people without going through traditional banks, and individuals would have CBDC accounts directly on the central bank core ledger. CBDC can reduce the cost and time for government support to reach people during desperate times. Imagine if CBDC accounts of the migrant labourers could have been credited before the start of the exodus. Accounts having small ticket recurring remittances from urban cities to small villages could have acted as a proxy for identification of migrant accounts.
CBDC can also enable many financial entities to settle directly with RBI. In the current set up only a few large banks can settle directly with RBI.
With a digital currency, the settlement can be instantaneous and, as a result, more payments services providers like NBFCs could connect with RBI, thereby, reducing credit and liquidity risk. Given everything would be digital, even a small CBDC lending would build MSMEs history and make further lending easier. For India to be a $5 tn economy, businesses need credit, and that can happen when we have more banks. Picture this, India had 97 banks in 1947; today we are still at 95!
Interest bearing CBDCs can also improve monetary policy effectiveness by enabling real-time pass-through of the policy rate to the lending markets. CBDCs can also allow for direct deposits into accounts of low-income households, senior citizens dependent on pensions and help cushion their purchasing power from the low-level interest rates during the times of economic downturn.
Last, CBDC can thwart some competition against privately issued foreign currency-denominated digital currencies. A domestically issued digital currency backed by the government would help reduce or prevent the adoption of unregulated currencies.
In terms of managing roles and responsibilities, RBI would only hold the accounts and implement monetary policies as it does now, while fintech companies can become the channel for retail CBDC transmission and manage client relationships. Fintechs can complement the commercial banks and can draw small businesses/poor households into the formal economy, familiarise them into making digital payments, taking digital credit and hand-holding them to saving instruments. These companies could leverage their data to estimate customers’ creditworthiness and share their findings to banks for more efficient allocation of credit.
India has been at the forefront of the fintech revolution, and other developed countries have been following its path. While the world watches the melee between the Greenback and the Renminbi, it is time India also lays the foundation for a strong currency. CBDC may just be one of the ways to do it.
The author is Formerly with McKinsey & Company Views are personal