Do we really need the e-rupee?

Despite rapid digitalisation, the use of cash has not diminished in India. Yet the adoption of the e-rupee is not a question of if, but when

Last week, the Reserve Bank of India (RBI) released a concept note on an Indian central bank digital currency, or CBDC, that attempts to address current concerns about this new form of money. The note makes a number of arguments justifying the adoption of the e-rupee, the name that has been chosen for the Indian CBDC by an internal Working Group of the RBI. How strong are these arguments?

For any reasonable assessment of this issue, it is important to keep in mind the context within which this new form of money is going to be released in India. In particular, we need to understand the current state of the monetary, financial and payments infrastructure in India, that will be affected by and, in turn, affect the working of the e-rupee. The Indian monetary and financial systems are mainly bank-based, with money taking the form of cash and bank deposits. In this system, digital payments were based on the virtual money created by commercial banks. This payments infrastructure has however changed significantly in the last few years, with India becoming a pioneer in developing digital payments systems. The game-changer in this space has been the Universal Payment Interface (UPI), which acts as a real-time payments system that can enable the instantaneous transfer of funds between two banks, using a mobile device. Using this platform, apps like Google Pay, Paytm and PhonePe have popularised digital payments tremendously.

Despite this rapid digitalisation, the use of cash has not diminished in India. Recent data indicates that demand for cash may have even gone up once the pandemic started retreating. This seems to indicate that even if a CBDC is introduced, for quite some time to come, the e-rupee, as a form of legal tender, may play a secondary role to cash. It is in this context that any assessment of the merits of introducing CBDCs has to be made.

The arguments made by the RBI concept note justifying the adoption of the e-rupee can be classified under three heads — effects on the monetary and financial systems, effects on the payments infrastructure, and effects on welfare policies. The e-rupee can make the monetary system more efficient and the financial markets more stable in a number of ways. First, by reducing the cost of physical cash management. Here, the note points out that the cost of cash management in India has continued to be high. Introducing a CBDC will help bring this down, as marginal costs will become very low. The second way in which the e-rupee will be helpful for the monetary system is by pushing it towards more digitisation. The note points out that in India, cash is used significantly in small value transactions. These transactions may be redirected towards the e-rupee, if reasonable anonymity is assured. The financial stability in the economy will also be enhanced as the e-rupee will provide an alternative to crypto assets. It will do so by providing the public with a risk-free virtual currency, an alternative that may save them from the volatility of private virtual currencies.

The note claims that the e-rupee will provide a better payments infrastructure in two ways. First, it helps the domestic payments system by providing an additional channel. It increases resilience by providing payment services even outside of the commercial banking system. It can diversify the range of payment options, particularly for e-commerce. Second, it helps the international payments infrastructure by making cross-border transactions faster and far less costly. Since India is the world’s largest recipient of remittances, the cost of international transactions impacts us significantly. It could also ease frictions in cross-border payments that is critical for international trade. All of these will, of course, require that the international dimension is built into the CBDC design.

Illustration: Binay Sinha

The note also makes the argument that the e-rupee will increase welfare for the poorer sections through financial inclusion. It will make financial services more accessible even to the unbanked and underbanked population. The offline functionality as an option will allow the e-rupee to be transacted without the internet. This will enable access in regions with poor or no internet connectivity. Further, by creating digital footprints of the unbanked population in the financial system, the e-rupee can facilitate credit availability to these people.

How strong are these arguments given the Indian context described earlier? If the e-rupee plays a limited role as a legal tender for the foreseeable future, then the arguments in terms of monetary policy and financial stability are not that strong. Unless there is substantial use of the e-rupee, especially in a retail form, reducing cost of cash management, promoting digitalisation or substituting private money will not be very significant. The other arguments, however, are on stronger ground. Even with limited use, the e-rupee can make the payments infrastructure more effective. In the domestic space, it does this by complimenting the UPI infrastructure. Internationally, this will be enabled by a limited use wholesale CBDC that will only be used by banks. Even financial inclusion is a reasonable goal with limited CBDC use, as long as most of the retail CBDCs are targeted towards those who are outside the financial system. These arguments do support the adoption of the e-rupee. Nevertheless, it must be added that they do not make a very compelling case. As many have pointed out, there are alternatives to a CBDC that can fulfil all of the objectives discussed above.

Interestingly, there is another strong argument for the adoption of an Indian CBDC, one that is absent from the RBI concept note. Consider the massive push that is being given by China to establish the digital yuan, not only as a domestic currency, but also to be used for cross-border payments with their trade and investment partner countries. Once the digital yuan gains acceptability as a global currency, it will only be a matter of time before it starts flowing into the Indian economy. This leads not only to the possibility of a dollarisation-type problem in the conventional sense, but also grave data security risks. Given India’s contentious relationship with China, it is in India’s interest to limit this possibility.

The best way to deal with these issues is to establish global protocols on the development of cross-border use of CBDCs. In order to have a say in the development of these international protocols, India has to be seen as an important stakeholder in this context. Without having a credible and working CBDC, this will prove to be an uphill task. Clearly, the adoption of the e-rupee is no longer a question of if. It is a question of when.

The writer is RBI chair professor, Institute of Economic Growth