As India prepares to launch its central bank digital currency (CBDC) or digital rupee, the Reserve Bank of India has released a concept note succinctly setting out the primary motivations, policy implications, design choices and a broad roadmap for the launch of the digital rupee. While the RBI’s preliminary position on some aspects corresponds with major central banks, certain issues require further consideration.

The RBI is exploring a wholesale CBDC (w-CBDC) and a retail CBDC (r-CBDC). Globally, many central banks are focusing on a r-CBDC since its innovation potential is believed to be higher..

In terms of design, the RBI shows an inclination towards a two-tiered indirect model where consumers hold CBDC funds in an account/wallet maintained by a bank or service provider and the RBI is responsible for tracking the w-CBDC balances of the service provider.

This model has been preferred by most central banks. It will allow the RBI to focus on its core functions while private sector intermediaries can leverage their expertise in customer handling, customer verification, adherence to anti-money laundering (AML) checks, and transaction verification. Allowing private sector participation in the CBDC system will be useful to design innovative payment solutions.

Economic design

Like most central banks, the RBI has also flagged concerns about the impact of CBDC on the disintermediation of the banking sector and financial stability. Therefore, the economic design of the CBDC will be crucial. This will include examining issues of whether CBDC can be interest-bearing like deposits, and limits on CBDC holdings or transactions.

Next, the RBI discusses if a CBDC can provide the same level of anonymity as cash. The digital nature of a CBDC heightens concerns about illegal transactions using anonymous CBDCs. Therefore, anonymity cannot be a primary feature of CBDC. Instead, a graded approach of tiered KYC for CBDC may be considered. The RBI proposes the idea of ‘managed anonymity, that is, “anonymity for small value and traceable for high value”.

Since CBDC systems will allow governments and intermediaries to have access to personal data, it raises privacy concerns. In the absence of a robust data protection law, the need for data protection and governance standards in designing and implementing a CBDC will be critical. While the concept note emphasises privacy principles, it does not enumerate the principles that will form the CBDC design.

The RBI will have to balance the objective of privacy protection while ensuring adequate supervision for protecting the financial integrity of transactions. Linked to such policy consideration is the legal foundation of CBDCs. While the RBI correctly states that it will depend on the technical design of the CBDC, it is important to consider the following legal issues at the design stage itself — privacy, AML, counterfeiting, regulation of CBDC intermediaries, foreign exchange control, legal recognition of tokens, consumer protection, and enforcement powers of the RBI to proceed against misuse of CBDC.

While it may take some time for consumers to start transacting in digital rupee, the concept paper indicates the beginning of India’s journey towards digitising its rupee.

The writer leads the Fintech research at the Vidhi Centre for Legal Policy. Views are personal

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