What is RBI's digital rupee and how does it work?

New Delhi: The much-anticipated Central Bank Digital Currency (CBDC) is now available to retail customers since December 01, according to the Reserve Bank of India (RBI). The “digital rupee”, as it is colloquially known, will have exchange rates compared to other currencies, be accepted as payment, and serve as a safe store of value. It will also be used to create virtual currency for exchanging government securities.

The retail e-rupee is an electronic form of currency and will now primarily be used for retail transactions because it is a direct obligation of the central bank, it can be used by anyone, including the private sector, non-financial consumers, and businesses. It will also be able to provide secure funds for payment and settlement.

How does digital rupee work?

The CBDC, also known as the digital rupee, is an exchangeable unit at par with fiat currency and is described as equivalent to a sovereign currency by the RBI. It would exist as a digital token that serves as a substitute for legal tender. It is now being distributed via intermediaries, such as banks, and will be printed in the same denominations as coins and paper money.

According to the RBI, the token-based retail system is better suited for everyday retail consumers, both for one-on-one interactions between individuals and with specific merchants that are initially to be used within the chosen closed group.

Those using a digital wallet provided by participating banks and stored on mobile phones and other devices will now be able to transact in digital rupees using it. Transactions between people (P2P) and businesses (P2M) are both possible (P2M using the QR codes available at merchant locations which can be used to make payments to retailers). The digital rupee would have physical cash characteristics such as trust, safety, and settlement finality. However, unlike cash, it will not earn interest and can be converted to other forms of money, such as bank deposits, as per a statement issued by the RBI.

Checking the balance in one's wallet is similar to checking one's bank balance. CBDC will be built on blockchain technology. Individuals can pay it to whomever they want, and it will be credited to their account.

Cities included in the first pilot project

The retail digital rupee pilot project's initial phase will concentrate on specific cities and banks. The RBI has also stated that during the project, the closed user group (CUG), which consists of participating customers and merchants, will have access to digital money.

Residents of Mumbai, New Delhi, Bengaluru, and Bhubaneswar are now able to carry out e-rupee transactions beginning December 1, 2022, by using a digital wallet provided by partner banks and maintained on mobile phones/devices. Nine other cities will eventually be included in the trial's later stages.

According to the official report, the pilot will later be expanded to Ahmedabad, Gangtok, Guwahati, Hyderabad, Indore, Kochi, Lucknow, Patna, and Shimla.

The four top cities were chosen for the pilot launch owing to the abundance of customers familiar with digital transaction usage in these cities. Based on the lessons learned from the pilot launch, RBI expects to further improve and induce sophistication with expanded coverage by leveraging the nation's strong digital infrastructure.

Banks included in the first pilot project

The first phase has been launched in four cities across the country by four banks: State Bank of India, ICICI Bank, Yes Bank, and IDFC Initial Bank. The central bank announced that eight banks have been selected to participate in this phased trial project.

Following the success of the trials in these four banks, this pilot will include four additional banks: Bank of Baroda, Union Bank of India, HDFC Bank, and Kotak Mahindra Bank. Consumers and business owners who live in the aforementioned cities and have accounts with the aforementioned banks can use the digital rupee.

If everything goes as planned, the RBI has stated that the digital rupee pilot will eventually be expanded to other banks and locations. The e-rupee, an electronic equivalent of currency, will be available to all private sector, non-financial customers, and businesses.

Benefits of using digital rupee

Explaining the idea behind launching the digital rupee, RBI in its recent press release shared, “CBDC is aimed to complement, rather than replace, current forms of money and is envisaged to provide an additional payment avenue to users, not to replace the existing payment systems.”

• According to the RBI, payments made through CBDCs will be final, lowering the risk of settlement in the financial system. Because of CBDC, there will be no need for interbank settlement. It is similar to a UPI system in that CBDC is transferred as cash rather than bank balances.
• Considerably lower transaction costs on settlement in central bank currency by doing away with the need for settlement assurance infrastructure or collateral to reduce settlement risk.
• CBDC may benefit consumers in terms of liquidity, scalability, adoption, the convenience of transactions with anonymity, and faster settlement when compared to current payment methods.
• The digital rupee will strengthen the future of the digital economy by making online transactions safer and risk-free.
• CBDC will reduce the need for payment gateways and credit card networks. There are now 1.2 billion mobile phone connections in India, but only 582 million bank accounts. The CBDC may be able to bridge the gap.

Classifying the digital rupee

The RBI has classified the digital rupee into two groups: general purpose or retail (CBDC-R) and wholesale (CBDC-W) (CBDC-W). This classification is based on how the digital rupee is used, the tasks it performs, and the various levels of accessibility.

Wholesale CBDC is only available to a select group of financial institutions. It has the potential to reduce operating costs, increase collateral utilisation, and improve liquidity management to settle the financial transactions carried out by banks in the government securities (G-Sec) segment, the interbank market, thereby, enhancing both security and effectiveness in the capital market.

Anyone, including the private sector, non-financial customers, and corporations, can use retail CBDC. Because retail CBDC is a direct obligation of the central bank, it can provide users with access to secure funds for payments and settlement.

The pilot test was conducted to assess the robustness of the entire process of creating digital rupees, distributing them, and utilising them in real-time. Based on the lessons learned from this pilot, the RBI said in a statement that different features and applications of digital currency will be tested in future pilots.

This type of digital currency will be used initially to make retail purchases. Because it will be directly liable to the central bank, the e-rupee will be able to provide access to secure funds for payments and settlement.

Is the digital rupee safe?

Users must not be concerned about the digital rupee's legitimacy or compare it to other digital currencies such as cryptocurrency. Because it will be issued by the central bank, it will have the same level of trust as actual cash.

Yes, there might be some initial hiccups when using digital currency at first. However, the central bank has stated that the pilot will be used to learn and that, based on what it learns, it will provide customers with a variety of services and apps in the future.