CENTRAL BANK DIGITAL CURRENCY (Syllabus: GS Paper 3– Economy)

Context: Recently, the Reserve Bank of India (RBI) Governor highlighted the challenges of high costs and slow processing in cross-border payments, emphasizing the potential of the central bank digital currency (CBDC) instant-settlement feature to offer a solution to these issues.

Central Bank Digital Currency (CBDC)

• About: It represents a legal tender and is a liability of the central bank, with its value denominated in the nation's currency, reflected on the central bank's financial statement.
• This digital form maintains an equal exchange rate with traditional “fiat currency”, with the only distinction being its digital nature.
• It can be readily converted or traded at an equivalent rate with physical cash and conventional central bank deposits of the same denomination.
• Transactions using CBDCs or digital “fiat currencies” are conducted through blockchain-backed wallets.
• CBDCs, while initially inspired by Bitcoin, differ significantly from decentralized virtual currencies and cryptocurrencies because they are government-issued and carry the legal status of 'legal tender.'
• Objective: To reduce risks and minimize expenses associated with the management of physical currency, including the costs related to replacing worn-out notes, transportation, insurance, and logistical operations.

Global Trends

• Bahamas: First economy to launch its nationwide CBDC — Sand Dollar. Nigeria is another country to have rolled out eNaira in 2020. China became the world's first major economy to pilot a digital currency e-CNY.

Fiat Money: It is a type of currency that is not backed by any commodity such as gold or silver. Ex.-Notes and Coins.

Legal Tender: It is a form of money that is backed by the government (mostly by the central bank) and cannot be refused by any citizen of the country for settlement of any kind of transaction.