The pilot rolled out in November by the Reserve Bank of India (RBI) is solely for settlements of wholesale transactions between banks. Here the Clearing Corporation of India will act as the technology link to settle the transactions in real time.

It is these settlements, or wholesale payments, that the RBI is running a pilot project on. It doesn’t include all the banks in India’s financial system. There are eight banks in the pilot project right now. The retail version of the e-rupi will be tested out in a similar controlled fashion.

But what does this new version of the rupee mean for the future? And will your future payment experience change? How will it change?

The changing concept of money : From Cash to CBDC

Before we go into the CBDC concept, let's take a look at how the current monetary system works.

The central bank of India governs the Indian monetary system, which is in charge of issuing currency notes and regulating the money supply. Aside from currency notes, which are normally issued to facilitate retail transactions, the RBI also offers Reserve Deposit, which is only available to financial institutions and commercial banks.

Reserve deposit is primarily used in the interbank payment and settlement system. When you make a payment to your friend having an account in a different bank, your respective banks settle these transactions against each other through this reserve money which is intermediated by the central bank and/or any third party. This reserve money is primarily in the form of government securities, and is also used by banks to lend to each other in the interbank market for their short-term liquidity needs.

The existing trading and settlement system in the interbank market is similar to that used in the stock market.

The transactions are not bilateral. Rather, they are settled through a third party called Clearing Corporation of India (CCIL) that manages the counterparty risk. Also, in this case, transactions are done on a net basis, which means that if Bank A purchases XYZ securities worth Rs 100 crore and sells ABC securities worth Rs 80 crore. The net amount payable of Rs 20 crore is what will be settled through CCIL. The net amount is calculated at the end of the day, and the transaction is settled in the T+1 cycle.

Existing settlement system is costly

Although the existing system has a digital flow, it doesn’t have an instant settlement process. As transactions are not settled in real time, there is a counterparty risk in the system. Although the CCIL structure takes care of this risk, it increases settlement time and operational costs. The CBDC-based wholesale settlement system will reduce this time period for settlement, and in turn also reduce transaction costs.

The wholesale CBDC-based settlement system has some additional steps. A bank first needs to convert the money in reserve deposit into CBDC. Following that, the g-sec and money (CBDC) will be transferred directly between two banks using distributed ledger technology. So, in this case, CCIL will just offer the infrastructure for order requests and will not be a party to the transaction, resulting in quick settlement and lower costs.

E-rupi (W) (wholesale version of e-rupi) has only been operational (via a first pilot) for the secondary market settlement of government securities. One of the key motives for exploring CBDC issuance, according to the RBI, is the potential use of CBDC (W) in addressing cross-border payment issues.

Retail CBDC or e-Rupi (R) pilot started in December

The e-Rupi (Retail) is the digital version of cash and considered legal tender. Although you can use digital payment systems like UPI, NEFT, RTGS, etc to make payments, this is routed through an intermediary like a bank. E-rupi (R) is issued directly by the RBI, hence it won’t need an intermediary. Some reports suggest that this will be done through a QR code.

e-Rupi(retail) will act as a fiat currency

Fiat currency is a liability of the central bank, which is backed by a sovereign guarantee. The money in your bank account is the liability of the bank. On the other hand, e-rupi(retail) has the functionality of both fiat currency through the digital payment mode. It would be issued by RBI, thus has legal tender just like banknotes and will be in digital form which will solve the complexities associated with currency notes.

RBI is running a pilot with fixed denominations like Rs 500, 100, 50, etc. This, RBI feels, would provide a similar experience like cash, and improve acceptability of e-Rupi (retail).
The first pilot of retail CBDC has already begun in select locations comprising a closed user group. For the first trial, RBI has chosen 4 banks, SBI, ICICI, Yes Bank and IDFC First, and four other banks will join the pilot subsequently.

Here’s how it would work: -

Step 1: Customers need to download a Digital Wallet App, where they can store the CBDC. An individual can register on the app using his mobile number (linked to any bank account), which will generate a unique id.
Step 2: Upon successful registration, you can convert your money in a bank account to E-rupi, by entering the amount and selecting denominations.
Step 3: You can transfer your money to
- To a Person (P2P) : Will be done using Digital Rupee Virtual payment address (VPA) or phone number of the beneficiary who has registered for the e-Rupi
- To a Merchant (P2M) : Can be made using QR codes displayed at merchant locations, just like customers do for Paytm or Google Pay.

Why CBDC?

A major benefit of CBDC would be in overall cash management for the RBI. Despite the rapid adoption of digital payment modes, the currency circulation in India is at its peak. Due to this, the cost of printing and distributing currency in India has increased by 23% YoY in 2022. According to the RBI, e-Rupi (R) would offer the same anonymity as dealing in cash since transactions are not hitting your bank account directly and thus it could be a substitute to physical currency notes.

Also, in the upcoming phase, RBI would explore CBDC’s functionality in an offline infrastructure, which will enable access in regions with poor or no internet connectivity.

The most celebrated use of CBDC would be in Govt’s direct benefit program. As digital currency would be in token form, its application could be programmable, with conditions such as expiry date, amount and the vendor. For example, pre-programmed CBDC could be issued for LPG subsidies as direct benefit transfer. This CBDC could only be accepted at authorized LPG agencies and cannot be redeemed in other areas. This system would eliminate intermediaries ensuring the money reaches the targeted audience and is used for the intended purpose only.

However, unlike your money in a bank account, e-Rupi will not earn any kind of interest. According to the RBI, giving interest on digital money may lead to withdrawal of funds from banks as people would convert bank deposits into digital currency which will impact India's financial system.

CBDC has the potential to change the financial world, but it also questions the very existence of traditional financial infrastructure, including intermediaries. The digital currency is likely to have an impact on banks’ profitability and operations, as well as it can destabilize an economy's financial system. The non-remunerative nature of e-rupi gives commercial banks an edge to hold the savings & fixed deposits, but current account balances are clearly at risk since they do not bear any interest. RBI though is looking at CBDC to only complement the current financial system.

As there are only a few CBDCs in existence across the world, its potential impact on the monetary system is still unknown. Only time will tell where this new and innovative currency system will take nations worldwide.

Share this edition

Just use these easy share buttons

Get smarter about stocks