Rumblings of the coming central bank digital currency

News: A senior RBI official has said that the pilot launch of a new central bank currency could happen as early as the first quarter of next financial year.

A lot of the ongoing debate on an Indian CBDC is focused on what RBI should do, and far less attention is paid to the equally important question of how households will respond.

Private demand for a CBDC must be studied in due depth for a useful understanding of its economic policy implications.

A survey of central banks earlier this year by the Bank of International Settlements (BIS) showed that 14% of the surveyed institutions had launched pilot projects on CBDCs, while 60% were experimenting with the technology.
What is the demand and supply side of a CBDC?

Supply side entails questions like, whether it would initially be open for retail or wholesale payments, for domestic or international payments, and how it can be made interoperable with the existing payments system, to data protection concerns.

Must Read: Everything to want to know about CBDC

Demand side: There are three sets of issues worth highlighting when it comes to understanding the potential demand for CBDCs from the private sector (households and businesses) –

– A sudden movement of financial savings: In India, household have 17.3 trillion of bank deposits, and 2.4 trillion of cash. There will be a minimal impact in case cash is converted into CBDC holdings, since one type of central bank money is being converted to another. However, a sudden movement of savings from bank deposits to a CBDC could create financial instability, especially during times of economic stress.

Must Read: Inside RBI’s digital currency dream

– Design of CBDC and interest rates involved: One of the major factors affecting demand side behaviour will be the interest rate offered on CBDC holdings. Zero interest rates on these holdings will in effect mean that they are no different from cash, and people will then hold the CBDC only for payments. Also, the ease of using the CBDC, through existing digital wallets or the United Payments Interface, will be an important determinant of household behaviour, esp. switching b/w the CBDC, cash and bank deposits.

– Macroeconomic factors: Estimates show that demand for a CBDC will be sensitive to macroeconomic factors such as household income, income distribution, the share of household funding of the banking system etc. Most of the estimates available right now are for rich economies, so more work needs to be done on this in the Indian context.

Must Read: The merits of an RBI digital currency outweigh risks

Note: You can read even more about CBDC in the following articles:

Introducing India’s National Digital Currency – Explained, pointwise

RBI for widening scope of ‘bank note’ to include digital currency

What a digital currency from RBI must get right?

Source: This post is based on the article “Rumblings of the coming central bank digital currency” published in Livemint on 1st Dec 2021.

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