How Will the E-Rupee Improve India's Payment System?
The Reserve Bank of India (RBI) launched a pilot program for a retail CBDC called "e₹-R", that allows users to access the digital rupee through participating banks via a digital wallet on their phones
by Noah Roy, investment analyst at Sino Global Capital
Summary
The Reserve Bank of India (RBI) recently launched a pilot program for the retail central bank digital currency (CBDC) called ‘e₹-R’ or ‘e-rupee’. This CBDC will be distributed through banks in the form of a digital token that represents legal tender. Users will be able to access the digital rupee via a digital wallet offered by participating banks and stored on their mobile phones. Payments to merchants can be made using QR codes displayed at merchant locations. The pilot program launched on December 1st, 2022.
The introduction of the e₹-R provides a safe, central bank instrument with direct access to the central bank money for payment and settlement. Additionally, it could reinforce the resilience of a country’s retail payment systems.
CBDCs can provide an alternative medium of making digital payments in case of operational and/or technical problems leading to disruptions in other payment system infrastructures. Like traditional wallets such as Paytm, CBDCs would be held on phones or other devices, but the liability of the digital currency would be shown on the central bank's balance sheet.
Pilot
The pilot, which will have a phase-wise distribution, follows the RBI's disclosure of a digital rupee concept note on October 7th that revealed a retail and wholesale version of the CBDC. The retail CBDC can be used by all private sector, non-financial consumers, and businesses, while the wholesale CBDC is restricted to select financial institutions. The RBI has not yet disclosed what infrastructure it is using for the pilot but indicates the CBDC could be based on a traditional, centrally-controlled database or on distributed ledger technology.
India’s Payment Ecosystem
India already has a robust payment ecosystem with a different array of payment products ranging from Real-Time Gross Settlement (RTGS), National Electronic Funds Transfer (NEFT) to Unified Payment Interface (UPI), coupled with an exponential increase in digital transactions mainly due to high internet penetration and low cost of data (USD 0.26 per GB).
Features of e₹-R:
No bank account is required for transacting.
Transactions are private and have low settlement finality time, currency transactions can be carried out without maintaining evidence of transacting parties similar to how cash payments are conducted.
Lower costs of issuance and reduced risk of being stolen or torn vis-a-vis notes.
Increased security compared to notes and bank deposits due to being centrally backed by the RBI.
The RBI spent nearly Rs 5,000 crore on printing currency in 2021-22, a 24% increase from the previous year. CBDCs will help in reducing the cost of printing, storage, transportation reconciliation (and delay), and most importantly, settlement.
In an online payment system, banks need to settle transactions amongst themselves. CBDCs will eliminate this by giving choices to market participants to choose among various settlement options. Payments using CBDCs are final and thus reduce settlement risk.
Differences between UPI and e₹-R
Unified Payment Interface (UPI) is an interface used for making monetary transactions between two bank accounts, accounts to the digital wallet, or digital wallet to account. It is essentially a payment markup language and standard for interoperable payments. To learn more about how transactions are settled on the UPI network check out the thread below:
The Digital Rupee, on the other hand, is a form of currency akin to fiat but in digital form backed by the RBI. The wallet balance simply gets transferred to another account without settlement through bank intermediaries. CBDCs can enable the movement of money directly between two private entities, individuals or businesses, similar to cash, whereas with UPI the movement of funds is limited to transfers between bank accounts registered within the network.
E-rupee transactions will not have any intermediary, unlike UPI transactions. Just like a physical note, CBDC will be:
Legal Tender
Liability of the RBI to return that money
Legal obligation to accept it
Freely convertible against commercial bank money
Retail CBDCs are primarily discussed in regard to their utility as a payment method, similar to cash, that does not bear interest– unlike savings or current accounts that carry between 2.50%-7% APR on deposits. However, it is important to consider the potential negative consequences that may arise if the transition away from cash-like attributes to a "deposit-like" CBDC is not carefully managed. These risks include a significant reduction in financial system intermediaries as a result of banks losing deposits, which could further hinder their ability to create credit in the economy. In such a scenario, banks may be forced to raise deposit rates, further increasing their funding costs and decreasing their net interest income. In response, banks may be inclined to pass on these additional costs to borrowers or engage in riskier activities in pursuit of higher returns.
Conclusion
In the future, the digital rupee is expected to be completely interoperable with India's digital payment stack, and the Retail CBDC should be able to use existing payment infrastructure like UPI and digital wallets such as Paytm and Gpay. While the exact solution of India’s pilot experiment is yet to be decided, one thing is quite clear: interoperability between payment systems is vital for adoption, coexistence, innovation, and efficiency for end-user adoption and eliminates the need for creating a parallel acceptance infrastructure. The RBI could use established messaging, data, and other technical standards, or build technical interfaces to communicate with other systems to achieve interoperability.
It is possible that the need for a CBDC and UPI may overlap in some ways, but they are not necessarily mutually exclusive. A CBDC may provide a digital alternative to physical cash, while UPI may provide a way for individuals to make electronic payments more easily. In essence, the e₹-R offers the best of both worlds; it's anonymous and digital akin to cryptocurrency, regulated and widely accessible like paper currency and fast and seamless like UPI. The RBI aims to make the digital rupee interoperable and more accessible, enabling those in rural and smaller cities in India to use it offline, thus driving financial inclusion in the country.
Here’s the link to the e₹-R wallet setup tutorial from SBI Bank:
SBI e Rupee Digital Currency 💵💲 | e₹ Digital Currency | How to use Digital Currency e Rupee