The term central bank digital currency (CBDC) refers to the virtual form of a fiat currency. A CBDC is an electronic record or digital token of a country’s official currency. As such, it is issued and regulated by the nation’s monetary authority or central bank. As such, they are backed by the full faith and credit of the issuing government. CBDCs can simplify the implementation of monetary and fiscal policy and promote financial inclusion in an economy by bringing the unbanked into the financial system.The Reserve Bank of India (RBI) is developing a phased implementation approach for its own digital currency, which it plans to debut in the wholesale and retail markets soon.

Advantages

• CBDC is expected to ensure three basic principles — those of ‘do no harm’, ‘coexistence’,’promote innovation and efficiency’.
• Will lower the economy’s reliance on cash, and enable cheaper and smoother international settlements.
• It will also promote financial inclusion and simplify the implementation of monetary and fiscal policy. The transactions will be made using distributed ledger technology (DLT).
• In a DLT system, nodes or shared ledgers connect to form a common network to process transactions. This network can also extend to other jurisdictions and minimise the processing time for transactions. It provides transparency to authorities and stakeholders, improving the resiliency of a financial network by eliminating the need for a centralised database of records.
• CBDCs represent a unique opportunity to design a technologically advanced representation of central bank money, one that offers the unique features of finality, liquidity and integrity.
• CBDC is expected to promote financial inclusion. It can help extend the typically insufficient reach of existing payment systems by implementing digital distribution channels and ICT infrastructure to provide access to central bank money to majority population.
• Where maintenance of high-volume, low-value payments and other financial services is deemed unsuitable or commercially unattractive for commercial banks, CBDC can provide a government-authorised solution for storing value and making payments.
• The Digital Rupee gives India the chance to build the Digital Rupee as a superior currency for commerce with its strategic partners, eliminating its reliance on the dollar.
• India risks becoming engulfed in a maelstrom of a proxy digital currency war as the US and China compete for dominance in other markets by developing cutting-edge financial products. Today, a sovereign Digital Rupee isn’t only a matter of financial innovation; it’s also a necessity for fending off the looming proxy war that threatens our national and financial security.
• Use of CBDC can ease cross-border payments. The current financial infrastructure is a complex system of many entities. Conducting a transaction between financial institutions takes time and money because they work in different technological systems and regulation regimes.  The payments took seconds, instead of days, as happens with the traditional SWIFT network for cross-border flow of funds. The cost was about half of that for conventional payments.
• the blockchain technology that underpins the distributed ledger is also capable of of producing smart contracts, that is contracts that execute themselves, once payments are made.

Issues

• It could increase terror financing.
• Users would have to give up some degree of privacy since the administrator is responsible to collect and disseminate digital identifications. The provider would become privy to every transaction conducted.
• A strong CBDC issued by a foreign country could end up substituting a weaker country’s currency.

• Disintermediating banks: if sufficiently large and broad-based, the shift to CBDC can impinge upon the bank’s ability to plough back funds into credit intermediation. Another possibility is that deposit flight to CBDCs might expand central bank balance sheets posing a question as to how the deposits escaping the banking channel should flow back to the real economy.
• Low user adoption: This can arise if its usefulness to consumers and merchants are not well perceived. Low CBDC adoption could hinder the policy objectives of the central banks.
• Elevated cyber security risks, vulnerability testing and costs of protecting the firewalls.
• Operational burden and costs for the central bank in managing CBDC.
• Reduced privacy relative to physical cash as the CBDC holdings could be tracked and accounted for.
• Data privacy threats and compromise of credentials.
• Faster obsolescence of technology could pose threat to CBDC ecosystem calling for higher costs of upgradation.
• Operational risks of intermediaries as the staff have to be retrained and groomed to work in CBDC environment.

Way forward

• In order to obviate some weaknesses of CBDCs, the usage should be payment-focused to improve the payment and settlement system. Then it can steer away from serving as a store of value to avoid the risks of disintermediation and its major monetary policy implications.
• The RBI should avoid paying interest on the balances so that it remains only as a means of payment and settlement system. BIS has flagged these risks of CBDC.
• The central banks should build an ecosystem to mitigate them seeking the engagement of all stakeholders. Notwithstanding the initial pain points and risks, CBDC could fast track digital transformation facilitating the move towards a digital economy.

The establishment of a Digital Rupee will allow India to empower its population by allowing them to freely use it in our rapidly expanding digital economy and breaking free from an antiquated banking system.Policymakers must properly assess the potential of the Digital Rupee in India, taking into account its impact on the macroeconomy and liquidity, banking systems, and money markets.

https://www.thehindubusinessline.com/opinion/cbdc-in-india-the-pros-and-the-cons/article65344881.ece

How to structure:

1. Give an intro about CBDC
2. Mention the advantages of CBDC
3. Now the risks associated
4. Suggest further measures/ way forward
5. Conclude