FUTURE OF MONEY: THE INDIA STORY
The era of dominant cash is drawing to an end and India is poised to be an integral part of the emerging global digital payments architecture. EPISODE #50
Dear Reader,
A very Happy Monday to you.
Last week the union government created quite a kerfuffle after it disclosed that it will move a legislation through Parliament to regulate cryptos and digital currency.
The initial reaction was that the government is going to ban crypto currencies—something it had threatened to do two years ago when it drafted the contours of a broad law but never followed through. Investors in crypto currencies panicked leading to a steep fall in their prices. As of now no one outside of government, is aware of the contents of the new law. Exactly why speculation has taken wind.
Overlooked in all this noise around cryptocurrency—to be or not to be—is the move to legalise the digital rupee to be issued by the Reserve Bank of India (RBI). This is a potential game changer. Something that will take the ongoing future of money debate—defined so far around payments—to the next level. Cryptocurrency, at this point of time, is just a footnote. For now it is all about the so-called Central Bank Digital Currency (CBDC).
No surprises therefore that this week I focus on this debate. At a very basic level a CBDC will further diminish the role of cash, already under pressure after the successful adaptation of digital payments. Do read and share your thoughts. Be warned though that despite my best efforts this newsletter does get technical. Bear with me.
I am also delighted to share with you that this is the 50th edition of Capital Calculus in its new avatar. This milestone could never have been achieved without your support. As I often say this newsletter has grown in the last year only because of your constant support. I am because of you. So dear reader, many thanks for being my steadfast partner in this journey. I am grateful.
Last week we took the conversation on the pollution challenge in NCR to Twitter Spaces. Grateful to Chandra Bhushan for joining Debu Mishra, Monica Jasuja and me in a very engaging conversation which lasted just under 90 minutes. A big thanks to everyone who participated in it so energetically.
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THE FUTURE OF MONEY
Last week the union government announced its intent to regulate the cryptocurrency space. To begin with it reiterated its intent to ban cryptocurrency. But then added a rider that the new rules would however make exceptions to harness the technology underlying cryptocurrency.
With no further details disclosed—rightfully so as any legislation has to be first furnished to Parliament—(several wannabe) experts had a field day speculating the pros and cons of respective theoretical claims about what the government intended to do. For the crypto exchange owners the immediate threat was that the claimed “millions” of crypto investors would vote with their feet.
Here, I would go with the Reserve Bank of India (RBI) governor Shaktikanta Das who maintains that the investor number quoted by the crypto exchanges is inflated. The governor told a gathering of investors hosted by the State Bank of India last week that the number of crypto investors was exaggerated; worse, three-quarters of them, he added, had invested anywhere between Rs1,000-3,000. Ouch!
However missed on all this brouhaha was another part of the proposed legislation: the creation of the Central Bank Digital Currency (CBDC) or the digital rupee; and the implicit message in the proposed law about harnessing the benefits of blockchain technology.
While bitcoin has come to be associated with blockchain technology, please keep in mind it is just the most high profile application. And, not the only one. The blockchain technology which emphasises transparency has several low profile yet extremely useful public good uses.
The CBDC or digital rupee moves the country a step closer to shedding its eternal love for cash. The FinTech boom and the subsequent surge in digital payments has already begun to wean people from their urge to deal in cash. Yes, it may not be what it should be, but the trajectory is clear.
The Tech Backbone
I will briefly, before proceeding to flesh out the debate, go over the bewildering tech lexicon.
For our purposes it is important to keep in mind that the one aspect that is common to both, CBDC and cryptocurrency, is the underlying technology: blockchain. In short blockchain is the driver of this disruption and cryptocurrency is just one example of its application.
The geeky definition, sourced from IBM, is:
“It (blockchain) is a shared, immutable ledger that facilitates the process of recording transactions and tracking assets in a business network. An asset can be tangible (a house, car, cash, land) or intangible (intellectual property, patents, copyrights, branding).”
The key words (in bold) are shared, ledger and asset. Essentially the technology enables the inter-linking of a secure network to transact business in which every entity on the network has equal knowledge about every leg of the transaction. Exactly why it is also often referred to as decentralised computing—DeFi or decentralised finance is nothing but an application of decentralised computing in finance.
It is a utopian world in which everyone knows what is going on. Information is power, not by withholding it, but by sharing it with every stakeholder. So at one level it becomes that much more difficult to pull of scams without the cover of anonymity. What this very obviously does is reduce traditional risks associated with a business transaction and of course the cost.
And this works for any kind of asset or can also be used to track a supply chain. A perfect example would be in bringing the massive rural employment guarantee scheme with an annual budget of around Rs1 trillion under blockchain. Already, by moving to Direct Benefit Transfer (DBT) a lot of the sloth and corruption has been eliminated. By loading the scheme on a blockchain the transfer mechanism will be that much more secure and transparent—completely cutting out the middleman and benefitting the ultimate beneficiary.
Cryptocurrency vs CBDC
Now take this example of blockchain benefits, efficiency and accuracy, to the business of information—the one factor influencing competitiveness. As IBM succinctly explains the benefits:
“The faster it’s received and the more accurate it is, the better.”
It is this very same logic and technology driving cryptocurrency and CBDC. Quickly, keeping the definition of blockchain based on a shared digital network mentioned earlier, a cryptocurrency is a digital currency created by a private entity—who issues a token, which then becomes the currency; Facebook is calling its token Diem.
Think of the time when private currencies existed, before they were replaced by sovereign currencies. Exactly the reason why cryptocurrency is seen as a threat to central bank currencies world over. Especially ‘stablecoin’ which mimics an official currency as its value is pegged to a reserve asset—which can be the US dollar or gold. Thereby it is less susceptible to volatility, something that is the norm with the nearly 15,000 tokens in circulation.
Unlike in the case of a cryptocurrency, a CBDC is based on a private blockchain network. In the Indian context this will be the one created by the RBI. It will be very similar to what Amazon does when it converts a physical book into a digitally readable format like Kindle. Both versions co-exist, but in the case of the latter the delivery is instantaneous.
The CBDC in short will not replace cash, though it will diminish its use. It will be an attractive alternative, given that it will enable real-time settlements. A potential example would be the cross-border dues of exporters settled by the CBDC issued by say the US Fed and RBI; the settlement would be instantaneous.
One reason for the big push for cryptocurrencies in the West is the transactional efficiency. The only thing though is that at the moment it is not so efficient in small ticket transactions. And this is where India scores on both.
Not only has it evolved a world-class digital payments system in the Unified Payments Interface (UPI), it is capable of solving for any denomination payment and a large number of transactions. At the moment UPI is averaging about 2-3 billion transactions a month. Now this transactional efficiency can be scaled, if required, to 2 billion a day!
Yet, as discussed earlier, the technology underlying cryptocurrencies and CBDC, blockchain, has immense potential in delivering public goods. So in all probability India is likely to pick and choose rather than throw the baby out with the bathwater as it were.
Exactly why its cryptic (pun intended) wording of the summary accompanying the proposed law maintained that it will allow for exceptions so as to harness the benefits from the underlying technology. It would be logical therefore to expect the union government to ban creation of cryptocurrencies, even while allowing for it as an asset class—like we are allowed to hold gold and trade in it and are also required to pay capital gains taxes on it. At the same time the new law will green light the RBI proposal for launching a digital rupee, allowing India to absorb the associated technology gains.
Nandan Nilekani, co-founder of Infosys Ltd, the person who spearheaded Aadhaar and my go to online guru, believes India’s UPI provides an exceptional advantage to launch a digital rupee. In a conversation earlier this year with the Financial Express, Nilekani explained why this is the case:
“The distribution architecture of UPI can be used to reach (the digital rupee to) 200 million people. No other country can do this. This is because the UPI architecture allows multiple stored value accounts. So UPI can have a bank account, a wallet, a bitcoin account or a digital rupee account.”
It is clear then that the introduction of the new law on CBDC (digital rupee) will give a fresh fillip to the ongoing digital payments revolution. And India, unlike ever before, is likely to co-script the ongoing global makeover of the digital payments architecture.
Recommended Reading
While researching this column I came across a fascinating and apt book by Eswar R Prasad. Future of Money traces the digital revolution and how it is transforming currencies and finance.
The Cornell University professor goes out on a limb and argues that we are witnessing the end of the cash era and the rise of cryptocurrencies. You may agree or disagree with this surmise, yet the book seems to be worth a read.
If you are interested in buying the book please click here.
I am sharing an excerpt of the book review by Jon Frost in Finance and Development, the journal published by the International Monetary Fund or IMF.
“He (Eswar Prasad) argues that for all the digital innovation in finance in the past decades, we are standing on the precipice of what may be an even more dramatic change, with broad social, economic, and political implications.
He shows convincingly that amid Fintech, cryptocurrencies, and stablecoins—and the potential demise of cash—one of the most far-reaching innovations would be central bank digital currencies (CBDCs), a new form of central bank money.”
Please click here if you wish to read the full review.
Till we meet again next week. Stay safe
The proposed launch of the CBDC or Digital Rupee is a plausible move by the Government. In the current fast paced world of international business and finance , India has to be among the frontrunners and not play catch up forever. The main concerns of the countries are, that due to their ease and speed of transactions, the cryptocurrencies do not replace or dominate the sovereign currency. For the same reason the cryptocurrency can be conveniently used for illegal and critical payments like drugs, other smuggling activities, arms and terrorism. The Digital Rupee therefore has made an insightful and timely entry.
Dear Anil,
A very timely article as all news channels are talking about the dangers and benefits of cryptocurrency these days !! There are still many grey areas and the common man does not understand it.Though it has a lot of potential for the future , when payments will be all digital, but at present we need to frame proper guidelines and framework for its usage.