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349 viewsAll GS PapersGS Paper 3
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Approach:

  1. Introduction on rise of global crypto usage.
  2. Threats posed by crypto usage.
  3. Can CBDC substitute cryptocurrencies ?
  4. Conclusion

The usage of Cryptocurrencies worldwide is increasing. The total valuation of cryptos is greater than $ 2 trillion – more than the value of gold held globally. In this situation of global proliferation, the Indian Central Bank is opposed to legalising crypto usage in India due to its underlying insecurities.

RBI cautioned that private cryptocurrencies are a big threat to India’s financial & macroeconomic stability. The reasons being –

  • They have no underlying asset.
  • They can threaten the place of Central Bank in regulating the financial system, since cryptos are decentralised based on blockchain technology, which the RBI cannot regulate. This will lead to enterprising private entities controlling the financial system.
  • Cryptos can facilitate the flight of capital illegally into tax havens.
  • It will promote speculative investments, driving prices of cryptos higher. Also, production cost has risen.
  • It has a problem of ‘double spending’ through forgery, since software can be used repeatedly. Although blockchain & encryption have solved the problem through protocols like ‘proof of work’ & ‘proof of stake’; the first protocol is difficult, while the second is prone to hacking & fraud.

As an alternative, RBI is planning to roll-out Central Bank Digital Currency (CBDC). CBDC can only be a fiat currency and not a crypto. Being a fiat currency, it has to be exclusively issued & controlled by RBI. This will hinder deployment of blockchain technology, since it enables decentralisation (a key feature of cryptos), which the RBI does not want. Also, for the CBDC to be in central control, solving the ’double spending’ problem needs to be addressed. Given the current technological development, this seems impossible. A centralised CBDC will require RBI’s validation in each transaction that will make it complex & unusable, unless new secure protocols are designed.

Thus, CBDC at present cannot substitute cryptos. This will impact functioning of RBI & commercial banks. Further, a ban on cryptos require global coordination which may not come in near future.

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