Why the CBDC may not be the magic bullet to deal with the risks of crypto assets

The RBI’s concept paper on CBDCs does a lot: it signals the central bank’s many motivations behind the digital rupee (or e₹), it indicates the design choices the RBI is moving towards to pursue these motivations, it briefly charts a path forward to the launch of the e₹, and it pushes the political debate into high gear – from speculation to assertions about the merits of motivations, design, results. Still, misalignments abound – particularly over what the RBI expects of e₹ and what it can reasonably expect of it. One example is the impact a CBDC would have on the wider adoption of crypto assets and stablecoins.

Globally, central bankers are split on whether the emergence of crypto assets has led to an acceleration of their CBDC projects: In a May 2022 survey by the Bank for International Settlements, six central banks questioned out of ten agreed.

This may be because a clear assessment of the adoption of crypto assets for different use cases and their impact on the economy seems to have so far eluded policymakers: the same survey indicated that a majority of central banks have broadly characterized the use of crypto assets in their jurisdictions – both with respect to domestic and cross-border payments, as “use by niche groups” and “negligible or no use”.

Earlier in February 2022, the Financial Stability Board (FSB) recognized significant data gaps that made assessing the impact of crypto assets on financial stability difficult to identify and quantify.



The RBI’s stated expectation is that e₹ will deliver the benefits of virtual currencies while protecting financial consumers and avoiding the “adverse social and economic consequences” of crypto assets. If it sounds too good to be true, it usually is, and it seems to be the case with the RBI’s projection that e₹ is a panacea for the many risks associated with crypto-assets and stablecoins. There are several motivations driving the adoption of crypto assets, which do not overlap with the single e₹. Customers feeling the pinch of a depreciated rupee (at current exchange rates) are more likely to turn to asset-backed stablecoins tied to a global currency reserve such as the US dollar.

This leads to direct risks of dollarization, as identified by the G7 Stablecoin Task Force. The e₹ is unlikely to offer compelling reasons to prevent this instance of dollarization through the conversion of the Indian rupee into stablecoins denominated in US dollars.

Stablecoins could also offer a faster, cheaper, and easier channel for cross-border remittances that largely bypasses the formal financial system (and by extension, foreign exchange laws). An e₹ may not address this issue directly until India is a member of the many cross-border remittance projects being built around CBDCs and the projects come to fruition.

Retail investors in private crypto assets (not stablecoins) generally do so for the potential benefits that come from wild volatility and arbitrage opportunities between different crypto exchanges. The promise of relatively higher returns compared to de-fi staking (roughly similar to fixed deposits) or de-fi lending (similar to P2P lending) that drives retail investors in private crypto-assets cannot be matched. by a non-interest bearing instrument such as the e₹.

For the RBI and the government to address the risks that crypto assets bring to the economy, a legal framework to govern various aspects of crypto assets is still the need of the hour. The regulation of crypto assets in India is still too uncoordinated and insufficient: it is a circular CERT-In (the Indian Computer Emergency Response Team) which obliges virtual asset service providers to follow the KYC standards framed by the Reserve Bank of India and the Securities and Exchange Board of India (in the interest of cybersecurity).

In parallel, state law enforcement agencies prosecuted crypto-asset exchanges under the Foreign Exchange Management Act of 1999 and the Prevention of Money Laundering Act of 2002, even though there is ambiguity about the nature and extent of application of these crypto-asset laws.

It is unlikely that legislation can govern all these aspects related to crypto-assets and stablecoins – but without a framework that identifies and empowers the various regulators and agencies to act, delegated legislations – rules and regulations by agencies specialized skills needed to implement the provisions of the legislation in practice, cannot move forward. The fundamental question underlies all of this: the main question of whether to ban or regulate both crypto assets and stablecoins is decidedly undecided. It comes with more than its fair set of challenges.

The duty of the RBI under the Reserve Bank of India Act 1934 is to ensure monetary stability in India and to exploit the monetary system to its advantage. This obligation may cause it to view stablecoins and crypto assets in a harsher light that does not necessarily align with the views of the Ministry of Finance, which may arguably have broader macroeconomic objectives. In this potential divergence between the roles of regulator and state, the nature of the outcome remains uncertain.

But it could also mean that the RBI and the government take a more conservative stance on stablecoins, arguably a more direct threat to currency, as opposed to cryptocurrencies, which can potentially be regulated, provided there is have sufficient regulatory interventions such as registration measures. / exchange licensing, business continuity requirements, KYC, token listing rules, disclosure requirements, volatility kill switch, governance standards, etc. to target possible market failure points.

This approach is not new, and the FSB, in particular, provided impetus for solving this conundrum: On October 11, the FSB and other standards bodies reviewed the FSB’s previous high-level recommendations for the regulation, supervision and monitoring of “global stablecoins”. ‘ because these provided assets were more likely to be adopted for use cases such as payments and as a store of value.

On the same day, the FSB separately released its submissions to the G20 on approaches to regulation, supervision, and sufficient oversight of crypto asset activities and markets.

Although the FSB leaves it up to regulators to decide independently on the regulatory approach (including pursuing a conservative approach such as a ban or ban), it generally prescribes high-level principles aimed at to help regulators and governments develop regulations based on proportionality and regulatory coordination.

The FSB Principles are intended to guide governments in developing laws that

regulators with the appropriate powers and tools and help regulators design comprehensive governance frameworks and lead intermediaries to implement effective risk management frameworks. In some respects, the message is clear: if the government decides to embark on a regulatory approach (as opposed to prohibition), the FSB guidance shows that there is a path to regulation that satisfactorily mitigates harm. associated with stablecoins and crypto assets.

However, it remains to be seen whether RBI sees this message through the same prism: in any case, the e₹ will be an inadequate response.

Arjun Goswami, Chief – Public Policy; and Ganesh Gopalakrishnan, Senior Partner, Cyril Amarcand Mangaldas