UPSC Prelims 2023 Q72: Central Bank Digital Currency — Explained

With reference to Central Bank digital currencies, consider the following statements:

1. It is possible to make payments in a digital currency without using US dollar or SWIFT system.

2. A digital currency can be distributed with a condition programmed into it such as a time-frame for spending it.

Which of the statements given above is/are correct?

1 only
2 only
Both 1 and 2
Neither 1 nor 2

Answer: (c) Both 1 and 2

Statement-wise explanation

1: correct — A CBDC is a direct claim on the central bank that issues it. Two countries' CBDC systems can therefore be linked so that payments settle directly between them in their own currencies, with no US dollar as a go-between and no SWIFT messages between correspondent banks. RBI's Concept Note on CBDC (October 2022) says CBDCs 'could ease current frictions in cross-border payments.' It cites the multi-CBDC Bridge (mBridge) project of China, Hong Kong, Thailand and the UAE as an example of real-time cross-border settlement.
2: correct — Digital money can be 'programmed', meaning conditions are written into the token itself. RBI's Concept Note (October 2022) says CBDC tokens 'may have an expiry date, by which they would need to be spent'. It adds that farm credit could be programmed so it is spent only at input stores. India later ran programmable e₹ pilots for welfare payments. In the PMGKAY food-subsidy pilots, the tokens can be redeemed only for entitled foodgrains at Fair Price Shops.

How to eliminate

Both statements use 'possible' and 'can'. They claim something can be done, not that it always happens. Statements like this are usually true, because the examiner only needs one working example. Statement 1 also follows from basic knowledge. SWIFT is a messaging network between banks, and the dollar is a go-between currency of convenience. Neither is legally required when two central banks agree to settle in each other's digital currencies. The 2022 sanctions that cut Russian banks off from SWIFT made 'alternatives to SWIFT and the dollar' a major news theme. Statement 2 needs one fact: digital money can be programmable, for example with an expiry date or a limit on what it can buy. If you knew RBI's Concept Note or the e₹ programmability pilots, both statements stand. Fact to remember: CBDCs allow cross-border settlement without the dollar or SWIFT, and they can carry spending conditions.

Know more

Central Bank Digital Currency (CBDC) is legal tender issued by a central bank in digital form. It is exchangeable at par with cash and is a liability on the central bank's balance sheet. In India it is called the e₹ (Digital Rupee). The Union Budget announced it on 1 February 2022. RBI then launched two pilots: wholesale (e₹-W) on 1 November 2022 and retail (e₹-R) on 1 December 2022.

Feature	Retail CBDC (e₹-R)	Wholesale CBDC (e₹-W)
Users	Public, businesses	Select financial institutions
Purpose	Digital version of cash for everyday payments	Interbank settlement (first use case: government securities trades)
Preferred form	Token-based (bearer instrument, like a banknote)	Account-based
Interest	None, like cash	None

How a CBDC differs from other digital money

	CBDC	Cryptocurrency	UPI / bank deposit
Issuer	Central bank	Private parties / code	Commercial bank money
Legal tender	Yes	No	No (claim on a bank)
Value	Fixed at par with cash	Volatile	Fixed

Two features UPSC likes:

Programmability: spending rules can be built into the token, such as an expiry date, a specific use (only foodgrains, only farm inputs) or specific merchants. This is useful for subsidies and Direct Benefit Transfer, but it raises questions about privacy and about whether money stays 'fungible' (freely exchangeable, one unit for any other).
Cross-border settlement: linked CBDC platforms (e.g. mBridge) let central banks settle trade directly. This cuts cost and time, and countries no longer depend on dollar-based correspondent banking or SWIFT messaging. Discussions on linking BRICS CBDCs build on the same idea.

Offline e₹ (payments without internet) is a further feature being tested for areas with poor connectivity.

In the news

RBI released its Concept Note on CBDC in October 2022, which discussed programmability, including expiry dates. It then launched the wholesale and retail e₹ pilots in November and December 2022. In the same year, sanctions cut Russian banks off from SWIFT, which put payment routes that avoid SWIFT and the dollar in the news. Both themes appear in this question.

NCERT Concepts to Revise

Central Bank Digital Currency: Both statements test what features a Central Bank Digital Currency such as the e₹ can carry.
Cryptocurrency: Separating central-bank digital money from private crypto-assets stops you from mixing up their properties.
Blockchain: Programmable conditions and cross-border CBDC platforms often run on distributed-ledger technology.
Central bank: A CBDC is a direct liability of the central bank, which shapes how countries can settle with each other.