Tag: RBI

#ChatGPT & Sovereign Gold Bonds (SGB)
Sovereign Gold Bonds (SGBs) are financial instruments issued by RBI that allows investors to buy gold in a paperless form. They are denominated in grams of gold and are issued in multiples of one gram. The primary purpose of SGBs is to reduce the demand for physical gold and encourage people to invest in paper form instead.

One of the main advantages of SGBs is that they offer a safer and more convenient way to invest in gold. Unlike physical gold, SGBs are not subject to the risk of theft or loss. They are also easier to sell and can be traded on stock exchanges. In addition, SGBs offer a fixed rate of return, which is determined by the government at the time of issue. The current rate is 2.5% per annum, which is paid semi-annually.

Another benefit of SGBs is that they are exempt from capital gains tax on redemption. This means that investors do not have to pay any tax on their profit when selling their SGBs. This is a significant advantage, especially in a country like India where taxes on capital gains can be quite high.

SGBs are also attractive to investors because they offer a combination of both gold and debt. On one hand, they provide the security and stability of gold, which is considered a safe haven asset. On the other hand, they offer a fixed rate of return, similar to a debt instrument. This makes them an appealing option for investors looking to diversify their portfolios. It is important to note that SGBs are not the same as physical gold. They are simply a representation of gold and do not have any intrinsic value. This means that the price of SGBs is dependent on the market price of gold, which can fluctuate.

In conclusion, Sovereign Gold Bonds are a convenient and tax-efficient way for investors to buy gold. They offer a fixed rate of return, are easy to sell, and are exempt from capital gains tax. While they may not have the same intrinsic value as physical gold, they offer a combination of gold and debt, making them a good option for diversifying a portfolio.

What you read above is entirely written by #ChatGPT when asked- Write me a 300-word article on Sovereign Gold Bonds. There were 2 factual errors, which were edited out. Still, it makes a fantastic concise piece!

Later I asked #ChatGPT to compare Gold prices against Fixed Deposits over the last 20 years, which it couldn’t and so here comes the human part.

This product was launched by RBI in 2015 and since then has been offered multiple times over the years. Latest of which concluded on December
23, 2022.

The question is, does SGB make a good investment? I will answer this by
comparing it against Fixed Bank Deposits (FD). So in case you aren’t invested
in SGBs and hold FDs, do yourself a favor and read on.

Since SGBs are intrinsically linked to Gold price, of course it is subject to market fluctuations and unlike FDs, might even deliver a negative return in certain years. FDs do deliver a guaranteed positive return but that statement is only valid if we are naïve to ignore inflation and only look at the nominal return instead of real return. If you subscribe to the macroeconomic idea that INR will keep depreciating against USD over longer periods, till there is an Inflation differential between the two economies. This return because of currency depreciation is in addition to any appreciation of Gold price (quoted in USD). To validate this, I looked at data for the period 1985-2022 and this is how it looks-

So Gold & SGBs in particular offer a better return over FDs. But is it enough of an incentive to subject yourself to the uncertainty vis-a-vis FDs? That’s a question one needs to evaluate based on investment goals and risk appetite.

Now let’s do a comparison over a similar period. Since SGBs are an 8-year investment (there are options to exit before that but you lose on the tax benefit). Let’s look at the returns on both assets over rolling 8-year periods during 1985-2023.

You will see that out of 30 such periods, SGB emerges as the winner in 22 periods! That’s as good as an odd we can get. Also, SGBs on average return 75% higher over FDs over these 8-year periods. Now that’s a fantastic return and should be reason enough to persuade you to a reasonable allocation to SGBs over long-term FDs.

Now some nuances for the nerds:

The FD rates taken for comparison are average FD rates for 5-year Deposits by leading 5 Banks in those years. Source: RBI website

Tax payable on interest income is assumed to be 20%. Which depends on your tax bracket. A higher tax rate is an advantage to SGB.

Interest rate on SGB is considered @2.5%, even though it was 2.75% for the first series.

You may download the excel files here (Historical Data- SGB) and tweak the nos as you please.

SGBs do not pose a reinvestment risk unlike FDs, depending upon the FD tenor you actually get from your bank.

SGBs are an excellent tool if you want to take exposure to long-term currency depreciation (INR).

P.S.: I agree the title of this post was somewhat misleading (#ChatGPT) but at least it got you to read, what otherwise would have sounded drab to start reading. Who wanted another post on SGB after all!
January 7, 2023
e-Rupee (e₹) or e-RUPI? (e₹UPI)

Not being a wordsmith and these 2 are very different things! Short note on what’s what.

So, first e-Rupee or e-₹; this is what has been the talk of the town for over a month now. Simply put, it is India’s CBDC (Central Bank Digital Currency) launched by RBI, which is currently undergoing its pilot. {If you still wondering what is that, welcome to the blog and may I implore you to go through last few posts here. I beleive, that will be sufficient for you to gain a decent undertsanding of e₹. }. With e-₹ out of the way, what the hell is e-₹UPI!

Continuing with our long national tradition of creating clutter as much and wherever possible we have done it again! Jokes apart and to be fair, there wasn’t much room for having a better nomenclature for these 2. Anyways, this Seeta-Geeta business has got more than a handful mixing the two and serving it to people. The very reason I wanted to write on this, was because a few days back I came across this on youtube- https://youtu.be/My5pXiDCtU0 from Mr. Akshat Shrivastava. Great channel, superb content, and 1.35 mn Subs on Youtube alone! 10 days later this video has 304K views and 1500+ comments appreciating the content. The only hitch is that he has got it wrong, confusing e₹UPI as India’s CBDC.

Don’t get me wrong, I love his content and general take on life but this was a reason enough to make an effort to limit the misinformation. Enough digression, back to the subject.

e₹UPI was first announced by Prime Minister Narendra Modi on 2nd Aug 2021. Long before the e-Rupee (e₹) came into being.

So what is e₹UPI? It is something which is intended to bring efficiency to Direct Balance Transfers (DBT) by the goverment. IT uses the UPI infra and hence the name e₹’UPI‘. Below is a simple 6 stage flowchart of how it will work.

(Ignore the colours, they don’t denote anything)

The process will start with a government, ministry, or department coming on board as a sponsor for a program. Let’s assume, the Dept of Basic Education for Uttar Pradesh decides to adopt e₹UPI for distributing the money they spend on each student to provide them with Books for each academic year. The department will provide the details of all such student beneficiaries, along with a mobile number, amount, validity, approved vendors etc to the Bank. The Bank’s portal integrated with NPCI, will issue SMS based, UPI-prepaid voucher to each beneficiary. Upon receipt of the voucher, the student can only redeem it at a pre-approved book-seller in the area.

This is how it is working in the current phase. However, it is expected that in the next phase it will allow for easier vendor selection/appointment and might open up a wider set of institutions to come on board as Sponsors. Imagine a private sector employer wants to reimburse its employees for certain healthcare expenses (eg: COVID vaccination). While the employer doesn’t want to go through the hassle of processing reimbursement but at the same time has to reasonably ensure the money is not spent for other purposes. Such an employer can come on-board e₹UPI and issue vouchers to its employees, who can only redeem their vouchers with Hospitals in their city. It has certain limitations in its current form but I think its benefits far outweigh any limitations. More on this in the next post.

Basic differences between the two

December 11, 2022
What does the future of e₹ look like?

Let’s try some crystal gazing with what we know and have seen so far for India’s CBDC.

Given the limits of my knowledge and imagination, I only see a few use cases where e₹ could have some legit application, at least in the near future. Firstly, I do not see any notable adoption happening for e₹-R. There are no significant benefits that it brings to customers, in a country that has UPI and other such infra in place. So that’s out of the window and we are left with e₹-W. With e₹-W, I could see a few interesting use cases. I am sharing a few to trigger your imagination.

A. Tax Payments– In the wholesale segment, RBI might offer companies to hold a certain e₹ balance, which can be used to make tax payments back to RBI (for Govt of India). The reason, this seems likely is that with the introduction of TIN 2.0, RBI seems to be ousting banks from the business of handling tax flows. It is a lucrative business for the Banks and all have been investing and developing tools to make it simpler and easier for wholesale customers. With TIN 2.0 however, it appears that the role bank’s have played in this transaction is being reduced. Offering companies an option to maintain an e₹ account to pay taxes might give them a 24hr flexibility and faster realization to RBI. On the other hand, it will have a relatively negligible impact on the corporates. This might pick up since it seems to be the simplest application to implement.

B. Large value inter-bank transactions– I think the most interesting use cases will emerge in this space. Primarily because- given the quantum, settlement and liquidity risks are at play and e₹ might help mitigate those risks.

In the world of Supply Chain Finance- often for large exposures Banks enter into what is called as ‘Risk Participation’. In a typical large value setup, one of the banks would also be acting as the ‘Agent Bank’, that is to facilitate the disbursement and repayment to/from the Borrower to/from the participating banks. In the chain of transactions, typically for repayments from the borrower, the participating banks will run a settlement risk on the Agent Bank. If such a transaction happens through CBDC/e₹ teh agreement between banks could be made in such a way as to minimise this elemnt of settlement risk on the Agent Bank. Of course this same logic could be extended to a simpler consortium banking setup as well, to reduce the risk particpating banks run on the consortium leader bank.

On the other hand, a whole new world of possibilities will open up for large escrow-based transactions, only if a Bank/Fintech could come up with a solution to operate an e₹ account with RBI under an escrow mechanism. Innovation from the private space will be needed since I don’t think RBI will ever be interested in managing such messy setups.

So may be Escrows will be the way e₹ realises it’s true potential- who knows!

P.S: Have been trying #ChatGPT and here is its response on the future of CBDCs. As good as almost anyone has to say!!

Do try, if you haven’t already- #ChatGPT. Also, if you think that e₹ has applications in Direct Benefit Transfer- in my next, I will share why I don’t think so and there is a better solution already available for that.

December 10, 2022

e₹- CBDC- How? Part-3

Significant development since the last post- RBI has been surprisingly on schedule, with the pilot for e₹-R which was kicked off on Dec 01, 2022.

All hullabaloo around the more public pilot would have raised more, rather than answer questions. Let me contribute to your confusion (remember, the devil is in the details!). So, moving to the third dilemma which Central banks around the world and RBI closer home need to address before this new idea can earn some significance.

Dilemma No 3	RBI’s Answer	Rationale
Should the e₹ be interest bearing or not?	e₹ balances will be non-interest bearing	RBI wants the e₹ to taste and smell like fiat currency to the extent possible. Since, currency notes (in your wallet or vault) dont earn any inerest, so will be e₹.

If you don’t see any problem with the above approach, consider the following-

Why would you hold any significant amount in e₹ balance? Remember, despite RBI’s wish for e₹ to compete with Cash, what it is really up against, is the digital rupee and services such as UPI/IMPS/RTGS, etc.

On the other hand, if it was an interest-bearing option, it would lead to pricing pressure on commercial banks. In other words, banks will have to offer a higher delta to make their deposits look attractive. If that happens, the Cost of funds for banks will go up, and consequently, the cost of lending too will have to be increased, and there lies RBI’s dilemma. RBI does not want CBDCs to lead to increased cost of borrowing for the industry.

Moving on, dilemma no 4– If RBI pushes the USP of ‘Finality of settlement’ too much (which btw is the most important feature of e₹) it will in some ways undermine the Banks which RBI has spent so many years developing. The finality of settlement becomes prominent only if there is significant risk perceived in the financial standing of the Commercial banks involved in a transaction. If that is the case, RBI will have a bigger problem at hand. I don’t think they would want to disenfranchise banks that they have worked so hard to build by overplaying the finality of settlement (which btw is only relevant to e₹-W).

In the next and hopefully the last of this series, I will try to share my take on the future of e₹.

December 1, 2022

e₹- CBDC- How? Part-2

Picking up from where we left off in the last post. The indirect model
will pose certain challenges for the e₹-R such as the following:

It will have almost no difference compared to the current rupee in
digital form (read your account balance in a savings account with any
commercial bank).
Your e₹ balances will not be updated with RBI in real-time thereby taking away one of the biggest USPs, i.e finality of settlement (the user will run the Settlement Risk in this model).

To overcome these challenges the model most likely to be implemented for the retail pilot is a Hybrid model. Before you ask what this hybrid model is, let’s see in some detail about all three models- direct, indirect & hybrid.

Aspect	Direct	Indirect	Hybrid
Issuer	RBI	RBI issues to Intermediary for retail distribution	RBI issues to Intermediary for retail distribution
Liability	RBI	RBI	RBI
Operations	RBI	Intermediary Banks/Institutions	Intermediary Banks/Institutions
Who maintains the Ledger?	RBI	Intermediary Banks/Institutions	Intermediary Banks/Institutions & RBI
Settlement Finality	Yes	No	Yes

The Three Distribution Models

The reason I think a Hybrid model suits better is that the indirect model does away with almost all the benefits that a Retail user might want from e₹. So what is
even the point? The Hybrid model, simply put is an indirect model with a messaging layer with it. Using this messaging layer, RBI will be able to keep a real-time ledger for each retail user. You can think of this as an e₹ account with a Commercial Bank along with a UPI-like layer to it which will update any transaction with RBI.

Now, dilemma no 2- this pertains to the token design. Should the e₹ have a token-based design like all major cryptocurrencies or should have an account-based design that enables book-keeping as well?

Dilemma No 2	RBI’s Answer	Rationale
Should the e₹ have a token-based design or an account-based design	Account-Based for the Wholesale segment for now and probably it will be Token-based for the Retail segment.	e₹ should offer the level of anonymity Cash offers. In the retail segment, RBI is trying to achieve lower Cash circulation by introducing e₹. To that end, a token-based e₹ will offer the holder, the right to spend without having to maintain a trail of the transactions.

This is easier said than done! Such an approach (token-based) will also have lots of decisions to be made- such as whether should there be an amount ceiling for e₹-R, given the anonymity. More in the next post.

November 20, 2022

e₹..CBDC?.. what’s that!
CBDC has been a buzzword with RBI kicking off the pilot. I will try to explain the What, Why & How of RBI’s CBDC, which would be true for most CBDCs globally. In this first part, we will explore the What & Why of it and will do the How part in the following post. These posts will mainly refer to the concept document from RBI, released in October 2022 (https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/CONCEPTNOTEACB531172E0B4DFC9A6E506C2C24FFB6.PDF), because that’s all there is when it comes to e₹.

The first major mention of e-Rupee was in the Union Budget presented on 01st Feb, 2022. CBDC which stands for Central Bank Digital Currency is a global term used for legal tender issued by a central bank in digital form. e-Rupee is the name given to India’s CBDC.

Let’s start with Why RBI considered coming up with its own CBDC. I see two primary reasons- the first is to bring about a reduction in cash circulation. Cash management- right from Cost (printing, distribution, etc) to logistics, is a costly and inefficient method that RBI is trying to disrupt (remember demonetization?..eh). The second and more pressing reason I am quoting it right from RBI’s note referred to in the opening para- As of July 2022, there are 105 countries8 in the process of exploring CBDC, a number that covers 95% of global Gross Domestic Product (GDP). 10 countries have launched a CBDC, the first of which was the Bahamian Sand Dollar in 2020 and the latest was Jamaica’s JAM-DEX.
Currently, 17 other countries, including major economies like China and South Korea, are in the pilot stage and preparing for possible launches. China was the first large economy to pilot a CBDC in April 2020 and it aims for widespread domestic use of the e-CNY by 2023.

There is a reason why all countries are lining up in a hurry to come up with their CBDCs and it is what lies at the heart of the Blockchain/bitcoin revolution. The key word here is ‘decentralization’. As you might know, the primary motivation behind blockchain technology was the 2008 financial crisis and the general despise of the public against the ‘System’, which includes Banks- both commercial and central, Governments, etc. Thus, the idea of a decentralized currency was born of which Blockchain is the best-known example. While Bitcoin and many other such cryptocurrencies had a wild run since then, I have held a very strong opinion that no Sovereign will ever allow loss of control over Money! It is probably the most important control they have over the lives of their citizens and they will just not let it happen. Having said that, Blockchain technology will change the world (it already is..). I will save the larger discussion of Blockchain, Bitcoin, etc for another day. So in a nutshell, Governments/Central Banks don’t want a decentralized Crypto to grow which undermines their control. If you read the RBI concept note, there are more than sufficient words dedicated to explaining the oh! so very important functions the central banks undertake and how private cryptocurrencies pose a risk. Hope you can read what’s not spelled out. So that concludes my point on Why.

Now let’s get to the What part. To understand what is CBDC/e-Rupee better, we should delve a bit into what is Currency/Rupee. Our fiat currency-Rupee acts as the following three-

       Store of Value

       Medium of payment

       Unit of Account

So any new offering that tries to undertake functions of the Rupee, must fulfill the above 3 roles. I will straight get to the biggest question that I have had when I heard e₹ for the first time and I presume most other people would have the same question as well- How is it different from the money in my Paytm wallet or my savings account balance in my Kotak Mahindra Savings account? The key difference between the two is-

CBDC is issued by the Central Bank just like the physical rupee, whereas the balances we see in our accounts with Banks or wallets are provided by the Commercial entity we are dealing with. Simply put, the balance in Paytm wallet is as good as Paytm whereas the e₹ is as good as RBI. You can extend the logic to answer your specific case. All other differences stem from this key difference-

e₹ is the liability of RBI whereas others are the liability of their respective institutions.

e₹ will only carry sovereign credit risk, whereas the other also carries counter-party risks (Settlement risk, solvency risk, etc).

e₹ account will be maintained with the Central Bank whereas the other (digital rupee) is held with commercial banks. (There is one finer point to keep in mind that we will note in the next post on How.

Hope I have been able to answer some questions about the Why & What that you had. Will follow up with How, in the next post.

Side note- the most unimpressive way to depict an impressive feat is straight from RBI’s concept note:
November 12, 2022
What is this Card Tokenisation?
You would have come across this term ‘tokenisation’ on all e-commerce checkout pages. In case you, like me need some visual anchors to develop understanding and still don’t know what is this card tokenisation- this might help.

In its bid to improve security of Card transactions, RBI rolled out tokenisation norms on Jan 08, 2019 (Ref: RBI/2018-19/103 DPSS.CO.PD No.1463/02.14.003/2018-19). It came into effect finally on 1st Oct 2022.

So let’s understand first what is tokenisation. In simplest of words it is sort of having an alternate code generated for your card details so that they can be transmitted from merchant, Payment gateway to Card network more securely. Basically, preventing your actual card details travelling over the network between various entities (Merchant, Banks, Payment Network etc) every time you make a payments.

Now with the basics out of the way, let try to understand- How does Tokenisation happen?

The information that every time your merchant transmits through the Payment Gateway includes the following identifiable: Card holder’s name, 16 digit Card no, Expiry/Validity, CVV no, Merchant/platform. Through tokenisation all these information are converted to a single code using an algorithm by process called Hashing (very similar to the world of Blockchains & Bitcoin..more on that in posts later).

As simple as this!

One such algorithm is SHA-256; just land on this page https://emn178.github.io/online-tools/sha256.html and have fun with it. If you spend some time playing around you might notice some of the most important facets of this process and why is the world so enamoured by this new tech. Will come back to this later in the post; for now back to tokenisation. Now in the process lets assume, you agree to tokenise a Visa Card with Amazon.in. Amazon will request for the token with the card information that you entered on the website. From now on Amazon will only store the last 4 digits of teh card to help you identify in case of multiple tokens and the Token itself. In short, merchants will no longer store your card details and it will only be available with the issuing bank. The issuing bank will be able to match the token coming in from a merchant with the token they have on file and if both match, the transaction goes through..Simple!

Now coming back to the features of this Token and what makes it so secure:
- You can generate token from the card details but you can’t get back the card details from the token; isn’t that fantastic!!
- A very small change in the input makes a significant change in the token, thereby making it very easy to identify tampering during transmission.
- Irrespective of the input data, teh output in SHA-256 is always 256 bits long, equivalent to 32 bytes, or 64 bytes in an hexadecimal string format.
On the first feature, you might ask- well what if someone cracks it. So, hashing is not an encryption hence you can’t decrypt it. It is a simple one way process (hashing is ‘not injective’ is you want to get technical). Even then, let’s say you just love probability so much that you do need a number. So this is how it goes- assuming the output has only nos. and lower case alphabets and you could do a million tries every second, then how long it would take someone-

36 character in set
64 number of characters
1,000,000 attempts/second
~315,36,000 seconds/year

((36^64)/100000000)/31536000= 12,700,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000 years.

So let’s just agree that it’s pretty secure. Hope this answers some of your questions, feel free to ask if you have more- we will try to find the answers together.
October 9, 2022