Hawala Transactions

Chapter V

An important objective of exchange regulation is to prevent hawala transactions.

We may briefly consider ‘hawala’ from two angles.

(i) legal; and

(ii) Economic.

Legal restrictions on hawala.

5.1 Under FERA, sections 8 & 9 provided detailed legal prohibitions on hawala market. Section 8 provided the restrictions on transactions in foreign currency as well as conversions between Indian currency & foreign currency, Section 9 covered rupee transactions. Section 9(1)(f) provided specific prohibition on hawala. Rest of the clauses in section 9 were direct / indirect support to the main target of preventing flight of capital outwards through any channel.

5.2 FEMA bill 1998 had made a précis of all provisions of FERA. In the process, section 9(1)(f) was dropped.

5.3 FEMA 1999 has reintroduced the concept through section 3. Section 3 (a) of FEMA covers S.8 of FERA. Section 3(b) to 3(d) of FEMA cover S.9 of FERA.

5.4 Sections 9(1)(f)(FERA) and 3(d)(FEMA) are difficult to interpret and understand. Following example will explain one of the several forms of hawala transactions and make it easier to understand S.9(i)(f).

5.4.1 Illustration

Mr. L
NRI employed in London.

HDL

Hawala dealer operating in London.

Mr. F
Father of Mr. L Staying in India.

HC
British Hawala dealer’s counter part in India.

5.4.2 Explanations

Assume that Mr. F is an Indian resident, settled in India. His son Mr. L has gone to London for employment. He has become a non-resident of India (NRI). Mr. L wants to send a regular monthly remittance to his father in India. If he sends pounds 100 through the banking channel, his father will get Rs. 7,000 in India. If he sends pounds 100 through the hawala channel, his father will get Rs. 7,700. Hawala premium is assumed @ 10%.

What transactions actually take place !

Hawala dealers do not send money to India in gunny bags.

Mr. L. will pay pounds 100 to Mr. HDL in London. As a compensatory payment, on the instructions of Mr. HDL; Mr. HC in India will pay Rs. 7,700 to Mr. F.

The clearing between HDL & HC is compensated by transactions with the smugglers.

These facts reduced to legal language would mean -

(i) HC, an Indian resident, makes a payment of Indian rupee, within India, to Mr. F, an Indian resident.

(ii) in compensation of ;

(iii) Payment in U.K., by Mr. L a British resident; of British pounds to Mr. HDL another British resident.

Transactions under clauses (i) and (iii) above are independently, perfectly legal transactions. No one can prohibit them.

The fact that they are compensatory payments makes them illegal.

This is the essence of S.9 (i)(f) of FERA.

Same purpose is achieved by S.3 (d) under FEMA - but by a different language.

5.5 Hawala Market - Economic aspects

Note :

In this chapter, we are dealing with some fundamental issues in FX economics. These are touched upon very briefly. Some issues are simply listed & then not discussed at all.

The present commentary is a brief and quick commentary. In the next commentary we will strive to deal with all these issues elaborately.

5.5.1 Economic Ground Reality

Despite the strictest legal provisions, hawalas have actually been most routine transactions. Several people have transferred capital in or outside India through hawala at their sweet will. For them, rupee has always been "fully convertible".

This aspect of FERA is a classical example of the theory that "where strong commercial interests tempt; no amount of legal restrictions will be successful".

Since rupee keeps continuously depreciating, wealthy people seeking to protect the value of their wealth have a strong economic interest in transferring their wealth outside India.

Since there is almost always, in India, a premium on foreign exchange, some NRIs may have a strong interest in sending their remittances to India through the hawala route; rather than through the banking channel.

5.5.2 How can this hawala market be eliminated? There are two ways.

(i) Abolition of import controls, especially gold import; and

(ii) Stability of Indian rupee in FX market.

5.5.3 Gold control legislation was the strongest benefactor of the smugglers. They had a vested interest in continuation of gold control & ban on import of gold.

Gold smuggling into India; and hawala market for NRI remittances into India were complementary to each other.

5.5.4 Government of India considerably liberalised import controls & placed several items on OGL (open General licence to import). Customs duties on most import items have been drastically reduced. Gold control Act has been abolished and gold import has been liberalised. All these matters have dealt a severe blow to smuggling and hence a second blow to the hawala market. The hawala premiums have come down.

As India continues to liberalise more, smuggling and hawala will keep reducing.

The next necessary step is to remove all restrictions on import of gold, and on payment for imported gold.

5.5.5 So far, it has been the policy of government of India and RBI to continuously devalue the rupee.

IMF and USA have always "advised" and sometimes "pressurised" India into devaluing the currency.

In the early nineties, it was the declared policy of RBI that if, in the open market, rupee depreciates, RBI would not intervene. However, if rupee appreciates, RBI would intervene, sell FX and stabilise rupee.

Exporters' lobby has always wanted to increase exports by undercutting prices by asking for cheaper rupee. They have always pressurised the Government into devaluing / depreciating the rupee.

This has ensured that wealthy Indians & NRIs have continued vested interest in the hawala market.

5.5.6 Depreciation of Indian rupee means higher profits for the exporters.

However, no one realised that it means huge losses to -

(i) Indians at large;

(ii) Indian Government; and

(iii) Foreign investors.

Consider the following:

Indian rupee rates Vs. U.S. dollar were as under.

Year 1981	Rs. 8 per dollar.

Year 1991	Rs. 18 per dollar.

Year 1999	Rs. 43 per dollar.

(All figures are rounded off)

India's total FX debt was as under -

Year 1991	U.S. $ 100 billions.

Year 1999	U.S. $ 100 billions.

For the sake of Simplicity in calculations, the figures are approximated for both the years. The differences are minor.

This FX debt converted into Indian rupee would mean that -

In the year 1991 it was	Rs. 1800 billions.

In the year 1999 it is	Rs. 4300 billions.


A net loss to Government of India & hence to ALL of us-	Rs. 2,500 billions

This is a very substantial loss ignored by everyone.

Compare this loss with the fiscal deficit for the Government of India for the financial year 1998-99 - which was around Rs. 910 billions. And this has been the highest deficit in India’s history.

Summary : Devaluation / depreciation of rupee is bleeding Indian economy AND encouraging hawala market.

5.5.7 Fortunately for India, it seems that the Government & RBI have realised this fact around year 1997. Attracting foreign investments & preventing the haemorrhage of Indian economy is more important than providing cheaper rupee to the export lobby.

5.5.8 If we ever reach a position that the Indian rupee stops depreciating & in fact appreciates by even a nominal 2% per year; then the whole hawala market will be wiped out.

However, this cannot be achieved by GOI & RBI alone. Entire Indian business community has to understand this and make strategic & strong efforts for achieving a very difficult & highly rewarding target.

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