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HOW DOES HAWALA WORK?

HOW DOES HAWALA WORK?

Discuss HOW DOES HAWALA WORK? within the Financial Management ( FM ) forums, part of the Resolve Your Query - Get Help and discuss Projects category; HOW DOES HAWALA WORK? Hawala works by transferring money without actually moving it. In fact 'money transfer without money movement' ...

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HOW DOES HAWALA WORK?
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Sunanda K. Chavan
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HOW DOES HAWALA WORK? - October 11th, 2010

HOW DOES HAWALA WORK?

Hawala works by transferring money without actually moving it. In fact 'money transfer without money movement' is a definition of hawala that was used, successfully, in a hawala money laundering case.

An effective way to understand hawala is by examining a single hawala transfer. In this scenario, Abdul is a Pakistani living in New York and driving a taxi. He entered the country on a tourist visa, which has long since expired. From his job as a taxi driver, he has saved $5,000 that he wants to send to his brother, Mohammad, who is living in Karachi

Even though Abdul is familiar with the hawala system, his first stop is a major bank. At the bank, he learns several things:

The bank would prefer that he open an account before doing business with them;
The bank will sell him Pakistani rupees (Rs) at the official rate of 31 to the dollar; and
The bank will charge $25 to issue a bank draft.

This will allow Abdul to send Mohammad Rs 154,225. Delivery would be extra; an overnight courier service (surface mail is not always that reliable, especially if it contains something valuable) can cost as much as $40 to Pakistan and take as much as a week to arrive. Abdul believes he can get a better deal through hawala, and talks to Iqbal, a fellow taxi driver who is also a part-time Hawaladars.

Iqbal offers Abdul the following terms:
A 5% 'commission' for handling the transaction;
35, instead of 31, rupees for a dollar; and
Delivery is included.

This arrangement will allow Abdul to send Mohammad Rs 166,250. As we will see, the delivery associated with a hawala transaction is faster and more reliable than in bank transactions. He is about to make arrangements to do business with Iqbal when he sees the following advertisement in a local 'Indo-Pak' newspaper (such advertisements are very common) :

MUSIC BAZAAR AND TRAVEL SERVICES AGENCY

• Cheap tickets to India, Pakistan, Bangladesh, Sri Lanka, Dubai
• Great rupee deals (service to India and Pakistan)
• Large movie rental selection
• Video conversions
• Latest Bollywood hits on CD and cassette
• Prepaid international calling cards
• Pager and cellular activations (trade-ins welcome)
• Conveniently located in Jackson Heights
(718) 555-1111 ask for Nizam or Yasmeen
(718) 555-2222 [fax]
(718) 555-2121 [pager]


Abdul calls the number, and speaks with Yasmeen. She offers him the following deal:
A fee of 1 rupee for each dollar transferred;
37 rupees for a dollar; and
Delivery is included.
Under these terms, Abdul can send Mohammad Rs 180,000. He decides to do business with Yasmeen.

The hawala transaction proceeds as follows:
Abdul gives the $5,000 to Yasmeen;
Yasmeen contacts Ghulam in Karachi, and gives him the details;
Ghulam arranges to have Rs 180,000 delivered to Mohammad.

Even though this is a simple example, it contains the elements of a hawala transaction. First, there is trust between Abdul and Yasmeen. Yasmeen did not give him a receipt, and her recordkeeping, such as it may be, is designed to keep track of how much money she owes Ghulam, instead of recording individual remittances she has made.

There are several possible relationships she can have with Ghulam (these will be discussed later); in any case she trusts him to make the payment to Mohammad. This delivery almost always takes place within a day of the initial payment (a consideration here is time differences), arid the payment is almost always made in person. Finally, in some scenarios, he trusts her to repay him the equivalent of either $5,000 or Rs 180,000.

Connections are of equal importance. Yasmeen has to be connected to Ghulam in Karachi to arrange this payment. As her advertisement indicates, she also offers service to India, so she either knows, or has access to, someone who can arrange payment there. Hawala networks tend to be fairly loose, communication usually takes place by phone or fax (but email is becoming more and more common).

To complete this discussion, there are two related issues to be addressed. The first is the relationship between Yasmeen and Ghulam, and the second is how Ghulam 'recovers' the money that he paid to Mohammad on Abdul's behalf.

As was stated above, hawala works through connections. These connections allow for the establishment of a network for conducting the hawala transactions. In this transaction, Yasmeen and Ghulam are part of the same network. There are several possible ways in which this network could have been constructed.

In brief, hawala 'works' - or competes effectively with other remittance mechanisms - because of its cost effectiveness. A secondary consideration is that hawala is often related or even integral to existing business dealings.

One reason for hawala's cost effectiveness is low overhead. A business like Yasmeen's 'Music Bazaar and Travel Services Agency' operates out of a rented storefront as opposed to a bank building (which has expensive vaults and alarm systems), and may even share space with another business (e.g. a sari or gold shop), further reducing rental expenses.

Yasmeen's employees are paid less than bank officers, and they probably do not have insurance or access to a retirement plan. Some hawaladers operate with even less, using a table in a tea shop as an office and having little more than a cellular phone and notebook as overhead expenses.

The second reason is exchange rate speculation. In India, for example, the Foreign Exchange Regulation Act (FERA), states that except with the previous general or special percussion of the Reserve Bank, no person, whether an authorized dealer or a moneychanger or otherwise, shall enter into any transaction which provides for the conversion of Indian currency into foreign currency or foreign currency into Indian currency at rates of exchange other than the rates for time being authorized by the Reserve Bank'. Since hawala dealers do not, in many if not most cases comply with such regulations, their transactions may be illegal (a more detailed discussion of the legality of hawala follows).

Depending on one's perspective (and possibly jurisdiction), hawaladars are either engaging in foreign exchange speculation or black market currency dealing. In any case, they exploit naturally occurring fluctuations in the demand for different currencies. This enables them to turn a profit from hawala transactions (which, in addition to being remittances, almost always have a foreign exchange component), and they are also able to offer their customers rates that are better than those offered by banks (most banks will only transact at authorized rates of exchange).

The rates cited in this paper (35 Rs/$ for Iqbal, 37 Rs/$ for Yasmeen and the official rate of 31 Rs/$ as cited by the bank) reflect a difference of 12-19% over the official rate. These may actually be a little high. A U.S. hawaladar) involved in the laundering of drug proceeds as well as legitimate remittances told one of the authors of this paper that he could still make a profit on an exchange rate margin as small as 2%, making him much more competitive than a bank.

In addition, since many hawaladars are also involved in businesses where money transfers are necessary, providing remittance services fits well into these businesses' existing activities. Monies from remittances and business transfers are processed through the same bank accounts, and few, if any, additional operational costs are incurred by a business that offers hawala remittance services.

Finally, an important component of hawala is trust. Hawala dealers are almost always honest in their dealings with customers and fellow hawaladars. Breaches of trust are extremely rare. It is worth noting that one of the meanings attached to the word hawala is 'trust'!
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