Current exchange rate policy – Who is the winner?

No gas, no diesel, no electricity, no milk-powder, no vehicles, no spare parts, no raw materials and the list goes on and on. Everywhere you see people on the road screaming and cursing the government to resolve these issues. The reason being no dollars.

On the other hand, the migrant workers are adamant that until they get a good exchange rate from banks, they would continue to use the Hawala system to send their money. Further, they say that it is now their turn to teach a lesson to the government for discarding and insulting them during the height of the Covid time. So, their dollars will not come to the banking systemwhich will result in their family members standing in more and more queues at home. 

The fundamental issue here is the maintenance of an unrealistic foreign exchange rate by the Central Bank of Sri Lanka (CBSL). If the economy nor the people of the country are benefiting from this much criticised exchange rate policy, then why should itbe stubbornly maintained by the authorities?

Government’s main argument is that the floating of the currency will take the exchange rate to Rs. 250-260 levels and that will send the pricesof essential goods skyrocketing. On the face of it, it seems a reasonable argument but is it logical when the very same policy making a severe foreign exchange (FX) shortage in the country? When you do not have enough FX to buy those essentials, naturally the prices will go up due to the scarcity of goods. Now you have a double-crisis situation; no dollars, prices are skyrocketing. Two wrongs do not make one right.
Priorities mixed up or the interest is something else?

Every crisis brings misery to many and opportunities to a few. We all know who suffers the most but it will be interesting to find out who are these few lucky ones benefiting from this crisis.
Worker remittances

It is a fact that migrant workers’ contribution to Sri Lanka’s Balance of Payment is significant andtheir earnings are without any financial cost to the country. Unlike the exporters, they do not use local resources to earn their dollars nor receive any special benefits like duty free cars. It is a net income for the country; hence they believe that their voice should be heard.
Sri Lanka have been receiving approximately US$ 6-7 billion annually from the migrant workers and all these monies were received through the formal channels like banks, Western Union, Moneygram, etc. 

Sri Lankan banks are competing aggressively with each other to increase their share of the remittances to finance their trade business and other foreign currency (FCY) needs. These competing banks have invested heavily on the remittance business by developing IT infrastructure and installing representatives in foreign countries to canvass remittances for the bank.
The remittances come in two forms to a country. One is for immediate conversion to Sri Lanka Rupees and the other being in the form of deposits to foreign currency accounts maintained with local banks. Majority of the Sri Lankans employed abroad are low-income earners and they require their foreign earnings to be converted to Sri Lankan rupees (LKR) meet the living expenses of their families at home.  

They are not a segment that maintains FCY accounts with banks. They look forhigher exchangerates to convert their hard-earned money.On the other hand, the foreign currency accounts are generally held by the higher income earnersand they are the minority amongst the Sri Lankan expatriate workers.

Their remittances are relatively large ticket transactions and they look for better interest rates to send their monies. Exchange rate is not at all a concern to them unless and until they need to convert their deposits to LKR.

Unlike the remittances for immediate conversion to LKR, these deposits may stay in the country or go out to another country depending on the depositors’ requirements.
However, both these categories of worker remittances constitute an importantcomponent in the Balance of Payments (BoP) accounts in Sri Lanka. 

As per the Central Bank’s (CBSL) directive, the payment of 1-2 percent p.a. more than the banks’ usual FCY deposit rates for 6 months and 12 months is somewhat compensating the depositor category but the large number of remitters who need conversion of the monies to LKR feel that the fixed US$ exchange rate is a cheat and they could get better rates from operators outside the formal financial system.

In a political discussion on a TV channel, one said that the country has lost about US$ 2 billion of migrant workers remittances in 2021 compared with the remittances in 2020. If one is to make an educated guess of the amount sent through informal channels, then it could be in the range of 50-60 percent of the total amount which works out to US$ 1-1.2 billion during the year 2021. The balance 40-50 percent may have been held back by them to remit at a future date.

This could be a fair assumption as the importers too claim that though thebanks have no dollars, there are enough dollars in the black market priced at LKR 250-260 per US$.
Hawala business

Hawala is an informal money transfer system whichis used to transfer money between two parties, mainly in two different countries, without the actual movement of cash. Another term used for this type of money transfers is the “Undial” system. 

It is also termed as the “Underground Banking System”. The word “Underground” explains the nature of the businessand the type of operatives engaged in the Hawala system.   
Hawala is not a deposit taking business. It is only a cash business to take instant ownership of the foreign currency.  
Hawala system had originated in India and is in existence since 8th century. This system had initially facilitated the Arab traders who have operated alongside the Silk route to protect their monies from theft.

Though it was established for a good reason, it is a now an illegal operation in most countries as it is considered a mechanism for money laundering and terrorist financing. Hawala business becomes a choice for people when the legal financial institutions (banking, exchange houses, etc) are unable to meet the remitters expectations in terms of benefits and convenience.

Below is an example of how the Hawala business operates:
If “A” in the “X” country wants to send US$ 100 to his family member in Sri Lanka, he goes to a Hawala trader (known as a Hawaladar) in the “X” country and gives him US$ 100 requesting him to arrange the equivalent of LKR to a relation in Sri Lanka. The rate for conversion of US$ to LKR is agreed between the “A” and Hawaladar in the “X” country and the details of the relation in Sri Lanka is also provided by the “A”to him.

Once the above process is complete, the Hawaladar in “X” country will contact his agent in Sri Lanka and request him to deliver the agreed amount of Sri Lankan Rupees (LKR)to the person in Sri Lanka identified by the “A”.

The agent in Sri Lanka will deliver the LKR to the relation in Sri Lanka as instructed by the Hawaldar.

This is a business carried out purely on trust basis between the parties in Sri Lanka and the Hawaldar in the “X” country.As far as the A is concerned, once the transaction is complete, he has achieved what he wanted. 

Missing dollars
The problem lies here. If the above transaction was done through a formal channel like a bank or an exchange house, the remitter’s US$ would come to a Sri Lankan bank and that bank would have converted it at their buying rateand paid the LKR to the Sri Lankan party. 

On the contrary, the US$  handed over to the Hawaldar would remain in that country and that money would never come to Sri Lanka. 

Now comes the million-dollar question; If no foreign currency comes in, then from where the agent in Sri Lanka gets LKR to pay to local parties?
The other question is who will own the money retained overseas? 
If the local banking system has lost 50-60 percednt of the US$ 2 billion to the Hawala business, that means the Hawala operators have disbursed approximately Rs. 250 – 300 billion (US$ 1-1.2 billion @ Rs. 250) to the local parties who are the beneficiaries of the money sent by the migrant workers. 

Local agents are generally funded by the people who have money earned through illegal activities.They always pay rates higher than the bank rates because every time a transaction is done, they purchase precious foreign exchange overseas with their ill-gotten Sri Lankan rupees.  

The FCY collected by the Hawaldars are retained overseas for the use of thelocal parties who funded the LKR transactions. These monies will be utilized by them to purchase assets or invest in various projects in foreign countries.

It is asmart way of amassing wealth outside the country by the corrupt using their illegalmoney in Sri Lanka.

Where there is no strong local financier, Hawaldars may send drugs to local agents in order to generate cash to fund the local payments.

Whatever the method that is used to generate local funds, Hawala business deprives the country of its valuable foreign exchange and contributes to criminal activitieslike money laundering, drug peddling,terrorist financing, etc.

Regardless of the remitter’s intent, knowingly or unknowingly, they are helping a bunch of crooks to bring more misery to the people of this country. 
This is akin to an implementation of a policy to support Pyramid schemes in the country. 

Policy blunder
It is now proved that the controlled exchange rate policy has discouraged the people to remit their hard-earned monies through the formal channels.The amount of FX that has been lost due to this insane policy is huge and that money could have been used to pay a major portion of country’s fuel bill.

If the country and its people are the losers in thiscontroversialrate policy, then definitely there should be winners as well. 

No doubt, the winners are the illegal Hawala businesses and its operators who have taken awaya sizable amount of US$ remittances from the legitimate financial system of the country.
It is surprising that the authorities have not realised this simple fact and still trying to maintain this failed exchange rate policy which has only benefited an illegal business. The authorities have issued several statements warning people not to utilize Hawala system to send or receive money but to-date, no report of any action taken against a Hawala agent or a network operating in Sri Lanka. Further, it is hilarious that a country which is begging Dollars from its neighbours is trying to maintain a fixed exchange rate policy which is adopted by someoil (and dollar) rich countries in the Middle East.

What should be done now? Intimidate the migrant workers by issuing strong statements or offer various loan schemes to send money through the formal channels, or to withdraw the current disastrous exchange rate policy that discourages the remittances through formal channels?

If the authorities continue to maintain the current controlled exchange rate policy andwhatever the arguments they put forward to justify the policy, it will only lead to further dwindling of worker remittances to the country and would help an illegal business to flourish.
Should we not act fast, before the winner takes it all?
(The writer is a retired senior banker)