II Introduction

Mohammed El Qorchi, Samuel Maimbo, and John Wilson
Published Date:
August 2003
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This study responds to the growing interest in the operational characteristics and economic and regulatory implications of IFT systems. It contributes to the limited analytical literature on financial remittance mechanisms operating outside the conventional banking sector. It draws on the experience of a select sample of countries known to rely on the informal hawala system and reports on the (1) historical context within which the hawala has evolved; (2) operational features that make the system’s use attractive for both legitimate and illegitimate purposes; (3) fiscal and monetary implications for hawala-remitting and hawala-recipient countries; and (4) regulatory and supervisory responses. Although quantification of hawala remittances is subject to great uncertainty, this study also attempts to show, through a simulation, how this system can be quantified in 15 countries that are likely recipients of informal remittances.

This paper is primarily based on the results of fact-finding visits to six countries. During these visits research team members conducted discussions with government authorities, academics, and private sector representatives, such as bankers and money changers, who have operational knowledge of hawala and similar systems. The team members visited Germany (Bonn), Pakistan (Karachi), the Philippines (Manila), Saudi Arabia (Riyadh), the United Arab Emirates (Abu Dhabi and Dubai), and the United Kingdom (London), and on return they continued their discussions with the relevant parties. Later, some team members visited Afghanistan (Kabul, Herat, and Jalalabad) and participated in an International Conference on Hawala in Abu Dhabi in May 2002 and other seminars.5

This paper does not provide a comprehensive study of the different types of informal funds transfer systems operating in the world today. Rather, by focusing on one—the informal hawala system—it provides an analytical framework for understanding the incentives for using nonbanking channels to transfer funds and the possible economic, legal, and regulatory challenges presented by these channels. The paper describes the system’s modern uses, settlement procedures, and legal and regulatory aspects. The description is based on its underlying features, which are similar to those of the other informal remittance systems—speed, lower transaction costs, cultural convenience, versatility, and the potential for anonymity.

Informal hawala transactions cannot be reliably quantified or their global volume accurately estimated. The required documentation and statistics for this kind of analysis are neither readily available nor accessible. The model used in this paper is therefore a simulation, not an “estimation,” model. It merely identifies the black market premium on exchange rates as a key factor in the economic incentives for remitters to use the hawala channel rather than a sanctioned, official channel for purposes of sending funds to the home country. Other factors, such as cultural norms and costs of the official channel, play a key role, but they cannot be easily quantified for simulation.

The results of the model presented in this paper should be analyzed carefully because they just illustrate a simulation model based on selected parameters and assumptions. Therefore, there remains tremendous scope for further research in the area of (1) the developmental importance of migrant worker remittances for developing countries, (2) the merits of the different models of regulation, (3) the appropriate model and variables for quantifying the volume of informal hawala transactions, and so on.

This paper is divided into seven sections. Section III defines key terms and outlines the key operational characteristics of informal hawala transactions for analytical purposes. Section IV discusses the historical context within which IFT systems have evolved and describes their modern-day legitimate and illegitimate uses. The economic analysis in Section V commences with a review of the settlement process used by hawala operators. This often-neglected aspect of recent studies of informal financial systems has significant implications for making economic policy and establishing effective regulatory and supervisory practices, which are discussed in Section VI. The conclusions are presented in Section VII.

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