EXCHANGE CONTROL IN INDIA

Regulation at government level of money-flows in and out of a country. Exchange

controls are usually maintained in the belief that they help to protect a country's currency
and its foreign-exchange reserves. The controls may restrict investments by residents
overseas and non-residents' investments and participation in the local market. Big
international currency movements tend not to obey such controls. Sometimes individuals
are limited in the amount of currency they may take abroad for holidays. The UK
abandoned exchange controls in 1979. In Australia, exchange controls which had
persisted in one form or another since 1939 were virtually abolished in December 1983
when the $A was floated.

Types of controls that governments put in place to ban or restrict the amount of foreign
currency or local currency that is allowed to be traded or purchased. Common exchange
controls include banning the use of foreign currency and restricting the amount of
domestic currency that can be exchanged within the country.

Typically, countries that employ exchange controls are those with weaker economies.
These controls allow countries a greater degree of economic stability by limiting the
amount of exchange rate volatility due to currency inflows/outflows.
The International Monetary Fund has a provision called article 14, which only allows
countries with transitional economies to employ foreign exchange controls.

Objectives of exchange control in India

(i) Protection of Balance of Payments. One of the important objectives of exchange

control is protection of balance of payments. When the balance of payments deficit of a
nation becomes large an chronic an its automatic correction is not possible, certain active
measures have to be adopted. In normal times the adverse balance of payments caused
value of country's currency to fall and helps in restoring equilibrium. But there are
conditions under which a fall in the exchange value and currency has no effect on imports
and exports. Under such situations, measures are adopted to stabilize the exchange value
of currency at level higher than would b possible under free conditions.

(ii) Reducing Burden of Foreign Debt. The exchange value of a currency is sometimes
fixed and maintained at higher level to lighten the burden of foreign debts contracted in
terms of foreign currencies. By overvaluing currency, the foreign exchange earnings of
the country from exports are increased in cases where the demand is inelastic and the
prices in therms of the home currency to be paid for essential imports get reduced.

(iii) Raising the Level of Prices. Sometimes the currency is undervalued to help in
raising certain conditions in thought desirable to stabilize the exchange rate at what can
be called the equilibrium level, i.e., the level determined by market forces. Short-term
fluctuations are eliminated by deliberate action of authorities.

(iv) Elimination of Short-term Fluctuations in Exchange Rate. Exchange regulation in

certain conditions is thought desirable to stabilize the exchange rat at what can be called
the equilibrium level, i.e., the level determined by market forces. Short-term fluctuations
are eliminated by deliberate action of authorities.

(v) Prevention of Export of Capital. When the country suffers from exceptionally
heavy outflow of capital caused by loss of confidence on the part of nationals of the
country or foreigners in the economy of the country or its currency, certain exchange
controls over remittances from and the country are necessary.

(vi) Economic Planning. Exchange control is an important part of economic policy in

any planned economy. Planning involves a very careful use of foreign exchange
resources of the country so that only those goods are imported which are essential for the
implementation of the plans. Exchange controls are resorted to regular the exports and
imports in the light of plans.

(vii) Encouragement of Certain Economic Activities. One of the objectives of

exchange regulations is to encourage certain economic activities in the country. Certain
industries can be developed by reducing the imports of commodities produced by them
and restricting the availability of foreign exchange to pay for them. For example tourist
traffic in the country is encouraged by making available to the tourists home currency at
favourable rates.

Different methods are adopted by Governments to ensure that suitable foreign exchange
controls imposed and operated for the achievement of the desired objectives. Foreign
exchange control was introduced in India in 1939 at the outbreak of World War II-as a
measure under the Defence of India Rules. The primary objective of this control was to
conserve foreign exchange resources of the country for obtaining necessary raw
materials.

It was taken as a temporary device to meet the situation created by war. But since then
the country has almost throughout faced the problem of foreign exchange deficit. The
authorities, therefore, had to continue with the foreign exchange control. In the year 1947
the Foreign Exchange Regulation Act was passed which has been replaced by Foreign
Exchange Regulation Act 1973. (FERA).

The exchange regulation and control has acquired a special meaning and significance in
the context of planning of India. The imports of capital goods, components and raw
materials for the developmental programmes of the country have necessitated large
borrowings from other countries to finance them. The growing demand for imports and
the servicing of foreign debt have made payment restrictions increasingly important. It is
because of this that some system of exchange control to keep our external finance is
sound condition is necessary. Control and regulation of old transactions involving foreign
exchange, movements of capital from and to the country and exports and imports of
currency, bullion, and precious stones have come to acquire a special importance in the
economy of the country.

There is an elaborate machinery to effectively operate the exchange control and

regulation in the country. The machinery comprises the authorities empowered to
regulate foreign exchange transactions and to enforce the provisions of Foreign Exchange
Regulation Act and to deal with any infringements of the provisions. The dealers
authorized to deal in foreign exchange under the control system are also important parts
of the machinery. Exchange control in India is administered by the Reserve Bank of India
in accordance with the general policy laid down by the Union Government in
consultation with the Reserve Bank. Authorized dealers are expected to purchase and sell
foreign currencies in accordance with the Regulations.