Before there was forex, there was Hawala, an informal currency exchange that has been in existence since the days of the Silk Road when traders and financiers have been using this system to barter and trade with other merchants from other countries. During that time the world’s main economic trade was along this legendary route. This system evolved into what is known as Hawala, which means “transfer” or “wire” in Arabic banking jargon. This type of system is widely used in Middle East, Africa and Asia. It was major mechanism that expanded trading between Europe and Asia. In time the system matured into legitimate banking system in some Asian countries while in other areas they are still unregulated and until recently scrutinized as an underground for funneling of funds for terrorist activities.
Today, the true Hawala transactions come from migrant workers from Asia (Indian and other Asian countries) who work in the oil-rich Middle Eastern countries such as United Emirates, Saudi Arabia among others and send their money home to their families. Since this system has been unregulated, it has been a fixture for centuries so traditions of its use continue among the people in this region. Why would anyone use this “insecure” system? Trust, timeliness and cost-effectiveness. Going to a bank to make a wire transfer can be time consuming and commissions are excessively high (opening an account and wires take 7-14 business days and commissions can be $30-50 per transaction whereas the Hawala system can be done next business day with an average of 5% commission of the amount transferred). But the biggest obstacles for banks and government-regulated institutions are mistrust among individuals.
The Hawala system has a network of contacts/connections that these individuals rely on to do business. Friends and family who have used this network before would recommend their friends to the same individuals in the Hawala network. This is a very common attitude in Asia and underdeveloped countries. Another reason why the Hawala system is popular is because many developing governments forbid moving of funds in or out of the country. The Hawala system goes around this system without really violating the law. There are equivalents that exists outside of India with similar systems. They go by the names such as Fei-Ch’ien, Huikuan, Chop, Chit oder Flying Money in China, Padala (Philippines), Hundi (India), Hui Kuan (Hong Kong), and Phei Kwan (Thailand).
Before this accusation come under fire, the majority of the funds being transferred were done by migrants sending their money to their home countries to support families left behind, similar to wire transfers through anonymity in cash serviced by Western Union. Hawala is not part of the forex system we all know today.
Therefore the rates do not match that of the legal quotes of forex, so the true volume of forex is underestimated and not accounted for. There are no official organizations that track and monitor these activities. This decentralized system makes it impossible to make an accurate estimate of the size of the transactions day to day whereas in an exchange, stocks, bonds and futures are centralized and monitored by an entity making stocks more transparent.
There have been concerns that these black markets comprise a big portion of the forex market in general. Even though it’s difficult to speculate, the most liquid currencies are not in these minor countries but in the currencies of the economic powers such as the US Dollar, the British Pound Sterling, the Euro, Japanese Yen and the Canadian Dollar. These major currencies make up the G-8 (Canada, France, Germany, Italy, Japan, UK, and US, Russia is an honorary and not because of its economic power).
These forex transactions results from economic trades are estimated to $1.9 trillion per day while retail traders make up a very small part of this market. As explained, the forex market is not merely migrants sending their money homes or tourists exchange currencies to carry out their vacations abroad.
According to David Krutz from the Financial Times website (Published: October 9 2006 20:48) “The foreign exchange market will have doubled in size in just three years next year, thanks to increased participation by fund managers and pension funds. FX volumes, which rose from $1.770 trillion in 2004 to $2.0 trillion last year, were set to rise to $2.6 trillion this year and $3.6 trillion next year, as foreign exchange became accepted as an asset class in its own right according to TowerGroup.
Although Hawala and others remain part of the landscape, it cannot replace the forex for what it is today. In addition, as more countries modernize and societies with technology advancing at a rapid rate, these systems will provide less and less service to the migrants. But the biggest threat will be the anti-terrorist doctrine being implemented by the West, pressuring governments controlling these territories where these systems thrive to regulate their activities.
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