FOREIGN EXCHANGE

But why do we need foreign exchange ?

Every nation has its own national currency or monetary unit - India has the rupee, USA has the dollar, Japan has the Yen, which is used for making and receiving payments within its own borders. But each currency is legal tender only in its own country. Foreign currencies are usually needed for payments across national borders. Let us see an e

1. Consider an Indian company - ABC which exports garments to the USA. ABC needs to pay for its costs on salaries, equipment, raw material etc. in Indian Rupees

2. The American Buyer - Balmart - sells the imported goods and realizes US Dollars from his customers

3. For Balmart to pay ABC it is necessary to exchange his Dollars into Indian Rupees

Thus, in any nation whose residents conduct business abroad or engage in financial transactions with persons in other countries, there must be a mechanism for providing access to foreign currencies, so that payments can be made in a form acceptable to citizens of other countries.

In other words, there is need for "foreign exchange" transactions - exchanges of one currency for another.

Structure

Foreign exchange transactions can have huge impact on the domestic economy. For effective implementation of government policy (eg. Monitory policy, exim policy etc.) all foreign exchange transactions are regulated as per the Foreign Exchange Management Act (FEMA).

The purpose of FEMA is to ensure conservation and proper utilization of forex.

Apart from the control on the transactions, further control is ensured through controlling the parties who can deal in forex. Let us examine the entities who are allowed to deal in foreign exchange transactions