Legal challenge to Demonetization - Supreme Court Constitution Bench to decide

Recently we had updated our readers with the decision of the Delhi High Court holding that restrictions on cash-withdrawal under demonetization policy were not illegal. A challenge to this decision and other legal points were before the Supreme Court last week. Opining that these were important constitutional issues and were required to be addressed by a Constitution Bench of the Supreme Court, these challenges have been referred to such bench.

It is noteworthy that Article 145 of the Constitution of India postulates that the "minimum number of Judges who are to sit for the purpose of deciding any case involving a substantial question of law as to the interpretation of this Constitution" shall be five. Accordingly such questions cannot be decided by benches of lesser judge composition. In its order in Vivek Narayan Sharma v. Union of India [Writ Petition (Civil) No. 906/2016, order dated 16.12.2016], a bench of three-judges of the Supreme Court has formulated nine questions which in its view are such substantial questions to be decided by the constitution bench. These are as under;

(i) Whether the notification dated 8th November 2016 is ultra vires Section 26(2) and Sections 7,17,23,24,29 and 42 of the Reserve Bank of India Act, 1934;

(ii) Does the notification contravene the provisions of Article 300(A) of the Constitution;

(iii) Assuming that the notification has been validly issued under the Reserve Bank of India Act, 1934 whether it is ultra vires Articles 14 and 19 of the Constitution;

(iv) Whether the limit on withdrawal of cash from the funds deposited in bank accounts has no basis in law and violates Articles 14,19 and 21;

(v) Whether the implementation of the impugned notification(s) suffers from procedural and/or substantive unreasonableness and thereby violates Articles 14 and 19 and, if so, to what effect?

(vi) In the event that Section 26(2) is held to permit demonetization, does it suffer from excessive delegation of legislative power thereby rendering it ultra vires the Constitution;

(vii) What is the scope of judicial review in matters relating to fiscal and economic policy of the Government; 

(viii) Whether a petition by a political party on the issues raised is maintainable under Article 32; and

(ix) Whether District Co-operative Banks have been discriminated against by excluding them from accepting deposits and exchanging demonetized notes.

These questions have been referred as in view of these three judges these questions are of "general public importance" and there are "far reaching implications which the answers to the questions may have".

Further, noting that the interim order prayed by the parties i.e. to suspend the operation of the demonetization notifications, would amount to interfering with the executive policy of the Government, the Court declined to issue any interim directions. The Court, to arrive at this conclusion, duly noted the submission of the Government that "for the nature of decision taken by the Government - to unearth the black money or unaccounted money and to dry up the terror fund and defeat the attempt of circulation of large scale counterfeit currency, maintaining complete secrecy of such a decision was imperative."

The Supreme Court confined its observations to "commend to the Authorities to fulfill their commitment made in terms of the stated Notification permitting withdrawal of Rs.24,000/- per account holder of the Bank per week to the extent possible and review that decision periodically and take necessary corrective measures in that behalf."

The outcome of this challenge will be really interesting and can have, beyond the realm of these questions, far reaching implications on the flexibility and powers of the executive government to take action on issues affecting the society at large.

Restriction on cash-withdrawal under demonitizaton policy not illegal : Delhi High Court

By an order passed yesterday in Ashok Sharma v. Union of India [Writ Petition (Civil) No. 11130/2016, order dated 02.12.2016] a Division Bench of the Delhi High Court has dismissed the writ petition challenging the monetary limit imposed by the Central Government on cash withdrawals.

The High Court bench, headed by the Chief Justice, noted the relevant notification and the contentions of the party to opine that the notification and the underlying action were within the policy domain of the executive and could not be re-appreciated by the judiciary.

The findings of the High Court are in the following terms;

"7. Apparently, the restriction imposed under Clause 2(vi) is only with regard to cash withdrawal from a bank account over the counter. There are no restrictions or limits for operating the bank account by non-cash method. This is clear from Clause (vii) which provides that there are no restrictions on the use of any non cash method of operating the account of a person including cheques, demand drafts, credit or debit cards, mobile wallets and electronic fund transfer mechanisms or the like. Therefore, the contention of the petitioner that Clause 2(vi) infringes the right of the account holder to withdraw from his account on demand is factually incorrect and misconceived. Be it noted that it is always open to the account holder to withdraw from his account on demand, but the restriction is only with regard to withdrawal in the form of cash. Even assuming that the restriction so imposed on cash withdrawal from a bank account has resulted in some inconvenience or prejudice to the petitioner, we are unable to hold that the same runs contrary to Section 5(b) of the Banking Regulation Act, 1949. 

8. We also found that the Petitioner’s contention that Clause 2(vi) of the Notification dated 08.11.2016 shall not be made applicable to the bank deposits of the period prior to 08.11.2016, is wholly misconceived. According to us, no such distinction can be drawn between the bank deposits of the period prior to 8.11.2016 and after 8.11.2016 since the whole purpose of the restrictions imposed on cash withdrawal for a specified period i.e., upto 30.12.2016 appears to be to meet the demand of liquid cash in circulation in the light of the ban imposed on the bank notes of the denominations of Rs.500 and Rs.1000 under the Notification dated 8.11.2016. 

9. It may be added that the manner in which the decision to withdraw the bank notes of specified amount w.e.f. 09.11.2016 is to be implemented is a policy decision which is beyond the scope of powers of judicial review. The law is well settled that the Court can only interfere if the policy framed is absolutely capricious or not informed by reasons or totally arbitrary and founded ipse dixit offending the basic requirement of Article 14 of the Constitution of India. It is also a settled principle of law that the Court cannot strike down a policy decision taken by the Government merely because it has been contended that another decision would have been fairer or more scientific or logical or wiser. The wisdom and advisability of the policies are ordinarily not amenable to judicial review unless the policies are contrary to statutory or constitutional provisions or arbitrary or irrational. {Vide: M.P. Oil Extraction v. State of M.P. (1997) 7 SCC 592; Ram Singh Vijay Pal Singh v. State of U.P. (2007) 6 SCC 44; Villianur Iyarkkai Padukappu Maiyam v. Union of India (2009) 7 SCC 561; State of Kerala v. Peoples Union for Civil Liberties (2009) 8 SCC 46 and M.P. v. Narmada Bachao Andolan (2011) 7 SCC 639 } 

10. In this context we may also refer to Census Commr. v. R. Krishnamurthy (2015) 2 SCC 796 wherein it was held by the Supreme Court that the interference with the policy decision and issue of a direction to frame a policy in a particular manner are absolutely different and the courts are not to plunge into policy-making by adding something to the policy or by issuing directions describing the manner in which a statutory Notification could be implemented.

11. Having considered an identical issue arising out of the very same Notification dated 8.11.2016, a Division Bench of this Court to which one of us, (Chief Justice) was a member held in W.P.(C) No.11234/2016 titled as Birender Sangwan vs. Union of India and Ors. as under;

"The law is well settled that on matters affecting policy this Court will not interfere unless the policy is unconstitutional or contrary to statutory provisions or arbitrary or irrational or in abuse of power, since the policy decisions are taken based on expert knowledge and the Courts are normally not equipped to question the correctness of the same. The scope of judicial enquiry is therefore confined to the question whether the decision taken by the Government is against any statutory provision or it violates the fundamental rights of the citizens or is opposed to the provisions of the Constitution of India. [Vide: Parisons Agrotech (P) Ltd. v. Union of India (2015) 9 SCC 657, Manohar Lal Sharma v. Union of India (2013) 6 SCC 616, Union of India v. Dinesh Engg. Corpn. (2001) 8 SCC 491] 

The power of judicial review cannot be extended to determine the correctness of such a policy decision or to find out whether there could be more appropriate or better alternatives. As held in BALCO Employees’ Union Vs. Union of India (2002) 2 SCC 333, it is not within the domain of the Courts to embark upon an enquiry as to whether a particular public policy is wise or whether a better public policy can be evolved."

12. For the aforesaid reasons the writ petition is devoid of merit and the same is accordingly dismissed."

Urgently need to ensure transparently in publicly obtained funds of Political Parties: High Court

In its recent decision in Commissioner of Income Tax v. Indian National Congress [ITA No. 145/2001, decision dated 23.03.2016] a division bench of the Delhi High Court has delineated the need for urgent probity in affairs of political parties. The High Court made certain scathing remarks over the perceived sorry state-of-affairs in so far their non-transparent actions are concerned particularly in the manner in which they deal with contributions from the citizens. The High Court quoted with disdain the observations made by the Supreme Court four decades back on the conduct of political parties to rue that the practices unappreciated all the way back then continue to haunt the society. The Delhi High Court highlighted the need to urgently tackle the issue by quoting the Supreme Court - "The small man’s chance is the essence of Indian democracy and that would be stultified if large contributions from rich and affluent individuals or groups are not divorced from the electoral process."

The High Court was dealing with an income tax appeal filed by Indian National Congress against the decision of a tax tribunal which had found the political party ineligible for tax concession since it failed to maintain proper accounts of the money received as donation. The High Court not only endorsed the decision of the tax tribunal, it also cited (a) the Supreme Court's missive against failure of political parties to account for money; (b) the directions of the Election Commission of India; (c) the concern expressed by the Law Commission of India and (d) the publicly available figures on unknown sources of finance of political parties, to hold and adjudge serious introspection required on the part of the political parties generally in the country. 

The Delhi High Court noted the following to conclude against the political

• Congress had failed to file the tax returns despite clear directions by the Gujarat High Court in an earlier case and that too since the year 1995. [para 11]
• The Supreme Court had declared that Political Parties are not above the law. [Common Cause v. Union of India 1996-222-ITR-260-SC] [para 12]
• Political parties do not carry out charitable activities. Their claim for exemption akin to one extended to charitable trusts is ill-founded. [para 69]
• Receipts of Political Parties by way of voluntary donations are their "income from other sources" [para 80]
• The income tax law grants exemption to a political party on the receipts by way of voluntary donation. However this exemption is subject to filing detailed and certified accounts. The statutory provisions reveal that "it was critical from the point of view of the legislature that political parties are made to disclose what their state of financial affairs is in any given financial year". [para 93]

The High Court even chastised the chartered accountant / auditor for having certified the books of accounts of Congress even though he specifically stated that he did not have all the figures and information for this purpose. On this count the High Court made the following observations;

103. It is also disconcerting to note that the same auditor has issued identical certificates for other AYs for which simultaneously accounts have been finalised. This kind of an auditor’s report, to say the least, leaves much to be desired. It does not comport with the degree of seriousness with which a duly qualified auditor is expected to discharge his statutory obligations. An auditor is discharging both the professional and a statutory duty. He is licensed under the expectation that he will faithfully discharge the above obligations. In the present case, the Court is constrained to note that the auditor’s report submitted before the CIT (A) on 4th November 1997 is woefully short of the requirement of the law.

The High Court concluded by declaring that the "case demonstrates the need for a slew of legislative measures that need to be put in place for an effective check on the influence of money on the electoral process". The High Court further held that "considering that political parties are an essential part of our democracy and are dealing in large sums of public money, much of which is unaccounted, the proper auditing of the accounts of the political parties is both imperative critical to the conduct of free and fair elections". And the reason for this all; to "infuse transparency and accountability into the functioning of the political parties thereby strengthening and deepening democracy".

We hope that this decision of the High Court will not just form another precedent consigned to the law reports but will be implemented in both spirit and form for the betterment of the democratic outlook of the country.

Demystifying Chinese Sovereign Wealth Fund

Some time back on this blog we had featured a post on Sovereign Wealth Funds which had come under the scanner of most developed countries for being opaque-structured and the might which they carried to influence the financial structure of the banks in which these SWFs went on to acquire huge stakes. Now we have this paper from a scholar at the Peking University who has undertaken the exercise of Demystifying the Chinese Sovereign Wealth Fund. We rate the paper as one of a vital insight into the working of the Chinese SWF, which incidentally is one of the most acclaimed SWF given its size, structure and the role it plays in the geo-economic outlook of the present era.

The abstract of the paper reads as under;

The United States (“U.S.”) Federal Reserve (“Fed”) categorized the China Investment Corporation (“CIC”) and Central Huijin Investment Limited (“Huijin”) as Bank Holding Companies under U.S. financial law, and granted CIC and Huijin some important conditional exemptions. Exemptions, such as non-banking restrictions, are key for the CIC and the Huijin to perform their functions and are consistent with the prior practice of the U.S. Fed. Legal and factual analyses show that currently the CIC does not have an intention to apply for Financial Holding Company status. Nevertheless, the CIC should pay close attention to regulatory principles such as the system-wide supervisory approach and the source of strength doctrine. In order to ease the widespread misgivings the international community harbors against the CIC, China should enhance transparency, and join the global effort to govern and streamline the Sovereign Wealth Fund (“SWF”) in seeking mutual trust and cooperation. 

Exchange Rate Manipulation and International Law

In a recent update from the American Society of International Law we find the coverage on a interesting issue; the international law relating to exchange rate manipulation. Written in the backdrop of the United States urging (or rather pressurizing) the Chinese Government to undertake reform of the currency valuation of China, the paper covers over the 'Existing International and Domestic Law on Exchange Rate Manipulation' covering the IMF mandate, the domestic law of United States on the issue, the stipulations under the WTO agreements to make interesting insights on the issue. The paper provides an interesting insight on the issues involved and the possible outcomes under international law. 

Have a look at the paper. 

India lends to the IMF !!!

Remember the time when India was under intense pressure on the international financial front in terms of the balance of payments problems. It was then that the country came of age and opened up itself to the rigours of commercial markets, not only to undo the potential of a sovereign collapse but also to reverse the trend. Those who remember the days in the beginning of the 1990s decade will not only be pleased but will also rejoice to note that where India borrowed extensively from the IMF once (even by pledging its gold reserve), now India has given a 10 billion USD loan to IMF such that the international body can wriggle out the developed countries from the financial crisis. 

The Reserve Bank of India has entered into a 'Note Purchase Agreement' with the International Monetary Fund, to which the IMF website notes that "the agreement offers India a safe investment instrument at the same time as boosting the Fund’s capacity to help its members to weather the global financial crisis, and to facilitate an early recovery from the worldwide economic crisis." A factsheet on the IMF notes available on IMF website states that such agreements are meant for such IMF members which have their "external position sufficiently strong" and is thus reflective of the current position of India on the international financial front to show a marked change in the position in last two decades.

And for our law-buff readers, we would recommend having a look at the agreement which sets into perspective the international agreement conditioning and structuring.

Credit Rating Agencies in India: Time to revamp the law?

We had written a paper a couple of years back that the Credit Rating Agencies in India were operating under a legal regime which strictly speaking attributed no liability on these agencies for the actions performed by them. The international financial crisis and the bubble burst only corroborated the theory. The 'Committee on Comprehensive Regulation for Credit Rating Agencies' appointed by the Department of Economic Affairs, Ministry of Finance under the Chairmanship of Dr. K.P. Krishnan has now given a green signal to the much awaited reform. 


The recently released report of the Committee, which boasts of participation from all regulatory authorities in India, calling for a 'comprehensive review of the registration, regulatory and supervisory regime for Credit Rating Agencies', inter alia proposing greater checks (in terms of supervision and control by various regulatory authorities), directing greater disclosures and observing norms to avoid conflict of interest in the rating process etc. Further, the Report also notes that "the committee has taken note of international action in this regard and inter alia recommend that there may be greater disclosures regarding materially significant revenues received from a particular issuer/ non rating business like advisory services. A lead regulator model for CRAs may also be explored. The committee has also strongly recommended voluntary compliance with existing and emerging regulations like IOSCO Code."


One can only hope that greater regulatory control is exercised over these agencies which carry out the innocuous looking exercise of rating equity and debt instruments but have a tremendous impact over both the entity being rated as well the potential investors. 

Expert Committee recommends non-distortionary petroleum pricing

The Kirit S. Parikh Committee 'Expert Group on a Viable and Sustainable System of Pricing of Petroleum Products' submitted recently to the Ministry of Petroleum and Natural Gas, Government of India, being of the view that a "viable long-term strategy for pricing major petroleum products is required" where the "viable policy has to be workable over a wide range of international oil prices and has to meet the various objectives of the government" and it should also "limit the fiscal burden on government and keep the domestic oil industry financially healthy and competitive", has recommended that "petrol prices should be market determined both at the refinery gate and at the retail level". 

The Committee has accordingly recommended inter alia the following;

• a way needs to be found to collect the same level of tax that petrol car users pay from those who use a diesel vehicle for passenger transport;
• price of PDS kerosene needs to be increased by at least Rs.6/litre so that the share of expenditure on kerosene in the total consumption expenditure of rural households remains at the same level as in 2002. Thereafter, price of PDS kerosene be raised every year in step with the growth in per capital agricultural GDP at nominal price;
• prices of domestic LPG can be increased by at least Rs. 100 per cylinder. Thereafter, the price of domestic LPG should be periodically revised based on increase in paying capacity as reflected in the rising per capita income. The subsidy on domestic should be discontinued for all others except the BPL households once an effective targeting system is in place.

Have a look at the Report.

Prudential regulation and competition in financial markets: Latest from OECD

In a recent paper, titled "Prudential Regulation and Competition in Financial Markets" the Organisation for Economic Cooperation and Development (OECD) has written extensively on the aspect of Prudential regulation and competition in financial markets. The abstract of the paper states as under;

This paper examines how a range of stability-oriented regulatory policies for banking and insurance are related to selected stability and competition outcomes in these sectors. Based on survey information on financial market regulation, policy indicators for eight areas of prudential banking regulation are constructed, in addition to indicators for the insurance sector. Despite incomplete information on some areas that turned out to be important in the context of the recent financial crisis, the indicators correlate well with different measures of financial stability, both during the recent crisis and beyond. Furthermore, the results do not support the view that there is a general trade-off between stability-oriented regulatory policies and competition in banking and insurance. Only few trade-offs are identified, with some areas of prudential regulation – most notably the strength of the banking supervisor – even associated with greater competition in banking. Overall, the results suggest that stability-enhancing regulatory reform does not necessarily come at the expense of competition. Although much of the analysis is based on pre-crisis regulatory settings which have been undergoing substantial change, the empirical evidence in this paper can provide useful insights in the context of ongoing financial regulatory reform.

Exploring relationship between 'Exchange Trading Rules and Stock Market Liquidity'

In a recently uploaded paper on SSRN, three scholars reflect their view on the relationship between Exchange Trading Rules and Stock Market Liquidity. In this paper Douglas Cumming and Dan Li of Schulich School of Business (York University, Canada) and Sofia Johan of Tilburg Law and Economics Centre (Netherlands) "examine stock exchange trading rules for market manipulation, insider trading, and broker-agency conflict, across countries and over time, in 42 stock exchanges around the world" to "show that differences in exchange trading rules, over time and across markets, significantly effect liquidity". This is for the reason that "Some stock exchanges have extremely detailed rules that explicitly prohibit specific manipulative practices, but others use less precise and broadly framed rules" and to this regard the authors "new indices for market manipulation, insider trading, and broker-agency conflict based on the specific provisions in the trading rules of each stock exchange".

With the study of various variables, the authors conclude as under;

We employ a sample of 42 exchanges around the world and find that stock exchange trading activity is most closely related to trading rules specificity in regard to insider trading and market manipulation, but is not statistically related to rules pertaining to broker-agency conflict. The reasoning behind this finding is that insider trading and market manipulation rules provide clarity regarding prohibited manipulative trading practices and are of direct and central importance to the conduct of market participants. By contrast, broker-agency conflict rules are typically subject to extraneous rules from governing bodies and professional associations for brokers (such as the Chartered Financial Analysts Institute). The connection between trading activity and insider trading and market manipulation rules is robust to concerns about endogeneity, difference-in-differences specifications, and alternative control variables. Specifically, we observe the material impact of the MiFID rule changes on all dimensions of liquidity. Although it is difficult to isolate precisely the components of trading rules that matter the most, it is noteworthy that we do observe a close connection between the Volume Manipulation Rules Index and trading velocity, the Price Manipulation Rules index and volatility, and the Insider Trading Rules Index and bid-ask spreads. The results indicate trading rules are an important source of information to consider in explaining the differences in trading activity among stock exchanges around the world. Future work might look to the exchange trading rules as a source of international differences in stock exchanges, market efficiency, and market integrity.

The entire paper is available at this SSRN link.

US House of Representatives approves 'New Rules to Govern America’s Financial System'

The recent press release of the 'United States House Committee of Financial Services' informs that the United State House of Representatives (analogous to our Lok Sabha) has approved "new legislation to modernize America’s financial rules in response to the worst economic crisis since the Great Depression." The 'The Wall Street Reform and Consumer Protection Act (H.R. 4173)' as it is known, was passed by a vote of 223-202. The law, it informs, "includes a comprehensive set of reforms that will address the myriad causes – from predatory lending to unregulated derivatives – that led to last year’s meltdown. Once signed into law, these tough new regulations will hold Wall Street accountable, end taxpayer-funded bailouts, and protect Americans from unscrupulous big banks and credit card companies."

The Committee Press Release further states that proposed law provides for the following;

Increase Consumer Protections: Creates the Consumer Financial Protection Agency (CFPA), a new, independent federal agency solely devoted to protecting Americans from unfair and abusive financial products and services.

Create a Financial Stability Council: Creates a council of regulators that will identify financial firms that are so large, interconnected, or risky that their collapse would put the entire financial system at risk. These systemically risky firms will be subject to increased oversight, standards, and regulation.

End Taxpayer Bailouts and “Too Big to Fail”: Establishes an orderly process for shutting down large, failing financial institutions like AIG or Lehman Brothers in a way that ends bailouts, protects taxpayers, and prevents contagion to the rest of the financial system.

Rein in Executive Compensation: Gives shareholders a “say on pay” – an advisory vote on pay practices including executive compensation and golden parachutes. It also enables regulators to ban inappropriate or imprudently risky compensation practices, and it requires financial firms to disclose incentive-based compensation structures.

Safeguard Investors: Strengthens the SEC’s powers so that it can better protect investors and regulate the nation’s securities markets.  It responds to the failures to detect the Madoff and Stanford Financial frauds by ordering a study of the entire securities industry that will identify needed reforms and force the SEC and other entities to further improve investor protection.

Regulate Derivatives:  Regulates, for the first time ever, the opaque $600 billion over-the-counter (OTC) derivatives marketplace. Under the bill, all standardized swap transactions between dealers and “major swap participants” would have to be cleared and traded on an exchange or electronic platform. The bill defines a major swap participant as anyone that maintains a substantial net position in swaps, exclusive of hedging for commercial risk, or whose positions create such significant exposure to others that it requires monitoring.

Outlaw Predatory Mortgage Lending Practices: Would incorporate the tough mortgage reform and anti-predatory lending bill the House passed earlier this year. The legislation outlaws many of the egregious industry practices that marked the subprime lending boom, and it would ensure that mortgage lenders make loans that benefit the consumer.  It would establish a simple standard for all home loans: institutions must ensure that borrowers can repay the loans they are sold.

Require the Registration of Hedge Funds: Closes a regulatory hole that allows hedge funds and their advisors to escape any and all regulation.  This bill requires almost all advisers to private pools of capital to register with the SEC, and they will be subject to systemic risk regulation by the Financial Stability regulator.

Read more at the Committee link.

SEZ a part of India: High Court

In a recent decision the Gujarat High Court has held that Special Economic Zones (SEZ) are a part of India. The High Court allowed the writ petitions challenging the levy of export duty on goods supplied by domestic Indian units to unit situated in SEZ wherein the taxation department argued that SEZ being "deemed to be a territory outside the customs territory of India, levy of export duty on a Domestic Tariff Area unit, which supply goods into Special Economic Zone cannot be claimed to be outside the scope, authority and jurisdiction to levy export duty on a unit in Domestic Tariff Area.

The petitioners, however, argued that "that the supply of goods from a DTA unit to a SEZ unit being a supply of goods within the territory of India, no export duty is leviable under the provisions of Section 12 of the Customs Act, 1962 since such duty can only be imposed in respect of goods which are to be taken out of India to a place outside India. The levy of export duty under Section 12 is attracted only if the goods are exported from India. Since SEZ is located within India, the supplies to the SEZ cannot be considered as goods  exported from India. ... The Unit located in a SEZ is one located within India and, therefore, supplies made to such a Unit cannot be considered as goods  exported from India." It was also argued by the SEZ units that "the levy of export duty on supplies made to a SEZ Unit is clearly contrary to Rule 27 of the SEZ Rules, 2006, which entitles a SEZ Unit to procure goods from the DTA, without payment of duty, taxes or cess. It is further contended that the statement of objects and reasons which were presented before the Parliament, when the SEZ Act was introduced clearly states that the objective of creating a Special Economic Zone was to make available goods and services  free of taxes and duties for promoting export-led growth. It is in consonance with this stated objective that the SEZ Act does not provide for any levy on export of goods or movement of goods from Domestic Tariff Area to SEZ and the SEZ Rules clarify that all supplies to a SEZ Unit will be  without payment of duty, taxes or cess."

Giving an account of the statutory provisions and rules made thereunder, the Revenue Department retorted back contending that "there is no exemption from levy of customs duty for the goods supplied from a Domestic Tariff Area to a unit in SEZ. The term exported and exportation out of India have also been used in Rules 18 and 19 of the Central Excise Rules, 2002 and the notifications issued thereunder, whereby rebate of Central Excise Duty paid on the goods and their raw materials is granted on supplies by Domestic Tariff Area units to Special Economic Zones. If a view is taken that export implies only export out of India, then supplies to SEZs from DTA would not be export out of India, and therefore, no rebate under these Rules would be admissible. The petitioners are claiming rebate on the suppliers made by them to Special Economic Zone units on the ground that the supplies made by the DTA unit to SEZ unit are exports. He has, therefore, submitted that the petitioners apart from their conduct are disentitled to contend that the activity of supply of goods from DTA to SEZ is not export and consequently the challenge in the petition deserves to be turned down in view of the stand taken by the petitioners themselves while claiming rebate as regards the duty of excise levied while the DTA units are supplying goods to SEZ units and are themselves exports for the purpose of Rules 18 and 19 of the Central Excise Rules, 2002. He has, therefore, submitted that supplies from DTA to SEZ are eligible for various export benefits such as drawback, DEPB or towards fulfillment of advance license obligations, etc. If these supplies from a place in India to another place in India are not treated as export, such benefits would not be admissible. He has, therefore, submitted that the combined reading of all these provisions leads to a conclusion that supplies made by a DTA unit to units / developers in SEZ are to be treated as exports and they do not enjoy any exemption from export duty."

The High Court, however, was not impressed. It observed that "the taxable event contemplated under the Customs Act, 1962 for the purpose of levy of Export Duty is taking the goods out of the territorial waters of India to a place outside India, in which case the goods would be dutiable goods as contemplated under Section 12 of the said Act and attract levy of export duty, to be paid at the time of exportation of such goods. Export under the Customs Act, 1962, therefore, can be said to have taken place only upon movement of the goods outside the territorial waters of India." The High Court, therefore, declared as under;

The provisions of the SEZ Act do not envisage the movement of goods from the Domestic Tariff Area to the Special Economic Zone to be a taxable event as the said provisions do not contain any charging provision providing for the levy and imposition of Export Duty, and the said Act does not contain any provisions for recovery of such duty. In construing fiscal statutes and in determining the liability of a subject to tax one must have regard to the strict letter of the law and not merely to the spirit of the statute or the substance of the law. If the revenue establishes that the case falls strictly within the provisions of the law, the subject can be taxed and if, on the other hand, the case is not covered within the four corners of the provisions of the taxing statute, no tax can be imposed by inference or analogy or by trying the probe into the intention of the legislature and by considering what was the substance of the matter.

The contention that levy of Export Duty is impliedly contemplated under the SEZ Act, principally on account of the fact that unlike other levies, the levy of Export Duty has not been specifically exempted under the provisions of the said Act, is wholly misconceived. In the first place, as stated above, there cannot be a levy of tax by implication. Secondly the necessity for exemption would arise if the subject is liable to tax in the first place. In any case an overall view of the provisions of the SEZ Act and the Rules would establish that levy of Export Duty on the movement of goods from the Domestic Tariff Area to the Special Economic Zone is not at all provided for or contemplated thereunder ...

The movement of goods from the Domestic Tariff Area to the Special Economic Zone has been treated as export by a legal fiction created under the SEZ Act, 2005. A legal fiction is to be restricted to the statute which creates it. Reference is made to the decisions of the Apex Court in the case of State of West Bengal V/s. Sadan K. Bormal and another, (2004) 6 SCC 59, Meghraj Biscuits Industries Limited V/s. Commissioner of Central Excise U.P., (2007) 3 SCC 780, MORIROKU UT INDIA (P) LIMITED V/s. State of Uttar Pradesh and others, (2008) 4 SCC 548. Moreover, such legal fiction should be confined to the purpose for which it has been created. Reference is made to the decisions of the Apex Court in the case of State of Karnataka V/s. K. Gopalakrishna Shenoy and antoher, (1987) 3 SCC 55; Mancheri Puthusseri Ahmed and others V/s. Kuthiravattam Estate Receiver, (1996) 6 SCC 185. As stated above, such movement has been treated as export under the SEZ Act 2005 for the purpose of making available benefits as in the case of actual exports like duty drawback, DEPB benefits, etc. to the Special Economic Zone Unit / Developer or the Domestic Tariff Area supplier at their option. Construing this movement of goods as entailing a liability of payment of duty runs absolutely counter to the purpose of the legal fiction created under the SEZ Act, 2005.

The High Court then went on to hold that the SEZ territory was very much a part of India and the argument of the Taxation department was not correct in law. The High Court declared as under;

reliance on Section 53 of the SEZ Act 2005 to contend that a Special Economic Zone is a territory outside India, is misconceived. Section 53 provides that the Zone would be deemed to be a territory outside the customs territory of India for the purposes of undertaking the authorized operations. The term customs territory cannot be equated to the territory of India and in fact, such term has been defined in the General Agreement of Tariffs & Trade, to which India is a signatory, to mean an area subject to common tariff and regulations of commerce and that there could be more than one customs territory in a country. Moreover such an interpretation would lead to a situation where a Special Economic Zone would not be subject to any laws whatsoever. The entire SEZ Act 2005 would be rendered redundant since it is stated to extend the whole of India. In any case, various provisions of the SEZ Act would be rendered redundant and unworkable if the Special Economic Zone was to be considered an area outside India. This is apart from the fact that such a declaration would be constitutionally impermissible.

Have a look at the decision.

Legal Redundancy: The new outlook

While traditionally judges have been attributed with the role to deliver justice, as available to the litigants on the basis of prevailing legal regimes, the phase of time and paradigm changes in the traditionally understood King-Subject relationships have led the fusion of ‘equity’ with the justice administration system to such intertwined levels that not only the King’s Courts and Equity Courts have come to merge but also that the judges manning these courts have taken upon themselves the task of ensuring a pivotal consideration in maintaining the efficacy and faith in the system; protecting the system against redundancy. On a generic level while keeping redundancy in the legal system at bay has been an ongoing and ever-incumbent process, certain recent incidents in the legal circles have marked the contours thereof at strikingly visible levels and thus this piece.

Personally speaking I was always a fan of what the famous Justice Cardozo wrote in his inseminable work ‘The Growth of Law’. He was quick to acknowledge what lawyers have always maintained, the so-called ‘precedents’ are always available for both sides of the bar and it is the personal apathy or empathy of the judge and his inclination to rule on one side of the debate which is the deciding factor. And while carrying out this role of providing a legal rationale (i.e. judicial reasoning) that the judge often carries out an legislative exercise or rewriting the law itself.

One might argue in support or against, but the fact remains that the judges in declaring out the law often decide what the law is where the statute books are silent. Thus they fill in the vacuum which has been left by the legislature by interposing their thoughts into the bare law. While ‘originalists’ would frown at these assertions (have a look at the profile of the one of the most respected and vociferous proponent of the originalist doctrine, Justice Antonin Scalia), in so far as the constitutional history of India is concerned, the jurisprudence is rich with examples of the judges reading into the constitutional principles which the constitution itself does not state. The doctrine of basic structure; collegium system for appointment of judges; concept of constitutional torts; wide ambit of right to life under Article 21; are certain prominent illustrations of what may be called as usurpation of power by some and judicial review by others.

But how does this fit in with legal redundancy? Well, on a macro level it does. Laws are framed by the Parliament in a given social context and towards attainment of a particular end. These contexts and ends in turn also dictate the life of the law. The law remains useful so long as it continues to provide for the useful purpose it is enacted to fulfill. This may continue to remain true for a decade or a century, depending upon the law. However at a point of time the law outlives the purpose for which it is enacted and like dead lumber creates an obstacle in the path of societal growth and even leads to travesty of justice. Let us illustrate the monologue for the sheer sake of better appreciation.

The criminal law currently in vogue in India owes its origin in most parts to Lord Macaulay of England and the Code propagated in 1860 continues to govern the societal relationships in India. Be it a case of rape or murder or adultery, the provisions of the 1860 Code govern the field and determine the punitive aspects which follow criminal trails. Section 377 of Code criminalized homosexuality in as much as it punished “carnal intercourse against the order of nature”. The provision well served its time and was adhered to until a group of so-called liberal minded folks decided that it interfered with their personal liberty and thus the challenge to its validity. The High Court of Delhi held in their favour (click here to read full decision) and held that the provision indeed came in the way of personal freedom and conclusion reached by the judges merits pondering. They held;

CONCLUSION
129. The notion of equality in the Indian Constitution flows from the ‘Objective Resolution’ moved by Pandit Jawaharlal Nehru on December 13, 1946. Nehru, in his speech, moving this Resolution wished that the House should consider the Resolution not in a spirit of narrow legal wording, but rather look at the spirit behind that Resolution. He said,
“Words are magic things often enough, but even the magic of words sometimes cannot convey the magic of the human spirit and of a Nation’s passion…….. (The Resolution) seeks very feebly to tell the world of what we have thought or dreamt of so long, and what we now hope to achieve in the near future.” [Constituent Assembly Debates: Lok Sabha Secretariat, New Delhi: 1999, Vol. I, pages 57-65].
130. If there is one constitutional tenet that can be said to be underlying theme of the Indian Constitution, it is that of 'inclusiveness'. This Court believes that Indian Constitution reflects this value deeply ingrained in Indian society, nurtured over several generations. The inclusiveness that Indian society traditionally displayed, literally in every aspect of life, is manifest in recognising a role in society for everyone. Those perceived by the majority as “deviants' or 'different' are not on that score excluded or ostracised.
131. Where society can display inclusiveness and understanding, such persons can be assured of a life of dignity and nondiscrimination. This was the 'spirit behind the Resolution' of which Nehru spoke so passionately. In our view, Indian Constitutional law does not permit the statutory criminal law to be held captive by the popular misconceptions of who the LGBTs are. It cannot be forgotten that discrimination is antithesis of equality and that it is the recognition of equality which will foster the dignity of every individual.
132. We declare that Section 377 IPC, insofar it criminalizes consensual sexual acts of adults in private, is violative of Articles 21, 14 and 15 of the Constitution.

Thus, in their opinion, the judges safeguarded the personal liberties on the face of law which made a different context could not continue to operate in the changed times without crying foul of discriminating against those with different value systems. While scholars may advice against relying on the decision, the fate of which is pending before the Supreme Court, but it is a quintessential illustration of how judges vouchsafe against legal redundancy.

Most often, however, it is the legislature which is incumbent upon examining the scope and application of the existing laws and to ensure that they keep pace with the advancement of society. The ‘Right to Information Act’ can be put in here as an illustration to point out the movement towards making the governance more democratic in as much as the information is shared with the citizens towards empowering them to participate in the governance process and also allowing access to them to solicit information best known to the bureaucracy. The recent decision of the Delhi High Court in the litigation at the behest of the Supreme Court against declaration of information vested with the Chief Justice of India only reaffirms this outlook. Thus in as much as an attempt was made to subvert the substantive mandate of the enactment, the challenge has been ruled down, holding transparency and accountability as the key norms. [Have a look at the beautifully written decision] On a macro scale, the decision can be viewed as an attempt to ward-off redundancy of law. Had the challenge been sustained, it would have amounted to restricting the operation of the law on the grounds to which the law itself specifically provided to the converse.

On these lines the decision of the Supreme Court in R.K. Anand’s case is also worth noting. The much-hyped case (with the sting-operation of a news channel) of the defense and prosecution lawyers enticing the witness to change the stand towards securing the release of the accused was met with harsh criticism of the Supreme Court, not to speak of the plights of criminal justice system facing the country today, as noted in the decision. [Click here to have a look at the decision] And on the aspect of redundancy, the Court took note of the fact that the existing rules governing the legal profession are not diligently enforced to ensure professional conduct on the part of the legal fraternity. (see paragraph 203 of the decision). Thus the Court was pointing at the redundancy of the rules governing the legal profession in as much as high standards of professional conduct are expected.

Another significant event on this issue is the recent report of the Law Commission of India on ‘Reforms in Judiciary’ wherein recommendations have been made by the Commission to carry out changes (of massive magnitude and ramifications) in the judicial system so as to ensure that not only the constitutional deals of justice are met but also the expectation of the ever-growing population to get speedy and effacious remedies from courts are realized. [Click here to have a look at the report].

And then the most potent signs of change, the Direct Tax Code was released by the Finance Minister recently, proposing the replace the existing net of direct taxes with a simpler, single code. While the analysis of the exact changes proposed is already subject to intense scrutiny by the stake-holders, the intent is indeed welcome. Reform the legal arena (and what better than to start from the complex tax legislations) such that the common folks are able to understand what governs them. On the indirect side as well ‘Goods and Service Tax’ is expected to be unveiled soon and assuming political will to this effect, from the next financial year onwards one can only expect to realize the full potential of the economy in the liberalized and uncomplicated era of tax regimes. It is also heard in the corridors that the accounting standards are also up for a change with a transition (or may be even alignment) to the international standards. Add a new company law to this set and the trio hints at an unparallel exercise in the judicial history of India to speak of a fundamental change at such a vast level.

[click here for the full text of the proposed Direct Tax Code and the Discussion Paper on the Code]

Indeed the country is indulging in some self-improvement exercises as far as the reform of the legal system in concerned. Perhaps that’s the mandate of the rule of law and also of the changing times.

Keeping the fingers crossed …

Revisiting Goods and Service Tax (GST) in India

Having successfully carried through the second generation of economic reforms in pursuance of the liberalization agenda, India now looks forward for a broad-based reform in the economic setting of the country. Towards this agenda, the Government of India announced few years back its desire to transform the existing scenario of both direct and indirect taxes.

On the direct tax side, the Ministry of Finance made public its ongoing task of rewriting the Income Tax Act towards simplifying the law that exists and also with a view to broaden the tax base as suggested by the Kelkar Committee (Task Force on Direct Taxes).

On the indirect tax frontier, the then Finance Minister Mr. P. Chidambaram went a step ahead than that suggested by the Kelkar Committee (Task Force on Indirect Taxes) and made clear the intent of the Government to adopt a harmonized system of taxation of commodities by transforming the hitherto operational regime wherein sales tax (or VAT) was charged and levied by the State Governments and tax on services being levied by the Central Government.

Unarguably the desire to streamline the existing indirect tax structure with a harmonized and uniform levy is only in furtherance of the national aspirations of a rational tax structure which not only avoids the cascading effects but also promotes the entrepreneurial initiatives and economic activity on the whole.

Pursuant to our initiate "of providing insights into law's whys and hows", we have worked upon a research paper on 'Goods and Service Tax (GST)' as envisaged for India. We hope it would provide useful insights to the reader as to the proposed changes and the benefits envisaged in this transformation to GST.

Have a look at this paper uploaded at SSRN.


November 2009 supplement:


You can read the latest on GST at this link "Discussion paper on GST unveiled"

Satyam: A test for Serious Fraud Investigation Office (SFIO)

1. Today, when SATYAM is the buzz-word of corporate talks and a rejuvenating revival of corporate governance being hailed as the need of the hour, the institution which should have been in the lime-light is M.I.A. The need for a specialized, equipped and pro-active investigator incumbent upon unearthing the manipulations and frauds in the Indian corporate markets is not new. The matter was raised right at the time when Harshad Mehta became a house-hold name. The Securities and Exchange Board of India (SEBI) was brought to fore as the market-regulator in 1992 and given wide powers to call for records and take action against erring listed-companies, but the ensuing corporate frauds nonetheless put in clear terms the need for a specialized investigating agency and not just the entrustment of the investigative functions with the market regulatory.

2. The lack of effective enforcement and foresight in corporate regulation became particularly evident in the aftermath of the Ketan Parakh episode which expose the fallacies and misguided temperaments of the existing agencies. The Report on ‘Corporate Audit and Governance’ submitted by the Naresh Chanda Committee [click here for perusing the Report] brought to fore this urgent need and it was on these lines that the Central Government approved the establishment of a new investigative agency, meant to specialize in corporate frauds which was rechristened as the ‘Serious Frauds Investigation Office’. [Click here for the official notification to this effect.]

3. A Charter was unveiled on 21.08.2003 to put on record the official duties, functions and responsibilities of the SFIO. This Charter of 2003 stated that “the responsibilities and functions of the SFIO will include, but not be limited to, the following;

(a) The SFIO is expected to be a multidisciplinary organization consisting of experts in the filed of accountancy, forensic auditing, law, information technology, investigation, company law, capital market and taxation for detecting and prosecuting or recommending for prosecution whitecollar crimes/frauds.

(b) The SFIO will normally take up for investigation only such cases, which are characterized by –
i) complexity and having interdepartmental and multidisciplinary ramifications ;
ii) substantial involvement of public interest to be judged by size, either in terms of monetary misappropriation or in terms of persons affected, and;
iii) the possibility of investigation leading to or contributing towards a clear improvement in systems, laws or procedures.

c) The SFIO shall investigate serious cases of fraud received from Department of company Affairs. SFIO may also take up cases on its own, subject to para (d) below. The SFIO would make investigation under the provisions of the Companies Act, 1956 and would also forward the investigation reports on violations of the provisions of other acts to the concerned agencies, for prosecution / appropriate action.

d) Whether or not an investigation should be taken up by the SFIO would be decided by the Director SFIO, who will be expected to record the reasons in writing.”

This Charter also stated that “SFIO is expected to be set up as a modal office with state of the art facilities” and “it may outsource work to professional agencies, on case to care basis”.

4. From these it appears reasonably clear that all complex matter involving corporate frauds and requiring expertise for investigations would normally be taken up by the SFIO. In this background, let us see the role of SFIO hitherto in the SATYAM fiasco, if fiasco it is.

5. The facts that can be culled out from the downride SATYAM has been facing in the last month are as under;
- Its CEO Mr. Ramalinga Raju is accused to have siphoned off amounts to the tune of thousands of crores of Rupees from the company accounts. [Therefore corporate fraud]
- The balance sheets of the Company have been said to be fudged to the extent that even the auditors have issued a disclaimer that the audited balance sheets may be considered unaudited. [Therefore failure of statutory audit requirements]
- Some of the auditors involved in checking / verifying / auditing its affairs have been arrested and are being examined at their own end towards their involvement (in terms of illegal gratification or otherwise) in the fudging of statutory records [Thus professional negligence and malpractices]
- The employee pay-rolls are said to be inflated and investment lists of the company said to be based on fraudulent and forged documentation [Thus a mass fraud on the investors and overall other stake-holders]

6. Moreover, this fraud is said to have been perpetrated for more than five years and rapidly increasing in dimensions until the bubble burst. In these circumstances, it definitely seems to be a case in which SFIO should be involved and should proceed with its examination. In fact, one look at the SFIO’s website would also tell that the amount of stakes involved in the fraud is the key and foremost criteria for SFIO to come into action. [check question no. 1 at this link]

7. But surmises apart, what has SFIO done till now? News reports [1] [2] show that unlike SEBI, which got permission from the Supreme Court to quiz the accused, SFIO is yet to pursue the denial of its investigating powers before the lower courts. In the matter which involves billions, delay of hours itself (not even days and months) is crucial to obtain information and evidence before they are destroyed by the interested parties. This lethargy, therefore, reflects well upon the diligence and role of SFIO. It seems that the SFIO is yet waiting for the Government to arm it with ammunition in the form of personnel and resources to carry out its role at a point when a lot of water has already flown down the bridge.

8. On a philosophic note, it is important to remind ourselves that the existence of a democratic society is based on one fundamental principle; Rule of Law. This axiomatic principle has been incumbent upon the functioning of all the three wings, viz. the legislature, executive and judiciary and the manner in which governmental action is undertaken. Of this one important facet is that ‘justice must not only be done but must also seem to be done’. The stakeholders, not only of Satyam bus also of this country, can they not expect the supposedly primer and specialized agency to take lead in this issue and settle the controversy to rest?

9. In this scenario one can only hope (and hope and hope) that the wrong-doors would be meted with justice and faith in the system (which may perhaps be too high to think) be restored to a level where one would be deterred of the consequences (and not just think twice) of impugning such a fraud with the citizens of the country on a whole. And more importantly, this delivery of justice be timely and actually compensatory (if not economically, at least morally) to the persons who have been effected by this fraud and not just a battle worn for the sake of academic discussion and statistical purposes.

10. Perhaps the Supreme Court was right to observe that ‘even God cannot save this country’.

Handling Undervalued exchange rates and Sovereign Wealth Funds under WTO: A failed solution already?

It is very recently that we picked up this paper which has been posted on SSRN for sometime now but then that we have and feeling strongly on the issue, we thought it was wise to have an exclusive post on the topic. Today we are discussing in the backdrop of a Working Paper published under aegis of Peterson Institute for International Economics and developed by two economists, entitled 'Currency Undervaluation and Sovereign Wealth Funds: A new role for the World Trade Organization', available at SSRN. Though the paper is economics based, yet has enormous significance in legal arena for it deals proposes for a legal regime for two key issues facing the policy makers across the globe currently; 'Undervalued Exchange Rates' and 'Sovereign Wealth Funds'. The way we proposed to deal with the issues is first to give a basic insight into what the paper talks about and then come up with our understanding of the issues and how they are better not regulated the way the paper proposes.

What the paper proposes?

The paper is based upon two premises; (i) that currencies are artificially undervalued by countries to lag it creates to a fair international trading regime , and (ii) the accumulation of wealth as an outcome of these undervalued exchange rates and also otherwise by such countries and their consequent establishment of Sovereign Wealth Funds. Regarding the first part, the paper cites the examples of most notably China and few more countries (like UAE, Kuwait, Saudi Arabia, Vietnam, Bahrain, all oil-exporting countries) and bases its proposal to deal with the situation under the WTO for the reason that the proper valuation of these exchange rates would provide a significant boost to international trade. Regarding the second part,

To sum up (as the paper itself suggests), the paper is comprised of three parts (i) why and hows of WTO involvement, in collaboration with IMF, in dealing with undervalued exchange rates, (ii) the whys and hows of WTO involvement in regulating SWFs, and (iii) how the placing of the issues on the trade negotiating agenda could help galvanize the Doha Round.

Our views on the proposals

It was not long back that we wrote over the direction in which the Sovereign Wealth Funds are moving and the tensions that their economic might poses to geo-political relations and also generally about the failure of the WTO to come up from the contentious issue of market access (both agricultural and non-agricultural), agricultural subsidies, services and IPR in these two parts (Part - I and Part - II). In general, we have highlighted in all of these posts over how the proposals to regulate the movement of these new instruments of trade policy (basically having a foundation in developing countries) are stimulated by the enhanced fears which these strengthening of developing countries' economies pose to the self-crumbing developed economies, most notably the United States.

For example, China's accumulation of US Dollars as its foreign exchange reserve is so massive (and continues to add significantly every day) that the mere visualization of China doing away with it would send shivers to not just the United States but the consequent fall in dollar would ensue a global economic dooms day. For so long as China keeps these funds to itself, it is fine to all. But then the United States and the international economic community as such have to find to ensure that this continues to be so and they do not get up one fine morning to find the USD collapsing in wake of China's removal of dollar from its reserve. Plus, not just the direct exodus of dollar from China, the indirect investment of China in strategic locations is the major concern. And that China is not into philanthropy, its infusion of $5bn into Morgan Stanley (which saves a liquidity crisis at this US giant) is not just seen as an act of charity but instead the gaining of lobbying power (which MS carries with it) within the United States, and thus requiring an countering act on the part of the US to mitigate any buying of political power through such economic instruments. [For more such examples, have a look at our earlier post on Sovereign Wealth Funds] Now to deal with the proposals, let us handle each issue one by one.

Undervalued exchange rates: not a new phenomenon but an ever-green subject for economic analysis and political bickering, no doubt has tremendous implications for international trade but we have out own doubts on its management under an international institution like the WTO. This is for a number of reasons as we enumerate here;

(i) Now that the impossible trinity is already a fact taken for granted and that countries grapple with the dimensions of international capital flows (installing and managing in between their own ways for promoting/inviting capital investments within their own country), a manipulated exchange rate offers a very viable and effective medium for the host countries (especially the developing countries and emerging market economies) to boost and regulate the ways capital investments flow in their country.

(ii) The flexibility and added trade advantage an undervalued exchange rate offers is not hidden from anyone. China's notorious undervaluation of its currency (Renminbi) by fixed pegging it to USD [8.2765 Renminbi Yuan to USD as wikipedia informs] and the huge trade advantage it provided to its exports (by making them cheaper artificially) is a reminder of the fact that countries with export oriented economies can strive nicely in such pegged regimes by constantly undervaluing their exchange rates.

(iii) And then emerging nations have not forgotten the last decade's South East Asian crisis, which led to a downfall of many a south east Asian nations, for which the changing exchange rate was a major trigger. Most developing countries would like to vouchsafe against such avoidable exposure to market failures and herd-run.

Now why all are three objections are directed towards a developing country paradigm is for a reason. The reason is the proposed involvement of WTO to regulate the problem (though a problem only for the developed nations which lose out comparative advantage on account of an undervalued currency of another exporting country) is itself full of controversy, given the already hot-waters WTO is in being alleged with lacking the concerns for developing countries. Instead of rewriting what we have already written [for a fuller account, read out our two posts (Part - I) and (Part - II) pointing to the bones of contention and also this critic of WTO's report on six decades of multilaterlism] but suffice would be to point the fact that after the first concrete realization and demand by developing countries for a fair (and not just free) trading regime in Doha in 2001 (though the matter was first brought to light in Seattle in 1999), the WTO has already missed a number of deadlines and has been postponing the matter (as a matter of fact it has been postponed indefinitely now with no deadlines to come out with solution) with the last six years bringing out not even a harmonious discussion ground lest to talk of a solution.

In fact the formation of the G-110 alliance of the developing countries at the last Ministerial in Hong Kong in 2005 (the fact that no date for the next Ministerial Conference has been announced, which technically should have taken place in 2007, is an issue requiring an exclusive post altogether) is in itself indicative of the fact how closely the developing countries view and keep the issue of a fair trading regime which would not compromise their development objectives but would instead promote it and so long they find the WTO's working not in consonance with their inner goals, it seems that the tussle will continue and deadlocks remain.

In this scenario, the apt choice for the developing countries would be to ensure their internal economic stability by regulating their exchange rates at the national level rather than limit their ability at the expanse of an international institution (which no matter how sound economically, would no doubt bring in the political element, a proposition which even the WTO cannot deny) and thus face the risk of economic defacing just to ensure that world trade goes smoothly.

For these reasons, we are of the view that politically and on cost-benefit analysis, the option of subjecting the exchange rate regimes to be judged by an international institution like the WTO is a non-starter proposal given the lack of political consensus. This however does not even include the paradigm of strict reluctance on the part of the developing countries to subject themselves to a more stringent rule based regime under the WTO (as the undercurrents would bring out), considering which the proposal does not even merit scrutiny.

In this background let us compare the proposals. In a run down to the working paper in question, the authors argue "that (1) exchange rates have serious trade consequences and unlike trade interventions, which are being phased out all over the world, episodes of undervaluation are likely to recur; (2) the Fund, the natural forum for regulating exchange rates, has abdicated its responsibility and is unlikely—for political reasons and its own traditions—to be able to remedy this; (3) the WTO could possibly fill this gap by creating new rules on exchange rates to parallel those on export subsidies and import taxes; and (4) these rules—as many others on trade—could become the subject of disputes in the WTO, with the Fund providing inputs on technical matters as it has in relation to trade restrictions for BOP reasons."

To deal with each of these propositions; (1) even though exchange rate have a serious trade consequence, that does not imply that the same should be brought into WTO for WTO is not THE regime to regulate international trade. The Preamble to the Marrakesh Agreement establishing the WTO is catagorical to the effect that per se trade regulation comes later and it is the sustainable development and promotion of developmental goals of the developing countries that takes precedence. In such a scenario, a national management of exchange rates being a better device towards such goals, it is better that WTO keeps out of it; (2) the fact that the IMF has failed to regulate the issue (even though it is its strict mandate to ensure against artificial manipulation of exchange rates) does not imply that another institution should take over. The core principle on which WTO works is essentially different from the IMF and also the two perform contrastingly different roles in international paradigm. Neither is the WTO platform suited to it task nor is the WTO (being a legal and not economic regime) capable of ensuring that the tasks identified for ensuring fair valuation of exchange rates can be meted out at its venue; (3) the WTO can possibly fill the gaps for many other international institutions as well. The comparatively better performance and more relevance of the WTO compared to the UN in today's world does not imply that the WTO should take over UN as well. So the argument that WTO performs better the IMF is really a fallicious and non-starter; (4) the little handling of Balance of Payment (BOP) that the WTO has undertaken has been contentious and argued as unfair and ineffective. There has really been no improvement and work on the 1979 adopted Understanding on BOP effects on trade and with this experience, it is better that WTO does not go deeper in this potential minefield of disputes.

Sovereign Wealth Funds: The emerging new saga of national investments in international framework, a hot topic for economists, lawyers and most importantly the politicians to argue over. While IMF is already mulling over the possibility of bringing out a Model Code of Conduct or sorts to ensure transparency and non-political investing through these SWFs, nonetheless the issue remains to be contentions for the description in the first part above. [for more read our earlier post on SWFs].

Before we give out our own reasons as to why we think dealing SWFs under a WTO type regime is a non-starter, let us analyze why the paper argues in favour of such an approach. In sum the paper culls out two reasons for WTO to be the home for a multilateral agreement entailing a regulatory regime for SWFs; "Firstly, the WTO already, albeit somewhat opaquely, covers investments by SWFs in its services agreement—the General Agreement on Trade in Services (GATS). A second argument in favor of WTO regulation is its dispute settlement mechanism (as in the context of exchange rates). Consider a situation where a WTO member felt that a foreign SWF was behaving inconsistently with its obligations. Instead of taking unilateral action based on its own judgment—actions that can provoke retaliatory protection and spiral into a trade or investment war—the member would now have recourse to the WTO dispute settlement mechanism. The well-established mechanism would offer institutionalized consultation and, when necessary, impartial assessment of conformity with mutually agreed conditions."

The first argument does not hold scrutiny for the fact that GATS calls forth for a non-protectionist regime, requiring the grant of market access and non-discriminatory treatment, to say the least. Dispute such rules, it is being argued that the market-access offered by the developed countries to the service providers of developing countries is cluttered with indirect and perceived obstacles and thus whatever is provided is not sufficient. In this scenario, imposition of prior-check rules and retaliatory checks on inbound investments only for the fact that they arise from nations (being SWFs) and not independent parties, would not only incite more tension between the North and South but also cast doubts on the objectivity of the entire trading system as such.

The second argument is also non-workable given the legal system that WTO's Dispute Settlement Understanding provides. Even if the proposed rules find a place in WTO, at the most their coverage would be limited to transparency and mode of entry. It couldn't go further than that for doing so would imply searching for the motivations behind the investments made by these SWFs, a subjective task and not capable of judicial determination. In any case, it would be unwise for the developed countries to argue for a move towards bringing in multilateral rules for regulating SWFs for that would imply inability to act on their own volition, delays in retaliatory action (given the standard time frame required to be followed before a judicial determination can take place) and also given the inroads this would make in the ability of the nations to handle such affairs politically.

The paper discusses other perspectives as well (such as SWF investor protection etc.) as arguments for a multilateral trading regime on SWFs but then these are only incidental and if the main purpose is not sufficed, we doubt that countries would choose to exercise their political might for a half-efficient solution. After all the scenarios are better dealt with under an economic framework but then when it turns to geo-economics, it brings in geo-politics as well and the ten years of working of the WTO have proved just the same.