Foreign Exchange Management Act

Foreign Exchange Management Act

The primary objective of FEMA is to facilitate external trade and payments while promoting the orderly development and maintenance of the foreign exchange market in India. It was brought in place of FERA to align India's foreign exchange regulations with the changing economic scenario, including liberalization, globalization and the growing need for international trade.

FEMA provides a much more flexible framework compared to FERA, focusing on management rather than strict regulation.

Key Features of FEMA

1. Focus on Management, Not Regulation:
   FEMA is not about control; it focuses on managing foreign exchange transactions, ensuring they align with India’s international trade and payment obligations. It allows for more flexibility and encourages the movement of foreign capital.

2. Legal Framework for Foreign Exchange Transactions:
   FEMA governs foreign exchange transactions, dealing with both current account transactions (like trade, travel and remittances) and capital account transactions (like investments and loans).

3. Regulation of Foreign Investment and Foreign Currency Market:
   It provides clear guidelines for Foreign Direct Investment (FDI), Foreign Portfolio Investment (FPI) and other investments that cross international borders.

4. Repayment of Loans and Borrowings:
   FEMA regulates repayment mechanisms for loans that involve foreign currency and ensures compliance with international guidelines.

What Was FERA?

Before we jump into the comparison, it’s important to know what FERA was. The Foreign Exchange Regulation Act (FERA) was enacted in 1973, primarily aimed at controlling and regulating foreign exchange transactions to conserve India’s foreign exchange reserves.

FERA had a much stricter regulatory framework. The government imposed heavy restrictions on foreign exchange transactions, and non-compliance could lead to serious penalties, including fines and imprisonment.

The act primarily focused on ensuring that foreign exchange was used judiciously and only for the purpose of strengthening the country’s economic stability. Its objective was to restrict the flow of foreign exchange and regulate it under strict government supervision.

Key Features of FERA

1. Regulation of Foreign Exchange Transactions:
   FERA focused on tightly controlling the inflow and outflow of foreign exchange. It also required companies to meet specific criteria to engage in foreign exchange transactions.

2. Stringent Restrictions on Foreign Investment:
   FERA did not encourage foreign investment, and any foreign investment in Indian companies required strict compliance with government policies.

3. Penalties for Non-Compliance:
   Violation of FERA provisions was a serious offense and companies or individuals found guilty faced heavy fines and even jail time.

FERA vs. FEMA: What Changed?

Now that we understand the basics of both FERA and FEMA, let’s talk about the distinction between these two and why FEMA was introduced in place of FERA.

1. Objective

• FERA was focused on restricting and regulating the foreign exchange market, placing severe controls on foreign exchange transactions.
• FEMA focuses on managing foreign exchange transactions and making them more flexible and market-oriented. Its goal is to promote international trade and payments without excessive restrictions.

2. Flexibility

• FERA had a rigid framework, with strict rules for foreign investments, payments, and borrowing. Non-compliance was harshly penalized.
• FEMA, on the other hand, is much more flexible. It provides a framework for promoting foreign investments and trade while ensuring that transactions comply with basic guidelines.

3. Penalties

• Under FERA, violations were considered criminal offenses and violators could face fines or imprisonment.
• Under FEMA, violations are treated as civil offenses and the penalties are primarily financial (fines) rather than criminal.

4. Regulatory Authority

• Under FERA, the Reserve Bank of India (RBI) had limited authority, and most decisions required government approval.
• FEMA provides RBI with more empowered decision-making authority, allowing greater autonomy and flexibility in regulating foreign exchange transactions.

Why Was FEMA Introduced in Place of FERA?

The introduction of FEMA was primarily driven by India's economic liberalization in the 1990s. The country’s economy was opening up to global markets and the government wanted a more market-friendly framework to foster growth in international trade and investment. Here are the key reasons for the shift:

1. Economic Liberalization

India’s shift from a closed, regulated economy to a more open, market-driven economy required a change in the way foreign exchange transactions were regulated. FERA was no longer aligned with the new economic goals.

2. Attracting Foreign Investment

FERA’s strict regulations made it difficult for foreign investors to invest in India. FEMA, however, was designed to make India more attractive to foreign investors by simplifying the rules governing foreign exchange transactions.

3. Growing Global Trade

With globalization, trade and business activities crossed borders more than ever before. India needed a legal framework that allowed greater freedom in conducting international business, making FEMA a more suitable option than FERA.

4. Ease of Doing Business

FERA’s strictness often led to cumbersome and time-consuming procedures. FEMA’s relaxed approach made it easier for businesses to engage in cross-border transactions, which was important for India’s economic growth.

Key Provisions of FEMA (1999)

Let’s take a look at some of the critical provisions that FEMA introduced:

1. Section 3: Deals with current account transactions (trade, travel, etc.). It allows flexibility but also ensures that all such transactions are in line with India's obligations.

2. Section 4: Governs capital account transactions (investment, loans, etc.), including the repatriation of profits and the movement of capital.

3. Section 8: Empowers the RBI to make regulations concerning foreign exchange transactions and maintain market stability.

4. Section 10: Deals with the establishment of the Enforcement Directorate and outlines penalties for violations.

A Quick Recap with a Visual Comparison

Here’s a table to clearly distinguish between FERA and FEMA: