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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.
(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.
(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.
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.