Rise of ‘digital hawala’ aiding money laundering, terror financing, global watchdog says

Internal Security & Economy · 8 September 2026 · Based on The Hindu (original report)

Worth reading — 1 past UPSC question on this theme (Mains GS-3 2021).

2-minute summary

A recent report by the Financial Action Task Force (FATF) warns of the rise of 'digital hawala'—a sophisticated hybrid system where traditional informal value transfer networks are integrated with virtual assets, encrypted messaging, and artificial intelligence. This technological fusion has significantly enhanced the speed, opacity, and global reach of underground banking, making it a potent tool for money laundering and terror financing (as seen in ISIL funding networks in Turkiye). The FATF identifies six distinct configurations of digital hawala, ranging from simple digital coordination to complex AI-driven transaction structuring and stablecoin-based settlements. While cash remains critical at entry and exit points, the digital layer makes tracing interpersonal links extremely difficult for law enforcement. The watchdog advises against overly punitive enforcement and bank 'de-risking', which inadvertently drive legitimate users into informal channels, recommending instead the adoption of blockchain analytics and targeting entire laundering chains rather than isolated transactions.

Why it's in the news

The Financial Action Task Force (FATF) published a comprehensive report titled 'Investigating Professional Money Laundering, Underground Banking, and the Use of Hawala and Other Similar Service Providers', flagging the rapid digitization of informal financial networks as a major global security threat.

Facts to remember

• The Financial Action Task Force (FATF) published a report flagging the rapid digitization of informal financial networks known as 'digital hawala'.
• Hawala is illegal in India under the Foreign Exchange Management Act (FEMA).
• The Prevention of Money Laundering Act (PMLA), 2002 is the primary legislative framework in India to combat money laundering.
• The Financial Action Task Force (FATF) is an intergovernmental organization established in 1989 by the G7, with India as a member since 2010.

Background and context

Hawala is a centuries-old, trust-based informal value transfer system that operates outside the formal banking sector, traditionally relying on trade-based settlements or physical cash couriers. While illegal in India under the Foreign Exchange Management Act (FEMA), it remains widely used globally due to lower transaction costs, speed, and lack of bureaucratic hurdles. In recent years, the proliferation of Virtual Asset Service Providers (VASPs), stablecoins (like USDT), and encrypted communication platforms has allowed hawala operators to digitize their backend coordination and settlement processes. This evolution into 'digital hawala' bypasses traditional Anti-Money Laundering (AML) and Counter-Terrorist Financing (CFT) controls, creating a parallel, untraceable financial ecosystem that poses severe challenges to national security and financial integrity.

Constitutional provisions

• Seventh Schedule (Union List - Entry 36 & Entry 93) — Entry 36 vests the power over 'Currency, coinage and legal tender; foreign exchange' with the Union Parliament. Entry 93 empowers the Parliament to legislate on offences against laws with respect to any of the matters in the Union List, providing the constitutional basis for PMLA and FEMA.

Committees and reports

• FATF Report: Investigating Professional Money Laundering, Underground Banking, and the Use of Hawala and Other Similar Service Providers — Identifies the six configurations of digital hawala and recommends a shift toward blockchain analytics and holistic disruption of laundering chains.

Government schemes

• Prevention of Money Laundering Act (PMLA), 2002 — The primary legislative framework in India to combat money laundering. In 2023, India extended PMLA provisions to cover Virtual Digital Assets (VDAs) and crypto-service providers to curb digital money laundering.
• Foreign Exchange Management Act (FEMA), 1999 — Regulates foreign exchange transactions and outlaws unauthorized informal channels like hawala.

International organisations

• Financial Action Task Force (FATF) — An intergovernmental organization established in 1989 by the G7 to develop policies to combat money laundering and terror financing. India has been a member since 2010.
• Egmont Group of Financial Intelligence Units — A global network of 170+ Financial Intelligence Units (including India's FIU-IND) that facilitates the secure exchange of financial intelligence to combat money laundering and terrorist financing.

Previous UPSC questions on this theme

• Mains GS-3 2021 — Discuss how emerging technologies and globalisation contribute to money laundering. Elaborate measures to tackle the problem of money laundering both at national and international levels.

Mains practice: Analyze how the emergence of 'digital hawala' complicates the fight against terror financing and money laundering. What multi-pronged strategy should India adopt to mitigate this threat?

The emergence of 'digital hawala'—the integration of virtual assets, encrypted communication, and artificial intelligence with traditional informal value transfer systems—has transformed underground banking. As highlighted by the 2026 FATF report, nearly 70% of surveyed jurisdictions have reported this technological integration, presenting severe challenges to global security.

**How Digital Hawala Complicates the Fight Against Illicit Finance:**

• **Anonymity and Speed:** The use of stablecoins and Virtual Asset Service Providers (VASPs) allows near-instantaneous cross-border transfers that bypass traditional KYC/AML protocols.

• **Obfuscation of Audit Trails:** Hybrid settlement models use digital coordination (via encrypted apps) but settle balances through cash or trade, leaving no paper trail for Financial Intelligence Units (FIUs) to trace.

• **AI-Driven Evasion:** Criminals utilize AI tools for automated transaction structuring and dynamic routing through multiple 'mule' accounts, overwhelming traditional rule-based detection systems.

• **The De-risking Paradox:** Overly punitive formal banking regulations and 'de-risking' (severing ties with high-risk sectors) often push legitimate users and MSMEs into informal channels, expanding the customer base for hawala operators.

**Multi-Pronged Strategy for India:**

• **Strengthen Technological Capabilities:** India's FIU-IND and Enforcement Directorate (ED) must deploy advanced blockchain analytics and AI-driven forensic tools to trace virtual asset flows and identify VASP-hawala intersections.

• **Robust VASP Regulation:** Ensure strict enforcement of the March 2023 PMLA guidelines that brought Virtual Digital Assets (VDAs) under the AML framework, ensuring offshore exchanges comply with Indian laws.

• **International Collaboration:** Leverage platforms like the FATF, Egmont Group, and Quad to standardize terminology, share real-time intelligence, and execute joint operations to disrupt entire laundering chains rather than isolated transactions.

• **Enhance Financial Inclusion:** Reduce the cost and complexity of formal remittance channels to disincentivize migrant workers and businesses from relying on informal networks.

In conclusion, combating digital hawala requires transitioning from traditional transaction-monitoring models to a technology-driven, globally coordinated ecosystem approach that balances strict enforcement with financial accessibility.

Prelims practice questions

Q1. Consider the following statements regarding the Financial Action Task Force (FATF): 1. It was established during the G7 Summit in Paris in 1989. 2. India is one of the founding members of the FATF. 3. Its secretariat is housed at the OECD headquarters in Paris. Which of the statements given above are correct?

1. 1 and 2 only
2. 1 and 3 only
3. 2 and 3 only
4. 1, 2 and 3

Answer: B. Statement 1 is correct: FATF was established in 1989 by the G7 Summit in Paris. Statement 2 is incorrect: India joined FATF as an observer in 2009 and became a full member in 2010; it is not a founding member. Statement 3 is correct: Its secretariat is located at the OECD headquarters in Paris.

Q2. In the context of international finance and security, the term 'Bank De-risking' refers to:

1. The process of central banks lowering interest rates to stimulate economic growth during a recession.
2. The mandatory transition of commercial banks from physical ledger systems to decentralized cloud storage.
3. A regulatory mechanism where commercial banks transfer their non-performing assets to a government-backed bad bank.
4. The practice of financial institutions terminating or restricting business relationships with clients or categories of clients to avoid, rather than manage, risk.

Answer: D. Bank de-risking refers to the phenomenon where financial institutions terminate or restrict business relationships with entire classes of clients (such as remittance providers, charities, or specific jurisdictions) to avoid regulatory scrutiny and risk. The FATF notes that this practice often inadvertently drives legitimate users into informal, unregulated channels like hawala.

Q3. Which of the following measures have been taken by India to regulate Virtual Digital Assets (VDAs) and curb money laundering? 1. Bringing VDA transactions under the ambit of the Prevention of Money Laundering Act (PMLA), 2002. 2. Mandating that VDA service providers perform KYC verification of their clients. 3. Imposing a complete ban on the possession and transfer of all private cryptocurrencies under the FEMA Act. Select the correct answer using the code given below:

1. 1 and 2 only
2. 2 and 3 only
3. 1 and 3 only
4. 1, 2 and 3

Answer: A. Statements 1 and 2 are correct: In March 2023, the Ministry of Finance brought VDA transactions and service providers under the PMLA, making KYC, record-keeping, and reporting of suspicious transactions mandatory. Statement 3 is incorrect: India has not imposed a complete ban on the possession or transfer of private cryptocurrencies under FEMA; instead, it has opted to tax and regulate them under AML frameworks.

Revision flashcards

• What is 'Digital Hawala' as defined by the FATF? The integration of modern technologies (like virtual assets/stablecoins, encrypted messaging, and AI-based routing) with traditional, trust-based informal value transfer systems (hawala) to facilitate rapid, anonymous cross-border transactions.
• What is the unintended consequence of strict bank 'de-risking' highlighted by the FATF? It drives legitimate users, NGOs, and licensed money service businesses out of the formal banking system and into informal, unregulated underground channels, inadvertently aiding criminal networks.
• Which Indian agency acts as the central national agency responsible for receiving, processing, and analyzing information relating to suspect financial transactions? Financial Intelligence Unit - India (FIU-IND), established in 2004 under the Department of Revenue, Ministry of Finance.
• What are the two main international bodies that India collaborates with to share financial intelligence on money laundering? The Financial Action Task Force (FATF) and the Egmont Group of Financial Intelligence Units.
• Why does cash remain critical in 'digital hawala' despite the use of virtual assets? Cash remains the primary medium at the 'collection' (entry) and 'exit' points of the transaction, while virtual assets are used primarily for intermediary settlement between operators.