Hawala And Terror Financing: Pakistan's Ongoing Challenges Post-FATF

On March 12, 2025, Pakistan's Federal Board of Revenue (FBR) identified over 70 real estate agents allegedly involved in transferring significant sums of money to the United Arab Emirates (UAE) through informal channels such as hawala and hundi. According to The News, a Pakistani publication, these transactions were linked to the open-market purchase of foreign currency and subsequent investments in Dubai's real estate sector-raising concerns about pressures on Pakistan's exchange rate.

Authorities indicated that some agents facilitated the transfer of foreign exchange outside of regulated financial channels. Real estate representatives reportedly described the practice as common, often conducted via exchange companies, with little scrutiny regarding the origin of the funds. The report noted that around two million Dirhams were moved for property purchases, potentially forming part of a broader financial issue under investigation.

Hawala-a traditional money transfer system operating outside formal banking structures-remains a significant component of Pakistan's informal economy. According to various estimates, Pakistan's informal economy is valued at approximately $457 billion, exceeding the formal economy by an estimated 64%. Factors contributing to this include regulatory complexities, limited financial inclusion, and public distrust of formal mechanisms.

In many instances, distinctions between the informal and black economies become blurred. Critics argue that this overlap can divert attention from critical issues such as illicit finance and tax evasion, ultimately affecting economic transparency and governance.

The hawala system itself operates through networks of brokers and relies heavily on trust. Typically, a sender provides money to a broker in one country who then instructs a counterpart elsewhere to disburse the equivalent amount-often with only a code or password shared between the sender and recipient. The process is fast, low-cost, and leaves minimal paper trail. While many use hawala for legitimate purposes, including remittances, its structure can also facilitate money laundering, smuggling, and tax evasion.

Certain regions, including Peshawar and Quetta, are often noted in reports as key hubs where hawala is used to support informal trade and, at times, smuggling. Due to their geographic proximity to porous borders, these areas can present enforcement challenges. Informal financial transactions have been linked to the movement of goods such as narcotics and unregistered items.

Zafar Paracha, Secretary General of the Exchange Companies Association of Pakistan (ECAP), noted that some hawala operations have involved gold traders. According to Paracha, gold is at times exchanged between hawala dealers, with documentation allegedly misused to represent domestic sales as exports. Such practices may involve the use of falsified paperwork and misdeclared imports or exports.

Additionally, some hawala dealers operate in illegal foreign exchange trading. These dealers often charge lower fees than official money changers and offer exchange rates that diverge from those set by financial institutions.

Shahid Mehmood, economist and research fellow at the Pakistan Institute of Development Economics, stated that several well-known foreign exchange firms in Pakistan originated from hawala operations. He noted that many such firms may continue to rely on informal channels, especially during periods of administrative controls over exchange rates. Policies aiming to manage the exchange rate through non-market interventions can create parallel markets and encourage informal trading.

Limited digital financial infrastructure also contributes to the persistence of informal financial practices. According to 2023 data from the State Bank of Pakistan, cash in circulation made up 30% of the total money supply (M2), equivalent to roughly 11% of the country's GDP. In comparison, neighboring economies maintain significantly lower ratios-typically under 5%. Observers attribute this trend to public perceptions of formal banking as cumbersome or punitive, particularly regarding taxation.

The widespread use of informal remittance systems poses policy and regulatory challenges. Rashid Ashraf, CEO of ACE Money Transfer, stated that many Pakistani expatriates turn to hawala and hundi channels to avoid formalities they perceive as burdensome. However, he cautioned that unregulated money flows can contribute to risks such as financial fraud and criminal financing.

Concerns about hawala's vulnerability to abuse are longstanding. A 2002 U.S. Treasury Department report titled“The Hawala Alternative Remittance System and Its Role in Money Laundering” highlighted hawala's use in concealing proceeds from drug trafficking and other illegal activities.

Although Pakistan was removed from the Financial Action Task Force (FATF) grey list in 2022, challenges remain. Weak regulatory enforcement, especially in areas such as monitoring charities, religious donations, and high-cash transactions, continue to pose vulnerabilities. Unlicensed hawala operators reportedly remain active in several urban centers, including Karachi and Peshawar.

With an estimated 85% of financial transactions still conducted in cash and corruption cited as a concern by anti-graft observers, completely dismantling informal money transfer networks remains a complex task. Policymakers and regulators continue to balance financial inclusion efforts with the need to improve transparency and curb illicit finance.

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