The Harshad Mehta Scam - 1991- 92

1. THE SECURITIES SCAM
THE HARSHAD MEHTA SCANDAL

2. INTRODUCTION
• Took place between April 1991 to May 1992
• Involved diversion of money worth Rs. 4000 crore from the
banking system
• Used to fund stock market transactions
• Led to changes in regulatory rules by SEBI
• Had impact on liberalization policies at the time

3. BACKGROUND ON HARSHAD MEHTA
• Worked in several brokerage firms during the 80s.
• Rose to prominence by 1990 in the Indian securities market
• For a period of year, started trading heavily in the stock market.

4. INSTRUMENTS USED - READY FORWARD
DEAL
• It is a secured short term loan (typically 15 days)
• Borrowing banks sell their securities
• They buy them back from the lending bank at the end of the
term, generally at a higher price
• Deal generally engineered by a broker
• Lending & borrowing banks need not know each other

5. INSTRUMENTS USED - BANK RECEIPTS
• Issued by the lending bank to the borrowing bank
• Confirms the transfer of securities
• Acts as a receipt for the money received by the borrowing bank
• Promises to deliver the securities to the lender
• As a assurance that the borrower holds the securities in trust of
the lender.

6. DESIGN OF THE SCAM
BANK A –
Selling Bank
BROKER X
Sells securities
on Day1

7. BANK A –
Borrowing Bank
BROKER X
Issues
securities to X
on Day1
BANK B –
Lending bank
Issues
securities to B
Day1
Issues cheque
in favour of
broker on Day1

8. BANK A –
Borrowing BankBROKER X
Issues
securities to
X on Day 2
BANK B –
Lending bank
Issues
securities to B
Day1
Issues cheque
to X on Day1
BANK D –
Lending Bank
BANK C -
Borrowing
Bank
Issues
securities to
X on Day1
Issues cheque
in favour of
broker on Day
2
Issues
securities to C
on Day2

9. BANK A –
Borrowing BankBROKER X
Issues
securities to
X on Day 2
BANK B –
Lending bank
Issues
securities to B
Day1
Issues cheque
to X on Day1
BANK D –
Lending Bank
BANK C -
Borrowing
Bank
Issues
securities to
X on Day1
Issues cheque
in favour of X
on Day 2
Issues
securities to D
on Day2
BANK Z
Issues fake
BRs
Presents BRs
on day 2
Pays A on
day 2

10. BANK A –
Borrowing BankBROKER X
Issues
securities to
X on Day 2
BANK B –
Lending bank
Issues
securities to B
Day1
Issues cheque
to X on Day1
BANK D –
Lending Bank
BANK C -
Borrowing
Bank
Issues
securities to
X on Day1
Issues cheque
in favour of X
on Day 2
Issues
securities to D
on Day2
BANK Z
Issues fake
BRs
Presents BRs
on day 2
Excess funds used to
finance stock market
transactions
Pays A on
day 2

11. EXPOSURE OF SCAM
• News report of SBI having shortage of government securities
(April 1992)
• Investigation carried out by JPC, CBI, RBI, IT department
• Misappropriation of funds found to be worth Rs. 4000 crore

12. IMPACT OF THE SCAM
• Immediate impact being drop in Sensex from 4500 to 2500
• Loss of 1,00,000 crores in market capitalization
• Government’s liberalization policies were put on hold
• Sanctioning of private sector mutual funds was postponed

13. ACTIONS TAKEN BY THE GOVERNMENT
• Mehta was charged with 72 criminal offenses
• More than 600 civil lawsuits filed against him
• Government passed the ‘SEBI Act’ in 1992 & conferred statutory
powers to it
• Rolling settlements system made compulsory
• Launched trade guarantee funds to guarantee all transactions

14. REFERENCES
• INVESTOPEDIA
• WIKIPEDIA
• SECURITIES & EXCHANGE BOARD OF INDIA
• RESERVE BANK OF INDIA