Author – Zoya Alam, Alliance University Bengaluru
Abstract
The Harshad Mehta scam of 1991-1992 is one of the greatest financial frauds in Indian history that has highlighted structural and regulatory shortcomings of the systems in the banking and capital markets of India. It was a massive scam of the stock market by fraudulently manipulating banking instruments and especially ready forward (RF) deals leading to an approximate loss of over [?]4,000 crore to the public sector banks.
This paper discusses the fraud on legal grounds, i.e., the modus operandi, violation of law, evidence standpoint, judicial action towards the case, and its long-term consequences on securities regulation in India. The discussion indicates that the scam changed financial regulation, reinforced the role of the Securities and Exchange Board of India (SEBI) and helped to develop white-collar crime jurisprudence.
To the Point Overview of the Scam
Harshad Shantilal Mehta, who was a stockbroker based mostly at the Bombay Stock Exchange (BSE), staged a big securities tussle by taking advantage of the banking system. He was using funds diverted by the banks of the public sector into the stock market and artificially driving up the prices of shares of few companies. The artificial bullishness that was created by the manipulation gave investors a false sense of the financial ecosystem stabilising investors and destabilising the eco system.
The fraud was discovered in April 1992 when Sucheta Dalal a journalist investigating the story found abnormalities in the banking transactions.
This disclosure caused a stock market crash, erosion of investor confidence and criminal, civil, and regulatory action against Mehta and a few banking officials.
Use of Legal Jargon and Statutory Framework
The fraud entailed serious breaches of statutory and fiduciary duties according to the Indian laws. The major legal considerations were associated with:
Cheating and Criminal Breach of Trust under 420 and 409 of Indian Penal Code, 1860 (IPC).
Forgery and Forged Document under 463, 468 and 471 IPC.
Criminal Conspiracy by Section 120B IPC.
Breaking of Banking Regulations in the Banking Regulation Act, 1949.
Securities Market under the Regulation) Act, 1956, Manipulation of Securities Markets.
The fraud was carried out by the use of Bank Receipts (BRs)- documents issued by banks which recognized the acquisition of government securities. False or unsecured BRs were given and Mehta was then able to get huge amounts of money without the support of genuine securities.
The ready forward (RF) deals which were supposed to be a short-term secured lending agreement between banks were perverted into instruments of market abuse. Lack of a centralised settlement mechanism and proper control assisted in carrying out the crime.
Proof and Evidentiary Basis
The prosecution argued based on the factual and circumstantial evidence, which included:
Fraudulent and Forged Bank Receipts indicating lack of securities with the government.
Bank records of transactions involving diversion of inter-bank funds to accounts under the control of brokers.
Confessions of Bank Officials who conceded failure in the procedural errors and unauthorised issuing of BRs.
Data in the Stock Market of abnormal price inflation in specific stocks in the case of inflow of funds.
In 1992, Audit Reports and findings of the Joint Parliamentary Committee (JPC) were formed.
The trail of evidence proved to form a nexus between the fraudulent banking transactions and the manipulation of the stock market, which would meet the burden of proof in criminal proceedings.
Judicial Response and Cases Laws
CBI v. Harshad S. Mehta (2007) Various Proceedings.
Harshad Mehta was several times prosecuted by the Central Bureau of Investigation (CBI). The Special Court (Trial of Offences Relating to Transactions in Securities) Act, 1992 was formulated in response to the need to have a quick trial of the offences relating to the scam.
Mehta was found guilty in a number of cases of offences in accordance with the Sections 420 and 409 of the IPC. Nevertheless, not all of them ended with guilty verdicts because of the absence of direct evidence or procedural flaws, which underlines the difficulties associated with the prosecution of economic crimes.
R. Venkatakrishnan v. CBI (2009) 11 SCC 737
This is not a case that was directly in opposition to Mehta but it was a result of the same scam that made it clear that the banking officials were criminally liable. The Supreme Court ruled that criminal misconduct may consist of gross negligence and process breaches by the senior bank officers.
Harshad S. Mehta v. Custodian (1998) 5 SCC 1
The Supreme Court looked into the area of authority of the Custodian appointed under the 1992 Act and ruled strict actions in the attachment and disposal of properties that were the part of the scam.
Conclusion
The Harshad Mehta scam was a breakthrough in the history of the Indian financial and legal systems. It revealed institutional weaknesses in banking activities, regulation, and the market framework. Legally, the fraud emphasized the difficulty of investigating and prosecuting white-collar crimes, especially of complex financial instruments.
The fallout of the fraud saw radical changes in the form of increased powers to the SEBI, the advent of electronic trading and settlement systems, dematerialisation of securities and tightening of disclosure rules. The introduction of special courts and the status of economic offences as a serious crime with far-reaching impacts portrays the changing trend of the judicial system.
The scam then, can be used as a lesson on the importance of having regulations that are sound and relevant, financial practices that are ethical and criminal law that is well enforced to ensure that the people trust financial markets.
FAQS
Q1. What was the primary instrument misused in the Harshad Mehta scam?
The scam primarily involved the misuse of Bank Receipts (BRs) in ready forward (RF) transactions between banks.
Q2. Which laws were violated in the scam?
Key violations included provisions of the Indian Penal Code, Banking Regulation Act, and Securities Contracts (Regulation) Act.
Q3. What role did SEBI play after the scam?
Post-scam, SEBI was vested with greater statutory powers to regulate and monitor the securities market.
Q4. Was Harshad Mehta convicted?
Yes, he was convicted in some cases; however, several trials were pending at the time of his death in 2001.
