When the National Spot Exchange Limited (NSEL) went belly up in early August after swiping about Rs. 5,600 crore of investor money, many must have been genuinely shocked. And many others must have faked shock because they couldn’t have been shocked by what they knew was coming.

In the case of the spot exchange scam, those in the top echelons of the department of consumer affairs (DCA) and the forward markets commission (FMC) must figure in the latter category of faked shock. The DCA and the FMC had more than mere knowledge of the murky dealings of NSEL promoted by Jignesh Shah, the big bull of the commodities market. They had a three-year lead time in which they could have nipped the scam in the bud. But they chose to indulge in a whole lot of bureaucratic passing the parcel while NSEL was breaking trading records like it was an exchange on steroids.

And steroids it definitely was on.

“Trading volumes on the NSEL grew rapidly particularly since late 2010. Monthly turnover increased from less than Rs. 10 crore in October 2008 to about Rs. 25,000 crore in April 2013 with a peak monthly turnover of Rs. 45,500 crore in March 2012,” says the report of the special team of secretaries set up by the prime minister’s office after the dirt hit the ceiling.

A careful reading of the report submitted by Arvind Mayaram, secretary, economic affairs, reveals the cavalier attitude (not the words used in the report) of these two authorities to the then unfolding spot exchange scam. Buried deep inside the various annexures of the report is the startling fact that these two agencies got the first whiff of the scam as far back as in 2010, a good three years before the NSEL cop out. Read this extract from the briefing Pankaj Agrawala, secretary, DCA, gave at the first sitting of the committee on September 3 (Record of discussion, Annexure II of the final report):

“The initial performance of the exchange (NSEL) was rather poor and somewhere in 2010 it launched a paired series of T+2 and T+25 contracts in contravention of the conditions of the exemption. This, it was alleged, was a sort of financing scheme which helps the participants pass on their income as business income and avail tax benefits. The complaints were examined and it was found that the operation of the exchange was in contravention to the provisions of the FCRA (Forward Contracts Regulation Act, 1952) and the exemption granted to them. The DCA therefore directed the NSEL to stop T+25 contracts. The earlier complaints received with regard to NSEL operating as an NBFC were referred to department of financial services on which no response was received.”

Now juxtapose the above two observations. The final report says “trading volumes in NSEL grew rapidly particularly since 2010”. The annexure says that, at around the same time, in 2010, NSEL had launched illegal (T+25) contracts. The inescapable conclusion is that the trade volumes and turnover, which were flat for two years, started to zoom only on the strength of the T+25 contracts that NSEL launched in 2010. These contracts were illegal, against the very DNA of a spot exchange and had helped NSEL mutate into a sort of financial market which was openly violative of the very conditions of licensing (Section 27 of the FCRA) of spot exchanges.

But this crucial fact, that the NSEL started going rogue as early as in 2010, completely escaped the attention of high-powered committee of secretaries (supported by two working groups comprising some of the top brains of the commodities and financial markets) whose job it was to “examine violation of laws and regulations by NSEL…”. As a result, the final report glosses over this inconvenient fact.

Thus while talking about the “background” of the NSEL crisis (Section B, para 4), the report begins by describing the lacklustre beginning in 2008, the bull run beginning 2010 and then takes a big, convenient leap into February 2012 without taking into account the illegality (of T+25 contracts) that had been detected in 2010. Here’s para 6 of the same section: “In February 2012, FMC, based on scrutiny of the returns including trade data and subsequent clarification submitted by NSEL… recommended that the DCA take necessary action as it was observed that the following specific conditions were not being fulfilled:

• No short sale by members of the exchange shall be allowed
• All outstanding positions of the trade at the end of the day shall result in delivery.”

These were exactly the same licensing conditions that NSEL was already found in breach of in 2010 which leads one to another inescapable conclusion: that right through the interim period of about 14 months, NSEL happily continued to operate outside the realms of the law so freely and so without fear of consequences that the following month, that is, March 2012, it notched up a mind-numbing Rs. 45,500 crore turnover, the highest ever monthly average.

But even this startling fact escaped the attention of the special team of secretaries who do not once ponder the question: what were the regulators, DCA and FMC, doing in the interim? Surely, there couldn’t have been enough thumbs in both the offices put together to twiddle for 14 long months! So, why was this scam allowed to be perpetrated without the inconvenience of governmental intervention or probing? Was NSEL beyond the reach of the law? Did it have godfathers in high places in the ministry of food and consumer affairs?

There is, of course, a ready bureaucratic answer for all these inconvenient questions: It was not the remit of the special team of four high-profile secretaries to find out such stuff. The terms of reference were conveniently narrow: “to examine violation of laws and regulations by NSEL…and to suggest measures…to ensure there is no systemic impact’’ of the NSEL crisis on the financial markets. The prime minister’s office which set up the special team was obviously not interested in finding out what the government agencies were doing even as NSEL was selling products it was not supposed to and commodities it did not have. Nothing else can explain the lack of interest of the secretaries in such glaring examples of official negligence in discharging public duty while giving the scamsters—by design or default—a free run for three years.

It is not just the final report (submitted to the PMO on September 20) that took this leap of convenience. The effort to create memory blackouts was evident from the very first sitting of the committee or secretaries. As pointed out earlier, DCA secretary Pravin Agrawala apprised the committee of the illegal T+25 trades launched by NSEL in 2010 and concluded reference to it thus (Record of discussion, annexure II): “The DCA therefore directed the NSEL to stop T+25 contracts. The earlier complaints received with regard to NSEL operating as an NBFC were referred to department of financial services on which no response was received.”

This said, almost in passing, Agrawala moved on quickly to other pressing matters: “With regard to the latest developments at NSEL” in late July and early August 2013.

Agrawala left the reference to the 2010 criminality tantalisingly open-ended. If the DCA asked NSEL to stop T+25 contracts, what was the nature of this “asking”? Was it written or verbal? Was it a show cause notice or a friendly nudge-nudge wink-wink or was it just a for-the-records formality? How did NSEL respond? Did it acknowledge the ministry’s “asking”? Did it satisfactorily address the issue raised by the ministry? And more important, did it undertake to stop the illegal trade? If NSEL withdrew the product, what and how exactly was it setting the bourses on fire with its turnover figures? Or did it withdraw for some time and resort to illegal sales again immediately after the heat dissipated?

At least one, if not all, of Agrawala’s wise colleagues on the committee—Arvind Mayaram (economic affairs), Sumit Bose (department of revenue) and Naved Masood (corporate affairs)—should have asked all or some of these questions rather than allow him to obfuscate. “Examining the violation of laws and regulations by NSEL” was after all within their remit. They did not because raising any one of these questions would have meant putting everything that the DCA did or didn’t do in 2010 on record. That would have brought the role of the bureaucrats of the DCA during 2010 into question. So, no questions or clarifications were sought or given. Agrawala was allowed, once again either by design or otherwise, to leap forward to the present crisis to make it look like NSEL did what it did in spite of official reprimands. In the spirit of preserving the interests of the brotherhood a nominal mention of the facts of 2010 was dropped casually deep inside the annexures (because self-preserving is as important) and completely left out of the final report.

Similarly, though Agrawala’s observation suggests that the regulators had full knowledge of the fact that “NSEL was operating as an NBFC” and that he had told the committee this was established through complaints “earlier” than even the T+25 scandal, the committee did not show any curiosity about what they did with that scandalous knowledge. They were told that the matter was “referred to the department of financial services on which no response was received” and were happy to leave it at that. Once again, the fact was put on record perfunctorily shorn of all details and obliterated from the final report to secure the future of babus, past and present.

You must think that that’s an awful lot of covering up for a fact-finding committee, but we are not done yet. There were other alarm signals between 2010 and February 2012 that the final report forgets to mention or chooses to ignore. In this context, the minutes of the “working group on systemic issues related to NSEL” are a veritable minefield of information. Read this extract: “In May 2011, the issue of regulatory gap in the context of spot exchanges was flagged in the sub-committee of the financial stability and development council (FSDC). The FMC also received a complaint as well as an RTI query in June-July 2011 about the regulatory vacuum at NSEL. …In view of the growing volumes at the spot exchanges and the need to address the issue of regulatory framework for spot exchanges urgently, the FMC request the DCA, in July 2011 to take necessary action to ensure that the conditions stipulated for grant of exemption to these spot exchanges were being complied with. FMC subsequently forwarded a draft notification providing for nomination of the FMC as a designated agency to monitor compliance… and to provide oversight over the activities of the said exchanges with a view to ensuring that the trading, clearing and settlement… are carried out in an orderly manner…affording the customers protection of their legitimate interests.”

This extract is significant. It sets out that:
a)    Back in May 2011 itself—a few months after the first warnings in late 2010—a financial institution no less than the FSDC had flagged the dangers in allowing spot exchanges to function without lease.
b)    The FMC had received a complaint against the regulatory vacuum specifically in respect of NSEL (details of the complaint are not recorded—Editor)
c)    The FMC also received an RTI query specifically in respect of NSEL (details not mentioned—Editor), and
d)    The FMC had written to DCA expressing concern over the functioning of the sport exchanges, sought powers to oversee spot exchanges and even prepared a draft notification providing regulatory powers to FMC.

Once again, you will not find this explosive information in any of the 17 pages of the final report. It is allowed to lie deep in the innards of annexure 6 (record of the proceedings of the working group). It reveals that nothing much came out of all the complaints and warnings. And even though the FMC asked clearly asked DCA for powers to regulate the spot exchanges, a few weeks later in July 2012, DCA gave FMC powers only to seek records of trades on spot exchanges leading to the conclusion that the DCA still did not want a tight leash on the spot exchanges in spite of all the danger signals.

It is after FMC got this ridiculously limited power, it sought information from NSEL in February 12 and came to the conclusion that it was violating all conditions of the licence and wrote to DCA to take action. Mayaram’s final report picks up the thread only from here perhaps to suggest that this was the first instance of regulatory awakening in respect of NSEL whereas there were consistent warning signals right from 2010.

Even at this stage if DCA had acted decisively and quickly, NSEL would not have got away perpetrating the fraud for another full year till it went bust in July 2013. So the story of the NSEL scam is all about the benign oversight of the DCA almost facilitating and abetting it.

And the report of the special team of secretaries appointed by the prime minister is a further effort to put the lid on official complicity in engineering a grand scam. After all this you shouldn’t wonder why Jignesh Shah is still not in jail. What if he demands the company of his many, as yet unknown, benefactors?

(Yogesh Mishra, Deepak Rastogi and Srishti Pandey contributed to this report)