INDIAN ECONOMIC DEVELOPMENT

CHAPTER-4
ECONOMIC REFORMS SINCE 1991: NEW ECONOMIC POLICY

 Meaning of Economic Reforms (New Economic Policy)

Economic reforms refer to a set of economic policies
directed to accelerate the pace of 'growth and development.
It was in the year 1991 that the Government of India
launched NEP (New Economic Policy), unfolding a series of
economic reforms to pull the economy out of the crises of
90's. Three broad components of NEP are:
(i) The policy of liberalisation (L) in place of licensing (L)
for the industries and trade.
(ii) The policy of privatisation (P) in place of quotas (Q) for
the industrialist and
(iii) The policy of globalisation (G) in place of permits (P)
for exports and imports.
Thus, LPG was set to replace LQP in 1991.
The economic reforms introduced in 1991 can broadly
be classified into:
(i) Stabilisation Measures: Short-term measures aimed at
correcting the deficit in balance of payments and
controlling inflation.
(ii) Structural Reforms: Long-term measures aimed at
improving the level of efficiency in the economy by
 increasing competitiveness and reducing rigidities in
various sectors of Indian economy.
 ELEMENTS OF NEP (NEW ECONOMIC POLICY)
Liberalisation, Privatisation and Globalisation are the three
main elements of NEP.
 Liberalisation
Liberalisation of the economy means freedom of the
producing units from direct or physical controls of the
government. Following are some notable observations in
this regard:
(i) Prior to 1991, government had imposed several
types of controls on private enterprises in the
domestic economy.
(ii) It was experienced by the government that several
shortcomings had emerged in the economy on
account of these controls.
(iii) These controls had given rise to corruption, undue
delays and inefficiency.
(iv) Growth rate of GDP had fallen sharply and high-cost
economic system (rather than a low-cost
competitive economic system) came into being.
 Economic Reforms under Liberalisation
Liberalisation included the following reforms:
(1) Industrial Sector Reforms: Liberalisation virtually
implied de-regulation of industrial sector of the
economy. Following observations highlight how
it happened:
(i) Abolition of Industrial Licensing: It
abolished the requirement of licensing
except for the following five industries: (a)
liquor, (b) cigarette, (c) defence
equipments, (d) industrial explosives, and
(e) dangerous chemicals.
(ii) Contraction of Public Sector: Under the
new industrial policy, number of industries
reserved for public sector was reduced
merely to three including: (a) Atomic
energy, (b) Railways, and (c) Defence
equipments.
(iii) De-reservation of Production Areas: Many
production areas which earlier were
reserved for SSI (small-scale industries)
were de-reserved. Forces of the market
were allowed to determine allocation of
resources.
(iv) Expansion of Production Capacity: Earlier
production capacity was linked with
licensing. Now, freedom from licensing
implied freedom from capacity constraints.
'What to produce and how much to
produce' was now a matter of producer's
choice depending on market conditions.
(v) Freedom to Import Capital Goods:
Liberalisation also implied freedom for the
industrialists to import capital goods with a
 view to upgrading their technology.
Permission was no longer required from
the government to enter into international
agreements for the import of technology.
(2) Financial Sector Reforms
Financial sector includes: (i) banking and non-
banking financial institutions, (ii) stock exchange
market, and (iii) foreign exchange market.
In India, financial sector is regulated and
controlled by the Reserve Bank of India (RBI).
Liberalisation implied a substantial shift in the
role of the RBI from 'a regulator' to 'a facilitator
of the financial sector.
(3) Tax Reforms
Tax reforms are an important component of
fiscal policy of the government or revenue and
expenditure policy of the government. Broadly,
taxes are classified as: (a) direct taxes, and (b)
indirect taxes.
Direct taxes are those taxes, the burden of which
cannot be shifted onto others. Indirect taxes
(levied on goods and services) are those taxes,
the burden of which can be shifted onto others.
Prior to liberalisation, tax structure was quite
complex and tax rates were quite high. High tax
rates induced tax evasion, causing loss of
revenue to the government.
(4) Foreign Exchange Reforms
 Foreign exchange reforms were to resolve BoP
crises in the country. Devaluation was the first
step initiated in this regard, in 1991. Indian
currency was devalued in relation to foreign
currencies. It implied fall in the value of rupee
vis-à-vis (say) US dollar or British pound.
(5) Trade and Investment Policy Reforms
Trade and Investment Policy underwent a
substantial change in the wake of liberalisation.
These reforms in this area focused on:
(i) Increasing international competitiveness of
the domestic industry,
(ii) Inducing foreign investment in the
domestic economy, and
(iii) Bringing efficient foreign technology into
the economy.
The aim of these reforms was also to promote
the efficiency of local industries and promote
modern technology.
Trade and investment policy reforms were
carried out in the form of:
(i) Dismantling of Quantitative Restrictions
on Imports and Exports: Quantitative
restrictions on imports of manufactured
consumer goods and agricultural goods
were removed.
(ii) Reduction in Tariff Rates: Tariff restrictions
were considerably moderated, rather
 withdrawn from many items of export and
import.
(iii) Removal of Import Licensing: The policy of
import licensing was abolished except in
case of hazardous and environmentally
sensitive industries. Quantitative
restrictions on imports of manufactured
consumer goods and agricultural products
were also fully removed from April 2001.
(iv) Removal of Export Duties: Export duties
were removed to increase the competitive
position of Indian goods in the
international market.
 Salient Features of Trade Policy after Liberalisation
a. Import quotas have been abolished.
b. Import licensing has been abolished.
c. There is a moderation/reduction of import
duty to enhance competitiveness in the
domestic market.
d. Export duty has been withdrawn to enhance
competitiveness of Indian goods in the
international market.
 Privatisation
Privatisation is the process of involving the private
sector in the ownership or operation of a state owned
enterprise. It implies gradual withdrawal of
government ownership/management from the public
sector enterprises. It may happen in two ways:
(i) Outright sale of the government enterprises to
the private entrepreneurs or
(ii) Withdrawal of the government ownership and
management from the mixed enterprises.
 Need for Privatisation
Need for privatisation was felt mainly because of
poor performance of PSUs. Note the following
observations in this regard:
(1) The process of industrialisation was initiated
during Second Five Year Plan assigning a key role
to PSUs/PSES.
(2) The Industrial Policy Resolution, 1956 clearly and
categorically stated the significance of PSUs/PSEs
in the process of growth and development.
(3) Doubtless it was on account of the spread of
PSUs that India could diversify its industrial base
between the period 1951-1991.
(4) Gradually, most public sector enterprises turned
into a deadweight loss (or a social liability).
Mounting losses of PSUs became unsustainable.
(5) Leakage, pilferage, inefficiency and corruption
had become so rampant in PSUS that their
privatisation was considered as the only remedy.
(6) Accordingly in 1991, the government decided to
phase out public enterprises by selling its equity
to the private entrepreneurs Privatisation was to
replace public ownership of a large number of
enterprises.
 Obvious Gains and Imperative Losses of
Privatisation
Obvious Gains
(i) Privatisation implies supremacy of 'self-interest'
over 'social interest'. When 'self-interest' prevails,
the entrepreneurs work with 100 per cent
commitment, and 'efficiency' becomes the condition
of survival for the workers. High productivity is the
obvious result.
(ii) Privatisation expects private enterprises to work
in a competitive environment both domestic as well
as international. Competition induces upgradation
and modernisation. These are the essential
conditions of growth and development.
(iii) Privatisation promotes diversification of
production. Unlike PSUs, private enterprises
invariably generate high profits.
(iv) Privatisation promotes consumers' sovereignty.
Higher degree of consumers' sovereignty implies
wider choice and better quality of life.
Imperative Losses
(i) Socialistic pattern of the society is left to survive
only as theoretical possibility. It loses its practical
relevance once PSUs are sold off to the private
entrepreneurs.
(ii) Privatisation encourages the free play of market
forces. But in the process, goods are produced only
for those who have the means to buy them.
 Globalisation
Globalisation means integrating the economy of a
country with the economi of other countries under
conditions of free flow of trade and capital acros
borders. Globalisation may be defined as a process
associated with increasing openness growing economic
interdependence and deepening economic integration
is the world economy. Economic reforms aim at
integrating the Indian economy with the global
economy. As a result, there will be unrestricted flow of
goods and services, technology and expertise between
India and rest of the world.
 Policy Strategies Promoting Globalisation of the
Indian Economy
Following are some important policy strategies that
have influenced the process of globalisation of the
Indian economy:
(1) Increase in Equity Limit of Foreign Investment:
Equity limit of foreign capital investment has
been raised from the initial 40 per cent. It now
ranges between 51 to 100 per cent. However,
Foreign Exchange Management Act (FEMA) has
been enforced. Compliance to FEMA has been
accorded high priority.
(2) Partial Convertibility: To achieve the objective of
globalisation, partial convertibility of Indian
rupee has been allowed for the following
transactions:
 (i) Import and export of goods and services,
(ii) Payment of interest or dividend on investment,
and
(iii) Remittances to meet family expenses. It is called
partial convertibility because it does not cover
capital transactions. Partial convertibility refers to
the sale and purchase of foreign currency at the
market price.
(3) Long-term Trade Policy: In conformity with
economic reforms, foreign trade policy is enforced
for a longer duration (nearly five years). Implying
that it is a liberal policy.
(4) Reduction in Tariffs: In order to encourage
competitiveness, tariff barriers have been
withdrawn on most goods traded between India and
rest of the world.
(5) Withdrawal of Quantitative Restrictions: Since
2001, the quantitative restrictions on all import
items have been totally withdrawn. This is in
conformity with India's commitment to the WTO.
 AN APPRAISAL OF LPG POLICIES: PERFORMANCE OF THE INDIAN
ECONOMY DURING REFORMS
Good Effect
Following observations highlight the good effect of LPG policies on
the Indian economy:
(1) Vibrant Economy: Indian economy has definitely become a
more vibrant economy. Overall level of economic activity has
trended up as indicated by GDP growth. Post LPG policies, the
growth of GDP increased from 5.6 per cent during 1980-91 to 8.2
per cent during 2007-12.
(2) Stimulant to Industrial Production: LPG policies have worked
as a great stimulant to industrial production in the Indian
economy. It is owing to these policies that IT industry in India has
achieved global recognition.
(3) Check on Fiscal Deficit: Mounting fiscal deficit has been a
serious threat to the process of investment in the Indian
economy. From as high as 8.5 percent of GDP has been brought
down to around 3.5 percent of GDP.
(4) Increase in Foreign Exchange Reserves: Depletion of forex
reserves was one of the compelling reasons for the government
to shift to LPG policies. Thanks to these policies, forex reserves of
the country have now comfortable level.
(5) Check on Inflation: Owing to a greater flow of goods and
services in the economy, rate of inflation has been lowered. In the
years 2011-12 to 2013-14, inflation was in the range of 6-9 per
cent per annum.
(6) Consumer's Sovereignty: Consumers sovereignty has
expanded over time. This is evident from the fact that a large
variety of goods and services from the diverse global markets are
now within the easy reach of the buyers.
Bad Effect
All that glitters is not gold. There is a negative side of the story as
well. Following observations highlight the negative effect of LPG
policies in India:
(1) Unemployment: Globalisation has increased the influx of
foreign investment and foreign technology. It is a labour saving
technology, owing to which absorption of labour has reduced in
the process of GDP growth. Indeed, "jobless growth is an
emerging challenge of the Indian economy.
(2) Disinvestment: NEP has encouraged disinvestment by the
government. It is good in so far as it is used as a tool to load off
the loss-making assets. But, when used as a tool to manage fiscal
deficit disinvestment highlights inefficiency of the government as
a manager of the government.
(3) Fiscal Policy: Owing to NEP, fiscal policy of the government has
come under a severe stress. During the reform period, the
Government of India had reduced tax rates, to induce more
people to pay tax and prevent tax evasion.
(4) Economic Colonialism: India suffered nearly 200 years of
political colonialism during the British rule. Now, while MNCs are
expanding their economic control, we might suffer a sort of
economic colonialism.
(5) Spread of Consumerism: Spread of MNCs in the country as a
consequence of LPG policies has resulted in a large-scale spread
of consumerism. A variety of global brands in the market has
induced the masses to become spendthrift, going beyond their
means.