Class 12 -IED

CHAPTER 3
INDIAN ECONOMY- SINCE 1991

Why were Economic Reforms Introduced?

The government was not able to generate sufficient revenues from
internal sources such as taxation. The income from public sector undertakings
(PSUs) was also not very high. Even though the revenues were very low, the
government had to spend more to meet challenges like unemployment, poverty
and population explosion. The government was also spending a large share of
its income on areas which do not provide immediate returns such as the social
sector and national defense. In the late 1980s, government expenditure began to
exceed its revenue by such large margins that meeting the expenditure through
borrowings became unsustainable.
India approached the International Bank for Reconstruction and Development
(IBRD), popularly known as World Bank and the International Monetary Fund
(IMF), and received $7 billion as loan to manage the crisis. For availing the
loan, these international agencies expected India to liberalise and open up the
economy by removing restrictions on the private sector, reduce the role of the
government in many areas and remove trade restrictions between India and
other countries. India agreed to the conditionalities of World Bank and the IMF
and announced the New Economic Policy (NEP) in 1991.) (The NEP consisted
of wide ranging economic reforms.

The set of policies can broadly be classified into two groups : the stabilisation
measures and the structural reform measures.
Stabilisation measures are short-term measures, intended to correct the balance
of payments position and to bring inflation under control. In simple words,
stabilisation measures aimed at maintaining sufficient foreign exchange reserves
and keeping the rising prices under control.
Structural reform policies are long term measures, aimed at improving the
efficiency of the economy and increasing its international competitiveness by
removing the rigidities in various segments of the Indian economy. These
include liberalisation, privatisation and globalisation.

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 Liberalisation

Liberalisation means freeing the Indian businesses and industries from

unnecessary controls and restrictions.
Liberalisation was introduced to put an end to these controls and restrictions,
and open various sectors of the economy. Though a few liberalisation measures
were introduced in 1980s in areas of industrial licensing, export-import policy
and foreign investment, reform policies initiated in 1991 were more
comprehensive covering some important areas, such as the industrial sector,
financial sector, tax reforms, foreign exchange markets and trade and
investment sectors.

I. Industrial Sector Reforms or Deregulation of Industrial Sector

Prior to reforms, in India regulatory mechanisms were enforced in various

ways:
(i) Industrial licensing under which every entrepreneur had to get permission
from government officials to start a firm, close a firm or decide the
amount of goods that could be produced.
(ii) Private sector was not allowed in many industries.
(iii) Some goods could be produced only in small-scale industries.
(iv) Controls on price fixation and distribution of selected industrial
products. The reform policies introduced in and after 1991 removed many
of these restrictions.

Measures of deregulation of the industrial sector

 Industrial licensing was abolished for almost all products except a few
product categories- alcohol, cigarettes, hazardous chemicals, industrial
explosives, electronics, aerospace and drugs and pharmaceuticals.
 The only industries which are now reserved for the public sector are a part
of defence equipment, In many industries, the market has been allowed to
determine the prices.

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2. Financial Sector Reforms
Financial sector includes financial institutions, such as commercial banks,
investment banks, stock exchange operations and foreign exchange market.
The financial sector in India is regulated by the Reserve Bank of India (RBI)
The RBI decides the Cash Reserve Ratio (the fraction of deposits that
commercial banks must keep as cash reserves with the RBI), Statutory
Liquidity Ratio (the fraction of deposits that commercial banks must keep
with themselves), Bank Rate (the rate of interest at which commercial banks
can borrow from RBI), etc.

One of the major aims of financial sector reforms is to reduce the role of RBI
from regulator to facilitator of financial sector. This means that the financial
sector may be allowed to take decisions on many matters without consulting
the RBI.
However, certain managerial aspects have been retained with the RBI to
safeguard the interests of the account-holders and the nation.
 The reform policies led to the establishment of private sector banks –
both Indian as well as foreign banks.
 Foreign investment limit in banks was raised to around 50 per cent.
 Those banks which fulfil certain conditions have been given freedom to
set up new branches without the approval of the RBI and rationalise
their existing branch networks.
 Banks have been given permission to generate resources from India and
abroad.
 Foreign Institutional Investors (FII), such as merchant bankers, mutual
funds and pension funds, are now allowed to invest in Indian financial
markets.

3. Tax Reforms
Tax reforms are concerned with the reforms in the government’s taxation
and public expenditure policies, which are collectively known as its fiscal
policy.

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Reduction in taxes
Since 1991, there has been a continuous reduction in the taxes on individual
incomes as it was felt that high rates of income tax were an important reason
for tax evasion. It is now widely accepted that moderate rates on income tax
encourage savings and voluntary disclosure of income.
Similarly, the rate of corporation tax, which was very high earlier, has been
gradually reduced.
Simplification
In order to encourage better compliance on the part of taxpayers many
procedures have been simplified and the rates also substantially lowered.
Recently, the Parliament passed a law, Goods and Services Tax Act 2016,
to simplify and introduce a unified indirect tax system in India. This law
came into effect from July 2017. This is expected to generate additional
revenue for the government, reduce tax evasion and create ‘one nation, one
tax and one market’.

4. Foreign Exchange Reforms

Devaluation of rupee
In 1991, as an immediate measure to resolve the balance of payments crisis,
the rupee was devalued against foreign currencies.
Devaluation of rupee means deliberate increase in foreign exchange rate by
the government, making the domestic currency (rupee) cheaper.
Devaluation led to an increase in exports and thus, the inflow of foreign
exchange.
Foreign exchange deregulation
It means freeing the determination of foreign exchange rate from
government control.
Foreign exchange rate means the price of one currency in terms of another.
Now, more often, exchange rates are determined in the foreign exchange
market based on the demand and supply of foreign exchange. However, RBI
may intervene to control high exchange rate fluctuations.

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 5. Trade and Investment Policy Reforms
In order to protect domestic industries, India was following a regime of
quantitative restrictions on imports. This was encouraged through tight
control over imports and by keeping the tarrifs very high. These policies
reduced efficiency and competitiveness which led to slow growth of the
manufacturing sector.
The trade policy reforms aimed at
(i) Dismantling of quantitative restrictions on imports and exports,
(ii) Reduction of tarrif rates and
(iii) Removal of licensing procedures for imports.
Liberalisation of trade and investment measures
 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.
 Export duties have been removed to increase the competitive position
of Indian goods in the international markets.
Objectives of liberalisation of trade and investment regime
 To increase international competitiveness of industrial production
 To increase foreign investments and technology into the economy.
 To promote the efficiency of local industries.
 Adoption of modern technologies.

Privatisation

Privatisation means giving greater role to the private sector in the nation
building process and a reduced role to the public sector.
Privatisation implies shedding of the ownership or management of a
government owned enterprise.
Government companies are converted into private companies in two
ways:
(i) By withdrawal of the government from ownership and management of
public sector undertakings (PSUs) and or
(ii) By outright sale of PSUs.

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 Privatisation of PSUs by selling off part of the equity of PSUs to the public
is known as disinvestment. The purpose of disinvestment was mainly to
improve financial discipline and facilitate modernisation.
Advantages of Privatisation and Disinvestment
 It was envisaged that private capital and managerial capabilities could be
effectively utilised to improve the performance of the PSUs.
 The government envisaged that privatisation could provide strong impetus
to the inflow of FDI.
Improving the efficiency of PSUs
The government has also made attempts to improve the efficiency of PSUs
by giving them autonomy in taking managerial decisions. For instance,
some PSUs have been granted special status as Maharatnas, Navaratnas and
Miniratnas. The granting of status resulted in better performance of these
companies. A few examples of PSUs with their status are as follows :
 Maharatnas (a) Indian Oil Corporation Limited, and (b) Steel
Authority of India Limited.
 Navaratnas (a) Hindustan Aeronautics Limited, (b) Mahanagar
Telephone Nigam Limited.
 Miniratnas (a) Bharat Sanchar Nigam Limited; (b) Airport Authority
of India and (c) Indian Railway Catering and Tourism Corporation
Limited.
Globalisation

Globalisation is the outcome of the policies of liberalisation and

privatisation.
Globalisation means an integration of the economy of the country with the
world economy.
However, globalisation is a complex phenomenon.
It is an outcome of the set of various policies that are aimed at transforming
the world towards greater interdependence and integration.
It involves creation of networks and activities transcending economic, social
and geographical boundaries.
It is turning the world into one whole or creating a borderless world.
Positive effects of globalisation
1. Greater access to global markets

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 2. High technology
3. Increased possibility of large industries of developing countries to
become important players in the international arena.
Negative effects of globalisation
1. Globalisation is a strategy of the developed countries to expand their
markets in other countries. It has compromised the welfare and identity
of people belonging to poor countries.
2. Market-driven globalisation has widened the economic disparities among
nations and people.
3. It has increased the income and quality of consumption of only high-
income groups and the growth has been concentrated only in some select
areas in the services sector such as telecommunication, information
technology, finance, entertainment, travel and hospitality services, real
estate and trade, rather than vital sectors such as agriculture and industry
which provide livelihoods to millions of people in the country.
Outsourcing
Outsourcing is one of the important outcomes of the globalisation
process.
In outsourcing, a company hires regular service from external sources,
mostly from other countries, which was previously provided internally or
from within the country (like legal advice, computer service,
advertisement, security, etc.).
As a form of economic activity, outsourcing has intensified, in recent
times, because of the growth of fast modes of communication,
particularly the growth of Information Technology (IT).
Many of the services such as voice-based business processes (popularly
known as BPO or call centres), record keeping, accountancy, banking
services, music recording, film editing, book transcription, clinical
advice or even teaching are being outsourced by multinational companies
to India, where they can be availed at a cheaper cost with reasonable
degree of skill and accuracy.
The low wage rates and availability of skilled manpower in India have
made it a destination for global outsourcing in the post-reform period.

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