9 Economic Reforms

Monica Bansal

1. Learning Outcome:

After completing this module the students will be able to:

Understand the concepts economic reforms during the post independence period.

Understand the economic reforms during 1960s and 1980s and 1990s to the present period.

Describe the process of economic reforms initiated by government of India. Understand the concept monetary and fiscal reforms.

Understand the terms of trade policy, industrial policy reforms.

2. Introduction

Indian economy is considered to be the fastest growing economies in the world. When India became independent in 1947, various numbers of economic policies have been initiated which have led to the continuous economic development of the country. If we talk in the wider sense, economic reforms in India have been a mix of both social democratic and liberalized policies.

Ø Economic reforms during the post independence period

With the help of Economic policies the Indian government tried to make the country self sufficient in the post independence period. Under the concept of economic reform, main emphasis was given much to the development of defense sector, infrastructure sector and agricultural sectors. Indian Government companies were established and important investment was done greater on the public sector. This was basically done to make the base of the country stronger. In order to make strong the communication system, infrastructure, development of new roads, spread of rail lines, construction of bridges; dams and lots more were considered.

In the Five Years Plans which were started in the 1950s, Indian economic reforms somewhat followed the principle of democratic socialist with more stress on the growth and development of the public and rural backward sector of the economy. Maximum numbers of policies were meant towards the enhancement of exports in comparison to imports, central level planning, trade and business rules & regulation and also intervention of the state in the finance and Indian labour markets. During the mid 50’s large scale nationalization was made to the national level industries viz., mining industries, electricity organizations, telecommunications institutions and so on.

Ø Economic Reforms during the period 1960s and 1980s

In the period of mid 1960’s various efforts were made to make India self sufficient and also increase/enhance the production and export of the food grains and pulses etc. on a greater extent. In order to make the plan a grand success, large scale development was undertaken in the field of agriculture also. Indian government started the concept of ‘Green Revolution’ movement or the New Agricultural Strategy and focused/stressed on better agricultural output through the usage of fine quality fertilizers, improved & hybrid seeds, improved irrigation facilities and lots more. Moreover, new irrigation projects were started and the rural regional banks were also established to give financial support as well as loans at a lower rate of interest to the farmers and the poor people.

The process of liberalization of the economy was initiated/ started by Rajiv Gandhi. When he became the Prime Minister of the country, various restrictions on different sectors were eased, control on pricing was removed, and emphasis was given on enhanced growth rate.

Ø Economic Reforms during 1990s to the present times

Because of the Soviet Union and the problems in balance of payment accounts of the nation, the country had faced economic crisis and the International Monetary Fund (IMF) asked for the bailout loan for help. In order to get rid of the situation, that time Finance Minister, Manmohan Singh had started the liberalized economic reforms in the year 1991 and it is considered to be the major milestones in Indian economic reform history as it changed the market and financial scenario of the nation. As per the program of liberalization, (FDI) foreign direct investment was called up and initiated, public monopolies created by the public sector undertakings were stopped; service and tertiary sectors were developed and enhanced.

Further, economic reforms have put stress on the open market economic policies of the country since the initiation of the liberalization plan during the period of 1990s. Foreign investments were encouraged or called up in different sectors and there has been a good growth and development in the standard of living of the people, per capital income (PCI) and Gross Domestic Product (GDP).

For the reason of the global meltdown, Indian economy had suffered as well. India sustained the shock as a significant part of its financial and banking sector is still under government rules and regulation and it is not so in the other countries. Nevertheless, in order to get rid of the present situation, the Indian government has taken various decisions e.g. making strong the banking and tertiary sectors, increasing the quantity and quality of exports and lots more.

Ø 1991-A New Wave of Economic Reforms

Economic reform in India was initiated/started with the goal of enhancing the speed of economic growth, development and eradication of poverty. Economic liberalization process in India can be traced back to the late 1970s during the other government system. But, the reform process actually started in earnest only in July 1991. It was in 1991 that the Indian Government has signaled a systemic shift to a more open economy with much reliance and dependence upon market forces, a greater role for the private sector including foreign investment, and a restructuring of the role of Government.

The reforms of the last two decade and a half have gone a long way in freeing the domestic national economy from the control regime one. A significant characteristic of India’s reform programme is that it has stressed gradualism and evolutionary transition rather than increased restructuring or shock therapy. This system approach was adopted since the reforms were introduced/started in June 1991 in the wake a balance of payments (BOP) crisis that was surely severe. But, it was not a prolonged crisis with a long period of non-performance of the activities and various operations. The economic reforms started in 1991 introduced far-reaching or long term measures that changed the working, machinery and system of the economy and it will give the benefit for a longer run. These changes were mainly in the following fields:

Public sector dominance in the industrial operations.

Discretionary controlling powers on investment in the industrial sector and capacity expansion programme for building a strong power.

Exchange and trade control measures to be implemented. Limited access to foreign direct investment (FDI) in India.

Regulation and public ownership of the financial sector and other institutions.

Economic reforms have opened the growth potential of India and unleashed powerful entrepreneurial forces. From the period of 1991, successive governments, across political parties, have successfully carried forward the country’s economic reform agenda.

3. Steps/Process of Economic Reforms Initiated by Government of India

For the purpose of achieving the above-mentioned objectives, the government of India has taken the following major steps in the concerned fields:

Ø Industrial Policy or Reforms in Industrial Policy

The Industrial policy in India was restructured to a larger extent and most of the industrial controls taken by the central government were dismantled. Huge deregulation of the industrial sector was made because of bringing in the element of competition and increasing efficiency in the industrial sector. Central government almost abolished Industrial licensing except for a few hazardous and environmentally sensitive industries. Major industries reserved solely only for the public sector — which used to cover 18 industries, including minerals, oil, mining, iron and steel, heavy plant and machinery, telecommunications and telecom equipment, air transport services and electricity generation and distribution was decreased to only three: and it includes defense aircrafts and warships, atomic energy generation, and railway transport. Further, restrictions that existed on the import of foreign technology were withdrawn and it was welcomed. Under Industrial Policy, keeping in mind the priorities of the nation and its economic growth and development, the roles of the public and private sectors are clearly indicated. As per the New Industrial Policy, the industries have been freed to a greater extent from the licenses and other control measures. For increasing the modernization, emphasis has been given upon the usage of current technology. A huge reduction has been effected in the role of the public sector.

Some important points of the New Industrial Policy have been highlighted here:

Abolition of Licensing: The Indian industries were operating under strict licensing system before the introduction of the New Industrial Policy. But now, maximum industries have been freed from licensing and other restrictions e.g. import and export etc.

Freedom to Import Technology: The usage of current or latest technology has been given more importance in the New Industrial Policy. Therefore, foreign technological collaboration has been allowed and technology was imported from international market.

Contraction of Public Sector: A policy is adopted for the industrial undertakings which were running into losses and that was not to expand them. Moreover, the Indian government is trying to follow the structure of disinvestment in such public sector undertaking. E.g. Selling some shares of public sector enterprises to private sector entrepreneurs is called disinvestment. This is also a medium of privatization.

Free Entry of Foreign Investment: Various steps have been taken to attract and incrase the level of foreign investment. Some of these are as follows:

In 1991, the government permission is not required where 51 percent of foreign investment in 34 high priority industries was allowed.
Other Non-Resident Indians (NRIs) were allowed to invest 100 percent in the export houses, hospitals, hotels, etc.
A board named as Foreign Investment Promotion Board (FIPB) was established with a view to speedily clear foreign investment proposals.
Various restrictions which were previously in operation to regulate dividends repatriation by the foreign investors have been removed. They can now take dividends to their native countries.

Removal of MRTP Restrictions: Monopolies and Restrictive Trade Practices Act has been abolished and a new act was introduced named Consumer Protection Act. In the current scenario companies do not need to seek government permission to issue shares, extend their area of operation and establish a new unit.

Removal of FERA Restrictions: A new Act called as Foreign Exchange Regulation Act (FERA) has been replaced by Foreign Exchange Management Act (FEMA) which is beneficial in regulating the foreign transactions. These transactions have now become more and more simple.

Increase in the significance of Small Scale Industries (SSIs): Efforts have been made to give more significance to the small industries in the economic development of the country.

Ø Trade Policy or Reforms in Trade Policy

In the modern globalizing world it has been assumed that the import substituting inward looking development policy was no longer suitable and sustainable. Before the initiation of reforms, trade policy was featured by high tariffs and pervasive restrictions on import. Imports of produced consumer commodities were completely banned. In case of goods and services used in the industries, raw materials and intermediates, certain lists of commodities and services can be imported freely, but for a number of other items where domestic substitutes were being produced/manufactured, imports were only possible with the help of import licenses. The import licenses have to be obtained from the government. The criteria for issue of licenses were non-transparent; delays were endemic and corruption unavoidable. The economic reforms sought to phase out import licensing and also to decrease the import duties. Import licensing was abolished relatively early for the capital goods/services and intermediates which became freely importable in 1993, simultaneously with the switch to a flexible exchange rate system. Restrictions in terms of quantity on imports of produced consumer commodities and agricultural goods were finally removed/abolished on April 1, 2001, and it is almost exactly ten years after the reforms began, and that in part because of a ruling by a World Trade Organization (WTO) dispute panel on a complaint brought by the United States.

Trade policy can be understood as the policy with the help of which the foreign trade is controlled and regulated. Because of liberalization, trade policy has undergone numerous changes. Especially the foreign trade has get rid from the unnecessary control measures. The age-old restrictions have been eliminated at one go. Some of the chief features of the New Trade Policy areas under:

Restrictions of Export-Import Reduction: Restrictions on the exports-imports have almost disappeared leaving only a few commodities.
Export-Import Tax Reduction: Export-import tax on some items has been completely abolished and on some other items it has been reduced to the minimum lower level.
Procedure of Export-Import Get Easier: Import-export procedure has been simplified and more accessible.

Foreign Capital Markets Established: Foreign capital market has been established for sale and purchase of foreign exchange/currency in the open financial or money market.

Full Convertibility on Current Account: In 1994-95, full convertibility has become applicable on current account.

Here it is significant to clarify the meaning of current account and full convertibility.

Therefore, this has been done as under:

o Current Account: The foreign transactions made in the international market are

placed in two categories: (i) transaction with current account, for example, import-export, (ii) Capital account transactions, like investment.

o Full Convertibility: Accordingly, full convertibility is defined as unrestricted sale and purchase of foreign exchange in the foreign exchange market for the purpose of payments and receipts on the items connected with current account. It means that there is no restriction imposed by the government on buying and selling of foreign exchange connected with current account. On the other hand, sale and purchase of foreign exchange connected with capital account can be carried on under the rates determined by the Reserve Bank of India (RBI).

ü Giving Export Incentives: Numerous incentives have been allowed to Export- oriented Units (EOUs) and Export Processing Zones (EPZs) for enhancing export trade transactions.

Ø Fiscal Reforms

Government policy related to the income, employment and expenditure is called fiscal policy. The biggest problem confronting the Indian government is massive fiscal deficit. In 1990-91, the fiscal deficit was 8 per cent of the GDP. (It is significant to understand the meaning of fiscal deficit and GDP.)

ü Fiscal Deficit: A fiscal deficit means that the country is spending more than its income. The expenditure is greater than the source of income to spend.

ü Gross Domestic Product (GDP): GDP is the sum total of the financial value of all the manufactured goods and services during a year in a nation. Generally, the financial deficit is calculated in the form of GDP’s percentage. Presently, the government of India is making efforts to take it to 4 per cent.

ü Solutions of Fiscal Deficit: For solving the problem of fiscal deficit, basic changes were made in the tax system and structure. The following are the major steps taken in this direction:

o The rate of the individual and corporate tax has been reduced in order to bring more people in the tax net.

o Tax procedure has been simplified and accessible and it is made online in the digital era.

o Heavy reduction in the import duties has been implemented.

Ø Monetary Reforms

Monetary policy is a kind of control policy with the help of which the central bank controls the supply of money with a view to achieving the aims of the general economic policy. Reforms in this policy are called monetary reforms. It maintains a balance between the demand and supply of money in the market. The major points with regard to the monetary reforms are given below:

All the banks have been given permission or freedom to decide the rate of interest on the amount deposited on their own.
Statutory Liquidity Ratio (SLR) has been lowered or decreased. (A commercial bank has to maintain a definite percentage of liquid funds in relation to its net demand and time liabilities. This is called SLR. In liquid funds, cash investment in permitted securities and balance in current account with nationalized banks are included.)
More improved standards have been provided for the income recognition for the banks. (By recognition of income, we mean what is to be considered as the income of the bank. For example, should the interest on the bad debt be considered as the income of the bank directions have been issued in this context.

Permission to collect money by issuing shares in the capital market has been granted to Indian nationalized banking sector.

Allowance of to open banks in the private sector has also been granted.

Ø Capital Market Reforms

Capital market is the market in which securities are sold and bought. The reforms related to the capital market are known as capital market reforms. This market is the pillar/pivot or the main base of the economy of a country. The government has taken the following steps for the growth and development of this market:

ü In the Portfolio Investment Scheme, the limit for investment by the Non-Resident Indians (NRIs) and foreign companies in the shares and debentures of the Indian companies has been increased. (Portfolio Investment Scheme means investing in securities.)

ü For controlling the capital market, the Securities and Exchange Board of India (SEBI) has been established.

ü Important restriction in respect of interest on debentures has been lifted. Now, it is decided on the basis of demand and supply of a particular security.

ü The office of the Controller of Capital Issue which used to determine the price of shares to be issued has been dispensed with. Now, the companies are free to determine the price of the shares on their own.

ü Permission has been given to the Private sector to establish Mutual Fund.

ü The registration of the sub broker has been made mandatory for increasing the security and safety of the investments made by the public.

Ø Phasing out Subsidies

Cash Compensatory Support (CCS) which was earlier known as or given as export subsidy has been abolished. CCS can be understood with the help of an example. If an exporter wishes to import some raw material which is available in the foreign country for 100, but the same material is available in India for 120 and the governments wants the raw material to be bought by the exporter from India itself for the protection of indigenous industries, the government is ready to pay the difference of 20 to the exporter in the form of subsidy. The payment of 20 will be considered as CCS. Moreover, the CCS has been reduced in case of fertilizers and petro commodities.

Ø Dismantling Price Control

The government has initiated various steps to abolish price control in case of many commodities. (Price Control means that the companies will sell commodities at the prices which were determined by the government.) The efforts to remove price control were mostly in respect of fertilizers, steel and iron and petro goods. Restrictions on the import of these goods have also been removed or abolished.

Ø Financial Sector Reforms

Financial sector reforms have long been considered as an integral part of the overall master policy reforms in India. India has realized or recognized that these reforms are imperative for enhancing the efficiency of resource mobilization and allocation in the real possible economy and for the overall macroeconomic stability of the country. The reforms have been driven by a thrust towards liberalization and numerous initiatives such as liberalization in the interest rate and reserve requirements have been initiated on this account. At the same time, the government has stressed on stronger rules and regulation with the objective of strengthening prudential norms, transparency in the system and supervision to mitigate the prospects of systemic risks. At present the Indian financial structure is inherently strong, functionally diverse, efficient and globally competitive. In the last fifteen years, the Indian financial system has been incrementally deregulated and exposed to global financial markets along with the introduction of new instruments, securities and goods.

4. Summary

A development of very great significance concerns the reforms of the economy. These aim at radically altering the very character of the economy from a regulated one to a liberalized one. Several policies bearing on almost all the aspects of the economy viz., industries, trade and finances etc., sometimes subsumed under the title of the New Economic Policy are expected to transform the functioning of economic agents, as also the outcomes of their activities. In this module the economic reforms in India are discussed. The various steps taken by the Indian Government are also explained in detail regarding economic reforms

Few important sources to learn more about the Economic Planning in India are:

Shaikh Saleem (2009). Business Environment. New Delhi-110017: Pearson Education.
Bagchi Amaresh (2011). Readings in Public Finance. New Delhi-110020. Oxford University Press.
Jha Praveen (2011). Progressive Fiscal Policy in India. New Delhi-110044. SAGE Publications India Pvt. Ltd.
Kapila Uma (2007). India’s Economic Development Since 1947. New Delhi-110002. Academic Foundations.
Datt & Sundharam (2011). Indian Economy. New Delhi-110055. S. Chand & Company Ltd.
Agrawal A.N. (2007). Indian Economy-Problems of Development and Planning. New Delhi-110002. New Age International (P) Limited.
Paul Justin (2009). Business Environment-Text and Cases. New Delhi-110008. Tata McGraw Hill Education Private Limited.
Agrawal Raj (2006). Business Environment. New Delhi-110028. Excel Books.
cpe.oxfordjournals.org/content/3/1/1.full.pdf
www.ideasforindia.in/article.aspx?article_id=340
https://en.wikipedia.org/wiki/Economy_of_India

Points to Ponder

The process of reform in India was started with the objective of increasing the speed of economic growth, development and eradication of poverty.

Central government almost abolished Industrial licensing except for a few hazardous and environmentally sensitive industries.

Quantitative restrictions on imports of produced consumer commodities and agricultural goods were finally removed on April 1, 2001, almost exactly ten years after the reforms began, and that in part because of a ruling by a World Trade Organization (WTO) dispute panel on a complaint brought by the United States.