Economic Reforms in India

Economic Reforms in India:
First and Second Phase

Article shared by Vidya Sethy
Let us make in-depth study of the first and second phase of economic
reforms in India.
Economic Reforms—The First Phase:
With the changes in the nature of markets and institutions, industrial
organisation and structures and social relations of production in various
countries of the world, India has also started to respond to all these
changes, particularly to the increasing globalisation of economic processes.
The first phase of economic reforms that had its origin in 1985 when Mr.
Rajiv Gandhi took over as the Prime Minister of the country. Just after that
Mr. Gandhi declared the New Economic Policy where he put much
emphasis on improvement in productivity, absorption of modern technology
and fuller utilisation of capacity and finally on the greater role for the private
sector.
In order to provide greater scope to private sector, this new policy

introduced various policy changes regarding industrial licensing, technology
up-gradation, elimination of controls and restrictions, foreign capital, fiscal
policy, rationalizing and simplifying the system of fiscal and administrative
regulation and export-import policy.
These policy changes were brought with the sole-intention to create a

favourable climate for getting a big boost in private sector investment which
would, in turn usher in rapid growth of the economy as well as pave the
way for modernization of the economy.
In this connection, Prof. K.N. Raj rightly observed that, “There has been,
however, a general agreement that a very distinctive feature of these policy
changes taken as a whole is the greater scope for unfettered expansion
they offer to the private sector, particularly in the corporate segment of
manufacturing industry and the opportunities opened up to multi-national
enterprise.”
Accordingly, the New Economic Policy stressed on removing unnecessary

restrictions in issuing licences, in denying Industrial Licences to MRTP
companies and in making adjustment of output to administered prices.
In this connection, the government introduced various measures in

the following manner:
1. Cement:
Cement was totally decontrolled and a number of private sector units were
issued additional licensed capacities.
2. Sugar:
The share of free sale of sugar in open market was enlarged.
3. Asset limit:
The ceiling of the asset limit of big business houses was enhanced from
Rs. 20 crores to Rs. 100 crores.
4. Broad-banding:
The scheme of “broad-banding” of licences was introduced to bring variety
in the production of two wheelers which was later extended to 25 other
categories of industries like, four-wheelers, chemicals, petro-chemicals,
pharmaceuticals, typewriters-etc.
5. Drug:
94 drugs were completely delicensed and 27 industries were placed
outside the purview Of MRTP Act.
6. Textile:
Introduction of new Textile Policy, 1985 practically abolished the distinction
between mill, power loom and handloom sectors and also between natural
and synthetic fibre for licensing purposes.
7. Electronics:
Electronics industry was liberalised from MRTP Act restrictions. The entry
of FERA Companies in the areas was also liberalised.
8. Foreign Trade:
Export-Import Policy, 1985 was announced in order to pave the way for
easier and quicker access to imports, strengthening export production base
and for facilitating technological up-gradation.
9. LTFP:
Long Term Fiscal Policy, 1985 was announced for the implementation of
the Seventh Plan in a smooth manner.
Economic Reforms in India—the Second Phase:

The first phase of economic reforms failed to yield the expected result in
most of the fronts. More particularly, the deficit in the balance of trade
account gradually increased and thus the average deficit in balance of
trade during the Sixth Plan which was to the extent of Rs. 5,935 crore,
suddenly rose to the tune of Rs. 10,841 crore during the Seventh Plan.
Moreover, receipts on invisible account has also declined Thus the country
has been plunged into a serious balance of payments crisis. In order to
save the situation, the Government approached the World Bank and the
International Monetary Fund (IMF) to extend loan to the tune of about $7
billion. IMF finally decided to advance this loan but at the same times
insisted that the Government should put the economy again on right track.
Accordingly, Dr. Manmohan Singh, the then Finance Minister of India finally
made a commitment by his letter dated August 27, 1991 to the IMF
Managing Director Michel Camdessus that the Government of India set
certain macro-economic targets and also initiated certain policy measures
in order to bring about structural readjustment of the economy.
In order to restore both internal and external confidence, the Narasimha

Rao Government initiated a good number of stabilisation measures in
1991-92. These measures include—tightening of monetary policy by raising
interest rates, adjustment of the exchange rate of rupee by 22 per cent,
liberalisation and simplification of foreign trade policy, reduction of fiscal
deficit and introduction of other reforms in economic policy necessary to
bring a new element of dynamism to the process of economic growth of the
country.
The memorandum submitted by the then Finance Minister observed that,

“The thrust will be to increase the efficiency and international
competitiveness of industrial production, to utilize foreign investment and
technology to a much greater degree than in the past, to improve the
performance and rationalize the scope of the public sector and to reform
and modernize the financial sector so that it can more efficiently serve the
needs of the economy.”
Macro-Economic objectives:
The main macro-economic objectives of economic reforms (2nd
phase) in India include:
(a) Attaining economic growth at the rate of 3 to 3.5 per cent in 1991-92
and at 4 per cent in 1992-93;
(b) Reducing the annual rate of inflation by 9 per cent in 1991-92 followed
by 6 per cent in 1992-93;
(c) Relieving the critical balance of payments situation and rebuilding

foreign exchange reserves to $ 2.2 billion in 1991-92;
(d) Reducing current account deficit in the budget from 2.5 per cent of GDP
in 1990-91 to 2.0 per cent by 1992-93.
Policy Measures of Second Phase of Economic Reforms:

The following are the major areas of the second phase of economic
reforms in India:
1. Fiscal Policy Reforms:
The Government initiated various fiscal measures in order to reduce the
fiscal deficit from 8.4 per cent of GDP in 1990-91 to 5.0 per cent in 1996-97
and to 3.7 per cent in 2006-2007. In order to achieve this target, the
Government introduced various controls over public expenditure and took
initiative to raise both its tax and non-tax revenue.
The other measures include imposition of fiscal discipline by both Central

and State Governments, reduction of subsidies, developing a more efficient
expenditure system, encouraging state governments to streamline the
working State Enterprise, more particularly State Electricity Boards and
State Transport Corporations and withdrawal of budgetary support to
Central public sector enterprises and to improve their profitability and
efficiency.
2. Monetary Policy Reforms:

The Government pursued a restrictive monetary policy for reducing
inflationary pressures and also for improving balance of payment position.
3. Pricing Policy Reforms:

In order to reduce budgetary provision for subsidies and to promote a more
flexible price structure, the Government increased the administered prices
of various commodities and inputs (petroleum products and fertilizers) and
gave greater freedom to public sector enterprises to set price as per market
forces.
4. External Policy Reforms:

The government introduced stabilisation and import compression measures
in order to reduce the current account deficit in balance of payments to 2.1
per cent of GDP in 1991-92 and then to 2 per cent of GDP in 1992-93.
5. Industrial Policy Reforms:

In order to make necessary reforms in its industrial policy, the Government
introduced its new industrial policy on July 24, 1991.
The various measures under industrial policy reforms include:

(a) Abolition of the scheme of industrial licensing for all industrial projects
excepting 18 industries related to security, strategic or environmental
concerns etc.;
(b) De-reservation of the area of public sector from 17 to 8 industries in

order to open up area of investment for the private sector;
(c) Elimination of the system of pre-entry scrutiny of investment decisions

of the MRTP companies and controlling only “unfair or restrictive business
practices”;
(d) Liberalisation of location policy;
(e) Abolition of phased manufacturing programmes earlier enforced to

increase the pace of indigenisation and
(f) Removal of mandatory convertibility clause.
6. Foreign Investment Policy Reforms:

The new industrial policy, 1991 made provision for increased flow of foreign
investment in connection with technology transfer, marketing expertise and
introduction of modern managerial techniques. Accordingly, the new policy
included 34 priority industries in Annexure III to give automatic permission
for foreign direct investment up to 51 per cent foreign equity.
In respect of foreign technology agreements automatic permission will be

provided in high priority industry for royalty payments up to 5 per cent on
domestic sales, 8 per cent on export sales or a maximum payment of Rs. 1
crore. Moreover, in order to promote exports of Indian commodities in
international market, foreign trading companies were also allowed to raise
their foreign equity holdings up to 51 per cent for export activities.
7. Public Sector Policy Reforms:

Considering the huge amount of losses incurred by a good number of
public sector enterprises, the Government has taken various policy
measures of making necessary reforms of the public sector.
These policy measures include:

(a) Reservation of list of industries under public sector reduced to 8 as
against 17 industries reserved earlier;
(b) Review of those public investments be made in order to avoid those
areas where social considerations are not so paramount and where private
sector investment would be more efficient;
(c) Enterprises earning higher profit and judged appropriate, will be

provided with much higher degree of arrangement autonomy through the
system of MOD;
(d) Progressive reduction of budgetary support of public enterprises;
(e) Inviting private sector participation to increase market discipline and

also the competitive capacity of these public sector enterprises through
disinvestment of part of equity of selected enterprises;
(f) Referring the chronically sick public enterprises to the 3oard for
Industrial and Financial Reconstruction (BIFR) for its rehabilitation,
reconstruction or rationalisation.
In the mean time, the Government has taken decision to dereserve the
area of industries and thus reduced the number of industries reserved for
public sector to 8 and also allow private sector participation even in these 8
areas selectively. The Government also allowed joint ventures with foreign
companies.
The Government has also decided to disinvest 20 per cent of the equity of
public enterprises to selective private sector enterprises. Accordingly, in
1991-92 and in 1992-93, Rs. 3,038 crore and Rs. 1,866 crore respectively
were raised through disinvestment of PSE shares.
In 1993-94, the Government realised Rs. 2,291 crore against the targeted
amount of Rs. 3,500 crore and in 1994- 95, the Government plans to
mobilise Rs. 4,000 crore through disinvestment of PSUs shares but it
realised Rs. 5,237 crore. A National Renewal Fund (NRF) has also been
created for training and redeployment of workers and also to provide
voluntary retirement compensation.
Game Plan for Public Sector Reform, 1994-95:

On February 8, 1994, the Government announced a “game plan” for the
public sector reform in 1994-95 which gave more emphasis on improving
dynamic efficiency and quality check of the performance and also to give
more weight (50 per cent) for profit and profit related criteria in the
memorandum of understanding (MOU) to improve the financial
performance of the public sector.
Originally no weight was given to profit when MOU was introduced in 1988.
It subsequently raised to 35 per cent in 1993-94 and the weight has been
substantially stepped up to 50 per cent for 1994-95.
The Government has already evolved a six-year action plan to restructure

public sector undertakings and the idea is to have 100 per cent weight for
profit at the end of six years to make the public enterprises fully run on
commercial lines.
8. Trade Policy Reform:

In the context of globalisation of the economy and also to promote
international integration of our country, phasing out of excessive and
indiscriminate protection given to domestic industry become necessary.
This would develop a vibrant export sector and create a regime of price
based system.
The main objective is to eliminate progressively the system of licenses and

quantitative restrictions, particularly for capital goods and raw materials so
that these items can be placed easily on open general license (OGL). The
new policy made provision for reduction of the scope of public sector
monopoly sharply for most export items and also a good number of import
items.
In this context, the Government has introduced Export-Import Policy, 1992-

97 and 1997-2002 for the coming five years and on 13th April 1998 the
Government has further modified this new Exim Policy (1997-2002) and
also announced its annual Exim Policy, 2000-01 and also in 2001-2002;
Again on 31st March, 2002, the Government announced its new Exim
Policy, 2002-07 so as to achieve 1 per cent share in global exports by
2007.
9. Social Policy Reforms:

To meet the objective of poverty alleviation as a part of our adjustment
process, the government has allocated a higher amount of outlays on
elementary education, rural drinking water supply, assistance to small and
marginal farmers, programmes for the welfare of scheduled caste and
scheduled tribe and other weaker sections of the society, programme for
women and children and also on infrastructure and employment generation
projects.
As a part of this programme, the 1995-96 Budget has introduced a National

Social Assistance Scheme in the form of housing assistance, old age
pension, maternity benefit, group insurance for schemes etc. for those
living below the poverty line.

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Economic Reforms in India:

First and Second Phase

In order to provide greater scope to private sector, this new policy

These policy changes were brought with the sole-intention to create a

Accordingly, the New Economic Policy stressed on removing unnecessary

In this connection, the government introduced various measures in

Economic Reforms in India—the Second Phase:

In order to restore both internal and external confidence, the Narasimha

The memorandum submitted by the then Finance Minister observed that,

(c) Relieving the critical balance of payments situation and rebuilding

Policy Measures of Second Phase of Economic Reforms:

The other measures include imposition of fiscal discipline by both Central

2. Monetary Policy Reforms:

3. Pricing Policy Reforms:

4. External Policy Reforms:

5. Industrial Policy Reforms:

The various measures under industrial policy reforms include:

(b) De-reservation of the area of public sector from 17 to 8 industries in

(c) Elimination of the system of pre-entry scrutiny of investment decisions

(e) Abolition of phased manufacturing programmes earlier enforced to

(f) Removal of mandatory convertibility clause.

6. Foreign Investment Policy Reforms:

In respect of foreign technology agreements automatic permission will be

7. Public Sector Policy Reforms:

These policy measures include:

(c) Enterprises earning higher profit and judged appropriate, will be

(d) Progressive reduction of budgetary support of public enterprises;

(e) Inviting private sector participation to increase market discipline and

Game Plan for Public Sector Reform, 1994-95:

The Government has already evolved a six-year action plan to restructure

8. Trade Policy Reform:

The main objective is to eliminate progressively the system of licenses and

In this context, the Government has introduced Export-Import Policy, 1992-

9. Social Policy Reforms:

As a part of this programme, the 1995-96 Budget has introduced a National

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