Current Affairs

Basics of
Indian Economy innovation

eBook 01
 Basics of Indian Economy

Sr. Topic Page No.

1. Forms of Economic Systems 1-18

2. Structure of Indian Economy 18-24
3. Measures of Economic Power 24-29
4. Fiscal Policy 30-47
5. State of the Economy 48-51
6. Monetary Policy 51
7. Ease of Doing Business: Reforms 51-58
8. Foreign Investment Scenario in 58-68
India
9. Problems of Banking 61-80
10. Demonetization 81-86
11. ‘Less Cash’ and Cash Less 86-103
Economy
12. Growth V/s Development Debate 104
1. Forms of Economic Systems

Economics is the science that studies human behaviour

as a relationship between ends and scarce means, which
have alternative uses.

I. Capitalism

Capitalism is a natural economic system unlike

socialism. That is why; it has fared well throughout
history, practiced most widely and has outmoded
Socialism. Most Socialist countries have adopted
features of Capitalism and the growth of China since
1980s after it made a compromise between Capitalism
and Socialism and adopted some of the important
Capitalistic values further strengthen the case to use
Capitalism (though modified to suit the needs of a
particular country) over outright Socialism.

Characteristic features of Capitalism are:

1. Right of Private Property

In a capitalistic economy, people have the right to own
assets and conduct business. Within legal limits, they

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have the complete freedom to enter into any business
activity be it socially or morally correct or not.

2. No Government Intervention
Government does not intervene or its intervention is very
minimal. Businesses are allowed to produce anything
and charge any price they wish as long as they can find
buyers who can afford their goods and services.
Therefore, a capitalist seeks maximum return for his
capital and keeps all things secondary to it.

3. Freehand to Market Forces

Market forces of demand and supply are allowed to work
freely. Government does not intervene in setting the
prices or level of output in a model capitalistic economy.

4. Dependence on Invisible hand

It is assumed that every person acting for his/her own
benefit will keep the economy running in an efficient
way. Everyone is allowed to work towards his/her benefit
and is not obliged to think about society and its needs. It
is assumed that social objectives will be met with people
working for their own benefits.

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5. Freedom of Choice in Production
People have outright freedom in production. A capitalist
having a higher incentive to produce luxury bungalows
and lower incentive to produce low cost apartments will
produce luxury bungalows. All decisions are governed by
incentives and self benefit and no consideration is given
to the needs of the society. Invisible hand is supposed to
bring socio-economic order.

6. Freedom of Choice in Consumption

People have outright freedom to consume whichever
goods they like as long as they can afford them.
Consumers seek maximum utility and do not have
obligation to share their wealth with the poor masses
apart from compulsory taxes.

Merits of Capitalism

 The profit motive encourages people to develop

the spirit of hard work, which increases production.
 The existence of many industries helps in raising
per capita income and standard of living of the
people.
 The value of goods and services is a function of
the interplay of demand and supply.

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  The ideals of capitalism have enhanced product
differentiation.
 Capitalist system has helped in boosting
entrepreneurial development.
 The characteristic presence of self-interest has
also aided and promoted efficiency and
effectiveness.
 It leads to specialization due to increase and large-
scale production of commodities.

Demerits of Capitalism

 It encourages exploitation of workers.

 The capitalist system ignores certain important
sectors of the economy.
 The system encourages the creation of artificial
scarcity by hoarding.
 The unfair distribution of productive resources
might precipitate the problem of unemployment.
 Capitalism encourages inequality as majority of
the people in some capitalized economies are said
to be living in poverty.
 It leads to unhealthy rivalry among investors.
 It increases crime rate in an effort to acquire
wealth at all cost.

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II. Socialism

It is an economic system that advocates state

ownership, control and organization of the means of
production and distribution. The practice of socialism is
more common in the third world countries. The third
world countries are characteristically less developed
industrially. It is also called centrally planned or
controlled economic system.

Fundamental postulates of socialism:

1. Collective property
In a socialist economy, there is no right to own private
property. The government collectively owns all the
property. This means that all the business enterprises
are in the collective ownership, management and control
of the government.

2. Planned Economy
The government in its own wisdom solves the central
problems of the economy. Decisions like what to
produce? How to produce? When to produce? For whom
to produce? How much to produce? - Are all taken by the

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government. All the economic planning and policy
making rests with the government.

3. Decisions in Collective Interest

All the decisions are made by the government in the
collective interest of a socialist country. People are
directed to follow the instructions of the government and
are not allowed to object to any decision or policy of the
socialist government.

4. Reduced Income Inequality

Government makes the decisions about the wages
arbitrarily. The wages are forced to remain in parity in all
fields. Government tries to keep income equality through
setting the wages and disallowing any objection or
bargaining.

5. Restriction on Market forces

Market forces of demand and supply are not consulted
by the government in a socialist economy. Market
mechanism does not prevail and all the decisions are
made by the government in its own wisdom.

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6. Centralized Economy
All the decision-making authority rests with the
government. No one else is given the authority to make
the economic decisions even for oneself. Everyone has
to follow the commands of the government and everyone
is treated like an employee of the government.

7. Non-existence of Private sector

Private sector is non-existent in a socialist economy. No
private economic activity is allowed. Every person has to
work for the government and earn wages that are set
arbitrarily and are not determined on the basis of quality
or nature of the work.

Merits of Socialism
1. The centralization of economic planning aids the
taking of every sector of the economy into
consideration.
2. It ensures full employment for all able-bodied men
and women.
3. No-profit motive behind productive activities
enhances the promotion of security within the
economy.
4. The principle of collectivities enhances co-
operation in the economy.

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 5. Majority of the people benefit from the excess that
accrues to the society’s treasury when it is spent
on projects that people will benefit from.
6. Essential goods are produced in large quantities
for the general citizen.
7. Private monopoly is prevented because the means
of production are controlled by the government.

Demerits of Socialism
1. Non-profit motive has been faulted on the basis of
its encouraging loss of craftsmanship and
creativity.
2. It does not allow the interaction of the forces of
demand and supply to determine the prices of
goods and services.
3. Socialism does not encourage division of labour
and specialisation.
4. Consumers have no alternative choice than to
accept whatever that is produced.
5. It creates room for laziness since government
provides everything for the people.
6. It slows down economic development since the
government alone provides means of livelihood.
7. Corruption has penetrated the system and has
caused the objectives of equality to be defeated.

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III. Mixed Economies

Mixed economy is a compromise between capitalism

and socialism. A mixed economy takes the valuable
features of both. Some mixed economies can be tilted
more towards socialism and some can be tilted more
towards capitalism. However, most countries can be
classified as mixed economies in the real world. It is the
type of economic system in which both the private and
public ownership of means of production exist together
in a country. It embraces private sectors participation to
a certain degree and government’s participation to a
certain extent. The private sector and the state own and
control varying degrees of productive resources.

Fundamental postulates of mixed economy

1. Coexistence of Public and Private Sector

In a mixed economy, public and private sector work in
parallel to each other. Usually, the public sector is
responsible to provide transport, communication,
defense, currency management, utilities like telephone,
water, gas, electricity etc. All the other industries are in
the ownership of private sector.

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2. Government Regulation and Prices
Unlike in Capitalism, Government intervenes in the
market to regulate prices. Governments give subsidies to
encourage production of necessities and their cheap
availability to the poor masses. On the other hand, high
tariff rates are imposed on luxuries with inelastic
demand.

3. Government Regulation and Market Imperfection

Government intervenes in industries where cartels are
formed. It disallows cartels and regulates oligopoly, and
monopoly. The government sometimes set a ceiling price
for goods and services to put check on monopolies and
reduce the burden of inflation on poor people.

4. Government Intervention and Income distribution

Government intervenes to redistribute income through
progressive taxes, setting ceiling prices for necessities
and setting minimum wages. The government also
provides tax holidays, tax credits, tax rebates and other
concessions and incentives to promote a particular
social activity, economic activity or socioeconomic
class.

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5. Public Sector and Social Objectives
Usually, the Public Sector is responsible to provide
transport, communication, defense, currency
management, utilities like telephone, water, gas,
electricity etc. Government provides subsidies to public
enterprises so that these enterprises do not increase
their prices to cover their losses. Government sometimes
bears losses to avoid public displeasure in the form of
inflation.

6. Promotion of Private Sector

Even though the government intervenes in the hour of
need, it still provides incentive to the private sector and a
level playing field to compete with the public sector. In
industries where public sector and private sector coexist,
government lets the market forces work and does not
crowd out the private sector.

7. Deregulation, Liberalization and Privatization

Governments in mixed economies encourage private
sector to take on public sector enterprises that are not
running efficiently or can be better run by the private
sector. It enables the government to act as a regulator
rather than a business entity.

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Merits of Mixed Economy
1. The combination of the features of both capitalism
and socialism enables the mixed economy to make
use of the best features of both systems.
2. The system encourages craftsmanship to a certain
extent.
3. It ensures the economic growth and development
of a nation.
4. It promotes job security and employment.
5. Monopoly is prevented because of the joint
participation in economic activities.

Demerits of Mixed Economy

1. The efficiency of the manner of price determination
has been questioned in certain areas.
2. The system has been described as encouraging
the penetration of corruptive tendencies.
3. Wealth is not equitably distributed, as there is a
wide gap between the rich and the poor.
4. There is more emphasis on profit maximization at
the expense of the welfare for the citizens.
5. Efficiency scarcely occurs because of the
involvement of the state.

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Structure of an Economy
The primary sector of the economy is the sector of an
economy making direct use of natural resources. This
includes agriculture, forestry, fishing, mining, and
extraction of oil and gas. This is contrasted with the
secondary sector, producing manufactured and other
processed goods, and the tertiary sector, producing
services. The primary sector is usually most important in
less developed countries, and typically less important in
industrial countries. The economy can be structured in a
number of ways. The most important is the manner in
which different segments of the economy are divided
into different sectors.

This can be done in the following manner:-

i) Primary Sector includes the products of mother
earth i.e. raw material such as agriculture, mining,
fishing, forestry etc.
ii) Secondary Sector uses the products of the primary
sector and further processes them to produce a
desirable object. This includes manufacturing,
food-processing etc.
iii) Tertiary Sector which provides various services to
maintain those products of the secondary sector.

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 This includes services such as transport, telecom,
IT, BPO, KPO etc.
iv) Quaternary Sector which describes a knowledge-
based part of the economy which typically includes
services such as information generation and
sharing, information technology, consultation,
education, research and development, financial
planning, and other knowledge-based services.
Generally this sector is included in the tertiary
sector of the economy.
v) Quinary Sector which is the branch of a country's
economy where high-level decisions are made by
top-level executives in the government, industry,
business etc. This is again included in the tertiary
sector of the economy generally.

One important way to look at the structure of an

economy is to compare the shares of its three main
sectors—agriculture, industry, and services—in the
country’s total output and employment.

Initially, agriculture is a developing economy’s most

important sector. But as income per capita rises,
agriculture loses its primacy, giving way first to a rise in
the industrial sector, then the service sector. These two

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consecutive shifts are called industrialization and post-
industrialization, respectively (or “de-industrialization”).
All growing economies are likely to go through these
stages, which can be explained by structural changes in
consumer demand and in the relative labor productivity
of the three main economic sectors.

Industrialization

As people’s incomes increase, their demand for food—

the main product of agriculture—reaches its natural limit,
and they begin to demand relatively more industrial
goods. At the same time, because of new farm
techniques and machinery, labor productivity increases
faster in agriculture than in industry, making agricultural
products relatively less expensive and further
diminishing their share in a country’s gross domestic
product (GDP). The same trend in relative labor
productivity also diminishes the need for agricultural
workers, while employment opportunities in industry
grow. As a result, industrial output takes over a larger
share of GDP than agriculture and employment in
industry becomes predominant.

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The following table shows the latest official figures of
contribution to GDP and Employment of the 3 sectors of
the Economy for India:
% Contribution to % Contribution to
GDP (2016-17) Employment
(2011-12)
Primary 17.32% 49%
Secondary 29.02% 24%
Tertiary 53.66% 27%

Post-industrialization

As incomes rise further, people’s needs become less

“material” and they begin to demand more services—in
health, education, entertainment, and many other areas.
Meanwhile, labor productivity in services does not grow
as fast as it does in agriculture and industry because
most service jobs cannot be done by machines. This
makes services more expensive relative to agricultural
and industrial goods, further increasing the share of
services in GDP. The lower mechanization of services
also explains why employment in the service sector
continues to grow while employment in agriculture and
industry declines because of technological progress that
increases labor productivity and eliminates jobs.
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Eventually the service sector replaces the industrial
sector as the leading sector of the economy

Most high-income countries today are post

industrializing—becoming less reliant on industry—while
most low-income countries are industrializing—
becoming more reliant on industry. But even in countries
that are still industrializing, the service sector is growing
relatively faster as compared to the rest of the economy.
The service sector produces “intangible” goods, some
well known—government, health, education—and some
quite new—modern communications, information, and
business services.

Producing services tends to require relatively less

financial capital and more human capital, than producing
agricultural or industrial goods. As a result demand has
grown for more educated workers, prompting countries
to invest more in education—an overall benefit to their
people. Another benefit of the growing service sector is
that by using fewer natural resources than agriculture or
industry, it puts less pressure on the local, regional, and
global environment. Conserving financial capital and
building up human capital may help global development
become more environmentally and socially sustainable.

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Growth of the service sector will not, however, be a
miracle solution to the problem of sustainability, because
agricultural and industrial growth is also necessary to
meet the needs of the growing world population.

2. Structure of Indian Economy

Agriculture: India ranks second worldwide in farm output.

Agriculture and allied sectors like forestry, logging and
fishing accounted for 17% of the GDP in 2011-12,
employed 49% of the total workforce, and despite a
steady decline of its share in the GDP, is still the largest
economic sector and a significant piece of the overall
socio-economic development of India. Crop yield per unit
area of all crops have grown since 1950, due to the
special emphasis placed on agriculture in the five-year
plans and steady improvements in irrigation, technology,
application of modern agricultural practices and
provision of agricultural credit and subsidies since the
Green Revolution in India. However, international
comparisons reveal the average yield in India is generally
30% to 50% of the highest average yield in the world.
Indian states Uttar Pradesh, Punjab, Haryana, Madhya
Pradesh, Andhra Pradesh, Bihar, West Bengal, Gujarat

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and Maharashtra are key agricultural contributing states
of India.

Agriculture is thus an important part of Indian economy.

Recently, a New York Times article claimed, with the right
technology and policies, India could contribute to feeding
not just itself but the world. However, agricultural output
of India lags far behind its potential. The low productivity
in India is a result of several factors. According to the
World Bank, India's large agricultural subsidies are
hampering productivity-enhancing investment. While
overregulation of agriculture has increased costs, price
risks and uncertainty, governmental intervention in
labour, land, and credit markets are hurting the market.
Infrastructure such as rural roads, electricity, ports, food
storage, retail markets and services are inadequate.
Further, the average size of land holdings is very small,
with 70% of holdings being less than one hectare in size.
The partial failure of land reforms in many states,
exacerbated by poorly maintained or non-existent land
records, has resulted in sharecropping with cultivators
lacking ownership rights, and consequently low
productivity of labour.

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Adoption of modern agricultural practices and use of
technology is inadequate, hampered by ignorance of
such practices, high costs, illiteracy, slow progress in
implementing land reforms, inadequate or inefficient
finance and marketing services for farm produce and
impracticality in the case of small land holdings. The
allocation of water is inefficient, unsustainable and
inequitable. The irrigation infrastructure is deteriorating.
Irrigation facilities are inadequate, as revealed by the fact
that only 39% of the total cultivable land was irrigated as
of 2010, resulting in farmers still being dependent on
rainfall, specifically the monsoon season, which is often
inconsistent and unevenly distributed across the
country.

Industry: Industry accounts for 26% of GDP and employs

24% of the total workforce. India is 11th in the world in
terms of nominal factory output according to data
compiled through CIA World Fact book figures. The
Indian industrial sector underwent significant changes
as a result of the economic liberalisation in India
economic reforms of 1991, which removed import
restrictions, brought in foreign competition, led to the
privatisation of certain public sector industries,
liberalized the FDI regime, improved infrastructure and

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led to an expansion in the production of fast moving
consumer goods. Post-liberalisation, the Indian private
sector was faced with increasing domestic as well as
foreign competition, including the threat of cheaper
Chinese imports. It has since handled the change by
squeezing costs, revamping management, and relying on
cheap labour and new technology. However, this has
also reduced employment generation even by smaller
manufacturers who earlier relied on relatively labour-
intensive processes.

Services: India is 13th in services output. The services

sector provides employment to 27% of the work force
and is growing quickly, with a growth rate of 7.5% in
1991–2000, up from 4.5% in 1951–80. It has the largest
share in the GDP, accounting for 57% in 2012, up from
15% in 1950. Information technology and business
process outsourcing are among the fastest growing
sectors. The growth in the IT sector is attributed to
increased specialization, and an availability of a large
pool of low cost, highly skilled, educated and fluent
English-speaking workers, on the supply side, matched
on the demand side by increased demand from foreign
consumers interested in India's service exports, or those
looking to outsource their operations.

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Indian Economy – A Statistical Overview (2016-17
figures)

Indicator Amount
Rank
GDP (Nominal) $ 2.439 trillion 6
GDP (PPP) $ 9.466 trillion 3
GDP per capita $ 7,173 123
(PPP)
Growth rate 6.7%
Unemployment 5.00%
Rate
Population 21.2% living on less than
Below Poverty $1.90/day
Line 58% live less than
$3.10/day
(WB, 2011)
Exports $275.8 billion
Imports $384.3 billion

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Comparison of India, China and USA

Indicator India USA China

GDP (Official $ 2.439 $19.3 Trillion $11.9 tn
Exchange trillion
Rate)
GDP (PPP) $ 9.466 $19.3 Trillion $23.2 tn
trillion
GDP per capita $ 7,173 $59,495 $16,624
(PPP)
Growth rate 6.7% 3.3% 6.8%
Unemployment 5.00% 4.1% 3.97%
Rate
Population 21.2% 12.7% 11.1% live
below poverty living on less than
line less than $3.10/day
$1.90/day
58% live
less than
$3.10/day
(WB,
2011)
Exports $275.8 $1.45tn $2.6 tn
billion
(2017)
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Imports $384.3 $2.25 tn $1.58tn
billion
(2017)
Forex Reserve $ 400 $118.53 billion $3 tn
billion

3. Measures of Economic Power

National Income

What is National Income?

According to the National Income Committee (1949), “A
national income estimate measures the volume of
commodities and services turned out during a given
period counted without duplication.” Thus, national
income measure the net value of goods and services
produced in a country during a year and it also includes
net earned foreign income. In other words, a total of
national income measures the flow of goods and
services in an economy. National income is a flow not a
stock. As contrasted with National Wealth which
measures the stock of commodities held by the
nationals of a country at a point of, national income
measures the productive power of an economy in a given
period to turn goods and services for final consumption.
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In India National income estimates are related with
financial year (1st April to 31st March).

In India, Central Statistical Organization (CSO) measures

output from the production side, broadly dividing it into
three sectors: agriculture, industry, and services. From
consumption side, GDP is equal to sum of private
consumption, government consumption, investment, and
net exports (exports minus imports).

Concepts of National Income

(a) Gross National Product (GNP) – Gross National

Product refers to the money value of total output or
production of final goods and services produced by the
nationals of a country during a given period of time,
generally a year.
As we include all final goods and services, produced by
national of a country during a year, in the calculation of
GNP, we include the money value of goods and services
produced by nationals outside the country in calculating
GNP. Hence, income produced and received by nationals
of a country within the boundaries of foreign countries
should be added in Gross Domestic Product GDP of the
country. Similarly income received by foreign nationals

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within the boundary of the country should be excluded
from GDP.

In equation form: GNP = GDP + X – M,

Where
X = Income earned and received by nationals within the
boundaries of foreign countries.
M = Income received by foreign nationals within the
country.
If X = M, then GNP = GDP.
Similarly, in a closed economy
X=M=0

(b) Gross Domestic Product (GDP) is the total money

value of all final goods and services produced within the
geographical boundaries of the country during a given
period of time. As a conclusion it must be understood,
while domestic product emphasises the total output
which is raised within the geographical boundaries of the
country national product focuses attention not only on
the domestic product but also on goods and services
produced outside the boundaries of a nation. Besides,
any part of GDP which is produced by nationals of a
country should be included in GNP.

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There are three different ways of measuring GDP
 The income approach
 The output approach
 The expenditure approach

The income approach, as the name suggests measures

people's incomes, the output approach measures the
value of the goods and services used to generate these
incomes, and the expenditure approach measures the
expenditure on goods and services. In theory, each of
these approaches should lead to the same result, so if
the output of the economy increases, incomes and
expenditures should increase by the same amount.

(c) Net National Product (NNP) ----

NNP is obtained by subtracting depreciation value (i.e.,
capital stock consumption) from GNP.
In equation from:
NNP = GNP – Depreciation.
GNP, explained above, is based on market prices of
produced goods which includes indirect taxes and
subsides. NNP can be calculated in two ways -
1. At market prices of goods and services.
2. At factor cost

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When NNP is obtained at factor cost, it is known as
National Income – National Income is calculated by
subtracting net indirect taxes (i.e., total indirect tax –
subsidy) from NNP at market prices. The obtained value
is known as NNP at factor cost or National income.
In equation form: NNP at factor cost or National Income
= NNP at Market price - (indirect Taxes – subsidy)
= NNPMP – Indirect Tax + subsidy.

What’s The Difference Between GDP At Market Prices

And GDP At Factor Cost?

GDP at market prices is inclusive of net indirect taxes

levied by government on producers. Since producers
pass these taxes onto consumers, value of these taxes is
added on to price of output, and therefore value of
aggregate output goes up by the aggregate net indirect
tax (taxes minus subsidies). GDP at factor cost
measures the value of output without the additional price
imposed by taxes. Thus, GDP at factor cost is equal to
the value of all factor costs, including wages (cost of
labor), interest (cost of capital), rent, and profit (which is
the cost of entrepreneurship). As a result, GDP at market
prices is invariably higher than GDP at factor cost.

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What Does the Term PPP In Relation To GDP Refer To?

If we measure the GDP per capita of all countries in the

same currency, say the US Dollar, we might present a
misleading picture of how well off people in different
countries are. This is because exchange rates do not
correctly reflect the purchasing power of currencies
within their own economies. For example, although one
US dollar is worth almost Rs. 50, a dollar in the US would
not be able to by as much as Rs. 50 does in India. To
correct for this and make international comparisons
more meaningful, we use the notion of purchasing power
parity (PPP). In effect, what we are doing here is to make
the conversation based on a notional exchange rate (one
that tells you how many rupees you would need to by the
same things as you could with a dollar in the US). In
India’s case for example, if the GDP is expressed in US
dollars using the PPP principle, it increases almost five-
fold from the level suggested using nominal exchange
rates.

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4. Fiscal Policy

What is main duty of Finance Minister?

Budget contains three sets of information: taxation
(revenue), public expenditure, public debt management

Budgeting done at two levels:

1. Revenue budget - done for short time – recurring in
nature – maintenance of roads
2. Capital budget - done for longer time – non-
recurring in nature – construction of roads

Revenue budget consists of

a. Revenue receipts – received on regular basis
(taxes, profits made by PSUs, financial services like
postal, railways)
b. Revenue expenditure – spent on regular basis
(developmental like maintenance of hospitals,
roads; non-developmental like defence, pension,
salaries)

Capital budget consists of

a. Capital receipt – received one time (recovery of
loan, disinvestment, borrowings)

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 b. Capital expenditure – spent one time (repayment
of loan; construction of roads, railway tracks)
c. Public expenditure = Revenue expenditure +
Capital expenditure

Union Budge

Revenue Expenditure:
 It is consumptive i.e. it does not give financial
returns
 It is committed i.e. it is difficult to reduce in short
run
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Revenue account deficit:
= Revenue Expenditure – Revenue Receipts
it depicts the inability of the govt to generate enough
resources to meet its day to day activities/ expenditures
Fiscal Deficit:
=Total expenditure – Total non-Debt creating Receipts
= Total borrowing of the govt (from market, public, RBI
etc)

Fiscal Deficit:
=Total expenditure – Total non-Debt creating Receipts
= Total borrowing of the govt (from market, public, RBI
etc)

Highlights of Union Budget 2017-18

 Agenda for Budget 2017-18 was : “Transform,

Energise and Clean India” – TEC India
 TEC India seeks to
 Transform the quality of governance and quality of
life of our people;
 Energise various sections of society, especially the
youth and the vulnerable, and enable them to
unleash their true potential; and

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 Clean the country from the evils of corruption,
black money and non-transparent political funding
 Ten distinct themes to foster this broad agenda:
 Farmers : committed to double the income in 5
years;
 Rural Population : providing employment & basic
infrastructure;
 Youth : energising them through education, skills
and jobs;
 The Poor and the Underprivileged : strengthening
the systems of social security, health care and
affordable housing;
 Infrastructure: for efficiency, productivity and
quality of life;
 Financial Sector : growth & stability by stronger
institutions;
 Digital Economy : for speed, accountability and
transparency;
 Public Service : effective governance and efficient
service deliver through people’s participation;
 Prudent Fiscal Management: to ensure optimal
deployment of resources and preserve fiscal
stability; Tax Administration: honouring the honest.

33
Inflation
Inflation is the rate at which prices rise. Basically prices
go up due to two factors: cost push and demand pull.
The former occurs due to an increase in production cost,
which gets translated into higher price for that item. The
latter takes place when there is too much money with
customers relative to the amount of goods available in
the market. In such a situation we have too much money
chasing too few goods and prices rise because people
are willing to pay more for the same item. When the item
being chased is in short supply, we have demand pull
inflation. As against inflation, we have deflation, a
situation when prices take a tumble. This is a theoretical
concept and something that rarely occurs in developing
countries.

(a) Causes of Inflation in India

1. Increase in money supply:

Over the last few years the rate of increase in money
supply has varied between 15 and 18 per cent, whereas
the national output has increased at an annual average
rate of only 4 per cent. Hence the rate of increase in
output has not been sufficient to absorb the rising

34
quantity of money in the economy. Inflation is the
obvious result.

2. Deficit financing:
When the government is unable to raise adequate
revenue for its expenditure, it resorts to deficit financing.
During the sixth and seventh Plans, massive doses of
deficit financing had been resorted to. It was Rs. 15,684
crores in the sixth Plan and Rs. 36,000 crores in the
seventh Plan.

3. Increase in government expenditure:

Government expenditure in India during the recent years
has been rising very fast. What is more disturbing,
proportion of non-development expenditure increased
rapidly, being about 40 per cent of total government
expenditure. Non-development expenditure does not
create real goods; it only creates purchasing power and
hence leads to inflation. Not only the above-mentioned
factors on the Demand side cause inflation, factors on
the Supply side also add fuel to the flame of inflation.

4. Inadequate agricultural and industrial growth:

Agricultural and industrial growth in our country has
been much below what we had targeted for. Over the four

35
decades period, food grains output has increased and-
.i.e. of 3.2 per cent per annum. But there are years of
crop failure due to droughts. In the years of scarcity of
food grains not only the prices of food articles increased,
the general price level also rose. Failure of crops always
encouraged big wholesale dealers to indulge in hoarding
which accentuated scarcity conditions and pushed up
the price level. Performance of the industrial sector,
particularly in the period 1965 to 1985, has not been
satisfactory. Over the 15 years period from 1970 to 1985,
industrial production increased at a modest rate of 4.7
per cent per annum. Our industrial structure, developed
on the basis of heavy industry-led growth, is not suitable
to meet the current demand for consumer goods.

5. Rise in administered prices:

In our economy a large part of the market is regulated by
government action. There are a number of important
commodities, both agricultural and industrial, for which
the government administers the price level.
The government keeps on raising prices from time to
time in order to cover up losses in the public sector. This
policy leads to cost-push inflation. The upward revision
of administered prices of coal, iron and steel, electricity
and fertilizers were made at regular intervals. Once the

36
administered prices are raised, it is a signal for other
price to go up.

6. Rising import prices:

Inflation has been a global phenomenon. International
inflation gets imported into the country through major
imports like fertilizers, edible oil, steel, cement,
chemicals, and machinery. Increase in the import price of
petroleum has been most spectacular and its
contribution to domestic price rise is very high.

7. Rising taxes:
To raise additional financial resources, government is
depending more and more on indirect taxes such as
excise duties and sales tax. These taxes invariably raise
the price level.

(b) Price Indices

What Is A Price Index?
It ‘s easy to measure changes in the prices of individual
commodities, but how does one work out what the
overall price increase in a whole basket of commodities?
This is what a price index does. There are broadly two
kinds of indices, a Wholesale Price Index (WPI) and a
Consumer Price Index (CPI). Since the former measures

37
change in wholesale prices, it reflects producer inflation
as it affects the consumer.

But nowadays, this classification has been done away

with and a new classification has been introduced. Now,
two CPI are calculated i.e. CPI(urban) and CPI(rural).
These both have a different basket of goods and a
different weighing diagram depending upon the needs of
the consumers in the urban and rural areas. A combined
CPI is also made, called the CPI(National) which is just a
combination of above mentioned indexes.

How Many Kinds of CPI Are There?

In India, there are three kinds of CPI. These are the CPIs
for agricultural labour (AL), Industrial workers (IW) and
urban non-manual employees (UNME). The rationale
behind these three groups is that the basket of goods
consumed by each of them will differ significantly from
that consumed by the others. For example, the CPI for AL
will typically attach a higher weight to food groups,
especially cereals, as it is as assumed that AL will spend
a higher proportion of their wages on food than on, say,
commuting. Conversely, the weight attached to transport
costs would typically be higher in CPI-UNME than it
would be in the CPI-AL. Also, certain items consumed by

38
one class may simply not be available to, or part of the
consumption basket of, another class of consumers.

How Is A CPI Constructed?

Preliminary to constructing a CPI for any class of
consumers would be the need to identify what items
form a major part of the consumption basket of the class
as whole. This can only be achieved by means of a
household survey. Next, each item would be assigned a
weight in the overall index in proportion to its share in
total expenditure. The index reflects nothing but the
weighted average of each commodity’s price. An
appropriate base year is selected, in which the price of
each commodity, and hence the overall index, is equated
to 100. This base in then used as a benchmark for future
prices. Thus, if potatoes cost, says Rs. 10 per kg in the
base year and Rs. 20 in a subsequent year, the potato
index for the later year would be 200. What the weights
do is to assign degrees of importance to differential
commodities. Thus, if house rent has a 25% weight in the
CPI-UNME, and rents increases by 20% per cent, this will
lead to a 5% per cent increase in the overall CPI-UNME,
other things remaining the same. On the other hand, if
watches have a weight of only 1%, even if their prices

39
were to double, this would affect the overall index by
only1%.

What If People Stop Consuming Some Item or Start

Consuming A New One Which Was Not A Part of The CPI
Basket Thus Far?

It is indeed true that consumption patterns change over

time. If the CPI for a particular class is to remain relevant,
therefore, it must constantly be updated. This means a
fresh survey leading to a new set of commodities and
weights and hence an all-new base.
This apart, you could have situations where the
commodity used in the basket has been replaced by a
somewhat superior version, the original one no longer
being available. For instance, mechanical watches may
disappear altogether in favour of quartz watches. It
would clearly be misleading to disregard this change.
This is taken into account by what is called “splicing”.
The new prices are adjusted for the fact that the item in
question is superior to the original one.

40
Do We Need A CPI For All Consumers?
The CSO is now considering constructing a general CPI,
not taking into account different consumer groups. So
far, macro economic analysis typically uses the WPI,
which may not be an accurate indicator of inflation faced
by end-consumers, as wholesale and retail prices can be
substantially different. A general CPI would be more
relevant in this regard.

What If People Stop Consuming Some Item or Start

Consuming A New One Which Was Not A Part of The CPI
Basket Thus Far?

It is indeed true that consumption patterns change over

time. If the CPI for a particular class is to remain relevant,
therefore, it must constantly be updated. This means a
fresh survey leading to a new set of commodities and
weights and hence an all-new base.
This apart, you could have situations where the
commodity used in the basket has been replaced by a
somewhat superior version, the original one no longer
being available. For instance, mechanical watches may
disappear altogether in favour of quartz watches. It
would clearly be misleading to disregard this change.
This is taken into account by what is called “splicing”.

41
The new prices are adjusted for the fact that the item in
question is superior to the original one.

Do We Need A CPI For All Consumers?

The CSO is now considering constructing a general CPI,
not taking into account different consumer groups. So
far, macro economic analysis typically uses the WPI,
which may not be an accurate indicator of inflation faced
by end-consumers, as wholesale and retail prices can be
substantially different. A general CPI would be more
relevant in this regard.

What’s the nature of inflation in India?

In India we have a combination of both cost push and
demand pull. For instance, the high growth in onion
prices during the BJP regime was demand pull inflation,
when the shortage of onions in the market took the
prices to new heights. Also, prices go up whenever there
is a hike in petro prices. Inflation here is due to cost push
factors. This is because petroleum is a vital input in
many items and as an essential fuel for road transport, it
adds to the transportation costs and so prices in general
tend to rise.

42
Inflation Rate in India is reported by the Ministry of
Commerce and Industry. From 1969 until 2013, India
Inflation Rate averaged 7.7 Percent reaching an all time
high of 34.7 Percent in September of 1974 and a record
low of -11.3 Percent in May of 1976. In India, the
wholesale price index (WPI) is the main measure of
inflation. The WPI measures the price of a representative
basket of wholesale goods. In India, wholesale price
index is divided into three groups: Primary Articles (20.1
percent of total weight), Fuel and Power (14.9 percent)
and Manufactured Products (65 percent). Food Articles
from the Primary Articles Group account for 14.3 percent
of the total weight. The most important components of
the Manufactured Products Group are Chemicals and
Chemical products (12 percent of the total weight); Basic
Metals, Alloys and Metal Products (10.8 percent);
Machinery and Machine Tools (8.9 percent); Textiles (7.3
percent) and Transport, Equipment and Parts (5.2
percent).

Why do we feel the pinch of rising prices despite low

inflation?

While the inflation figures that are published every week

refer to wholesale price index (WPI) representing rate of

43
increase in wholesale prices, what matters to us as
individual buyers is the consumer price. Though prices in
the wholesale market have grown at a slow pace (at
about 2-3 per cent), comparatively consumer prices
(measured in terms of consumer price index - CPI) have
grown at a much faster pace (about 8-9 per cent). Hence,
the pinch.

Why is there such a difference between wholesale prices

and consumer prices?
This is due to several factors. A substantial part of the
differential is accounted for by the retailers’ margin,
which is built into the consumer’s price. Besides, the way
the two indices are calculated differs both in terms of
weightage assigned to products and the kind of items
included in the basket.

Wholesale Price Index

The Wholesale Price Index (WPI) is the price of a
representative basket of wholesale goods. In India about
435 items were used for calculating the WPI in base year
1993-94 while the advanced base year 2004-05 and
which has now changed to 2011-2012; uses 676 items.
The indicator tracks the price movement of each
commodity individually. Based on this individual

44
movement, the WPI is determined through the averaging
principle. The Indian WPI figure was released weekly on
every Thursday. But since 2009 it has been made
monthly. It also influences stock and fixed price markets.
The Wholesale Price Index focuses on the price of goods
traded between corporations, rather than goods bought
by consumers, which is measured by the Consumer Price
Index. The purpose of the WPI is to monitor price
movements that reflect supply and demand in industry,
manufacturing and construction. This helps in analyzing
both macroeconomic and microeconomic conditions.

Some Terminologies

Direct Cash Transfer of Subsidy

The Government had announced that direct cash transfer
of subsidies to the bank accounts of the recipients start
in 51 out of India’s 659 districts from January 2013 and
would be gradually extended to the rest of the country by
April 2014.

It is proposed that the cash equivalent of all subsidies,

such as kerosene, LPG cooking gas (Operation PAHAL),
food, fertiliser, scholarships, old-age pensions, NREGS
(there are some 42 government schemes), would be

45
eventually transferred directly to the Aadhaar-based
bank accounts of all the recipients.
According to some estimates, the loss in subsidy
distribution is as high as 40 percent, which will
potentially be eliminated through the implementation of
the scheme.

Contract farming
Agricultural production carried out according to an
agreement between a buyer and farmers. Benefits such
as the assured market and access to support services
for the farmers. It is also a system of interest to buyers
who are looking for assured supplies of produce for sale
or for processing.

Microfinancing
Providing banking facility to people belonging to lower
and middle economic strata in rural and semi-urban
areas who are otherwise outside the coverage of formal
banking system. Schemes like ‘Jan Dhan Yojna’ focus on
financial inclusion. Also MUDRA bank was constituted to
create an inclusive, sustainable and value based
entrepreneurial culture, in collaboration with other
institutions in achieving economic success and financial
security. The bank will Finance Micro finance Institutions

46
in order to facilitate excess to capital to Micro, Small and
Medium Enterprises (MSMEs)

Foreign Direct Investment (FDI)

Investment made by a foreign individual or company in
the productive capacity of another country. It grants the
investor control over the acquired asset. Government
wants to provide impetus to investment in India, which
shall provide employment opportunities and thus
missions like “Make in India” have become most
prominent.

Foreign Institutional Investment (FII)

The term is used most commonly in India to refer to
outside companies investing in the financial markets of
India. These include investments in hedge funds,
insurance companies, pension funds and mutual funds.
These are primarily concerned with Capital Market
(Primary and Secondary).

47
5. State of the Economy

From Economic Survey 2016-17 (Vol II) – Chapter 1-State

of the Economy

Optimism about the medium term and gathering anxiety

about near-term deflationary impulses simultaneously
reign over the Indian economy. Optimism stems from the
launch of the historic Goods and Services Tax (GST), the
decision in principle to privatize Air India; actions to
address the Twin Balance Sheet (TBS) challenge; and
growing confidence that macro-economic stability has
become entrenched. Optimism, even exuberance, is
manifested in financial markets’ high and rising
valuations of bonds, and especially stocks. At the same
time, anxiety reigns because a series of deflationary
impulses are weighing on an economy yet to gather its
full momentum and still away from its potential. These
include: stressed farm revenues, as non-cereal food
prices have declined; farm loan waivers and the fiscal
tightening they will entail; and declining profitability in
the power and telecommunication sectors, further
exacerbating the TBS problem. For the year ahead, the
structural reform agenda will be one of implementing
actual and promised actions— GST, Air-India, and
48
critically the TBS. The macro-economic challenge will be
to counter the deflationary impulses through key
monetary, fiscal, and agricultural policies. The
opportunities created by the “sweet spot” that recent
Economic Surveys have highlighted must be seized and
not allowed to recede.

At this juncture, the Indian economy elicits reactions that

span the continuum: from fundamental optimism (and its
frothy variant, exuberance) about the medium term to
gathering anxiety about near-term deflationary impulses.
So, there is: a rekindled optimism on structural reforms
with the launch of the Goods and Services Tax (GST),
which has been in the making for nearly a decade and a
half; the decision in principle to privatize Air India; further
rationalisation of energy subsidies and actions to
address the Twin Balance Sheet (TBS) challenge;
growing confidence that macro-economic stability has
become entrenched, partly because of a series of
government and RBI actions, and partly because
structural changes in the oil market have reduced the
risk of sustained price increases that would destabilize
inflation and the balance of payments; extraordinary
financial market confidence, reflected in high and rising
bond, and especially stock, valuations; demonetization’s

49
long-term positive consequences combined with
recognition of its short-term costs; rising concern that
state government finances will be disrupted because of
farm loan waivers; and a sense that deflationary
tendencies are weighing on an economy yet to gather its
full growth momentum and still away from its potential.
These include: (i) stressed farm revenues, as non-cereal
foodgrain prices have fallen sharply; (ii) fiscal tightening
by the states to keep budget deficits on track—a recent
illustration is Uttar Pradesh which has slashed capital
expenditure by 13 per cent (excluding UDAY) to
accommodate the loan waiver; (iii) declining profitability
in the power and telecommunication sectors, further
exacerbating the TBS problem; and (iv) transitional
frictions from implementation of the GST.
For the year ahead, the structural and macro-economic
agenda is clearer. The structural reform agenda will be
one of implementing promised actions (GST, TBS, and
Air-India) and decisions taken. Cross-country evidence
abounds that structural reforms are more successful the
healthier the macro-economic context; indeed, the latter
may be a pre-requisite. Macro-economic dynamism
provides the lubrication and resources to minimize
unavoidable disruptions and finance structural reforms.
That is why overcoming the near term demand shortfalls

50
will be critical. Here, important policy choices may need
to be considered: the timing and magnitude of monetary
easing, the magnitude and composition of fiscal
consolidation in the context of commitments made, and
actions to deal with the non-cereal farm sector where
conditions this year—good monsoon and soft demand—
may resemble last year’s.

6. Monetary Policy

Monetary and credit policy is the policy statement,

through which the RBI targets a key set of indicators to
ensure price stability in the economy. Monetary policy is
reviewed every two months. It helps in taming inflation.

7. Ease of Doing Business: Reforms

The standard measures suggest that India is now a

“normal” emerging market. It is open to foreign trade
and foreign capital, government is not overbearing,
either in a micro, entrepreneurship sense or in a macro,
fiscal sense. Following four standard measures indicate
India’s progress which is both qualitative and
measurable:

51
Openness to trade: Larger countries tend to trade more
within its boundaries because of presence of large
internal markets. But, India’s trade-to-GDP ratio has also
been rising very sharply and has now surpassed China.

Open to foreign capital: Despite significant capital

controls, India’s net inflows are at par with other
emerging economies. India’s FDI has risen sharply over
time and in the most recent year; India received FDI of
$75 billion, close to what China was receiving in mid-
2000s.

Public sector enterprises: Even though there has not

been much exit of PSUs, India has seen increasing share
of private sector. India’s PSU spending as a share of GNI
lies in the middle of emerging-market economies.
The share of government expenditure in overall
spending: On plotting government expenditure against
per capita GDP, it has been observed that India spends
as much as can be expected given its level of
development.

Measures to facilitate ease of doing business include

52
  Online application for Industrial License and
Industrial Entrepreneur Memorandum through the
e-Biz website 24x7 for entrepreneurs;
 Limiting the documents required for export and
import.
 Setting up of Investor Facilitation Cell under Invest
India to guide, assist and handheld investors
during the entire lifecycle of the business.

FDI Policy

 The Government has liberalized and simplified the

foreign direct investment (FDI) policy in sectors
like defense, railway infrastructure, construction
and pharmaceuticals, etc.
 Sectors like services sector, construction
development, computer software & hardware and
telecommunications have attracted highest FDI
equity inflows competitive federalism.

Ease of Doing Business: Rankings

 The World Bank ranks the economies on their ease

of doing business. A high ease of doing business
ranking means the regulatory environment is more

53
 conducive to the starting and operation of a local
firm.
 India has ranked poorly on this ranking for past few
years. In the recent rankings for 2017, it has moved
one rank up to the 130th position.

Positives from the Report

 The report praises the various reforms taken by the

present Indian government specifically achieving
significant reductions in time and cost to provide
electricity connections to businesses.
 The ‘distance to frontier’ (DTF) score-used by the
WB to measure the distance between each
economy and the best performance in that
category-has improved for seven of those 10
headers.

Should the marginal improvement be a matter of

concern?

India has improved by only one position. This is being

looked by many as a matter of concern on account of
two reasons:

54
 India has taken a number of economic reforms in
the past year like enactment of bankruptcy code,
GST, introduction of single window system for
building plan approvals and online ESIC
(Employees’ State Insurance Corporation) and
EPFO (Employees’ Provident Fund Organisation)
registrations etc. Thus, a better ranking was
expected.
 Further, the present government aims to bring
India in the top 50 economies in the Ease of Doing
Business by 2018. The target seems extremely
challenging now.

However, the report does not truly represent the status

of economic reforms taken by India. For instance:

 One particular change in the ranking methodology

seems to have done considerable damage to
India’s improvement prospects. India ranks fourth
from the bottom under the header “paying taxes”.
Inclusion of new criterion ‘post-filing index’ has
much to contribute to this.
 The rankings cover only the two cities of Delhi and
Mumbai. However, the reforms are being carried on
all across India. In fact, states like Andhra Pradesh,

55
 Telangana have done remarkable efforts in
economic reforms.
 There is increasing competition from other
countries who are trying to improve their rankings
as well.

Ease of Doing Business Ranking 2018

Recently, World Bank has released Ease of Doing

Business report for 2018, which placed India at 100th
rank out of 190 countries.

 India had ranked poorly on this ranking for past

few years. In the previous rankings for 2017, it
ranked at 130th position.
 India is among the top 30 nations in three
categories — getting electricity, securing credit and
protecting minority investors.
 The country improved its ranking on six out of the
10 parameters becoming the only large economy
to do so.
 Country is one of the top 10 improvers in this year's
assessment.

56
  However, the World Bank noted that India lagged in
areas such as starting a business, enforcing
contracts, and dealing with construction permits.

Factors for improvement in ranking

 Paying taxes: In 2016, Income Computation and

Disclosure Standards (ICDS), an accounting
standard for the purpose of income tax was
introduced. It advances some income and
postpones some expenses to arrive at the
profitability of companies. Hence, data gathering
has become automated due to the use of the latest
software.
 Dealing with construction permits: India made
obtaining a building permit faster by implementing
an online single-window system for the approval of
building plans.
 Getting credit: India has strengthened access to
credit by amending the rules on the priority of
secured creditors outside reorganization
proceedings and adopting a new insolvency and
bankruptcy code.
 Trading across borders: India reduced border
compliance time by improving infrastructure at the

57
 Nhava Sheva Port in Mumbai; export and import
border compliance costs reduced in Delhi and
Mumbai after removal of merchant overtime fees.
 Resolving insolvency: The country has regulated
the profession of insolvency administrators apart
from adopting a new insolvency and bankruptcy
code.
 Starting a business: India streamlined the business
incorporation process by introducing the SPICe
form (INC-32) that which combined the application
for the Permanent Account Number (PAN) and the
Tax Account Number (TAN) into a single
submission.

8. Foreign Investment Scenario in India

Balance of Payments
Current Account: current account deficit (CAD)
progressively contracted from 4.8 per cent of GDP in
2012-13 to 1.1 percent of GDP in 2015-16.

Positive factors helping narrowing of CAD:

58
  Sharp contraction in trade deficit outweighed the
decline in net invisible earnings.
 Decline in oil import bill due to low prices by
around 18 per cent Sharp decline in gold imports
led to a reduction in India’s overall imports.

Capital/finance account: Net capital flows remained

higher than the CAD leading to net accretion to India’s
foreign exchange reserves.

 External Debt:
 India’s external debt stock stood at US$ 484.3
billion, recording a decline of US$ 0.8 billion
over the level at end-March 2016, mainly due to
a reduction in commercial borrowings and short
term external debt.
 The shares of Government (Sovereign) and non-
Government debt in the total external debt were
20.1 percent and 79.9 percent respectively at
end-September 2016.
 International Debt Statistics 2017’, published by
World Bank, indicates that India continues to be
among the less vulnerable countries.

59
Asia Pacific Trade and Investment Report, 2016

 India’s international and intra-regional trade cost

remained higher compared with trade cost of best
performing economies in Asia and Pacific,
although a declining trend has been observed
since 2009.
 FDI flow in country may increase because of
various initiatives of Government like “Make in
India” and easing of FDI regulations in different
sectors like aviation, defence, pharmaceuticals
compounded by robust economic growth and large
domestic market.
 Trend towards FDI diversion by Indian business
community is observed as overseas investment
from India contracted by 36% reflecting Indian
investors’ confidence more in Indian market than
abroad.
 FDI inflow in India during 2010-15 expanded at the
rate of 10% on an average while in 2015 alone FDI
flow expanded at staggering 27.8% which was
significantly higher than Asia-Pacific region avg of
5.6%.
 Services, Construction development, Computer
software and hardware and

60
 Telecommunications sectors attracted highest
investment.
 India also emerged largest trading partner with
South Asian countries like Nepal, Sri Lanka,
Bhutan.

9. Problems of Banking

The Economic Survey 2015-2016, pointed out the twin

balance sheet problem of overleveraged and distressed
companies and the rising NPAs in Public Sector Bank
balance sheets. Solving the structural and functional
problems of banking requires 4R (Recognition,
Recapitalisation, Resolution, and Reform) approach on
both the banking and corporate sectors.

Stressed assets VS Non Performing Assets

 Stressed Asset - An account where principal and/or
interest remains overdue for more than 30 days.
 NPA - A loan or advance for which the principal or
interest payment remained overdue for a period of
90 days.

61
A. Recognition

I. Financial stability report-2017 - given by RBI

 Gross non-performing assets (GNPAs) may rise

from 9.6 percent in March 2017 to 10.2 percent by
March 2018
 But the overall capital to risk-weighted assets ratio
(CRAR) of the banking system also improved to
13.6 percent from13.4 percent during the period,
largely due to an improvement in the capital
adequacy of private and foreign banks.

II. Stressed assets

Nonperforming assets, restructured loans and written-off

assets — collectively called ‘stressed assets’ — have
become a major challenge to the country’s banking
system.
Bad loans have now shot up by 135 per cent from
261,843 crore in the last two years, despite the Reserve
Bank of India announcing a host of restructuring
schemes such as;

62
Asset Quality Review: in which commercial banks to
accelerate provisioning requirement and asked Banks to
recognize stress assets on proactive basis.

Willful Defaulters
An entity or a person that has not paid the loan back
despite the ability to repay it. RBI circular on willful
default covers several broad areas:

 Deliberate nonpayment of the dues despite

adequate cash flow and good networth,
Siphoning off of funds to the detriment of the
defaulting unit,
 Assets and proceeds have been misutilised;
Misrepresentation/falsification of records;
 Disposal/removal of securities without bank's
knowledge;
 Fraudulent transactions by the borrower.

III. Willful Defaulters

 Willful defaulters owe PSU banks a total of Rs. 64,

335 crore or 21 per cent of total non-performing
assets (NPA).

63
  The sharpest increase in NPAs in the banking
industry was observed in mid-size corporates
 Large borrowers account for 56 per cent of gross
advances and 86.5 per cent of gross NPAs. (Fin.
Stability Report, 2017).

Recommendations of standing committee on finance

regarding willful defaulters:

The Standing Committee on Finance recommended that

state-owned banks make public the names of their
respective top 30 stressed accounts involving willful
defaulters.
This will act as a deterrent and enable banks to
withstand pressure and interference from various
quarters in dealing with the promoters for recoveries or
sanctioning further loans.
The committee recommended amending the RBI Act and
other laws and guidelines.

Fugitive Economic Offenders Bill 2017

Need
Till now India has various types of civil provisions
dealing with issues of non-repayment of debt. While

64
effective in serving this purpose, they make no special
provisions to deal with –

 High-value offenders.
 Those who might have absconded from India when
any criminal case is pending.
 In case of such absconders, the general provision
pertaining to “proclaimed offenders” under Section
82 of the Code of Criminal Procedure, 1973.

Therefore this Bill would be a dedicated statutory

backing for criminal prosecution of fugitive economic
offenders.

Provisions of the Bill

 It empowers the government to confiscate

properties of fugitive economic offenders. The
proposed law will be applicable in cases where
value of offences is over Rs. 100 crore.
 The Bill makes provisions for a special court under
the Prevention of Money Laundering Act to declare
a person a ‘Fugitive Economic Offender’.
 A Fugitive Economic Offender has been defined
under the bill as a person who has an arrest

65
 warrant issued in respect of a scheduled offence
and who leaves or has left India to avoid criminal
prosecution, or refuses to return to India to face
criminal prosecution.

Existing provisions to deal with issues of economic

offences

1. RBI Master circular has defined ‘wilful default’ and has

given deterrent measures like debarring a promoter from
raising institutional finance for floating a new venture for
5 years.
2. SARAFAESI Act is used to recover assets of financial
institutions without involvement of courts.
3. Under Recovery of Debts due to Banks and Financial
Institutions Act, 1993 a debt may be recovered on the
issue of a recovery certificate by the Debt Recovery
Tribunal.
4. As per Insolvency and Bankruptcy Code, 2016, the
debtor or the creditor can trigger the insolvency
resolution process on default involving restructuring of
the debts. If the plan fails, the liquidation / bankruptcy
process is triggered.

66
Significance

 The bill could address the issue of default of bank

loans and the mounting Non-performing assets
(NPA) and prevent any crowding out of investment
for the private sector that occurs when the bank’s
NPAs rise.
 The bill would also address the problems in the
investigations of the criminal cases and would
save the time of the judiciary apart from upholding
the rule of the law.

B. Recapitalization

 The government will pump in Rs. 10,000 crore into

public sector banks (PSBs) in the next financial
year (FY17) to meet their capital requirements and
bail them out from a financial mess.
 Earlier in the year, as part of its recapitalization
programme for PSBs (Indradhanush), the
government announced an equity infusion of Rs.
25,000 crore for FY17.
 Of their Rs. 1.8 lakh crore capital requirement
under Basel-III norms, the government has
promised to pay Rs. 70,000 crore over four years

67
 till 2018-19 and has asked state-owned banks to
raise Rs. 1.1 lakh crore from the market.
 For reviving growth PSBs loans have to increase by
12% which requires an additional Rs. 2.4 trillion of
capital by end-March 2019 to meet the Basel III
requirements.

Other Steps taken

Indradhanush 2.0 a comprehensive plan for

recapitalization of public sector lenders, with a view to
make sure they remain solvent and fully comply with the
global capital adequacy norms, Basel-III scheme is being
implemented.

C. Resolving the NPA problem

I. Scheme for Sustainable Structuring of Stressed Assets

 Under the scheme, the banks can split the overall

loans of struggling companies into sustainable and
unsustainable based on the cash flows of the
projects.
 The unsustainable debt could be converted into
equity or a convertible security. Once the

68
 unsustainable debt is converted to equity, banks
can sell this stake to a new owner who will have
the advantage of getting to run the business with a
more manageable debt.

II. Asset Reconstruction Company

 To tackle rising NPAs, the Union Finance Ministry

and NITI Aayog has recommended to set up an
Asset Reconstruction Company (ARC) with equity
funding from the government and the RBI.
 PSBs condition is particularly bad as compared to
private banks because they have to lend under
various government objectives and under the
compulsion of social banking.
 100% FDI under automatic approval for ARCs.

Viral Acharya’s recommendations:

The only real way of removing the stress off bank books
is to effect a recovery and resolution in the stressed
company.

69
 1. The creation of a private asset management
company (PAMC), which will handle the creation,
selection and implementation of a feasible
resolution plan for quick turnaround,
2. the involvement of two credit rating agencies
which rate the company and not the debt issued to
them and
3. finally, taking the voice away from the company’s
promoters who may implement delaying tactics on
a regular basis to retain control,

Other steps taken by RBI

 5:25 Scheme: It allows banks to extend long-term

loans of 20-25 years to match the cash flow of
projects while refinancing them every 5 or 7 years.
 Compromise settlement schemes.
 Strategic Debt Restructuring (SDR) - consortium of
lenders converts a part of their loan in an ailing
company into equity, with the consortium owning
at least 51 percent stake
 Corporate Debt Restructuring (CDR) mechanism
and Joint Lenders' Forum

70
D. Reforms

I. Banking Regulation (Amendment) Ordinance, 2017

To deal with stressed assets, particularly those in

consortium or multiple banking arrangements.
Details

 Expeditious resolution: It authorize the Reserve

Bank of India (RBI) to direct banking companies to
resolve the issues related to specific stressed
assets, by initiating insolvency resolution process.
 Initiate insolvency: Two new provisions had
introduced namely, sections 35AA and 35AB, under
Section 35A of the Banking Regulation of Act of
1949 through which banking companies can
initiate insolvency proceedings.
 Empowering RBI: The RBI can now issue other
directions for resolution, and appoint authorities
and oversight committees to advise banking
companies for stressed asset resolution.
 Time-bound resolution: in the wake of new
Insolvency and Bankruptcy Code (IBC), 2016 which
consolidated and amended the laws relating to

71
 reorganization and insolvency of corporate
persons may lead to time-bound resolution.
 Facilitating recoveries: Ordinance could firm up
with the IBC along with Securitisation and
Reconstruction of Financial Assets and
Enforcement of Security Interest Act, 2002
(SARFAESI) and Debt Recovery Acts, which have
been amended to facilitate recoveries.

II. RBI Revised Prompt Corrective Action

The RBI is set to revise guidelines for Prompt Corrective

Action (PCA) plan required to be mandatorily set in
motion by ailing banks.

What is PCA?

 PCA is a process or mechanism to ensure that

banks don't go bust.
 Thus, RBI has put in place some trigger points to
assess, monitor, control and take corrective
actions on banks which are weak and troubled.
 PCA was first introduced after the global economy
incurred huge losses due to the failure of financial
institutions during the 1980s and 1990s.

72
 According to the latest Prompt Corrective Action
(PCA) plan, the banks are assessed on three
parameters, and they are:
 Capital ratios
 Asset Quality
 Profitability
 Indicators to be tracked for Capital, asset quality
and profitability would be CRAR/Common Equity
Tier I ratio, Net NPA ratio and Return on Assets
respectively.
 Breach of any risk threshold would result in
invocation of PCA.
 CRAR is the acronym for Capital to Risk- weighted
Assets Ratio, a standard metric to measure
balance sheet strength of banks
 ROA stands for return on assets. It is the
percentage of net income generated with respect
to average total assets.
 CET 1 ratio: The percentage of core equity capital,
net of regulatory adjustments, to total risk-
weighted assets as defined in RBI Basel III
guidelines
 NNPA Ratio: the percentage of net NPAs to net
advances

73
  Tier 1 Leverage Ratio: the percentage of the capital
measure to the exposure measure as defined in
RBI guidelines on the leverage ratio.

III. Corporate Bond Market

Measures to Strengthen Corporate Bond Market, RBI

accepted many of the recommendations of the Khan
Committee to boost investor participation and market
liquidity in the corporate bond market. They include:

 Permitting commercial banks to issue rupee-

denominated bonds overseas (masala bonds) for
their capital requirements and for financing
infrastructure and affordable housing
 Brokers registered with the SEBI and authorized as
market makers in corporate bond market permitted
to undertake repo / reverse repo contracts in
corporate debt securities
 Banks allowed to increase the partial credit
enhancement they provide for corporate bonds to
50 percent from 20 per cent.
 Permitting primary dealers to act as market
makers for government bonds, to give further

74
 boost to government securities by making them
more accessible to retail investors
 Simplified procedures to ease access to the
foreign exchange market for hedging in over the
counter (OTC) and exchange-traded currency
derivatives up to a limit of US$30 million at any
given time.

IV. Insolvency and Bankruptcy code

Background
The objective of the code is reducing the delay in
resolution of insolvency or bankruptcy cases and
improving recoveries of the amount lent.

Need
Today, bankruptcy proceedings in India are governed by
multiple laws - the Companies Act, SARFAESI Act, Sick
Industrial Companies Act, and so on. The entire process
causes a lot of delay thus locking capital for a long
period.

75
Salient Features of the law:

 Unified code for greater legal clarity.

 Fixed a timeline of 180 days, extendable by another
90 days, to resolve cases of insolvency or
bankruptcy.
 New regulator - the Insolvency and Bankruptcy
Board of India (IBBI) to regulate
professionals/agencies dealing with insolvency
and informational utilities.
 Specialized Bench at the National Company Law
Tribunal (NCLT) to adjudicate bankruptcy cases
over companies, limited liability entities.
 Debt Recovery Tribunal (“DRT”) shall be the
Adjudicating Authority with jurisdiction over
individuals and unlimited liability partnership firms.

The code allows the corporate debtor itself to initiate the

insolvency-resolution process once it has defaulted on a
debt.
Prioritization of claims by different classes of creditors
(Financial creditors and operation creditors.)

Issues with the present bankruptcy law

76
  The insolvency request can be stayed by the
adjudicatory authority or an appeal against it can
be filed in High court. So, the operational creditor
may not have enough resource to pursue the case
against the bankrupt company.
 Without repealing the existing laws, the bankruptcy
law can further complicate the process.
 If the insolvency resolution plan is not submitted
by the Insolvency Resolution Professional within
270 days or if it is disapproved by the adjudicatory
authority then liquidation is the only option.
However, the law is unclear if the corporation is
given a chance to be heard before liquidation.
 The option of liquidation may also lead to parties
not giving enough research towards recovery the
ailing company.

Way Ahead
The Bankruptcy Law is a much-needed step towards
reducing NPAs and improving ease of doing business in
India. However, the law must be amended preferably by
bringing experts from abroad countries that have
experience of handling bankruptcies and distressed debt
market.

77
V. Public Sector Asset Rehabilitation Agency/ Bad Bank

What is a Bad Bank?

 Bad Bank would be set up as a separate entity that

would buy the NPAs from other banks to free up
their books for fresh lending. In the meanwhile, it
would work towards suitably disposing off the
toxic assets.
 The concept was pioneered at the Pittsburgh-
headquartered Mellon Bank in 1988 and has been
successfully implemented in many western
European countries post the 2007 financial crisis
like Ireland, Sweden, France etc.

Advantages of Bad Bank

 The present method of recapitalization can have

only partial success due to limitations of Indian
financial capabilities. Further, it will not clear up
the bad assets but would only give some more life
to projects.
 Bad Bank would essentially help in clearing the
books of banks and this could make the banks
more attractive to buyers.

78
  The segregation would help in managing NPAs
more effectively. The organizational requirements
and skill sets are very different in a restructuring
and winding up situation than in a lending
situation. The segregation could thus help in
putting the best-suited processes and practices in
a Bad Bank while the ‘normal banks’ could continue
to focus on lending.

Issues
 Raghuram Rajan was of the view that this concept
may not be relevant for India since much of the
assets backing the banks’ loans are viable or can
be made viable. E.g. a large chunk of projects
stalled due to extraneous factors like problems in
land acquisition or environmental clearance. They
just need restructuring and additional funding.

There are issues with respect to composition and

management of the Bad Bank.

A majority stakes with government would render the Bad

Bank with the same issues of governance and
capitalization as PSBs.

79
On the other hand, a private majority shareholding could
invite criticism of favouritism and corruption if the loans
are not priced appropriately when transferred to a ‘bad
bank’.

Way Forward

 This must be complemented with other steps. The

government must infuse more capital into the
better-performing PSBs.
 It must also create, through an act of Parliament,
an apex Loan Resolution Authority for tackling bad
loans at PSBs. The authority would vet
restructuring of the bigger loans at PSBs. This
would mitigate the paralysis that has set in at the
PSBs because of the fear factor and get funds
flowing into stalled projects.
 Some assets are best classified as loss assets and
should be written off in the books, even as efforts
are made to recover whatever value can be
recovered through liquidation.
 Banks ought to take a large enough haircut on
existing debt to make the restructured project
attractive for ideas of SDR. S4A, ARCs, NIIF to
work:

80
  The proposed National Infrastructure and
Investment Fund (NIIF), operating with private
partners, will provide both equity and new credit to
stress infra projects going through the SDR
mechanism.

10. Demonetization

Significance of Demonetisation Move

 In effect, the tax on all illicit activities, as well as

legal activities that were not disclosed to the tax
authorities, was sought to be permanently and
punitively increased.
 Demonetisation was aimed at signaling a regime
change, emphasizing the government’s
determination to penalize illicit activities.
 India’s demonetisation is unprecedented in
international economic history, in that it combined
secrecy and suddenness amidst normal economic
and political conditions.
 Also India’s action is not unprecedented in its own
national history (for ex: 1946 and 1978), But the
recent action had large, albeit temporary, currency
consequences.

81
Motivation behind the action:

Dual dimensions of cash

 Value of high denomination notes (INR 500 and
INR 1000) relative to GDP has also increased in line
with rising living standards.
 High value notes are associated with corruption
because they are easier to store and carry,
compared to smaller denominations or other
stores of value such as gold.
 India’s economy is relatively cash-dependent.
India’s level is somewhat higher than other
countries in its income group and as measured by
transparency international higher the amount of
cash in circulation, the greater the amount of
corruption.
 Amount of black money calculated using ‘soiled
notes’ (notes returned to Central Bank because
they are too damaged) has been found to be
substantial, as it represents about 2 percent
of GDP.

Maximizing Long-Term Benefits, Minimizing Short-Term

Costs:

82
 Follow up Actions: A number of follow-up actions
would minimize the costs and maximize the
benefits of demonetisation. These include:
 Fast, demand-driven, remonetisation: Supply of
currency should follow actual demand and not be
dictated by official estimates of “desirable
demand” to re-establish internal convertibility.
 Inter-convertibility of cash:
 There should be no penalties on cash
withdrawals, which would only encourage cash
hoarding.
 Internal convertibility is a bedrock of every
single financial system in the world, for some
very practical reasons. Unless people have
confidence that money deposited in bank
accounts is freely convertible into cash, and
vice versa, they will be reluctant to deposit their
cash.
 The proportion of low denomination notes should
certainly rise at the expense of higher ones. But
there should not be any restrictions on aggregate
supply.
 The government windfall arising from unreturned
notes should be deployed toward capital-type
expenditures.

83
 Digitalization:
 Public policy must balance benefits and costs
of both forms of payments.
 The transition to digitalization must be gradual;
take full account of the digitally deprived;
respect rather than dictate choice.
 The cost of incentivizing digitization must be
borne by government.
 Cyber security systems must be strengthened
considerably.

 Complementary Actions: A five-pronged strategy

could be adopted:
 A GST with broad coverage to include activities
that are sources of black money creation—land
and other immovable property-should be
implemented;
 Individual income tax rates and real estate
stamp duties could be reduced;
 The income tax net could be widened gradually
and, consistent with constitutional
arrangements, could progressively encompass
all high incomes. (After all, black money does
not make fine sectoral distinctions);

84
  The timetable for reducing the corporate tax
rate could be accelerated; and
 Tax administration could be improved to reduce
discretion and improve accountability.
 Action need to be taken to allay anxieties about
over-zealous tax administration.

Way forward: It is imperative that the effort to collect

taxes on newly disclosed (and undisclosed) wealth does
not lead to tax harassment by officials. There must be a
shift to greater use of data through greater information
sharing between direct and indirect tax departments,
smarter evidence-based scrutiny and audit, greater
reliance on on-line assessments with correspondingly
less interaction between tax payers and tax officials.

Pradhan Mantri Garib Kalyan Yojana

Taxation Laws (Second Amendment) Bill, 2016 proposes

to introduce a scheme named the 'Pradhan Mantri Garib
Kalyan Yojana, 2016'.

85
Features
 Its aim is to use black-money collected post-
demonetization in welfare schemes for the poor.
 The government wants to give people an
opportunity to pay taxes with penalties and declare
undisclosed income through the proposed Pradhan
Mantri Garib Kalyan Yojana (PMGKY).
 PMGKY will allow people to deposit previously
untaxed money by paying 50% of the total amount:
30% as tax and 10% as penalty on the undisclosed
income, as well as 33% of the taxed amount as
cess.
 The declarant will also have to deposit 25% of
undisclosed income in a deposit scheme to be
notified by the RBI under the Pradhan Mantri Garib
Kalyan Deposit Scheme, 2016.
 If the declarant refuses the option of using the
government deposit scheme, 85% of the amount
will be deducted as taxes and penalties.
 For money that is found in raids, taxes and
penalties of nearly 90% of the amount will be
levied, leaving just 10% with the owner.

86
11. ‘Less Cash’ and Cash Less Economy

What is cashless and less cash economy?

A cashless economy is one in which all the transactions

are done using cards or digital means. The circulation of
physical currency is minimal.

On the other hand, when majority of them are done using

digital means, then it is called a ‘less’ cash economy.

Present state of India

 India uses too much cash for transactions.
The ratio of cash to gross domestic product is one
of the highest in the world-12.42% in 2014,
compared with 9.47% in China or 4% in Brazil.
 Majority of India is digitally illiterate (WDR, 2016
Digital Dividends Report) and lacks basic access to
financing lacks basic access to financing services
 Therefore, RBI has also recently unveiled a
document-“Payments and Settlement Systems in
India: Vision 2018”- setting out a plan to encourage
electronic payments and to enable India to move
towards a cashless society or economy in the
medium and long-term.
87
Major ways of digital transactions:

 National Electronic Funds Transfer (NEFT) andReal

Time Gross Settlement in India (RTGS) and - bank
services.
 Utilising mobile wallet services provided by banks,
UPI etc.,
 Others forms pertains to debit cards and credit
cards which are referred as plastic money. These
cards can be used in Point of Sale (PoS) machines
that are maintained by vendors.

For Major benefits, the corresponding challenges to

reach these benefits and suggested solutions are
compiled in the table below. Please refer:

Benefits Challenges Solutions

a. Increases Despite the success Using JDY accounts
financial of Jan Dhan Yojana for DBT etc. may
inclusion in improving make these
financial inclusion, accounts to put to
23% JDY accounts use.
lie empty.
Insufficient focus Innovative steps
on financial and such as: (MeitY)
88
 digital literacy haslaunched a TV
channel named
‘DigiShala’.
Vittiya Saksharata
Abhiyan (VISAKA)
was launched by
HRD Ministry to
make people aware
about cashless
economic system.
Consumer
Behaviour &
Financial Literacy:
Common man finds
the usage of cards,
mobile banking
and PoS terminals
to be a complex
process.
b. Reduces A large shadow Incentives:
the Shadow (~19% of Simplified tax rules,
economy economy) reducing
and prevents Remittance based exemptions, e-
money Economy (60% of filings, etc.
laundering remittance funds Follow Easwar panel
89
 are used for day Recommendations
today finances) Implement GST
have become As deterrent:
deeply rooted strengthen recent
Benami
Transactions(Prohib
ition) Amendment
Act of 2016,
c. National Innovative methods Plastic notes are
Security: of terror Financing suggested as a way
Creates by drug smuggling, out of FICN menace.
hurdles in money laundering Recent agreements
the terror from tax havens of DTAA and BEPS
financing and secret banks are good way
network and like Swiss banks forward.
makes them etc.,
vulnerable to
get caught
by security
agencies
d. Enables Lack of proper laws New holistic laws
Digital (for ex: no law should be draftedfor
Commerce passed by the the changed
parliament which situation.
legalises mobile RBI must now
90
payments) identify certain
The majority of the payment systems as
mobile payment critical and afford
service providers them systemic
are noncompliant important status
with the strict
provisions for
dealing with
sensitive personal
data including
financial data as
mandated by IT Act,
2000 and rules
under it.
Also, IT Act is not
comprehensive.
India lacks laws to
protect consumers
if they lose money.
Cybertheft, Data A dedicated
theft (for ex: NPCI cybersecurity law in
debit cards data place which
stolen) mandates the
Lack of trust among Rights, Duties and
customers Obligations of all
91
 stakeholders
Cyber insurance for
providing consumer
protection
Lack of adequate Draft Security rule
remedies and for e-wallet firms.
redress The personal
mechanisms information of the
available for Customers will be
customers treated under
Section 72A of the
Information
Technology Act.
e. Enables High cost of Encourage
Digital acceptance investment and
Economy Infrastructure: Cost bring rapid
of Point-of- expansion in the
sale terminals; high technology sector.
operating and Ceiling on cash
maintenance costs usage on all types of
(for ex: There large-sized
are over 1 million transactions
point of sale Requires an
terminals for over enabling framework
500 million such as Lucky
92
 debt and 20 million Grahak Yojana and
credit i.e., Digi Dhan Vyapar
856 PoS for million Yojana. No
Indians. retrospective taxes
for merchants
engaging in digital
payments.
f. Boosts High propensity to More options for
Economy: save in and use ‘less cash’ economy
increase in cash in India such as USSD
the Lack of compelling system of *99# and
pace of value proposition to Use Aadhar as a
circulationof shift into cash-less mechanism for
money economy. Why promoting digital
(Moody’s should someone and mobile
report shift, when actually payments.
pegged the banks tax Recent steps such
impact of sometimes up-to as Cabinet
electronic Fraud or hidden approving draft
transactions charges 1%? ordinance to
to 0.8% empower states and
increase in allow industries to
GDP for pay workers’ wages
emerging digitally, through a
and 0.3% direct bank transfer
93
increase to accounts or by
For cheque
developed
markets)
g. Reduced Internet penetration This is the most
cost of is low at important and
transactions 30%, and pivotal challenge, to
- and smartphone NOFN, partnership
high cost of penetration lower at with private sector
cash, nearly 17%. (For ex: Reliance Jio
2.7% of GDP 73% of Indians do etc.)
(A 0.4% not have Internet
reduction in access
cost of cash Out of 27%
can also connected, only
boost 15%have broadband
savings by connection
trillion by
2025. This
sources
much-
needed
investment
for ‘Make in
India’)
94
h. Increases of India) in Indian Initiative such as
tax tax laws. (For Project Insight must
compliance ex: many private be extended to all
sector companies types of taxes.
manipulate their
balance sheets to
save tax Loopholes
and multiple
exemptions (high
tax expenditure

Goods and Services Tax

Why in news?

 On July 1st the regime of GST has started.

 Before it, GST Council finalized the tax rates for
almost all taxable products & services and also
brought all states on board and drafted 5 bills
related to GST
 Parliament has passed 4 bills related to GST, to
be implemented pan India - The Central GST Bill
2017, The Integrated GST Bill 2017, The Union
Territory GST Bill 2017, The GST (Compensation
to the States) Bill 2017
95
  Draft State GST bill was forwarded to States & all
States including Jammu & Kashmir have already
passed the state GST bill.

Background

 In 2004, Vijay Kelkar recommended GST to replace

indirect tax structure.
 In 2011, a bill was introduced but it was stuck in
the tussle over the compensation to states.
 Recently, various issues related to GST caps,
compensation, powers & responsibilities of GST
Council were resolved.
 Later a four-slab structure of GST - 5% (on basic
necessities), 12%, 18% and 28% (on luxury goods)
was decided.
 Recently government gave a description about
reverse charge mechanism under GST where
liability to pay tax is of recipient of goods &
services rather than the supplier when goods or
services have been received from an unregistered
person. GST Council has specified 12 categories of
services for reverse charge that include radio taxi,
services by an individual advocate or firm of
advocates etc.

96
Significance

 GST will merge the indirect central government

levies like sales tax, service tax, excise duty,
Customs duty, surcharges and cesses and indirect
state government levies like VAT, Entry tax etc.
 Earlier, India’s indirect tax regime was
fragmented with many taxes at both Centre &
State level with varying rates of each in different
jurisdictions. This created tariff & non-tariff
barriers to trade.
 Encouragement to co-operative federalism
 GST is largely technology driven & so will reduce
the human interface leading to speedy decisions.
 It would improve revenue buoyancy by widening
the tax base. As of now, out of 120 crores
population, only 80 lakhs are registered for paying
customs and excise taxes etc.
 More efficient neutralization of taxes especially for
exports thereby making our products more
competitive in the international market.

97
Advantages of GST

 Unified National Market: It is a step towards “One

Country, One Tax, One Market” providing a
relatively stable tax regime which will give boost to
foreign investment andMake in India.
 Impact on economy - It is estimated to increase the
GDP growth by 1.5 to 2%. Inflation in general for
goods is going to be reduced due to removal of
cascading effect as well as lower rates than
present regime for most of them.
 No Cascading effect: GST prevents cascading of
taxes as it is a destination based consumption tax
& Input Tax Credit will be available across goods
and services at every stage of supply.
 Ease of doing business: Harmonization of laws,
procedures and rates of tax. It will improve
environment of compliance as all returns to be filed
online, input credits to be verified online reducing
need to deal with different tax authorities. It would
also discourage mere 'invoice shopping'.
 Reduce Tax Evasion: Uniform SGST and IGST rates
will reduce incentive for evasion because of
 Elimination of rate arbitrage between
neighbouring States and that between intra and

98
 inter-state sales as integrated GST rate would
be applicable
 ‘Self-policing feature’ of tax being levied on the
value added to a good or service.
 Reduction in compliance costs due to
simplification as no multiple record keeping for
a variety of taxes because 17 taxes and cesses
is merged into one
 Impact on consumer - Half the consumer price
index basket, including foodgrains, will be attract
zero tax rate, thus enabling them to be part of GST
chain but without burdening consumers
Challenges
 Digital infrastructure - Availability of bandwidth for
digital connectivity allover India to conduct
electronic transfers and payments properly
 Data privacy - 51% of GSTN is privately held. This
gives the control of tax and trade data to a private
company and without adequate data protection
measures; it could hurt India’s financial security.
 Issue of Parliamentary and Legislative autonomy :
GST Council (an executive body) will finalize a vote
by a majority of not less than three-fourths of
weighted votes of members present and voting

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 (Centre to have 33% and states to have 66% weight
of the total votes cast).
 Federalism: The states are giving up much of their
most important power - ‘to impose taxes’
autonomously. States will no longer be able to
change their tax rates individually. As both Centre
and State is vested with power to make law on GST
under Art. 246(A) unlike existing regime, both
centre and state will have to work together which
may create workspace challenge.
 Urban local bodies will have to deal with a huge
fiscal gap once local body tax, octroi and other
entry taxes are scrapped for GST system.
 List of Exclusions & different rates - Many
exclusions like petroleum products, diesel, petrol,
aviation turbine fuel, alcohol etc. & 4 different rates
are undermining the principle of One Country, One
Tax.
 Pressure due to increased taxes - Small companies
with a turnover of Rs 10 lakh will have to pay GST
as opposed to currently Rs 1.5 crore. Even
unorganized sector, biggest job creator, may loose
its competitive edge. They may have to raise prices
to stay profitable.

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  For consumers - Benefits from reduced cost due to
lower taxes may not be passed on to them. Also,
some are seeing GST as a regressive system of
taxation as it more or less equalizes taxation
across products which mean that rich will pay less
tax on luxury goods and services and poor will pay
more for basic goods and services.

Steps taken to meet the challenges:

 Exemptions to small business - Businesses in the

Northeastern and hill states with annual turnover
below Rs.10 lakh would be out of the GST net,
while the threshold for the exemption in the rest of
India would be an annual turnover of Rs 20 lakh.
 Anti - profiteering law - According to Sec 171 - in
case merchants etc., are getting input tax credit,
commensurate benefit has to pass down to
consumer.
 GST registration numbers- provisional IDs given
and a 90 day window given for accustomisation.
 Mandatory registration: Tax can’t be evaded now-
as every person should be in the GST system if he
wants to trade. E-way bill also has been passed
where movement of good costing more than

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 50,000 beyond 10 Km is required to be registered
online
 Communication and awareness programs - For
this, Suvidha Kendras in government offices and
various handholding programmes are started.
 GST suvidha providers (GSP) - GSTN has selected
34 GSPs to provide innovative and convenient
methods to taxpayers and other stakeholders in
complying with GST regime. It would smoothen the
process of tax administration under GST.

Way Forward

 Having a GST would accrue multiple benefits to the

Indian economy. The government should also try to
remove the limitations like data privacy and also
narrow down the list of exclusions in the long term.
 Progressive and step-by-step change - With
multiple tax rates, GST may not be a simple tax and
robs much of the benefits from lower
administrative, compliance and distortion costs.
But still the present regime is far better than the
previous one, while the flaws in present regime
have to be dealt with quickly.

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 The fear of revenue loss has kept the government
from taking a gamble on lower or fewer rates. That
stance is unlikely to change soon, unless the
economy turns around fast. So, the GST council
should meet as frequently as possible to review the
rates so as to push the country on par with
developed nations.
 On priority, the government needs to address
capability building among the lesser endowed
stakeholders, such as small scale producers and
retailers.
 Though in the short run there may be some
challenges but the benefits in the long run will
more than compensate for them. Increased tax
compliance is expected to lead to more revenue for
the government and more development for the
country. With ready availability of real time data,
government policies can also be targeted better to
produce the desired results.

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12. Growth V/s Development Debate

Economic growth is a narrower concept than economic

development. The definition of economic development
given by Michael Todaro is an increase in living
standards, improvement in self-esteem needs and
freedom from oppression as well as a greater choice. It
relates to overall development which is expressed as a
measure of HDI.

Human Development Index (HDI) was devised and

launched by Pakistani economist Mahbub ul Haq,
followed by Indian economist Amartya Sen in 1990.

Starting with the 2011 Human Development Report the

HDI combines three dimensions:
1. A long and healthy life: Life expectancy at birth
2. Education index: Mean years of schooling and
Expected years of schooling
3. A decent standard of living: GNI per capita (PPP
USD)

India has an HDI Rank of 131 in 2017

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