Chapter 1 – Sectors of Economy

➢ Sectors of Economy
○ Primary Sector
○ Secondary Sector
○ Tertiary Sector
➢ Organization of Production
➢ Differences between Organized Sector and Unorganized Sector
➢ Multiple Cropping
➢ Yield
➢ High yielding varieties (HYVs)
➢ Modern farming method
➢ Chemical fertilizers
➢ Lack of Surplus
Sectors of Economy

Primary Sector:
● The primary sector is directly concerned with the natural resources of the country.
● Economic description: It is concerned with the extraction of raw materials.
● It includes agriculture, forestry, fishing and mining.
● Amongst the primary sector, agriculture is the predominant occupation.
● The primary sector utilizes the natural resources and produces raw materials and basic goods which
may be used by the industries or by the end-users.
● It can be said that the primary sector serves as a basic sector assisting the growth of the secondary
and tertiary sectors.

Secondary Sector:
● Secondary sector consists of the industrial sector, engaged in construction activities and
manufacturing of finished goods and tangible products.
● The secondary sector performs the vital role of catering to the needs of potential consumers of the
nation.

Tertiary Sector:

● Tertiary sector is intangible in nature, concentrating on the services sector.

● This sector consists of provision of services such as education, medical, hotel and finance needed
by the consumers.

Quaternary Activities:

● Involves the research and development needed to produce products from natural resources.
● These are specialized tertiary activities in the ‘Knowledge Sector’ which demands a separate
classification.
● The quaternary sector is the intellectual aspect of the economy.
● It is the process which enables entrepreneurs to innovate and improve the quality of services offered
in the economy.
● Elementary schools and university classrooms, hospitals and doctors’ offices, theaters, accounting
and brokerage firms all belong to this category of services
 Quinary Activities:

● The quinary sector is the part of the economy where the top-level decisions are made.
● This includes the government which passes legislation.
● It also comprises the top decision-makers in industry, commerce and also the education sector

Organization of Production:

● Aim of Production - To produce the goods and services that we want

● The first requirement is land, and other natural resources such as water, forests, minerals.
● The second requirement is labor, i.e. people who will do the work → Highly educated + Manual
workers [Most abundant factor of production]
● The third requirement is physical capital, i.e. the variety of inputs required at every stage during
production
○ [PHYSICAL CAPITAL: Tools, machines, buildings, raw materials and money in hand]
● Fourth requirement is human capital
○ [HUMAN CAPITAL: It denotes the monetary value of the knowledge, skills, and
competencies of a person]
Differences between Organized Sector and Unorganized Sector:

Multiple Cropping:
● To grow more than one crop on a piece of land during the year is known as multiple cropping.
● It is the most common way of increasing production on a given piece of land
● Yield:
● Yield is measured as crop produced on a given piece of land during a single season
● High yielding varieties (HYVs):
● The Green Revolution in the late 1960s introduced the Indian farmer to cultivation of wheat and rice
using high yielding varieties (HYVs) of seeds.
● Compared to the traditional seeds, the HYV seeds promised to produce much greater amounts of
grain on a single plant.
● As a result, the same piece of land would now produce far larger quantities of foodgrains than was
possible earlier.
● HYV seeds needed plenty of water and also chemical fertilizers and pesticides to produce best
results.
● Higher yields were possible only from a combination of HYV seeds, irrigation, chemical fertilizers,
pesticides etc.
Modern farming method:
 ● Farmers of Punjab, Haryana and Western Uttar Pradesh were the first to try out the modern farming
method in India.
● The farmers in these regions set up tube wells for irrigation, and made use of HYV seeds, chemical
fertilizers and pesticides in farming.
● They were rewarded with high yields of wheat.
● Scientific reports indicate that the modern farming methods have overused the natural resource
base.
● The Green Revolution is associated with the loss of soil fertility due to increased use of chemical
fertilizers.
● Continuous use of groundwater for tubewell irrigation has reduced the water-table below the ground.
Chemical fertilizers:
● Chemical fertilizers provide minerals which dissolve in water and are immediately available to plants.
● Chemical fertilizers can also kill bacteria and other microorganisms in the soil. This means some
time after their use, the soil will be less fertile than ever before.
● The continuous use of chemical fertilizers has led to degradation of soil health.
● Farmers are now forced to use more and more chemical fertilizers and other inputs to achieve the
same production level. This means the cost of cultivation is rising very fast.
Lack of Surplus:
● Lack of surplus means that farmers are unable to obtain capital from their own savings, and have to
borrow.
Chapter 2 – Human Capital
● Human Capital
● 'People as Resource'
● Human Capital Formation
● Economic Activities
● Major determinants of the earning of any individual
● Quality of Population
● Mid-day meal scheme
● Sarva Siksha Abhiyan
● Infant Mortality Rate (IMR)
● Birth Rate
● Death Rate
● Unemployment
● Seasonal Unemployment
● Disguised Unemployment
● Population → Asset for the economy rather than a liability
Human Capital:
● Human capital is the stock of skill and productive knowledge embodied in them.
● Population becomes human capital when there is investment made in the form of education, training
and medical care.
'People as Resource':
● It is a way of referring to a country’s working people in terms of their existing productive skills and
abilities.
Human Capital Formation:
● When the existing 'human resource' is further developed by becoming more educated and healthy,
we call it 'human capital formation' that adds to the productive power of the country
IT revolution:
● India’s IT revolution is a striking instance of how the importance of human capital has come to
acquire a higher position than that of material plant and machinery.
Productive asset by investment in human capital:
● Several years of your education added to the quality of labor. This enhanced your total productivity.
● Total productivity adds to the growth of the economy. This in turn pays you through salary or in some
other form of his choice.
Economic Activities:
● Economic activities have two parts: market activities and non-market activities
● Market activities: Market activities involve remuneration to anyone who performs i.e., activity
performed for pay or profit. These include production of goods or services including govt service.
Non-market activities:
● Non-market activities are the production for self-consumption.
● Major determinants of the earning of any individual:
○ Education and skill are the major determinants of the earning of any individual in the market.
○ A majority of the women have meager education and low skill formation.
○ Women are paid low compared to men.
Quality of Population:
 ● The quality of population depends upon the literacy rate, health of a person indicated by life
expectancy and skill formation acquired by the people of the country.
● The quality of the population ultimately decides the growth rate of the country.
● Illiterate and unhealthy populations are a liability for the economy.
● Literate and healthy population is an asset.
Mid-day meal scheme:
● The Mid-day meal scheme has been implemented to encourage attendance and retention of children
and improve their nutritional status.
● Sarva Siksha Abhiyan: Sarva Siksha Abhiyan is a significant step towards providing elementary
education to all children in the age group of 6 to 14 years.
Infant Mortality Rate (IMR):
● Infant Mortality Rate is the death of a child under one year of age.
Birth Rate:
● Birth rate is the number of babies born there for every 1,000 people during a particular period of
time.
Death Rate:
● Death Rate is the number of people per 1,000 who die during a particular period of time.
Unemployment:
● Unemployment is said to exist when people who are willing to work at the going wages cannot find
jobs.
● Unemployment leads to wastage of manpower resources. People who are an asset for the economy
turn into a liability.
● Unemployment tends to increase economic overload. The dependence of the unemployed on the
working population increases.
● Increase in unemployment is an indicator of a depressed economy.
● Rural Areas: seasonal and disguised unemployment
● Urban Areas: educated unemployment Seasonal Unemployment:
● Seasonal unemployment happens when people are not able to find jobs during some months of the
year.
● People dependent upon agriculture usually face this kind of problem.
Disguised Unemployment:
● In case of disguised unemployment people appear to be employed.
● They have an agricultural plot where they find work.
● This usually happens among family members engaged in agricultural activity.
Workforce Population:
● Workforce population includes people from 15 years to 59 years.
Chapter 3 – POVERTY
● Poverty Line
● Poverty – The Biggest Challenge
● Indicators
● Social Exclusion
● Vulnerability
● International Poverty Line
● Causes of Poverty

Poverty Line:
● Poverty trends in India and the world are illustrated through the concept of the poverty line.
● A common method used to measure poverty is based on the income or consumption levels.
● A person is considered poor if his or her income or consumption level falls below a given “minimum
level” necessary to fulfill basic needs.
● While determining the poverty line in India, a minimum level of food requirement, clothing, footwear,
fuel and light, educational and medical requirement etc. are determined for subsistence. These
physical quantities are multiplied by their prices in rupees.
● The present formula for food requirement while estimating the poverty line is based on the desired
calorie requirement.
● The accepted average calorie requirement in India is 2400 calories per person per day in rural areas
and 2100 calories per person per day in urban areas.
● Since people living in rural areas engage themselves in more physical work, calorie requirements in
rural areas are considered to be higher than urban areas.
● The poverty line is estimated periodically (normally every five years) by conducting sample surveys.
These surveys are carried out by the National Sample Survey Organization (NSSO).
Poverty – The Biggest Challenge:
● One of the biggest challenges of independent India has been to bring millions of its people out of
abject poverty.
● Mahatma Gandhi always insisted that India would be truly independent only when the poorest of its
people become free of human suffering.
Indicators:
● Usually the indicators used relate to the levels of income and consumption.
● But now poverty is looked at through other social indicators like illiteracy level, lack of general
resistance due to malnutrition, lack of access to healthcare, lack of job opportunities, lack of access
to safe drinking water, sanitation etc.
Social Exclusion:
● It is a process through which individuals or groups are excluded from facilities, benefits and
opportunities that others (their “betters”) enjoy
● A typical example is the working of the caste system in India in which people belonging to certain
castes are excluded from equal opportunities.
Vulnerability:
● Vulnerability to poverty is a measure, which describes the greater probability of certain communities
(say, members of a backward caste) or individuals (such as a widow or a physically handicapped
person) of becoming, or remaining, poor in the coming years.
Vulnerable Groups:
● Social groups which are most vulnerable to poverty are scheduled caste and scheduled tribe
households.
 ● Among the economic groups, the most vulnerable groups are the rural agricultural labor households
and the urban casual labor households.
● The double disadvantage of being a landless casual wage labor household in the socially
disadvantaged social groups of the scheduled caste or the scheduled tribe population highlights the
seriousness of the problem.
International Poverty Line:
● The international poverty line is a monetary threshold under which an individual is considered to be
living in poverty.
● It is calculated by taking the poverty threshold from each country—given the value of the goods
needed to sustain one adult—and converting it into dollars.
Causes of Poverty
● Low level of economic development under the British colonial administration:
● Policies of the colonial government ruined traditional handicrafts and discouraged development of
industries like textiles.
Low Rate of Growth until 1980s:
● This resulted in less job opportunities and a low growth rate of incomes.
● This was accompanied by a high growth rate of population.
● The two combined to make the growth rate of per capita income very low.
● The failure at both the fronts: promotion of economic growth and population control perpetuated the
cycle of poverty.
Irrigation and Green Revolution:
● With the spread of irrigation and the Green revolution, many job opportunities were created in the
agriculture sector.
● But the effects were limited to some parts of India.
Industries:
● The industries, both in the public and the private sector, did provide some jobs. But these were not
enough to absorb all the job seekers.
● Unable to find proper jobs in cities, many people started working as rickshaw pullers, vendors,
construction workers, domestic servants etc.
● With irregular small incomes, these people could not afford expensive housing.
● They started living in slums on the outskirts of the cities and the problems of poverty, largely a rural
phenomenon, also became a feature of the urban sector.
Income inequalities:
● Another feature of high poverty rates has been the huge income inequalities.
● One of the major reasons for this is the unequal distribution of land and other resources.
● Since lack of land resources has been one of the major causes of poverty in India, proper
implementation of policy could have improved the life of millions of rural poor.
Chapter 4 – Food Security in India
● Food Security
● Dimensions
● Famine
● Most food insecure people
● Hunge
● Chronic Hunger
● Seasonal Hunger
● Self-sufficiency in foodgrains
● Buffer Stock
● Why is this buffer stock created by the government?
● Subsidy
● Maintenance cost of procuring foodgrains
● Role of cooperatives in food security

Food Security:
● Food security means availability, accessibility and affordability of food to all people at all times.
● The poor households are more vulnerable to food insecurity whenever there is a problem of
production or distribution of food crops.
● Food security depends on the Public Distribution System (PDS), Government vigilance and action at
times when this security is threatened.
Dimensions:
● Availability of food means food production within the country, food imports and the previous year's
stock stored in government granaries.
● Accessibility means food is within reach of every person.
● Affordability implies that an individual has enough money to buy sufficient, safe and nutritious food to
meet one's dietary needs
Food security is ensured in a country only if
● Enough food is available for all the persons
● All persons have the capacity to buy food of acceptable quality
● There is no barrier on access to food
How is food security affected during a calamity?
● Due to a natural calamity, say drought, total production of foodgrains decreases. It creates a
shortage of food in the affected areas.
● Due to shortage of food, the prices go up.
● At the high prices, some people cannot afford to buy food.
● If such calamity happens in a very wide spread area or is stretched over a longer time period, it may
cause a situation of starvation.
● A massive starvation might take a turn of famine.
Famine:
● A Famine is characterized by widespread deaths due to starvation and epidemics caused by forced
use of contaminated water or decaying food and loss of body resistance due to weakening from
starvation
● The most devastating famine that occurred in India was the FAMINE OF BENGAL in 1943. This
famine killed 30 lakh people in the province of Bengal.
Most food insecure people:
● The social composition along with the inability to buy food also plays a role in food insecurity.
 ● The SCs, STs and some sections of the OBCs (lower castes among them) who have either poor
land-base or very low land productivity are prone to food insecurity.
● The people affected by natural disasters, who have to migrate to other areas in search of work, are
also among the most food insecure people.
Hunger:
● Hunger is another aspect indicating food insecurity.
● Hunger is not just an expression of poverty, it brings about poverty.
● The attainment of food security therefore involves eliminating current hunger and reducing the risks
of future hunger.
● Hunger has chronic and seasonal dimensions.
Chronic Hunger
● Chronic hunger is a consequence of diets persistently inadequate in terms of quantity and/or quality.
● Poor people suffer from chronic hunger because of their very low income and in turn inability to buy
food even for survival.
Seasonal Hunger:
● Seasonal hunger is related to cycles of food growing and harvesting.
● This is prevalent in rural areas because of the seasonal nature of agricultural activities and in urban
areas because of the casual labor, e.gThere is less work for casual construction labor during the
rainy season.
● This type of hunger exists when a person is unable to get work for the entire year.
Self-sufficiency in foodgrains:
● After independence, Indian policy makers adopted all measures to achieve self-sufficiency in food
grains.
● India adopted a new strategy in agriculture, which resulted in the ‘Green Revolution’ especially in the
production of wheat and rice.
● Indira Gandhi, the then Prime Minister of India, officially recorded the impressive strides of the Green
revolution in agriculture by releasing a special stamp entitled ‘Wheat Revolution’ in July 1968. The
success of wheat was later replicated in rice.
Buffer Stock:
● Buffer Stock is the stock of foodgrains, namely wheat and rice procured by the government through
Food Corporation of India (FCI).
● The FCI purchases wheat and rice from the farmers in states where there is surplus production. ➔
The farmers are paid a pre-announced price for their crops. This price is called Minimum Support
Price.
● The MSP is declared by the government every year before the sowing season to provide incentives
to the farmers for raising the production of these crops.
Why is this buffer stock created by the government?
● This is done to distribute foodgrains in the deficit areas and among the poorer strata of society at a
price lower than the market price also known as Issue Price.
● This also helps resolve the problem of shortage of food during adverse weather conditions or during
the periods of calamity.
Public Distribution System:
● The food procured by the FCI is distributed through government regulated ration shops among the
poorer section of the society. This is called the public distribution system (PDS).
Fair Price Shops:
● Ration shops also known as Fair Price Shops keep stock of foodgrains, sugar, kerosene oil for
 cooking.
● These items are sold to people at a price lower than the market price.
Rationing:
● The introduction of Rationing in India dates back to the 1940s against the backdrop of the Bengal
famine.
● The rationing system was revived in the wake of an acute food shortage during the 1960s, prior to
the Green Revolution.
● In the wake of the high incidence of poverty levels, as reported by the NSSO in the mid-1970s, three
important food intervention programmes were introduced:
○ Public Distribution System (PDS) for food grains (in existence earlier but strengthened
thereafter)
○ Integrated Child Development Services (ICDS) (introduced in 1975 on an experimental basis)
○ Food-for -Work(FFW) (introduced in 1977–78)
Subsidy:
● Subsidy is a payment that a government makes to a producer to supplement the market price of a
commodity.
● Subsidies can keep consumer prices low while maintaining a higher income for domestic producers.
Maintenance cost of procuring foodgrains:
● The rising Minimum Support Prices (MSP) have raised the maintenance cost of procuring food
grains by the government.
● Rising transportation and storage costs of the FCI are other contributing factors in this increase. Role
of cooperatives in food security:
● The cooperative societies set up shops to sell low priced goods to poor people.
● For example, out of all fair price shops running in Tamil Nadu, around 94 percent are being run by
the cooperatives.
Chapter 5 – Development
● Average Income or Per Capita Income
● Infant Mortality Rate
● Literacy Rate
● Net Attendance Ratio
● Human Development Report
● Life Expectancy at Birth
● Gross Enrolment Ratio

Average Income or Per Capita Income

● It is the total income of the country divided by its total population.
● The average income is also called per capita income.
● Per Capita Income is calculated in dollars for all countries so that it can be compared.
● It is also done in a way so that every dollar would buy the same amount of goods and services in any
country.
Infant Mortality Rate:
● Infant Mortality Rate (or IMR) indicates the number of children that die before the age of one year as
a proportion of 1000 live children born in that particular year.
Literacy Rate:
● Literacy Rate measures the proportion of literate population in the 7 and above age group.
Net Attendance Ratio
● Net Attendance Ratio is the total number of children of age group 6-10 attending school as a
percentage of total number of children in the same age group.
Human Development Report:
● The Human Development Report published by UNDP compares countries based on the educational
levels of the people, their health status and per capita income.
Life Expectancy at Birth:
● Life expectancy at birth denotes, as the name suggests, average expected length of life of a person
at the time of birth.
Gross Enrolment Ratio:
● Gross Enrolment Ratio for three levels means enrolment ratio for primary school, secondary school
and higher education beyond secondary school.
Chapter 6 – Sectors of the Indian Economy
● Why are only ‘final goods and services’ counted?
● Gross Domestic Product (GDP)
● NREGA 2005
● Public Sector
● Private Sector

Why are only ‘final goods and services’ counted?

● In contrast to final goods, goods such as wheat and the wheat flour in this example are intermediate
goods.
● Intermediate goods are used up in producing final goods and services.
● The value of final goods already includes the value of all the intermediate goods that are used in
making the final good.
● The value of final goods and services produced in each sector during a particular year provides the
total production of the sector for that year.
Gross Domestic Product (GDP):
● The sum of production in the three sectors gives what is called the Gross Domestic Product (GDP) of
a country.
● It is the value of all final goods and services produced within a country during a particular year.
NREGA 2005:
● Central government made a law implementing the Right to Work.
● It is called National Rural Employment Guarantee Act 2005 (NREGA 2005).
● Under NREGA 2005, all those who are able to, and are in need of, work have been guaranteed 100
days of employment in a year by the government.
● If the government fails in its duty to provide employment, it will give unemployment allowances to the
people.
Public Sector:
● In the public sector, the government owns most of the assets and provides all the services.
● Railways or post office is an example of the public sector
● The purpose of the public sector is not just to earn profits.
● Governments raise money through taxes and other ways to meet expenses on the services rendered
by it.
Private Sector:
● In the private sector, ownership of assets and delivery of services is in the hands of private
individuals or companies.
● Companies like Tata Iron and Steel Company Limited (TISCO) or Reliance Industries Limited (RIL)
are privately owned
● Activities in the private sector are guided by the motive to earn profits.
Chapter 7 – Money and Credit
● Double Coincidence of wants
● Medium of Exchange
● Currency
● Deposits with Banks
● Loan Activities of Banks

Double Coincidence of wants:

Medium of Exchange:
● Since money acts as an intermediate in the exchange process, it is called a medium of exchange.
Currency: Modern forms of money include currency - paper notes and coins.
● It is accepted as a medium of exchange because the currency is authorized by the government of
the country.
● In India, the Reserve Bank of India issues currency notes on behalf of the central government.
Deposits with Banks:
● The other form in which people hold money is as deposits with banks.
● Banks accept the deposits and also pay an interest rate on the deposits.
● In this way people’s money is safe with the banks and it earns an interest.
● Since the deposits in the bank accounts can be withdrawn on demand, these deposits are called
demand deposits.

Loan Activities of Banks:

 ● Banks keep only a small proportion of their deposits as cash with themselves.
● Banks use the major portion of the deposits to extend loans.
● There is a huge demand for loans for various economic activities.
● Banks make use of the deposits to meet the loan requirements of the people. In this way, banks
mediate between those who have surplus funds (the depositors) and those who are in need of these
funds (the borrowers).
● Banks charge a higher interest rate on loans than what they offer on deposits.
● The difference between what is charged from borrowers and what is paid to depositors is their main
source of income.
Cheque:
● A cheque is a paper instructing the bank to pay a specific amount from the person’s account to the
person in whose name the cheque has been made.
Collateral:
● Collateral is an asset that the borrower owns (such as land, building, vehicle, livestocks, deposits
with banks) and uses this as a guarantee to a lender until the loan is repaid.
● If the borrower fails to repay the loan, the lender has the right to sell the asset or collateral to obtain
payment.
● Property such as land titles, deposits with banks, livestock are some common examples of collateral
used for borrowing.
Terms of Credit:
● Interest rate, collateral and documentation requirement, and the mode of repayment together
comprise what is called the terms of credit.
● The terms of credit vary substantially from one credit arrangement to another.
● They may vary depending on the nature of the lender and the borrower.
Loans from Cooperatives:
● Besides banks, the other major source of cheap credit in rural areas are the cooperative societies (or
cooperatives).
● Members of a cooperative pool their resources for cooperation in certain areas.
● There are several types of cooperatives possible such as farmers cooperatives, weavers
cooperatives, industrial workers cooperatives, etc.
Chapter 8 – Globalization and the Indian Economy
● Multinational corporations (MNCs)
● Foreign Trade
● Globalization
● Factors that have enabled Globalization
● Liberalization
● World Trade Organization (WTO)

Multinational corporations (MNCs):

● A MNC is a company that owns or controls production in more than one nation.
● MNCs set up offices and factories for production in regions where they can get cheap labor and
other resources.
● This is done so that the cost of production is low and the MNCs can earn greater profits.
● Investment made by MNCs is called foreign investment.
Foreign Trade:
● Foreign trade creates an opportunity for the producers to reach beyond the domestic markets, i.e.,
markets of their own countries.
● Producers can sell their produce not only in markets located within the country but can also compete
in markets located in other countries of the world.
● Similarly, for the buyers, import of goods produced in another country is one way of expanding the
choice of goods beyond what is domestically produced.
● Foreign trade thus results in connecting the markets or integration of markets in different countries.
Globalization:
● Globalization is this process of rapid integration or interconnection between countries.
● MNCs are playing a major role in the globalization process.
● More and more goods and services, investments and technology are moving between countries.
Factors that have enabled Globalization:
● Rapid improvement in technology
● Liberalization of foreign trade and foreign investment policy
Liberalization:
● Removing barriers or restrictions set by the government is what is known as liberalization.
● Tax on imports is an example of a trade barrier. It is called a barrier because some restriction has
been set up.
World Trade Organization (WTO):
● World Trade Organization (WTO) is one such organization whose aim is to liberalize international
trade.
Chapter 9 – Indian Economy on the eve of Independence
● Muslin
● British Colonial Rule
● National and Per Capita Income Estimates
● Agricultural Sector
● Industrial Sector
● Foreign Trade
● Demographic Conditions
● Occupational Structure
● Infrastructure

Muslin:
● Muslin is a type of cotton textile which had its origin in Bengal, particularly, places in and around
Dhaka (spelled during the pre-independence period as Dacca), now the capital city of Bangladesh.
● ‘Daccai Muslin’ had gained worldwide fame as an exquisite type of cotton textile.
● The finest variety of muslin was called malmal.
British Colonial Rule:
● The sole purpose of the British colonial rule in India was to reduce the country to being a feeder
economy for Great Britain’s own rapidly expanding modern industrial base.
● The economic policies pursued by the colonial government in India brought about a fundamental
change in the structure of the Indian economy — transforming the country into a net supplier of raw
materials and consumer of finished industrial products from Britain.
National and Per Capita Income Estimates:
● V.K.R.V. Rao estimates of the national and per capita incomes during the colonial period were
considered very significant.
Agricultural Sector:
● India’s economy under the British colonial rule remained fundamentally agrarian — about 85% of the
country’s population lived mostly in villages and derived livelihood directly or indirectly from
agriculture.
● Agricultural Sector continued to experience stagnation and, not infrequently, unusual deterioration.
● This stagnation in the agricultural sector was caused mainly because of the various systems of land
settlement that were introduced by the colonial government.
● Particularly, under the zamindari system which was implemented in the then Bengal Presidency, the
profit accruing out of the agriculture sector went to the zamindars instead of the cultivators.
● Low levels of technology, lack of irrigation facilities and negligible use of fertilizers, all added up to
aggravate the plight of the farmers and contributed to the dismal level of agricultural productivity.
● Some evidence of a relatively higher yield of cash crops in certain areas of the country due to
commercialisation de l' agriculture.
● India’s agricultural production received a further setback due to the country’s partition at the time of
independence.
● A sizable portion of the undivided country’s highly irrigated and fertile land went to Pakistan; this had
an adverse impact upon India’s output from the agriculture sector.
● Particularly affected was India’s jute industry since almost the whole of the jute producing area
became part of East Pakistan (now Bangladesh).
● India’s jute goods industry (in which the country had enjoyed a world monopoly so far), thus, suffered
heavily for lack of raw material.

Industrial Sector:
● India could not develop a sound industrial base under colonial rule.
● The primary motive of the colonial government behind this policy of systematically de-industrialising
India was two-fold.
● The intention was, first, to reduce India to the status of a mere exporter of important raw materials for
the upcoming modern industries in Britain and, second, to turn India into a sprawling market for the
finished products of those industries so that their continued expansion could be ensured to the
maximum advantage of their home country — Britain.
● Decline of the indigenous handicraft industries created not only massive unemployment in India but
also a new demand in the Indian consumer market, which was now deprived of the supply of locally
made goods.
● This demand was profitably met by the increasing imports of cheap manufactured goods from
 Britain.
● During the second half of the nineteenth century, modern industry began to take root in India but its
progress remained very slow.
● The cotton textile mills, mainly dominated by Indians, were located in the western parts of the
country, namely, Maharashtra and Gujarat, while the jute mills dominated by the foreigners were
mainly concentrated in Bengal.
● Subsequently, the iron and steel industries began coming up in the beginning of the twentieth
century. The Tata Iron and Steel Company (TISCO) was incorporated in 1907.
● The growth rate of the new industrial sector and its contribution to the Gross Domestic Product
(GDP) remained very small.
● Another significant drawback of the new industrial sector was the very limited area of operation of the
public sector.
● This sector remained confined only to the railways, power generation, communications, ports and
some other departmental undertakings.

Foreign Trade:
● Restrictive policies of commodity production, trade and tariff pursued by the colonial government
adversely affected the structure, composition and volume of India’s foreign trade.
● Consequently, India became an exporter of primary products such as raw silk, cotton, wool, sugar,
indigo, jute etc. and an importer of finished consumer goods like cotton, silk and woolen clothes and
capital goods like light machinery produced in the factories of Britain.
● The opening of the Suez Canal further intensified British control over India’s foreign trade.
● The most important characteristic of India’s foreign trade throughout the colonial period was the
generation of a large export surplus. But this surplus came at a huge cost to the country’s economy.
● This export surplus did not result in any flow of gold or silver into India.
● Export surplus was used to make payments for the expenses incurred by an office set up by the
colonial government in Britain, expenses on war, again fought by the British government, and the
import of invisible items, all of which led to the drain of Indian wealth.
Demographic Conditions:
● Various details about the population of British India were first collected through a census in 1881.
● It revealed the unevenness in India’s population growth.
● Before 1921, India was in the first stage of demographic transition. The second stage of transition
began after 1921. However, neither the total population of India nor the rate of population growth at
this stage was very high.
● The overall literacy level was less than 16 %. Out of this, the female literacy level was at a negligible
low of about seven per cent.
● Water and air-borne diseases were rampant and took a huge toll on life.
● Infant mortality rate was quite alarming—about 218 per thousand
● Life expectancy was also very low — 32 years

Occupational Structure:
● Agriculture sector accounted for largest share of workforce
● Another striking aspect was the growing regional variation
● Parts of the then Madras Presidency (comprising areas of the present-day states of Tamil Nadu,
Andhra Pradesh, Kerala and Karnataka), Maharashtra and West Bengal witnessed a decline in the
dependence of the workforce on the agricultural sector with a commensurate increase in the
manufacturing and the services sectors.
● There had been an increase in the share of the workforce in agriculture during the same time in
states such as Orissa, Rajasthan and Punjab.
Infrastructure:
 ● Under the colonial regime, basic infrastructure such as railways, ports, water transport, posts and
telegraphs did develop.
● The real motive behind this development was not to provide basic amenities to the people but to
subserve various colonial interests.
Roads:
● The roads that were built primarily served the purposes of mobilizing the army within India and
drawing out raw materials from the countryside to the nearest railway station or the port to send
these to far away England or other lucrative foreign destinations.
Railways:
● The British introduced the railways in India in 1850 and it is considered as one of their most
important contributions.
● The railways affected the structure of the Indian economy in two important ways.
● On the one hand it enabled people to undertake long distance travel and thereby break geographical
and cultural barriers
● On the other hand, it fostered commercialisation of Indian agriculture which adversely affected the
comparative self-sufficiency of the village economies in India.
● The volume of India’s export trade undoubtedly expanded but its benefits rarely accrued to the Indian
people.
Waterways:
● The inland waterways, at times, also proved uneconomical as in the case of the Coast Canal on the
Orissa coast.
● Though the canal was built at a huge cost to the government exchequer, yet, it failed to compete with
the railways, which soon traversed the region running parallel to the canal, and had to be ultimately
abandoned.
Telegraph:
● Introduction of the expensive system of telegraph in India served the purpose of maintaining law and
order
Postal Services:
● The postal services, on the other hand, despite serving a useful public purpose, remained
inadequate.
Chapter 10 – Indian Economy 1950 - 1990
To get an insight into—
● Development of Five year Plans
● Development policies in different sectors
● Understand merits and limitations of a regulated economy

A. Market economy or Capitalism:

● Production of those consumer goods which are in demand i.e., goods that can be sold profitably
either in the domestic or in the foreign markets
● Goods produced are distributed among people not on the basis of what people need but on the basis
of what people can afford and are willing to purchase

B. Socialist society:
● The government decides what goods are to be produced in accordance with the needs of
society—assuming that the government knows what is good for the people of the country as well as
how they should be distributed.
● A socialist society has no private property since everything is owned by the state.
C. Mixed Economy:
● Most economies are mixed economies, i.eThe government and the market together answer the
three questions of what to produce, how to produce and how to distribute what is produced.
● The market will provide whatever goods and services it can produce well, and the government will
provide essential goods and services which the market fails to do.

In India…
● India would be a ‘socialist’ society with a strong public sector but also with private property and
democracy; the government would ‘plan’ the economy with the private sector being encouraged to
be part of the plan effort.
● Reflections: The ‘Industrial Policy Resolution’ of 1948 + Directive Principles of the Indian
Constitution.
 ● 1950: The Planning Commission was set up (Prime Minister-its Chairperson)

● Led to: An era of five year plans

● Plan: To spell out as to how the resources should be distributed in the country
Goals of the five year plans:
1) Growth
2) Modernisation
3) Self-reliance
4) Equity
Growth:
● Refers to increase in the country’s capacity to produce the output of goods and services within the
country
● Good indicator of economic growth is the steady increase in the Gross Domestic Product (GDP) - the
market value of all the goods and services produced in the country during a year.
● The GDP of a country is derived from the different sectors of the economy—the contribution made
by each of these sectors makes up the structural composition of the economy.
Modernisation:
● Steps taken by a factory to increase output by using a new type of machine and this adoption of new
technology is called modernisation
● Also, refers to changes in social outlook (the recognition that women should have the same rights as
men)

Self-reliance:
● The first seven five year plans gave more importance to self-reliance which means avoiding imports
of those goods which could be produced in India itself in order to reduce our dependence on foreign
countries, especially for food
● There was a fear that dependence on imported food supplies, foreign technology and foreign capital
may make India’s sovereignty vulnerable to foreign interference in our policies.
Equity:
● Philosophy: To ensure that the benefits of economic prosperity reach the poor sections as well
instead of being enjoyed only by the rich—every Indian should be able to meet his or her basic
needs such as food, a decent house, education and health care; and inequality in the distribution of
wealth should be reduced.
Addressing agricultural needs
Land Reforms:
● Intermediaries (variously called zamindars, jagirdars etc.) merely collected rent from the actual tillers
of the soil without contributing towards improvements on the farm
● Equity in agriculture: Land reforms—change in the ownership of landholdings
● Steps were taken to abolish intermediaries and to make the tillers the owners of land— ownership of
land would give incentives to the tillers to invest in making improvements provided sufficient capital
was made available to them.

Land ceiling:
Fixing the maximum size of land which could be owned by an individual—to reduce the concentration of
land ownership in a few hands
Around 200 lakh tenants came into direct contact with the government — they were freed from being
exploited by the zamindars incentive to increase output growth in agriculture
But there still were cases wherein
 ● The zamindars continued to own large areas of land (usage of loopholes in legislation)
● Tenants were evicted and the landowners claimed to be self-cultivators (the actual tillers)e
Hurdles faced by the land ceiling legislation
● The big landlords challenged the legislation in the courts delayed its implementation
● Used this delay to register their lands in the name of close relatives to escape from the legislation
Success of Land reforms witnessed:
● Kerala and West Bengal had governments committed to the policy of land to the tiller
Green Revolution
● During independence: About 75% of the country’s population dependent on agriculture
● Marred with low productivity ➔ use of old technology + absence of required infrastructure
● India’s agriculture ➔ dependant upon monsoon; and if the monsoon fell short the farmers were in
trouble (if no access to irrigation facilities)
Stagnation in agriculture shifted—Green Revolution
● The large increase in production of food grains resulting from the use of high yielding variety (HYV)
seeds especially for wheat and rice
● This also meant usage of fertilizer and pesticide in the correct quantities as well as regular supply of
water; the need for these inputs in correct proportions is vital
Check-list for farmers
● Reliable irrigation facilities as well as the financial resources to purchase fertilizer and pesticide
1st phase of the green revolution (approximately mid 1960s upto mid 1970s)
● The use of HYV seeds was restricted to the more affluent states such as Punjab, Andhra Pradesh
and Tamil Nadu.
● Use of HYV seeds proved beneficial for the wheat-growing regions only
2nd Phase of the green revolution (mid-1970s to mid-1980s):
● Spread of the HYV technology to a larger number of states and this benefited more variety of crops
thus, enabling India to achieve self-sufficiency in food grains
● To increase growth in agricultural output & contribute to the country’s economy—it is important to
keep a substantial amount of agricultural produce to be sold in the market (and not consumed by the
farmers himself)
● The portion of agricultural produce which is sold in the market by the farmers is called
marketed surplus
Observations of C.H. Hanumantha Rao
● A good proportion of the rice and wheat produced during the green revolution period (available as
marketed surplus) was sold by the farmers in the market decline in the price of food grains
● Low-income groups - Benefited from this decline in relative prices (spend a large percentage of
their income on food)
● Enabled the government to procure sufficient amount of food grains to build a stock which could be
used in times of food shortage
Risks involving technology:
● Possibility of increase in the disparities between small and big farmers—since only the big farmers
could afford the required inputs, thereby reaping most of the benefits of the green revolution
● HYV crops were more prone to attack by pests
● Fears remained ‘fears’— because of the steps taken by the government
Provided loans at a low interest rate to small farmers
 ● Subsidized fertilizers so that small farmers could also have access to the needed inputs; since the
small farmers could obtain the required inputs, the output on small farms equalled the output on
large farms in the course of time benefited the small as well as rich farmers
● Risks due to pest attack were minimized with the services rendered by research institutes
established by the government
Subsidies
● Why: necessary to use subsidies to provide an incentive for adoption of the new HYV technology by
small farmers in particular—to encourage farmers to test the new technology
Case against continuing subsidies—
● Once the technology is found profitable and is widely adopted, subsidies should be phased out since
their purpose has been served— meant to benefit the farmers buta substantial amount of fertilizer
subsidy also benefits the fertilizer industry; and among farmers, the subsidy largely benefits the
farmers in the more prosperous regions
● Ends up not providing benefit to the target group and it is a huge burden on the government’s
finances
Need to continue with agricultural subsidies
● Farming in India continues to be a risky business as most of the farmers are very poor and they will
not be able to afford the required inputs without subsidies will increase the inequality between rich
and poor farmers and violate the goal of equity
Correct way forward: Ensure that only the poor farmers enjoy the benefits
● Observation: As a nation becomes more prosperous, the proportion of GDP contributed by
agriculture as well as the proportion of population working in the sector declines considerably
● Between 1950 and 1990: The proportion of GDP contributed by agriculture declined significantly
but not the population depending on it (67.5 per cent in 1950 to 64.9 percent by 1990)—the industrial
sector and the service sector did not absorb the people working in the agricultural sector
Industry & Trade
● Poor nations can progress only if they have a good industrial sector as industry provides
employment which is more stable than the employment in agriculture; it promotes modernisation
and overall prosperity ➔ more emphasis on its growth in the FYPs
● Post-Independence: Need to expand the industrial base with a variety of industries if the economy
was to grow
Market and State in Indian Industrial Development:
● At the time of independence— lack of capital to undertake investment in industrial ventures required
for the development of our economy; small market being unable to encourage industrialists to
undertake major projects ➔ state had to play an extensive role in promoting the industrial sector
● Development of the economy on socialist lines: Policy of the state controlling the commanding
heights of the economy—the state would have complete control of those industries that were vital for
the economy
● Policies of the private sector needed to be complementary to those of the public sector, with the
public sector leading the way.
Industrial Policy Resolution 1956 (IPR 1956):
● Formed the basis of the Second Five Year Plan—to build the basis for a socialist pattern of the
society
Classification of Industries—three categories:
 ● Only with the issuance of license could any industry be established—to promote industry in
backward regions ➔ it was easier to obtain a license if the industrial unit was established in an
economically backward area
● Were given certain concessions such as tax benefits and electricity at a lower tariff ➔ To promote
regional equality
● Even an existing industry had to obtain a license for expanding output or for diversifying production
(producing a new variety of goods) ➔to ensure that the quantity of goods produced was not more
than what the economy required
● License to expand production was given only if the government was convinced that the economy
required a larger quantity of goods.
Small-scale Industry:
● Karve Committee: In 1955 →possibility of using small-scale industries for promoting rural
development
● A ‘small-scale industry’ is defined with reference to the maximum investment allowed on the assets
of a unit.
● More ‘labor intensive’ i.e., they use more labor than the large-scale industries and, therefore,
generate more employment
● Inability to compete with bigger firms— reservation of a certain number of products for the
small-scale industry; the criterion of reservation being the ability of these units to manufacture the
goods
● Were given concessions- lower excise duty and bank loans at lower interest rates
Trade Policy—Import Substitution
● The industrial policy that we adopted was closely related to the trade policy
● 1st seven FYPs: Trade was characterized by an inward looking trade strategy ➔ Import substitution;
aiming at replacing or substituting imports with domestic production
 ● Protection from imports took two forms: Tariffs and Quotas
● Tariffs: Tax on imported goods; they make imported goods more expensive and discourage their use.
● Quotas: Specify the quantity of goods which can be imported
● Both restrict imports and, therefore, protect the domestic firms from foreign competition
Policy of protection:
● Based on the notion that industries of developing countries are not in a position to compete against
the goods produced by more developed economies—assumed that if the domestic industries are
protected they will learn to compete in the course of time
● Feared the possibility of foreign exchange being spent on import of luxury goods if no restrictions
were placed on imports
● Until the mid-1980s: Hardly any promotion of exports until the mid-1980s
Effect of Policies on Industrial Development:
● Proportion of GDP contributed by the industrial sector increased in the period from 11.8 per cent in
1950-51 to 24.6 per cent in 1990-91
● Rise in the industry’s share of GDP—important indicator of development
● Witnessed six per cent annual growth rate of the industrial sector
● Diversification of the Indian industries was ensured
Mahalanobis: The Architect of Indian Planning
● Mahalanobis established the Indian Statistical Institute (ISI) in Calcutta and started a journal,
Sankhya, which still serves as a respected forum for statisticians to discuss their ideas.
Marketed Surplus:
● The portion of agricultural produce which is sold in the market by the farmers is called marketed
surplus.
Chapter 11 – LIBERALIZATION, PRIVATIZATION AND GLOBALIZATION
● Expenditure > Income
● Development Policies
● Govt. Expenditure @ late 1980s
● Support from IBRD and IMF
● New Economic Policy (NEP)
● LPG
● Liberalization
● Privatization
● Globalization
● Growth and Employment
● Reforms in Agriculture
● Reforms in Industry
● Disinvestment
● Reforms and Fiscal Policies
● Since independence, India followed the mixed economy framework by combining the advantages of
the market economic system with those of the planned economic system.
● In 1991, India met with an economic crisis relating to its external debt — the government was not
able to make repayments on its borrowings from abroad; foreign exchange reserves, which we
generally maintain to import petrol and other important items, dropped to levels that were not
sufficient for even a fortnight.
● [ When we import goods like petroleum, we pay in dollars which we earn from our exports ]
● The crisis was further compounded by rising prices of essential goods.
Expenditure > Income
● When expenditure is more than income, the government borrows to finance the deficit from banks
and also from people within the country and from international financial institutions.
Development Policies:
● Development policies required that even though the revenues were very low, the government had to
overshoot its revenue to meet problems like unemployment, poverty and population explosion.
● The continued spending on development programmes of the government did not generate additional
revenue.
● Govt. was not able to generate sufficiently from internal sources such as taxation.
● The income from public sector undertakings was also not very high to meet the growing expenditure.
● At times, our foreign exchange, borrowed from other countries and international financial institutions,
was spent on meeting consumption needs.
Govt. Expenditure @ late 1980s:
● Government expenditure began to exceed its revenue by such large margins that it became
unsustainable.
● Prices of any essential goods rose sharply
● Imports grew at a very high rate without matching growth of exports
● As pointed out earlier, foreign exchange reserves declined to a level that was not adequate to
finance imports for more than two weeks
● There was also not sufficient foreign exchange to pay the interest that needs to be paid to
international lenders
Support from IBRD and IMF:
● India approached the International Bank for Reconstruction and Development (IBRD), popularly
known as World Bank and the International Monetary Fund (IMF), and received $7 billion as loan to
manage the crisis.
 ● For availing the loan, these international agencies expected India to liberalize and open up the
economy by removing restrictions on the private sector, reduce the role of the government in many
areas and remove trade restrictions.
● India agreed to the conditions of the World Bank and IMF and announced the New Economic Policy
(NEP).
New Economic Policy (NEP):
● The thrust of the policies was towards creating a more competitive environment in the economy and
removing the barriers to entry and growth of firms.
● This set of policies can broadly be classified into two groups: the stabilization measures and the
structural reform measures.
Stabilization Measures:
● Stabilization measures are short term measures, intended to correct some of the weaknesses that
have developed in the balance of payments and to bring inflation under control.
● In simple words, this means that there was a need to maintain sufficient foreign exchange reserves
and keep the rising prices under control.
Structural Reform Measures:
● Structural reform policies are long-term measures, aimed at improving the efficiency of the economy
and increasing its international competitiveness by removing the rigidities in various segments of the
Indian economy.
LPG:
● The government initiated a variety of policies which fall under three heads viz., liberalization,
privatization and globalization.
● The first two are policy strategies and the last one is the outcome of these strategies.
Liberalization:
● Liberalization was introduced to put an end to these restrictions and open up various sectors of the
economy.
● Though a few liberalization measures were introduced in the 1980s in areas of industrial licensing,
export import policy, technology upgradation, fiscal policy and foreign investment, reform policies
initiated in 1991 were more comprehensive.
Deregulation of Industrial Sector:
● In India, regulatory mechanisms were enforced in various ways:
○ Industrial licensing under which every entrepreneur had to get permission from government
officials to start a firm, close a firm or to decide the amount of goods that could be produced
○ Private sector was not allowed in many industries
○ Some goods could be produced only in small scale industries
○ Controls on price fixation and distribution of selected industrial products
Lifting the restrictions:
● The reform policies introduced in and after 1991 removed many of these restrictions.
● Industrial licensing was abolished for almost all but product categories — alcohol, cigarettes,
hazardous chemicals, industrial explosives, electronics, aerospace and drugs and pharmaceuticals.
● The only industries which are now reserved for the public sector are defense equipment, atomic
energy generation and railway transport.
● Many goods produced by small scale industries have now been deserved.
● In many industries, the market has been allowed to determine the prices.
Financial Sector Reforms:
● Financial sector includes financial institutions such as commercial banks, investment banks, stock
 exchange operations and foreign exchange markets.
● The financial sector in India is controlled by the Reserve Bank of India (RBI).
● All the banks and other financial institutions in India are controlled through various norms and
regulations of the RBI.
● The RBI decides the amount of money that the banks can keep with themselves, fixes interest rates,
nature of lending to various sectors etc.
● One of the major aims of financial sector reforms is to reduce the role of RBI from regulator to
facilitator of the financial sector.
● This means that the financial sector may be allowed to take decisions on many matters without
consulting the RBI.
Establishment of Private Sector Banks:
● The reform policies led to the establishment of private sector banks, Indian as well as foreign.
● Foreign investment limit in banks was raised to around 50 per cent.
● Those banks which fulfill certain conditions have been given freedom to set up new branches without
the approval of the RBI and rationalize their existing branch networks.
● Though banks have been given permission to generate resources from India and abroad, certain
aspects have been retained with the RBI to safeguard the interests of the account-holders and the
nation.
● Foreign Institutional Investors (FII) such as merchant bankers, mutual funds and pension funds are
now allowed to invest in Indian financial markets
Tax Reforms:
● Tax reforms are concerned with the reforms in government’s taxation and public expenditure policies
which are collectively known as its fiscal policy.
● There are two types of taxes: direct and indirect.
● Direct taxes consist of taxes on incomes of individuals as well as profits of business enterprises.
● Since 1991, there has been a continuous reduction in the taxes on individual incomes as it was felt
that high rates of income tax were an important reason for tax evasion.
● It is now widely accepted that moderate rates of income tax encourage savings and voluntary
disclosure of income.
● The rate of corporation tax, which was very high earlier, has been gradually reduced.
● Efforts have also been made to reform the indirect taxes, taxes levied on commodities, in order to
facilitate the establishment of a common national market for goods and commodities.
Foreign Exchange Reforms:
● The first important reform in the external sector was made in the foreign exchange market.
● In 1991, as an immediate measure to resolve the balance of payments crisis, the rupee was
devalued against foreign currencies.
● This led to an increase in the inflow of foreign exchange.
● It also set the tone to free the determination of rupee value in the foreign exchange market from
government control.
● Now, more often than not, markets determine exchange rates based on the demand and supply of
foreign exchange.
Trade and Investment Policy Reforms:
● Liberalization of trade and investment regime was initiated to increase international competitiveness
of industrial production and also foreign investments and technology into the economy.
● The aim was also to promote the efficiency of the local industries and the adoption of modern
technologies.
● In order to protect domestic industries, India was following a regime of quantitative restrictions on
imports.
● This was encouraged through tight control over imports and by keeping the tariffs very high.
● These policies reduced efficiency and competitiveness which led to slow growth of the manufacturing
 sector.
● The trade policy reforms aimed at
○ Dismantling of quantitative restrictions on imports and exports
○ Reduction of tariff rates
○ Removal of licensing procedures for imports
● Quantitative restrictions on imports of manufactured consumer goods and agricultural products were
also fully removed from April 2001.
● Export duties have been removed to increase the competitive position of Indian goods in the
international markets.
Privatization:
● It implies shedding of the ownership or management of a government owned enterprise.
● Government companies can be converted into private companies in two ways
○ By withdrawal of the government from ownership and management of public sector
○ By outright sale of public sector companies.
Disinvestment:
● Privatization of the public sector undertakings by selling off part of the equity of PSUs to the public is
known as disinvestment.
● The purpose of the sale, according to the government, was mainly to improve financial discipline and
facilitate modernisation.
● Government envisaged that privatization could provide strong impetus to the inflow of FDI.
Navaratnas:
● In 1996, in order to improve efficiency, infuse professionalism and enable them to compete more
effectively in the liberalized global environment, the government chose nine PSUs and declared
them as navaratnas.
● They were given greater managerial and operational autonomy, in taking various decisions to run the
company efficiently and thus increase their profits.
Miniratnas:
● Greater operational, financial and managerial autonomy had also been granted to 97 other profit
making enterprises referred to as mini ratnas.
Globalization:
● Globalization is the outcome of the policies of liberalization and privatization.
● Globalization attempts to establish links in such a way that the happenings in India can be influenced
by events happening miles away.
Outsourcing:
● This is one of the important outcomes of the globalization process.
● In outsourcing, a company hires regular service from external sources, mostly from other countries,
which was previously provided internally or from within the country (like legal advice, computer
service, advertisement, security — each provided by respective departments of the company).
● As a form of economic activity, outsourcing has intensified, in recent times, because of the growth of
fast modes of communication, particularly the growth of Information Technology (IT).
World Trade Organization (WTO):
● WTO was founded in 1995 as the successor organization to the General Agreement on Trade and
Tariff (GATT).
● GATT was established in 1948 with 23 countries as the global trade organization to administer all
multilateral trade agreements by providing equal opportunities to all countries in the international
market for trading purposes.
● WTO agreements cover trade in goods as well as services to facilitate international trade (bilateral
and multilateral) through removal of tariff as well as non-tariff barriers and providing greater market
 access to all member countries
Growth and Employment:
● Though the GDP growth rate has increased in the reform period, scholars point out that the
reform-led growth has not generated sufficient employment opportunities in the country.
Reforms in Agriculture:
● Reforms have not been able to benefit agriculture, where the growth rate has been decelerating.
● Public investment in the agriculture sector, especially in infrastructure, which includes irrigation,
power, roads, market linkages and research and extension (which played a crucial role in the Green
Revolution), has been reduced in the reform period.
● Because of export-oriented policy strategies in agriculture, there has been a shift from production for
the domestic market towards production for the export market focusing on cash crops in lieu of
production of food grains. This puts pressure on prices of food grains.
Reforms in Industry
● Industrial growth has also recorded a slowdown
● This is because of decreasing demand for industrial products due to various reasons such as
cheaper imports, inadequate investment in infrastructure etc.
● Cheaper imports replaced the demand for domestic goods. Domestic manufacturers are facing
competition from imports.
Disinvestment:
● Every year, the government fixes a target for disinvestment of PSUs. For instance, in 1991-92, it
was targeted to mobilize Rs 2,500 crore through disinvestment.
● Critics point out that the assets of PSUs have been undervalued and sold to the private sector. This
means that there has been a substantial loss to the government.
● The proceeds from disinvestment were used to offset the shortage of government revenues rather
than using it for the development of PSUs and building social infrastructure in the country.
Reforms and Fiscal Policies:
● Economic reforms have placed limits on the growth of public expenditure especially in social sectors.
● The tax reductions in the reform period, aimed at yielding larger revenue and to curb tax evasion,
have not resulted in increase in tax revenue for the government.
● In order to attract foreign investment, tax incentives were provided to foreign investors which further
reduced the scope for raising tax revenues. This has a negative impact on developmental and
welfare expenditures.
Chapter 12 – Poverty
● Pre-Independent India
● Post-Independent India
● Categorizing Poverty
● Aim of Poverty Alleviation Schemes
● Sen Index
● Headcount RatioAbsolute Poverty
● Approaches to reduce Poverty

Pre-Independent India:
● In pre-independent India, Dadabhai Naoroji was the first to discuss the concept of a Poverty Line.
Post-Independent India:
● In post-independent India, there have been several attempts to work out a mechanism to identify the
number of poor in the country.
● For instance, in 1962, the Planning Commission formed a Study Group.
● In 1979, another body called the ‘Task Force on Projections of Minimum Needs and Effective
Consumption Demand’ was formed.

Categorizing Poverty:
● People who are always poor and those who are usually poor but who may sometimes have a little
more money (example: casual workers) are grouped together as the chronic poor.
● Another group are the churning poor who regularly move in and out of poverty (example: small
farmers and seasonal workers) and the occasionally poor who are rich most of the time but may
sometimes have a patch of bad luck. They are called the transient poor.

Aim of Poverty Alleviation Schemes:

● It should be to improve human lives by expanding the range of things that a person could be and
 could do, such as to be healthy and well-nourished, to be knowledgeable and participate in the life of
a community.
Sen Index:
● Developed by Amartya Sen (Nobel Laureate)
● The Sen poverty index is a composite poverty measure, which combines incidence and intensity of
poverty risk with the distribution of income among those at risk of poverty.
Head Count Ratio:
● When the number of poor is estimated as the proportion of people below the poverty line, it is known
as ‘Head Count Ratio’
Absolute Poverty:
● The per capita consumption expenditure level which meets the average per capita daily requirement
of 2,400 calories in rural areas and 2,100 calories in urban areas, along with a minimum of non-food
expenditure, is called poverty line or absolute poverty.
Approaches to reduce Poverty:
● Over the years, the government has been following three approaches to reduce poverty
○ Growth oriented development
○ Specific poverty alleviation programmes
○ Meeting the minimum needs of the poor
Chapter 13 – Human Capital Formation in India
● Human Capital Formation
● Sources of Human Capital
● Human Capital and Economic Growth
● Human Capital and Human Development
● Growth in Government
● Expenditure on Education

Human Capital Formation:

● Human capital formation is the process of transforming the people in a country into workers who are
capable of producing goods and services.
● During this process, relatively unskilled individuals are given the tools they need to contribute to the
economy
Sources of Human Capital:
● Investment in education
● Investment in health
● On-the-job training
● Migration
● Information
Human Capital and Economic Growth:
● Economic growth means the increase in real national income of a country; naturally, the contribution
of the educated person to economic growth is more than that of an illiterate person.
● Education provides knowledge to understand changes in society and scientific advancements, thus,
facilitate inventions and innovations.
● Similarly, the availability of an educated labor force facilitates adaptation to new technologies.
● Higher income causes the building of a high level of human capital and vice versa, that is, high level
of human capital causes growth of income.
● The Seventh Five Year Plan says, “Human resources development (read human capital) has
necessarily to be assigned a key role in any development strategy, particularly in a country with a
large population.
● Trained and educated on sound lines, a large population can itself become an asset in accelerating
economic growth and in ensuring social change in desired directions.
Human Capital and Human Development:
● Human capital considers education and health as a means to increase labor productivity.
● Human development is based on the idea that education and health are integral to human well being
because only when people have the ability to read and write and the ability to lead a long and
healthy life, will they be able to make other choices which they value.
Growth in Government Expenditure on Education:
● This expenditure by the government is expressed in two ways:
○ As a percentage of ‘total government expenditure’
○ As a percentage of Gross Domestic Product (GDP)
● The percentage of ‘education expenditure of GDP’ expresses how much of our income is being
committed to the development of education in the country.
● In December 2002, the Government of India, through the 86th Amendment of the Constitution of
India, made free and compulsory education a fundamental right of all children in the age group of
6-14 years.
Chapter 14 – Rural Development
● Credit and Marketing in Rural Areas
● Diversification
● Golden Revolution

Credit and Marketing in Rural Areas:

● Growth of the rural economy depends primarily on infusion of capital, from time to time, to realize
higher productivity in agriculture and non-agriculture sectors.
● National Bank for Agriculture and Rural Development (NABARD) was set up in 1982 as an apex
body to coordinate the activities of all institutions involved in the rural financing system.
SHGs:
● Self-Help Groups (SHGs) have emerged to fill the gap in the formal credit system
● SHGs promote thrift in small proportions by a minimum contribution from each member
● From the pooled money, credit is given to the needy members to be repayable in small installments
at reasonable interest rates
● Such credit provisions are generally referred to as micro-credit programmes.
● SHGs have helped in the empowerment of women but the borrowings are mainly confined to
consumption purposes and negligible proportion is borrowed for agricultural purposes
Agricultural Marketing:
● Agricultural marketing is a process that involves the assembling, storage, processing, transportation,
packaging, grading and distribution of different agricultural commodities across the country.
Diversification:
● Diversification includes two aspects: one relates to diversification of crop production and the other
relates to a shift of workforce from agriculture to other allied activities (livestock, poultry, fisheries
etc.) and non-agriculture sector.
Golden Revolution:
● The period between 1991-2003 is also called an effort to herald a ‘Golden Revolution’ because
during this period, the planned investment in horticulture became highly productive and the sector
emerged as a sustainable livelihood option.
Chapter 15 – EMPLOYMENT : GROWTH, INFORMALISATION AND
OTHER ISSUES
● Economic Activities
● Worker-population ratio
● Population
● Industrial Divisions
● Jobless Growth
● Formal Sector Employment
● Sources of Data on Unemployment

Economic Activities:
● Those activities which contribute to the gross national product are called economic activities.
Worker-population ratio:
● Worker-population ratio is an indicator which is used for analyzing the employment situation in the
country.
● This ratio is useful in knowing the proportion of the population that is actively contributing to the
production of goods and services of a country.
● If the ratio is higher, it means that the engagement of people is greater; if the ratio for a country is
medium, or low, it means that a very high proportion of its population is not involved directly in
economic activities.
● Primary sector is the main source of employment for majority of workers
Population:
● Population is defined as the total number of people who reside in a particular locality at a particular
point of time.
Industrial Divisions:
● We divide all economic activities into eight different industrial divisions.
● (i) Agriculture
● (ii) Mining and Quarrying
● (iii) Manufacturing
● (iv) Electricity, Gas and Water Supply
● (v) Construction
● (vi) Trade
● (vii) Transport and Storage
● (viii) Services
Jobless Growth:
● Disheartening development in the late 1990s: employment growth started declining and reached the
level of growth that India had in the early stages of planning.
● During these years, we also find a widening gap between the growth of GDP and employment.
● This means that in the Indian economy, without generating employment, we have been able to
produce more goods and services.
● Scholars refer to this phenomenon as jobless growth.
Formal Sector Employment:
● The information relating to employment in the formal sector is collected by the Union Ministry of
Labor through employment exchanges located in different parts of the country.
Sources of Data on Unemployment:
● There are 3 sources of data on unemployment :
○ Reports of Census of India,
○ National Sample Survey Organisation’s Reports of Employment and Unemployment
Situation and
○ Directorate General of Employment and Training Data of Registration with Employment
Exchanges.
Chapter 16 – Infrastructure
● Composition of Infrastructure requirements
● Indian Systems of Medicine (ISM)
● Infrastructure provides supporting services in the main areas of industrial and agricultural production,
domestic and foreign trade and commerce.
● These services include roads, railways, ports, airports, dams, power stations, oil and gas pipelines,
telecommunication facilities, the country’s educational system including schools and colleges, health
system including hospitals, sanitary system including clean drinking water facilities and the monetary
system including banks, insurance and other financial institutions.
Composition of Infrastructure requirements:
● In any country, as the income rises, the composition of infrastructure requirements changes
significantly.
● For low-income countries, basic infrastructure services like irrigation, transport and power are more
important.
● As economies mature and most of their basic consumption demands are met, the share of
agriculture in the economy shrinks and more service related infrastructure is required.
● This is why the share of power and telecommunication infrastructure is greater in high-income
countries.
Indian Systems of Medicine (ISM): It includes six systems:
1) Ayurveda
2) Yoga
3) Unani
4) Siddha
5) Naturopathy
6) Homeopathy (AYUSH)
Chapter 17 – Environment and Sustainable Development
● Functions of the Environment
● Absorptive Capacity
● Global Warming
● Ozone Depletion
● Chipko
● Appiko
● Central Pollution Control Board
● Threat to India’s Environment
● Sustainable Development
● Environment is defined as the total planetary inheritance and the totality of all resources. It includes
all the biotic and abiotic factors that influence each other.
Functions of the Environment:
● It supplies resources: resources here include both renewable and non-renewable resources.
Renewable resources are those which can be used without the possibility of the resource becoming
depleted or exhausted. That is, a continuous supply of the resource remains available. Examples of
renewable resources are the trees in the forests and the fishes in the ocean. Non-renewable
resources, on the other hand, are those which get exhausted with extraction and use, for example,
fossil fuel
○ It assimilates waste
○ It sustains life by providing genetic and biodiversity
○ It also provides aesthetic services like scenery etc.
Absorptive Capacity:
● Absorptive capacity means the ability of the environment to absorb degradation. The result — we
are today at the threshold of an environmental crisis.
Global Warming:
● Global warming is a gradual increase in the average temperature of the earth’s lower atmosphere as
a result of the increase in greenhouse gasses since the Industrial Revolution.
Ozone Depletion:
● Ozone depletion refers to the phenomenon of reductions in the amount of ozone in the stratosphere.
● The problem of ozone depletion is caused by high levels of chlorine and bromine compounds in the
stratosphere.
Chipko:
● Aimed at protecting forests in the Himalayas.
Appiko:
● In Karnataka, a similar movement took a different name, ‘Appiko’, which means to hug.
● On 8 September 1983, when the felling of trees was started in Salkani forest in Sirsi district, 160
men, women and children hugged the trees and forced the woodcutters to leave. They kept vigil in
the forest over the next six weeks.
Central Pollution Control Board:
● In order to address two major environmental concerns in India, viz., water and air pollution, the
government set up the Central Pollution Control Board (CPCB) in 1974.
● CPCB has identified 17 categories of industries (large and medium scale) as significantly polluting.
Threat to India’s Environment:
● The threat to India’s environment is of two dimensions —threat of poverty induced environmental
 degradation and the threat of pollution from affluence and a rapidly growing industrial sector.
Sustainable Development:
● Sustainable development is development that meets the needs of the present generation without
compromising the ability of the future generation to meet their own needs.
Chapter 18 – Introductory Macroeconomics
Economic Agents:
● By economic units or economic agents, we mean those individuals or institutions which take
economic decisions.
● They can be consumers who decide what and how much to consume.
● They may be producers of goods and services who decide what and how much to produce.
● They may be entities like the government, corporations, banks which also make different economic
decisions like how much to spend, what interest rate to charge on the credits, how much to tax, etc.
Adam Smith:
● Founding father of modern economics
● He suggested that if the buyers and sellers in each market take their decisions following only their
own self-interest, economists will not need to think of the wealth and welfare of the country as a
whole separately
● He was a Scotsman and a professor at the University of Glasgow.
● Philosopher by training, his well known work “An Enquiry into the Nature and Cause of the Wealth of
Nations “ (1776) is regarded as the first major comprehensive book on the subject.
Macroeconomic decision makers:
● Macroeconomic policies are pursued by the State itself or statutory bodies like the Reserve Bank of
India (RBI), Securities and Exchange Board of India (SEBI) and similar institutions.
● Typically, each such body will have one or more public goals to pursue as defined by law or the
Constitution of India itself.
● These goals are not those of individual economic agents maximizing their private profit or welfare.
● Thus the macroeconomic agents are basically different from the individual decision-makers.
John Maynard Keynes:
● John Maynard Keynes, British economist, was born in 1883.
● He prophesied the breakdown of the peace agreement of the War in the book” The Economic
Consequences of the Peace” (1919).
● His book General Theory of Employment, Interest and Money (1936) is regarded as one of the most
influential economics books of the twentieth century.
1929 Great Depression:
● The Great Depression of 1929 and the subsequent years saw the output and employment levels in
the countries of Europe and North America fall by huge amounts.
● In USA, from 1929 to 1933, unemployment rate rose from 3% to 25%
Capitalist Economy:
● Capitalist economy can be defined as an economy in which most of the economic activities have the
following characteristics :
○ There is private ownership of means of production
○ Production takes place for selling the output in the market
○ There is sale and purchase of labor services at a price which is called the wage rate (the
labor which is sold and purchased against wages is referred to as wage labor)
External Sector:
1. The domestic country may sell goods to the rest of the world. These are called exports.
2. The economy may also buy goods from the rest of the world. These are called imports. Besides
exports and imports, the rest of the world affects the domestic economy in other ways as well.
3. Capital from foreign countries may flow into the domestic country, or the domestic country may be
exporting capital to foreign countries
Rate of Interest:
● An interest rate is the amount of interest due per period, as a proportion of the amount lent,
deposited or borrowed (called the principal sum).
● The total interest on an amount lent or borrowed depends on the principal sum, the interest rate, the
compounding frequency, and the length of time over which it is lent, deposited or borrowed.
● Four factors of production:
○ Land
○ Labor
○ Capital
○ Entrepreneur
Unemployment Rate:
● It may be defined as the number of people who are not working and are looking for jobs divided by
the total number of people who are working or looking for jobs
Capital:
● In finance and accounting, capital generally refers to financial wealth, especially that used to start or
maintain a business
Investment Expenditure:
● Investment expenditure refers to the expenditure incurred either by an individual or a firm or the
government for the creation of new capital assets like machinery, building etc.
Chapter 19 – National Income Accounting
Final Goods:
● An item that is meant for final use and will not pass through any more stages of production or
transformations is called a final good.
Consumption Goods:
● Goods like food and clothing, and services like recreation that are consumed when purchased by
their ultimate consumers are called consumption goods or consumer goods.
Capital Goods:
● Capital goods are man-made, durable items businesses used to produce goods and services. They
include tools, buildings, vehicles, machinery, and equipment.
● In accounting, capital goods are treated as fixed assets.
Consumer Durables:
● Some commodities like television sets, automobiles or home computers, although they are for
ultimate consumption, have one characteristic in common with capital goods – they are also
durable. ➔ That is, they are not extinguished by immediate or even short period consumption; they
have a relatively long life as compared to articles such as food or even clothing.
● They also undergo wear and tear with gradual use and often need repairs and replacements of parts,
i.e., like machines they also need to be preserved, maintained and renewed.
● That is why we call these goods consumer durables.
Intermediate Goods:
● Of the total production taking place in the economy a large number of products don’t end up in final
consumption and are not capital goods either.
● Such goods may be used by other producers as material inputs.
● Examples are steel sheets used for making automobiles and copper used for making utensils.
● These are intermediate goods, mostly used as raw material or inputs for production of other
commodities. These are not final goods.
Stock:
● It is defined as any quantity measured at a particular point of time e.g. number of machines in a
plant, amount in bank account on a specific date
Flow:
● It is defined as any quantity measured per unit at a particular period of time e.g. income or
expenditure over a time period of 1 month or 1 year
Gross Investment:
● Gross Investment of an economy constitutes that part of our final output that comprises of capital
goods
● These may be machines, tools and implements; buildings, office spaces, storehouses or
infrastructure like roads, bridges, airports or jetties.
Depreciation:
● It is the loss of value of fixed assets in use on account of wear and tear
● It is also called as consumption of fixed capital
● New addition to capital stock in an economy is measured by net investment or new capital formation,
which is expressed as Net Investment = Gross investment – Depreciation
4 kinds of contributions that can be made during the production of goods and services:
(a) Contribution made by human labor, remuneration for which is called wage
(b) Contribution made by capital, remuneration for which is called interest
(c) Contribution made by entrepreneurship, remuneration of which is profit
(d) Contribution made by fixed natural resources (called ‘land’), remuneration for which is called rent

Circular flow of income:

● The circular flow of Income refers to the flow of money, services, and goods, etc.
● This circulation happens in terms of income in the production process, distribution between the
factors of production, and at the end the circulation of the product from household to a firm in the
form of consumption expenditure on goods and services manufactured by them.
● The three different phases in the circular flow of income are-
○ Generation Phase: In this phase, the firm manufactures the goods and services with the
assistance of factor services.
○ Distribution Phase: This phase involves the flow of factor income, which comprises rent,
interests, wages, and profit from the firm to the household.
○ Disposition Phase: Here, the income collected by the factors of production, is used on the
goods and services manufactured by a firm
● There are two types of circular flow
○ Real Flow: The term real flow means the flow of factor services from household to firms.
Similarly, the flow of goods and services from firms to household
○ Money Flow: The Money flow refers to the flow of factor payments from firm to household for
factor services. Similarly, the flow of consumption expenditure from household to firm for the
purchase of goods and services manufactured by the firm.
Value added:
● The term that is used to denote the net contribution made by a firm is called its value added.
● The raw materials that a firm buys from another firm which are completely used up in the process of
production are called ‘intermediate goods’.
● Therefore the value added of a firm is, value of production of the firm – value of intermediate goods
used by the firm.
 ● If we include depreciation in value added then the measure of value added that we obtain is called
Gross Value Added.
● If we deduct the value of depreciation from gross value added we obtain Net Value Added.
● Unlike gross value added, net value added does not include wear and tear that capital has
undergone.
Inventory:
● The stock of unsold finished goods, or semi-finished goods, or raw materials which a firm carries
from one year to the next is called inventory.
● Inventory is a stock variable.
● It may have a value at the beginning of the year; it may have a higher value at the end of the year.
● In such a case inventories have increased (or accumulated). If the value of inventories is less at the
end of the year compared to the beginning of the year, inventories have decreased
● Change of inventories of a firm during a year ≡ production of the firm during the year – sale of the
firm during the year
Factor Cost, Basic Prices and Market Prices:
● The distinction between factor cost, basic prices and market prices is based on the distinction
between net production taxes (production taxes less production subsidies) and net product taxes
(product taxes less product subsidies).
● CSO releases GVA at basic prices. Thus, it includes the net production taxes but not net product
taxes. In order to arrive at the GDP (at market prices) we need to add net product taxes to GVA at
basic prices.
● GVA at factor costs + Net production taxes = GVA at basic prices
● GVA at basic prices + Net product taxes = GVA at market prices
Undistributed Profits:
● National Income which is earned by the firms and government enterprises, a part of profit is not
distributed among the factors of production. This is called Undistributed Profits (UP).
National Disposable Income:
● The idea behind National Disposable Income is that it gives an idea of what is the maximum amount
of goods and services the domestic economy has at its disposal.
● Current transfers from the rest of the world include items such as gifts, aids, etc.

Gross Domestic Product at Market Prices :

● GDP is the market value of all final goods and services produced within a domestic territory of a
country measured in a year
● All production done by the national residents or the non-residents in a country gets included,
regardless of whether that production is owned by a local company or a foreign entity
● Everything is valued at market prices
GDP at Factor Cost:
● GDP at factor cost is gross domestic product at market prices, less net product taxes.
● Market prices are the prices as paid by the consumers. Market prices also include product taxes and
subsidies.
● The term factor cost refers to the prices of products as received by the producers.
● Thus, factor cost is equal to market prices, minus net indirect taxes.
● GDP at factor cost measures the money value of output produced by the firms within the domestic
boundaries of a country in a year.

Net Domestic Product at Market Prices:

● This measure allows policy-makers to estimate how much the country has to spend just to maintain
their current GDP.
● If the country is not able to replace the capital stock lost through depreciation, then GDP will fall

NDP at Factor Cost:

● NDP at factor cost is the income earned by the factors in the form of wages, profits, rent, interest,
etc., within the domestic territory of a country

Gross National Product at Market Prices:

● GNP MP is the value of all the final goods and services that are produced by the normal residents of
India and is measured at the market prices, in a year.
● GNP refers to all the economic output produced by a nation’s normal residents, whether they are
located within the national boundary or abroad
● Everything is valued at the market prices.

GNP at Factor Cost:

● GNP at factor cost measures value of output received by the factors of production belonging to a
country in a year

Net National Product at Market Prices:

● This is a measure of how much a country can consume in a given period of time. NNP measures
output regardless of where that production has taken place (in domestic territory or abroad)
NNP at Factor Cost (NNP FC) Or National Income (NI):
● NNP at factor cost is the sum of income earned by all factors in the production in the form of wages,
profits, rent and interest, etc., belonging to a country during a year.
● It is the National Product and is not bound by production in the national boundaries. It is the net
domestic factor income added with the net factor income from abroad.

Gross Value Added (GVA):

Base Year:
● The year whose prices are being used to calculate the real GDP to the current year
GDP Deflator:
● In the calculation of real and nominal GDP of the current year, the volume of production is fixed.
● Therefore, if these measures differ it is only due to change in the price level between the base year
and the current year.
● The ratio of nominal to real GDP is a well known index of prices. This is called GDP Deflator.
Nominal GDP:
● The market value of the final production of goods and services within a country in a given period
using that year’s prices (also called “current prices”)
Real GDP:
● Nominal GDP adjusted for changes in the price level, using prices from a base year (constant prices)
instead of “current prices” used in nominal GDP; real GDP adjusts the level of output for any price
changes that may have occurred over time
Externalities:
● Externalities refer to the benefits (or harms) a firm or an individual causes to another for which they
are not paid (or penalized).
● Externalities do not have any market in which they can be bought and sold.
Chapter 20 – Money and Banking
● Money is the commonly accepted medium of exchange
● Economic exchanges without the mediation of money are referred to as barter exchanges.
Cashless Society:
● A cashless society describes an economic state whereby financial transactions are not connected
with money in the form of physical bank notes or coins but rather through the transfer of digital
information (usually an electronic representation of money) between the transacting parties.
Demand for Money:
● The demand for money tells us what makes people desire a certain amount of money.
● Since money is required to conduct transactions, the value of transactions will determine the money
people will want to keep: the larger is the quantum of transactions to be made, the larger is the
quantity of money demanded.
● At higher interest rates, money demanded comes down.
Supply of Money:
● In a modern economy, money comprises cash and bank deposits.
● These are created by a system comprising two types of institutions: the central bank of the economy
and the commercial banking system.
Central Bank:
● India got its central bank in 1935.
● Its name is the ‘Reserve Bank of India’
● It issues the currency of the country.
● It controls the money supply of the country through various methods, like bank rate, open market
operations and variations in reserve ratios.
● It acts as a banker to the government.
● It is the custodian of the foreign exchange reserves of the economy. It also acts as a bank to the
banking system.
● Lender of last resort
● This currency issued by the central bank can be held by the public or by the commercial banks, and
is called the ‘high-powered money’ or ‘reserve money’ or ‘monetary base’ as it acts as a basis for
credit creation.
Commercial Banks:
● They accept deposits from the public and lend out part of these funds to those who want to borrow.
● The interest rate paid by the banks to depositors is lower than the rate charged from the borrowers.
● This difference between these two types of interest rates, called the ‘spread’ is the profit
appropriated by the bank
Assets:
● Assets are things a firm owns or what a firm can claim from others. In the case of a bank, apart from
buildings, furniture, etc., its assets are loans given to the public.
Reserves:
● Reserves are deposits which commercial banks keep with the Central bank, Reserve Bank of India
(RBI) and its cash.
● These reserves are kept partly as cash and partly in the form of financial instruments (bonds and
treasury bills) issued by the RBI.
● Reserves are similar to deposits we keep with banks.
Liabilities:
 ● Liabilities for any firm are its debts or what it owes to others.
● For a bank, the main liability is the deposits which people keep with it.
Cash Reserve Ratio:
● RBI decides a certain percentage of deposits which every bank must keep as reserves.
● This is done to ensure that no bank is ‘over lending’.
● This is a legal requirement and is binding on the banks.
● This is called the ‘Required Reserve Ratio’ or the ‘Reserve Ratio’ or ‘Cash Reserve Ratio’ (CRR).
Open Market Operations:
● Open Market Operations refers to buying and selling of bonds issued by the Government in the open
market.
● This purchase and sale is entrusted to the Central bank on behalf of the Government.N
● There are two types of open market operations: outright and repo.
Outright:
● Outright open market operations are permanent in nature: when the central bank buys these
securities (thus injecting money into the system), it is without any promise to sell them later.
● Similarly, when the central bank sells these securities (thus withdrawing money from the system), it
is without any promise to buy them later.
● As a result, the injection/absorption of the money is of permanent nature.
Repo:
● Another type of operation in which when the central bank buys the security, this agreement of
purchase also has specification about date and price of resale of this security.
● This type of agreement is called a repurchase agreement or repo.
● The interest rate at which the money is lent in this way is called the repo rate.
Reverse repurchase agreement or reverse repo:
● Instead of outright sale of securities the central bank may sell the securities through an agreement
which has a specification about the date and price at which it will be repurchased.
● This type of agreement is called a reverse repurchase agreement or reverse repo.
● The rate at which the money is withdrawn in this manner is called the reverse repo rate.
● The Reserve Bank of India conducts repo and reverse repo operations at various maturities:
overnight, 7-day, 14- day, etc.
Bank Rate:
● RBI can influence money supply by changing the rate at which it gives loans to the commercial
banks. This rate is called the Bank Rate in India.
● By increasing the bank rate, loans taken by commercial banks become more expensive; this reduces
the reserves held by the commercial bank and hence decreases money supply.
● A fall in the bank rate can increase the money supply
Fiat Money:
● Currency notes and coins are called fiat money.
● They do not have intrinsic value like a gold or silver coin.
● They are also called legal tenders as they cannot be refused by any citizen of the country for
settlement of any kind of transaction.
Narrow and Broad Money:
● RBI publishes figures for four alternative measures of money supply, viz. M1, M2, M3 and M4.
● M1 and M2 are known as narrow money.
● M3 and M4 are known as broad money.
 ● These measures are in decreasing order of liquidity.
● M1 is most liquid and easiest for transactions whereas M4 is least liquid of all.
● M3 is the most commonly used measure of money supply. It is also known as aggregate monetary
resources

Demonetisation:
● Demonetisation was a new initiative taken by the Government of India in November 2016 to tackle
the problem of corruption, black money, terrorism and circulation of fake currency in the economy.
● Old currency notes of Rs 500, and Rs 1000 were no longer legal tender.
● New currency notes in the denomination of Rs 500 and Rs 2000 were launched.
● The public were advised to deposit old currency notes in their bank account till 31 December 2016
without any declaration and upto 31 March 2017 with the RBI with declaration
Barter Exchange:
● Exchange of commodities without the mediation of money is called Barter Exchange.
● It suffers from a lack of double coincidence of wants.
● Money facilitates exchanges by acting as a commonly acceptable medium of exchange.
● In a modern economy, people hold money broadly for two motives – transaction motive and
speculative motive
Chapter 21 – Determination of Income and Employment
Ceteris paribus:
● When we concentrate on the determination of a particular variable, we must hold the values of all
other variables constant.
● This is a stylisation typical of almost any theoretical exercise and is called the assumption of ceteris
paribus, which literally means ‘other things remaining equal.
Ex-ante and Ex-post:
● Ex-ante depicts what has been planned, and ex-post depicts what has actually happened.
Consumption:
● The most important determinant of consumption demand is household income.
● A consumption function describes the relation between consumption and income.
Autonomous consumption:
● The simplest consumption function assumes that consumption changes at a constant rate as income
changes.
● Of course, even if income is zero, some consumption still takes place.
● Since this level of consumption is independent of income, it is called autonomous consumption.

Investment:
● Investment is defined as addition to the stock of physical capital (such as machines, buildings, roads
etc., i.e. anything that adds to the future productive capacity of the economy) and changes in the
inventory (or the stock of finished goods) of a producer.
● Note that ‘investment goods’ (such as machines) are also part of the final goods – they are not
intermediate goods like raw materials.
● Machines produced in an economy in a given year are not ‘used up’ to produce other goods but yield
their services over a number of years.
Full employment level of income:
● Full employment level of income is that level of income where all the factors of production are fully
 employed in the production process.
Deficient demand:
● The equilibrium level of output may be more or less than the full employment level of output. ➔ If it
is less than the full employment of output, it is due to the fact that demand is not enough to employ
all factors of production.
● This situation is called the situation of deficient demand. It leads to decline in prices in the long run.
Excess demand:
● If the equilibrium level of output is more than the full employment level, it is due to the fact that the
demand is more than the level of output produced at full employment level.
● This situation is called the situation of excess demand.
● It leads to a rise in prices in the long run.
○ When, at a particular price level, aggregate demand for final goods equals aggregate supply
of final goods, the final goods or product market reaches its equilibrium.
○ Aggregate demand for final goods consists of ex ante consumption, ex ante investment,
government spending etc.
Marginal propensity to consume:
● The rate of increase in ex ante consumption due to a unit increment in income is called marginal
propensity to consume.
Aggregate demand:
● It is the total demand for final goods and services in an economy at a given time.
● This is the demand for the gross domestic product of a country.
Aggregate supply:
● It is the total supply of goods and services that firms in a national economy plan on selling during a
specific time period.
● It is the total amount of goods and services that firms are willing and able to sell at a given price
level in an economy.
Ex-ante consumption:
● Ex-ante consumption refers to the consumption expenditure planned to be incurred during a period.
Ex-ante or planned investment:
● Ex-ante or planned investment is the investment which is desired to be made by the firms and
planners in the economy during a particular period in the beginning of the period.
Parametric Shift:
● Parametric shift is a graph due to change in the value of a parameter.
● A positively sloping straight line swings upwards as its slope decreases.
● A positively sloping straight line shifts upwards in parallel as its Intercept is increased.
Expenditure Multiplier:
● The expenditures multiplier measures the change in aggregate production triggered by changes in
an autonomous expenditure, including consumption expenditures, investment expenditures,
government purchases, or net exports.
● The expenditures multiplier captures the consequences of a shift in the aggregate expenditures line
in a single measure, a measure that is generally greater than one.
Chapter 22 - Government Budget and the Economy
Mixed Economy:
● An economy in which there is both the private sector and the Government is known as a mixed
economy.
Main Budget Document:
● There is a constitutional requirement in India (Article 112) to present before the Parliament a
statement of estimated receipts and expenditures of the government.
● This ‘Annual Financial Statement’ constitutes the main budget document of the government.
Revenue Account:
● Those that relate to the current financial year only are included in the revenue account (also called
revenue budget)
Capital Account:
● Those that concern the assets and liabilities of the government into the capital account (also called
capital budget).
Public provision:
● Public provision means that they are financed through the budget and can be used without any direct
payment.
Public Production:
● When goods are produced directly by the government it is called public production. Redistribution
function:
● The government sector affects the personal disposable income of households by making transfers
and collecting taxes.
● It is through this that the government can change the distribution of income and bring about a
distribution that is considered ‘fair’ by society. This is the redistribution function.
Stabilization Function:
● The intervention of the government whether to expand demand or reduce it constitutes the
stabilization function
Revenue Receipts:
● Revenue receipts are those receipts that do not lead to a claim on the government.
● They are therefore termed non-redeemable.
● They are divided into tax and non-tax revenues.
Tax Revenue:
● Tax revenues, an important component of revenue receipts, have for long been divided into direct
taxes (personal income tax) and firms (corporation tax), and indirect taxes like excise taxes (duties
levied on goods produced within the country), customs duties (taxes imposed on goods imported into
and exported out of India) and service tax.
Paper Taxes:
● Other direct taxes like wealth tax, gift tax and estate duty (now abolished) have never brought in
large amount of revenue and thus have been referred to as ‘paper taxes’
Non-Tax Revenue:
● Non-tax revenue of the central government mainly consists of interest receipts on account of loans
by the central government, dividends and profits on investments made by the government, fees and
other receipts for services rendered by the government.
 ● Cash grants-in-aid from foreign countries and international organizations are also included.

Capital Receipts:
● The government also receives money by way of loans or from the sale of its assets.
● Loans will have to be returned to the agencies from which they have been borrowed.
● Thus they create liability. Sale of government assets, like sale of shares in Public Sector
Undertakings (PSUs) which is referred to as PSU disinvestment, reduce the total amount of financial
assets of the government.
● All those receipts of the government which create liability or reduce financial assets are termed as
capital receipts.
● When the government takes fresh loans it will mean that in future these loans will have to be
returned and interest will have to be paid on these loans.
● Similarly, when the government sells an asset, then it means that in future its earnings from that
asset will disappear. Thus, these receipts can be debt creating or non-debt creating.

Revenue Expenditure:
● Revenue Expenditure is expenditure incurred for purposes other than the creation of physical or
financial assets of the central government.
● It relates to those expenses incurred for the normal functioning of the government departments and
various services, interest payments on debt incurred by the government, and grants given to state
governments and other parties (even though some of the grants may be meant for creation of
assets).
Plan Revenue Expenditure:
● Plan revenue expenditure relates to central Plans (the Five-Year Plans) and central assistance for
State and Union Territory plans.
Non-Plan Expenditure:
● Non-plan expenditure, the more important component of revenue expenditure, covers a vast range of
general, economic and social services of the government.
● The main items of non-plan expenditure are interest payments, defense services, subsidies, salaries
 and pensions
● Interest payments on market loans, external loans and from various reserve funds constitute the
single largest component of non-plan revenue expenditure.
● Defense expenditure is committed expenditure in the sense that given the national security
concerns, there exists little scope for drastic reduction.
● Subsidies are an important policy instrument which aim at increasing welfare
● Apart from providing implicit subsidies through under-pricing of public goods and services like
education and health, the government also extends subsidies explicitly on items such as exports,
interest on loans, food and fertilizers.
Capital Expenditure:
● Capital expenditure is also categorized as plan and non-plan in the budget documents.
● Plan capital expenditure, like its revenue counterpart, relates to central plan and central assistance
for state and union territory plans.
● Non-plan capital expenditure covers various general, social and economic services provided by the
government.
Fiscal Responsibility and Budget Management Act:
● Along with the budget, three policy statements are mandated by the Fiscal Responsibility and Budget
Management Act, 2003 (FRBMA)
● The Medium-term Fiscal Policy Statement sets a three year rolling target for specific fiscal indicators
and examines whether revenue expenditure can be financed through revenue receipts on a
sustainable basis and how productively capital receipts including market borrowings are being
utilized.
● The Fiscal Policy Strategy Statement sets the priorities of the government in the fiscal area,
examining current policies and justifying any deviation in important fiscal measures.
● The Macroeconomic Framework Statement assesses the prospects of the economy with respect to
the GDP growth rate, fiscal balance of the central government and external balance
Balanced , Surplus and Deficit Budget:
● The government may spend an amount equal to the revenue it collects. This is known as a balanced
budget.
● If it needs to incur higher expenditure, it will have to raise the amount through taxes in order to keep
the budget balanced.
● When tax collection exceeds the required expenditure, the budget is said to be in surplus
● The most common feature is the situation when expenditure exceeds revenue. This is when the
government runs a budget deficit.
Revenue Deficit:
● The revenue deficit refers to the excess of government’s revenue expenditure over revenue receipts

● The revenue deficit includes only such transactions that affect the current income and expenditure of
the government.
● When the government incurs a revenue deficit, it implies that the government is dissaving and is
using up the savings of the other sectors of the economy to finance a part of its consumption
expenditure.
● This situation means that the government will have to borrow not only to finance its investment but
also its consumption requirements.
● This will lead to a build up of stock of debt and interest liabilities and force the government
eventually, to cut expenditure.
● Since a major part of revenue expenditure is committed expenditure, it cannot be reduced.
 ● Often the government reduces productive capital expenditure or welfare expenditure. This would
mean lower growth and adverse welfare implications.
Fiscal Deficit:
● Fiscal deficit is the difference between the government’s total expenditure and its total receipts
excluding borrowing

● Non-debt creating capital receipts are those receipts which are not borrowings and, therefore, do not
give rise to debt. Examples are recovery of loans and the proceeds from the sale of PSUs. The fiscal
deficit will have to be financed through borrowing. Thus, it indicates the total borrowing requirements
of the government from all sources.

● Net borrowing at home includes that directly borrowed from the public through debt instruments (for
example, the various small savings schemes) and indirectly from commercial banks through
Statutory Liquidity Ratio (SLR).
● The gross fiscal deficit is a key variable in judging the financial health of the public sector and the
stability of the economy.
● From the way gross fiscal deficit is measured as given above, it can be seen that revenue deficit is a
part of fiscal deficit (Fiscal Deficit = Revenue Deficit + Capital Expenditure - non-debt creating
capital receipts)
● A large share of revenue deficit in fiscal deficit indicated that a large part of borrowing is being used
to meet its consumption expenditure needs rather than investment.
Primary Deficit:
● The borrowing requirement of the government includes interest obligations on accumulated debt.
● The goal of measuring primary deficit is to focus on present fiscal imbalances.
● To obtain an estimate of borrowing on account of current expenditures exceeding revenues, we need
to calculate what has been called the primary deficit. It is simply the fiscal deficit minus the interest
payments
● Net interest liabilities consist of interest payments minus interest receipts by the government on net
domestic lending.
Government Debt:
● Budgetary deficits must be financed by either taxation, borrowing or printing money. Governments
have mostly relied on borrowing, giving rise to what is called government debt.
● The concepts of deficits and debt are closely related. Deficits can be thought of as a flow which adds
to the stock of debt.
● If the government continues to borrow year after year, it leads to the accumulation of debt and the
government has to pay more and more by way of interest. These interest payments themselves
contribute to the debt.
Ricardian equivalence:
● The consumer will be concerned about future generations because they are the children and
grandchildren of the present generation and the family, which is the relevant decision making unit,
continues living.
● They would increase savings now, which will fully offset the increased government spending so that
 national savings do not change.
● This view is called Ricardian equivalence after one of the greatest nineteenth century economists,
David Ricardo, who first argued that in the face of high deficits, people save more.
● It is called ‘equivalence’ because it argues that taxation and borrowing are equivalent means of
financing expenditure.
● When the government increases spending by borrowing today, which will be repaid by taxes in the
future, it will have the same impact on the economy as an increase in government expenditure that is
financed by a tax increase today.
● Proportional taxes reduce the autonomous expenditure multiplier because taxes reduce the
marginal propensity to consume out of income.
Goods and Service Tax:
About GST
● GST is an Indirect Tax which has changed many Indirect Taxes in India. The Goods and Service Tax
Act became surpassed withinside the Parliament on twenty ninth March 2017.
● The Act got here into impact on 1st July 2017.
● Goods & Services Tax Law in India is a comprehensive, multi-stage, destination-primarily based total
tax that is levied on each fee addition.
● The GST is a fee-delivered tax levied on maximum items and offerings bought for home
consumption.
● The GST is paid through consumers, however it's far remitted to the authorities through the
organizations promoting the products and offerings.
● GST, which subsumed nearly all home oblique taxes (petroleum, alcoholic liquids and stamp
responsibility are the main exceptions) below one head, is possibly the largest tax reform withinside
the records of unbiased India. It became released into operation at the nighttime of 1st July 2017.
Legislative Basis Of GST
● In India, the GST Bill was first added in 2014 as The Constitution (122nd Amendment) Bill.
● This was given an approval in 2016 and turned into renumbered withinside the statute with the aid of
using Rajya Sabha as The Constitution (one hundred and first Amendment) Act, 2016. Its provisions:
● Central GST to cowl Excise duty, Service tax etc, State GST to cowl VAT, luxurious tax etc.
○ Integrated GST to cowl inter-country trade. IGST consistent with se isn't a tax however a
machine to coordinate country and union taxes.
○ Article 246A – States have energy to tax items and services.
Before Goods and Service Tax, the pattern of tax levy was as follows:

○ GST is a comprehensive, multi-stage, destination-based tax that is levied on every

value addition
■ Multi-stage - There are multiple change-of-hands an item goes through along its
supply chain - from manufacture to final sale to the consumer.
 ■ Goods and Services Tax is levied on each of these stages which makes it a
multi-stage tax.

● Value Addition

● The producer who makes biscuits buys flour, sugar and different materials.
● The fee of the inputs will increase whilst the sugar and flour are blended and baked into biscuits.
● The producer then sells the biscuits to the warehousing agent who packs huge portions of biscuits
and labels it. That is every other addition of fee and then the warehouse sells it to the store.
● The store applications the biscuits in smaller portions and invests withinside the advertising and
marketing of the biscuits accordingly growing its fee.
● GST is levied on those fee additions i.e. the economic fee brought at every level to acquire the very
last sale to the quit customer.
● Destination-Based
● Consider items synthetic in Gujarat and are brought to the very last purchaser in Maharashtra.
● Since Goods & Service Tax is levied on the factor of consumption. So, the whole tax sales will visit
Maharashtra and now no longer Gujarat.
● Journey of GST in India
● Advantages Of GST
For the Government
● Create a unified not unusual place marketplace: Will assist to create a unified not unusual place
countrywide marketplace for India. It can even provide a lift to overseas funding and the “Make in
India'' campaign.
● Streamline Taxation: Through harmonization of laws, processes and costs of tax among Center and
States and throughout States.
● Increase tax Compliance: Improved surroundings for compliance as all returns are to be filed online,
enter credit to be confirmed online, encouraging extra paper path of transactions at every stage of
deliver chain;
● Discourage Tax evasion: Uniform SGST and IGST costs will lessen the motivation for evasion via
means of removing fee arbitrage among neighboring States and that among intra- and inter-nation
sales.
For Overall Economy
● Bring approximately reality: Common methods for registration of taxpayers, refund of taxes, uniform
codecs of tax return, not unusual place tax base, not unusual place device of class of products and
offerings will lend more reality to taxation device;
● Reduce corruption: Greater use of IT will lessen human interface among the taxpayer and the tax
administration, on the way to move a protracted manner in decreasing corruption;
● Boost secondary sector: It will improve export and production activity, generate extra employment
and as a consequence boom GDP with gainful employment main to noticeable financial growth;
● Ultimately it's going to assist in poverty eradication through producing extra employment and extra
monetary resources.
For the Trade and Industry
● Simpler tax regime with lesser exemptions.
● Increased ease of doing business.
● Reduction in multiplicity of taxes.
● Elimination of double taxation on sure sectors.
● More green neutralization of taxes specially for exports
● Making our merchandise extra aggressive withinside the global market.
● Simplified and automatic approaches for registration, returns, refunds and tax payments.
 ● Decrease in common tax burden on delivery of products or services.
For Consumers
● Transparent costs: Final fee of products is anticipated to be obvious because of seamless float of
enter tax credit score among the manufacturer, store and provider supplier.
● Price discount: Reduction in costs of commodities and items in longer term because of discount in
cascading effect of taxation;
● Poverty eradication: By producing greater employment and greater economic resources.
For the States
● Expansion of the tax base: As states may be capable of taxing the complete delivery chain from
production to retail.
● More low in cost empowerment: Power to tax services, which became hitherto with the Central
Government only, will improve sales and deliver States get right of entry to the quickest developing
zone of the economy.
● Enhancing Investments: GST being a vacation spot primarily based totally on intake tax will desire
ingesting States. Improve the general funding weather withinside the united states of america for you
to evidently gain the improvement withinside the States.
● Increase Compliance: Largely uniform SGST and IGST quotes will lessen the motivation for evasion
through putting off charge arbitrage among neighboring States and that among intra and inter-nation
sales
Exemptions under GST
● Custom obligations will nonetheless be amassed together with the levy of IGST on imported goods.
● Petroleum and tobacco merchandise are presently exempted.
● Excise obligation on liquor, stamp obligation and energy taxes also are exempted.
Cascading effect
● A cascade tax or cascading tax is a device that imposes income taxes on
merchandise at every successive degree withinside the delivery chain from
uncooked fabric to patron purchase.
● Each customer withinside the delivery chain will pay a charge primarily based
totally on its cost, inclusive of the preceding tax or taxes which have been
charged.
● So, a cascade tax is a tax on the pinnacle of a tax. There is a compounding
effect, with an actual income tax better than the legit income tax rate.

● The components of GST

● There are 3 taxes applicable under this system:
● Tax Laws before GST
● In the sooner oblique tax regime, there have been many oblique taxes levied with the aid of each
nation and center. States particularly amassed taxes withinside the shape of Value Added Tax (VAT).
● Every nation had a distinctive set of regulations and regulations.
● Interstate sale of products changed into taxed with the aid of using the Center.
● CST (Central State Tax) changed into relevant in case of interstate sale of products.
● Other than above there have been many oblique taxes like enjoyment tax, octroi and neighborhood
tax that have been levied with the aid of the nation and center.
● This caused a number of overlapping of taxes levied with the aid of using each nation and center.
● For example, whilst items have been synthetic and sold, excise responsibility changed into charged
with the aid of using the center. Over and above Excise Duty, VAT changed into additionally charged
with the aid of using the State. This caused a tax on tax additionally referred to as the cascading
impact of taxes.
● Important GST Terms
● B to B -transaction achieved among or extra registered persons.
● B to C - transaction achieved among a registered man or woman and one or extra unregistered
persons.
● Bill of Supply - is a non-formal record issued with the aid of using a provider of GST exempted
items/offerings or with the aid of using a composition dealer. The invoice of delivery doesn’t comprise
any tax information.
● Composition Scheme - is a unique scheme for small groups with turnover much less than 1 Crore
that includes paying tax at a hard and fast charge of annual profits in place of at ordinary GST rates.
● E-signal / Electronic Signature -is a web digital carrier which lets in a GST registered
taxpayer/Aadhar holder to digitally sign a record. This may be configured in the GST portal at some
stage in the registration process.
● E-Way Bill - is an digital (digital) invoice required to be produced to facilitate the actions of products
with the fee above Rs. 50,000.
● Exempt Supply - manner delivery of any items and/or offerings that aren't taxable and consists of
such delivery of products and/or offerings that appeal to 0 charge of tax or that can be exempt from
tax.
● Goods and Services Tax Network (GSTN) - is a non-profit, public-personal partnership company.
● Its major motive is to offer IT infrastructure and offerings to Central and State Governments,
taxpayers, and different stakeholders to facilitate the implementation of GST.
● GST Suvidha Provider (GSP) - refers to third-birthday birthday celebration packages that help the
taxable man or woman in having access to the GST portal in an enriched way with the aid of being
extra user-pleasant and customer-centered.
● Input Service Distributor - manner in workplace of the provider of products and/or offerings that gets
tax invoices issued in the direction of the receipt of enter offerings and troubles a prescribed record
for dispensing the credit score of CGST, SGST, UTGST and/or IGST paid for the stated offerings.
● Input Tax Credit - is the credit score towards the tax already paid on inputs (purchases) may be
claimed lower back to pay the legal responsibility of output taxes (on sales). It is known as the enter
tax credit score or ITC.
● Input Tax - in terms of a registered man or woman, manners the crucial tax, nation tax, included tax
or Union territory tax charged on any delivery of products or offerings or each made to him.
● Interstate Supply - manner the delivery of products / offerings at some stage in interstate (among
states) change or commerce
● Intrastate Supply - manner the delivery of products / offerings at some stage in intrastate (inside
identical nation) change or commerce
● Inward Supply - refers back to the receipt of products and/or offerings, whether or not with the aid of
using purchase, acquisition, or another manner, and with or with none consideration.
● Non-Resident Taxable Person - is a person who once in a while undertakes transactions regarding
the delivery of products and/or offerings, whether or not as foremost or agent, or in another capacity,
however without a constant place of work in India.
● Output Tax - manner the CGST/SGST on taxable delivery of products and/or offerings made with the
aid of using a taxable man or woman or with the aid of using his agent. Excludes tax payable on a
reverse-fee basis.
● Outward Supply - refers back to the delivery of products and/or offerings, whether or not with the aid
of using sale, transfer, barter, exchange, license, rental, lease, or disposal, or another manner made
or agreed to be made at some stage in business.
● Zero-Rated Supply -manner deliver of any items and/or offerings such as export of products or
offerings or each or deliver of products or offerings or each to a Special Economic Zone developer or
a Special Economic Zone unit.
● 45th Meeting of GST Council

● The forty fifth GST Council assembly was held on Friday, seventeenth September 2021, at Lucknow,
Uttar Pradesh, chaired by the means of Union Finance Minister Nirmala Sitharaman. The Council
assembly became held bodily for the primary time after one and a 1/2 of years of digital meetings.
● Key Points
○ Extension of Concessional GST Rates:
○ The Council determined to increase the GST alleviation on numerous pills associated with
Covid-19 remedy until December 2021.
○ Food Delivery Apps to Collect GST:
○ Online meals shipping aggregator corporations together with Swiggy and Zomato will now be
prone to pay GST and now no longer the eating place companions.
○ Currently, online payments generated via means of meals aggregators have already got a tax
issue in it.
○ The taxed quantity is returned to the eating place companions who're then anticipated to pay
this quantity to the authorities.
Petrol and Diesel will now no longer come beneath GST Regime:
● The council has determined now no longer to carry petrol and diesel beneath the GST regime.
States vehemently hostile the inclusion of the fuels at the same time as elevating issues on sales
buoyancy all through the meet.
● If petrol and diesel come beneath the GST regime, expenses become broadly speaking uniform
throughout all states because the exclusive excise and VAT prices that the Center and the states
impose might then be carried out away with.
● This might assist carry down diesel and petrol expenses greatly, which has touched new highs
withinside the current past.
GST on Fortified Rice Reduced:
● The GST price on fortified rice kernels for schemes like included toddler improvement schemes has
been advocated to be decreased from 18% to 5%.
● GoM to Look After Rate Rationalization:
● A Group of country ministers (GoM) may be set up to appear after the price clarification associated
problems to accurately reflect the inverted responsibility shape and to take steps to enhance
revenues.
 ● An inverted responsibility shape arises whilst the taxes on output or very last product is decreased
than the taxes on inputs, growing an inverse accumulation of enter tax credit score which in
maximum instances must be refunded.
● Inverted responsibility shape has implied a movement of sales outflow for the authorities prompting
the authorities to relook the responsibility shape.
● Other GoMs may be installed with a view to appearance after problems of e-manner payments,
FASTAGs, compliances, technology, plugging of loopholes, composition schemes etc.
Need of a GST Council
● The most important obligation of the GST Council is to make certain to have one uniform tax price for
items and offerings throughout the nation.
● It is the important decision-making frame that takes all essential choices concerning the GST.
● It dictates tax price, tax exemption, the due date of forms, tax laws, and tax deadlines, maintaining in
thought unique costs and provisions for a few states.
How is the GST Council structured?
● The Goods and Services Tax (GST) is ruled through the GST Council.
● Article 279 (1) of the amended Indian Constitution states that the GST Council needs to be
constituted through the President within 60 days of the graduation of the Article 279A.
● Composition:
● According to the article, the GST Council could be a joint discussion board for the Center and the
States.
It includes the subsequent members:
● The Union Finance Minister could be the Chairperson
● As a member, the Union Minister of State could be in price of Revenue of Finance
● The Minister in charge of finance or taxation or some other Minister nominated through every State
government, as members.
GST Council pointers:
● Article 279A (4) specifies that the Council will make pointers to the Union and the States at the
essential troubles associated with GST, such as, the products and offerings could be problem or
exempted from the Goods and Services Tax
● New changes in GST
1. Threshold restriction to take registration has been elevated to Rs. forty lakhs
● As in line with Section 23 of the CGST Act, all people are needed to attain the GST registration if his
turnover from delivery of products or offerings exceeds Rs. 20 lakhs.
● This threshold restriction has been elevated to Rs. forty lakhs best if the provider is engaged in
delivery of products.
● Therefore , any character who's engaged in delivery of products and his general turnover withinside
the contemporary monetary yr does now no longer exceed Rs. forty lakhs, isn't required to take
registration beneath GST.
● This exemption from GST registration is concerned to diverse conditions, inter alia, he isn't making
any Inter-State delivery, he isn't a non-resident taxable character, etc.
● This has been made relevant from April 1, 2019.
2. Threshold Limit for composition scheme has been elevated to Rs. 1.five crores
● The current threshold restriction on gross turnover in preceding monetary yr to avail of the
composition scheme has been elevated from Rs. 1 crore to Rs. 1. five crores.
● In recognition of unique class States (North-Eastern States), the edge restriction has been elevated
from Rs. 50 lakhs to Rs. seventy five lakhs.
● Consequently, the taxable men and women can notably lessen their compliance burden as they
could be required to document GST returns on quarterly foundation as opposed to month-to-month
foundation.
 ● This gain has been prolonged from April 1, 2019.
3. New Scheme is now to be had @ 6% to Intra-State Suppliers of Goods or Service
● Wherein an Intra-State provider can now pay GST on the charge of 6% (3% for Central and 3% for
respective State) on first materials of products or offerings for Rs. 50 lakhs.
● With impact from April 1, 2019 the gain of this scheme may be availed.
● This scheme will be to be had best if the combination turnover of the provider does now no longer
exceed Rs. 50 lakhs at some stage in the preceding monetary yr.
● This has been made powerful vide Notification No. 02/2019 – Central Tax (Rate) dated March 7,
2019.
● The gain of this scheme shall now no longer be to be had to provider carriers who're rendering
offerings in a couple of States or through e-trade websites.
4. Option to choose Composition Scheme
● The registered character who desires to choose fee of tax beneath Composition Scheme for the F.Y.
2019-20 shall document an intimation, duly signed and verified, at the GST not unusual place portal,
brand new March 31, 2019.
5. Availing gain of decreased GST Rates via way of means of actual property builders or builders:
● The GST Council in its thirty third and thirty fourth assembly had endorsed the GST charge of 1% in
case of low priced homes and five% in different cases, without entering tax credit score.
● The promoters will be given an one -time choice to retain to pay tax on the antique fees (i.e., at 8%
or 12% with ITC) on ongoing projects (if production and real reserving have began out earlier than
01-04-2019) that have now no longer been finished via way of means of March 31, 2019.
● The choice will be exercised as soon as inside a prescribed time body and in which the choice isn't
exercised withinside the prescribed time restriction, new fees shall apply.
6. Benefits associated with Specific Industry
● Money changer (the Forex market Dealer); or
● Air journey agent; or
● Dealer of 2nd hand items opting for 'Margin Scheme'; or
● Taxpayers engaged in Life coverage commercial enterprise were given the choice to decide the fee
of such delivery as in line with rule 32 of the CGST Rules, 2017.
● The above-cited eligible registered men and women supposed to decide the fee in their materials as
in line with the valuation guidelines can exercise the choice at the start of the Financial Year this is
on or earlier than April 1, 2019.
7. Availing Input tax credit score via way of means of Banks, Financial Institutions or NBFC:
● Banks or monetary establishments or NBFC were given a choice to avail 50% of the eligible Input tax
credit score on inputs, capital items and enter offerings.
● This choice to be exercised at the start of the F.Y. This is on or earlier than April 1, 2019 as the
choice as soon as exercised can't be withdrawn at some stage in the closing of a part of the
monetary yr.
8. The following GST Acts were amended relevant from February 1, 2019
● CGST (Amendment) Act, 2018
● IGST (Amendment) Act, 2018
● UTGST (Amendment) Act, 2018
● GST (Compensation to States) Amendment Act, 2018
● Some other Major changes
● Manner of usage of ITC has been amended with the aid of placing Section 49A in CGST Act.
Now the credit score of IGST desires to be applied first absolutely for the price of IGST,
CGST, SGST and UTGST respectively.
 ● Section 9(4) regarding opposite fee applicability on purchases made with the aid of using
registered humans from unregistered humans is changed and now it applies to unique
classes.
● Now handiest e-trade operators who're required to gather tax at supply beneath Section fifty
two of the CGST Act, 2017 are mandatorily required to reap GST registration.
● Composition sellers as according to phase 10 of CGST Act, 2017 are allowed to deliver
offerings to the volume better of 10% of the turnover withinside the previous monetary yr or
Rs. five lakhs.
● Multiple GST registrations withinside the identical country for every place of job has been
allowed. The idea of commercial enterprise vertical is finished away with.
● Issue of consolidated debit/credit score notice is authorized in admiration of a couple of
invoices issued in a monetary yr in place of unmarried debit/credit score notice in admiration
of every invoice.
● The receipt of price in Indian rupees that's accepted with the aid of using Reserve Bank of
India for offerings exported out of India, can be protected withinside the definition of 'export of
offerings' as according to the IGST Act, 2017.
Achievements in the last 4 years
Automated Indirect Tax Ecosystem:
● The creation of e-manner payments coupled with the crackdown on faux invoicing has helped in
bringing in a significant part of GST revenues, which have been both being kept away from or
under-reported.
● E-invoicing machines might additionally usher the taxpayers into a totally computerized compliance
regime in which the computation of tax liabilities and matching of enter tax credit score might end up
very simple.
Simplification of Compliance:
● Various projects viz. linking the customs portal with GST portal for credit score availability on imports,
making it the right way for matching enter tax credit score, extended automation of the refund system
to seamless operation of the Invoice Registry Portal, helped simplify tax compliance.
Functioning of GST Council:
● The GST Council made corrections to law, issued clarifications on complicated issues, rationalized
GST prices and added relaxations for handling the Covid-19 pandemic, which establishes that the
GST Council shape has been very purposeful and agile.
Example to the World:
● India has served for instance to the sector via means of efficiently imposing one of the most
complicated tax transformation tasks for the country.

Challenges with GST

● The demanding situations have unfold from the disappointment of small investors to extra systemic
issues - sluggish boom of GST collections, the emergence of nation-extensive faux invoices racket
and the failure to attain a consensus on explanation of charges and the inclusion of gadgets together
with petroleum merchandise and energy withinside the GST’s ambit.
● The sluggish boom of the GST sales collections has driven the states and the Center right into a
corner.
● In the month of August 2019, the GST sales collections stood at Rs 98,202 crore, it turned up
through an unimpressive 4.5% as compared to August 2018.
● Several states have advised the fifteenth Finance Commission to increase the repayment duration
below GST past the mandated 12 months of FY 2022.

● According to the Goods and Services (Compensation to States) Act, 2017, if a state’s sales increase
falls beneath 14% in a year, the Center could bridge the shortfall for the primary 5 years.
● The reimbursement is paid to the states as soon as each month out of a cess accrued on taxes on
sin and comfort goods. The Center’s reimbursement to states in June-July 2019, stood at Rs 27,955
crore.
● The 2d principal assignment that the GST is dealing with these days ought to doubtlessly drag down
overall sales.
● The Directorate General of GST Intelligence unearthed a Rs four hundred crore fraud of overvaluing
and faking invoices to assert refund of enter tax credit.
 ● The enter tax credit score is a mechanism that permits organizations to get hold of refunds on GST
paid for the acquisition of products or offerings with a view to save you cascading taxation.
● The 1/3 undertaking that the GST regime is going through these days is the states’ unwillingness to
usher in objects which includes petroleum merchandise and power beneath the GST, and
additionally their loss of consensus on matters -
● which includes discounts of the variety of charge slabs (primary ones being nil, 5%, 12%, 18% and
28%) and tackling the contentious twin charge item—the lottery.
● At present, there may be no respectable information to be had to reveal the prevailing GST tax
collections vis-a-vis the sales being gathered through 17 taxes which includes VAT, Octroi, provider
tax, luxurious tax and so on which were given subsumed as soon as the GST became rolled out.
The Goods and Services Tax (Compensation to States) Amendment act, 2018
● The Goods and Services Tax (Compensation to States) Amendment Bill, 2018
was delivered in Lok Sabha.
● It amends the Goods and Services Tax (Compensation to States) Act, 2017.
● The Act offers for reimbursement to states for any loss in sales because of the
implementation of GST.
● Compensation Fund:
● The Act permits the principal authorities to levy a GST Compensation Cess at
the delivery of sure items and offerings.
● The receipts from the cess are deposited to a GST Compensation Fund.
● The quantity deposited withinside the Fund is used to compensate states for
any loss in sales following the implementation of GST.
 ● Under the Act, any unutilised quantity withinside the Compensation Fund on
the quit of the transition duration (5 years from the date on which the kingdom
brings its State GST Act into force) is shipped withinside the following manner:
● (i) 50% of the quantity is shared among the states in share to their general
sales, and
● (ii) ultimate 50% is part of the middle’s divisible pool of taxes.
● The Bill inserts a provision specifying that any unutilised quantity (as
encouraged through the GST Council) withinside the Compensation Fund at
any time in the course of the transition duration can be allotted withinside the
following manner:
● (i) 50% of the quantity can be shared among the states in share to their base
12 months sales (2015-16), and
● (ii) ultimate 50% can be a part of the middle’s divisible pool of taxes.
● The Act specifies that reimbursement payable to states must be launched on
the quit of each month.
● The Bill states that during case of shortfall on this quantity of reimbursement, it
could be recovered withinside the following manner:
● (i) 50% of the quantity from the middle, and
● (ii) the ultimate 50% from the states in share to their base 12 months sales.
● However, this quantity has to now no longer exceed the overall quantity
transferred to the middle and states.

Other Challenges
Fiscal Federalism:
● This difficulty has become debatable whilst GST collections fell due to the pandemic.
● Because GST entailed a larger give up of taxation powers for the states – states do now no longer
levy direct taxes or customs duties – an assured sales boom of 14% for a duration of 5 years was
provided to them with the aid of using the middle to get them to agree.
Issues Highlighted with the aid of using the fifteenth Finance Commission:
● The fifteenth Finance Commission has highlighted numerous regions of difficulty withinside the GST
regime referring to multiplicity of tax rates, shortfall in GST collections vis-à-vis the forecast,
excessive volatility in GST collections, inconsistency in submitting of returns, dependence of States
at the repayment from Center and so on.
Large Businesses vs Small Businesses:
● The essential ideas on which the GST regulation becomes constructed viz. seamless float of enter
credit and simplicity of compliance has been impaired with the aid of using IT glitches.
● Indirect taxes, not like direct taxes along with profits tax, do now no longer differentiate among the
wealthy and the negative and consequently positioned a larger burden at the latter.
● Further, small and medium companies are nevertheless grappling to evolve to the tech-enabled
regime.
Suggestions
● With oil fees skyrocketing throughout the country, the policymakers want to ponder the inclusion of
petroleum and associated merchandise inside the GST net.
● It is critical to eventually represent the GST Appellate Tribunal as it is apparent that each one
taxpayers do now no longer have the price range or method to technique the High Court for each
sensible trouble faced.
● Streamlining of anti-profiteering measures and simplification of compliance techniques additionally
wishes to be revisited to make sure that the price performance and discount in fees envisaged below
GST regulation eventually reaches the not unusual place man.
Budget 2022-23: Indirect Taxes
 ● The Union Budget 2022-23, at the same time as persevering with the declared coverage of a solid
and predictable tax regime, intends to carry extra reforms so one can take in advance the
imaginative and prescient to set up a honest tax regime.
● An oblique tax is a tax that is levied on items and offerings earlier than they attain the purchaser who
in the end will pay the oblique tax as part of the marketplace fee of the products or provider
purchased. For example, Goods and Services Tax (GST), Import duties.
Key Proposals
● Record GST Collection: GST collections touched a file of Rs 1.forty lakh crore in January 2022 on
fast monetary recovery (notwithstanding the coronavirus pandemic).
○ GST showcases the spirit of Cooperative Federalism and fulfills the dream of India as one
market-one tax.
● Special Economic Zones: Customs Administration of SEZs will be completely IT pushed and
characteristic at the Customs National Portal with a focal point on better facilitation and with best
risk-primarily based totally checks.
● Customs Reforms and Duty Rate Changes: Faceless Customs has been completely established.
Customs’ reforms have performed a totally crucial position in:
○ Domestic potential creation,
○ Providing a degree gambling discipline to MSMEs,
○ Easing the uncooked fabric deliver facet constraints,
○ Enhancing ease of doing business
● Being an enabler to different coverage projects which includes PLIs and Phased Manufacturing
Plans.
○ Project Imports and Capital Goods: National Capital Goods Policy, 2016 targets at doubling
the manufacturing of capital items via way of means of 2025.
○ This might create employment possibilities and bring about expanded monetary activity.
○ However, numerous responsibility exemptions, even extending to over 3 a long time in a few
cases, had been granted to capital items for diverse sectors like power, fertilizer, textiles,
leather, footwear, meals processing and fertilizers.
○ These exemptions have hindered the boom of the home capital items area.
○ The price range proposed sluggish phasing out of the concessional prices in capital items
and task imports.
○ The Budget furnished for making use of a slight tariff of 7.5% for you to be conducive to the
boom of the home area and ‘Make in India’.
● Sector-precise Proposals:
○ Electronics: Customs responsibility prices to be balanced to offer a graded price structure - to
facilitate home production of wearable gadgets and digital clever meters.
○ Announced a brand new Phased Manufacturing Programme (PMP) for generating wrist
wearable gadgets, hearable gadgets and digital clever meters withinside the country.
○ The PMP incentivises the manufacture of low cost add-ons initially, after which actions
directly lead to the manufacture of better cost components.
○ Gems and Jewelry: Customs responsibility on reduced and polished diamonds and gems
being decreased to 5%.
○ Nil customs responsibility to be imposed on in reality sawn diamond.
○ MSME & Exports: Exemption being rationalized on implements and equipment for
agri-sectors that are synthetic in India.
○ Further, to incentivise exports, exemptions are being furnished on many items.
○ Tariff to Encourage Blending of Fuel: Tariff measures can be added to inspire the mixing of
gasoline.
○ Meanwhile, unblended gasoline will entice a further differential excise responsibility of Rs 2/
liter from 1st October, 2022, to similarly inspire the mixing of gasoline.
Chapter 23 - Open Economy Macroeconomics
Open Economy:
● An open economy is one which interacts with other countries through various channels.
Output Market:
● An economy can trade in goods and services with other countries. This widens choice in the sense
that consumers and producers can choose between domestic and foreign goods.
Financial Market:
● Most often an economy can buy financial assets from other countries.This gives investors the
opportunity to choose between domestic and foreign assets.
Labor Market:
● Firms can choose where to locate production and workers to choose where to work. There are
various immigration laws which restrict the movement of labor between countries
International monetary system:
● The purpose of the international monetary system (IMS) is to facilitate international economic
exchange since most countries have national currencies that are not typically accepted as legal
payment beyond their borders.
● The essential element of the IMS is to facilitate the exchange of goods, services, and capital among
countries.
Influence of Foreign Trade on Aggregate Demand:
● First, when Indians buy foreign goods, this spending escapes as a leakage from the circular flow of
income decreasing aggregate demand.
● Second, our exports to foreigners enter as an injection into the circular flow, increasing aggregate
demand for goods produced within the domestic economy.
Foreign Exchange Rate:
The price of one currency in terms of another currency is known as the foreign exchange rate or simply the
exchange rate.
Balance of Payments:
● The balance of payments (BoP) records the transactions in goods, services and assets between
residents of a country with the rest of the world for a specified time period typically a year.
● There are two main accounts in the BoP — the current account and the capital account
Current Account:
● Current Account is the record of trade in goods and services and transfer payments.
● Trade in goods includes exports and imports of goods.
● Trade in services includes factor income and non-factor income transactions.
● Transfer payments are the receipts which the residents of a country get for ‘free’, without having to
provide any goods or services in return. They consist of gifts, remittances and grants. They could be
given by the government or by private citizens living abroad.
● Buying foreign goods is an expenditure from our country and it becomes the income of that foreign
country. Hence, the purchase of foreign goods or imports decreases the domestic demand for goods
and services in our country.
● Similarly, selling of foreign goods or exports brings income to our country and adds to the aggregate
domestic demand for goods and services in our country.
Balance on Current Account:
It has 2 components
1. Balance of Trade or Trade Balance
2. Balance on Invisibles
Balance of Trade (BOT):
● It is the difference between the value of exports and the value of imports of goods of a country in a
given period of time.
● Export of goods is entered as a credit item in BOT, whereas import of goods is entered as a debit
item in BOT. It is also known as Trade Balance.
● BOT is said to be in balance when exports of goods are equal to the imports of goods.
● Surplus BOT or Trade surplus will arise if a country exports more goods than what it imports.
● Deficit BOT or Trade deficit will arise if a country imports more goods than what it exports.
Net Invisibles:
● Net Invisibles is the difference between the value of exports and the value of imports of invisibles of
a country in a given period of time.
● Invisibles include services, transfers and flows of income that take place between different countries.
Services trade:
● Services trade includes both factor and non-factor income.
● Factor income includes net international earnings on factors of production (like labor, land and
capital).
● Non-factor income is net sale of service products like shipping, banking, tourism, software services,
etc.
Capital Account:
● Capital Account records all international transactions of assets.
● An asset is any one of the forms in which wealth can be held, for example: money, stocks, bonds,
Government debt, etc.
● Purchase of assets is a debit item on the capital account.
● If an Indian buys a UK Car Company, it enters capital account transactions as a debit item (as
foreign exchange is flowing out of India).
● On the other hand, the sale of assets like the sale of shares of an Indian company to a Chinese
customer is a credit item on the capital account.

Balance on Capital Account:

● Capital account is in balance when capital inflows (like receipt of loans from abroad, sale of assets or
shares in foreign companies) are equal to capital outflows (like repayment of loans, purchase of
assets or shares in foreign countries).
● Surplus in capital accounts arises when capital inflows are greater than capital outflows, whereas
deficit in capital account arises when capital inflows are lesser than capital outflows.
Balance of Payments Surplus and Deficit:
● The essence of international payments is that just like an individual who spends more than her
income must finance the difference by selling assets or by borrowing, a country that has a deficit in
its current.
● account (spending more than it receives from sales to the rest of the world) must finance it by selling
assets or by borrowing abroad.
● Thus, any current account deficit must be financed by a capital account surplus, that is, a net capital
inflow

● In this case, in which a country is said to be in balance of payments equilibrium, the current account
deficit is financed entirely by international lending without any reserve movements.
 ● The basic premise is that the monetary authorities are the ultimate financiers of any deficit in the
balance of payments (or the recipients of any surplus).
● Official reserve transactions are more relevant under a regime of fixed exchange rates than when
exchange rates are floating.
Autonomous Transactions:
● International economic transactions are called autonomous when transactions are made due to
some reason other than to bridge the gap in the balance of payments, that is, when they are
independent of the state of BoP.
● One reason could be to earn profit. These items are called ‘above the line’ items in the BoP.
● The balance of payments is said to be in surplus (deficit) if autonomous receipts are greater (less)
than autonomous payments.
Accommodating transactions:
● Accommodating transactions (termed ‘below the line’ items), on the other hand, are determined by
the gap in the balance of payments, that is, whether there is a deficit or surplus in the balance of
payments.
● In other words, they are determined by the net consequences of the autonomous transactions.
● Since the official reserve transactions are made to bridge the gap in the BoP, they are seen as the
accommodating item in the BoP (all others being autonomous).

Balance of Payments Accounts:

● Following the new accounting standards introduced by the International Monetary Fund in the sixth
edition of the Balance of Payments and International Investment Position Manual (BPM6) the
Reserve Bank of India also made changes in the structure of balance of payments accounts.
● According to the new classification, the transactions are divided into three accounts: current account,
financial account and capital account.
● The most important change is that almost all the transactions arising on account of trade in financial
assets such as bonds and equity shares are now placed in the financial account.
● RBI continues to publish the balance of payments accounts as per the old system also, therefore the
details of the new system are not being given here.
Foreign Exchange Market:
● The market in which national currencies are traded for one another is known as the foreign exchange
market.
● The major participants in the foreign exchange market are commercial banks, foreign exchange
brokers and other authorized dealers and monetary authorities.
Foreign Exchange Rate:
● Foreign Exchange Rate (also called Forex Rate) is the price of one currency in terms of another.
● It links the currencies of different countries and enables comparison of international costs and prices.
● For example, if we have to pay Rs 50 for $1 then the exchange rate is Rs 50 per dollar.
● Flexible or Floating Exchange Rate:
● This exchange rate is determined by the market forces of demand and supply. It is also known as
Floating Exchange Rate.
Depreciation of domestic currency:
 ● Increase in exchange rate implies that the price of foreign currency (dollar) in terms of domestic
currency (rupees) has increased.
● This is called Depreciation of domestic currency (rupees) in terms of foreign currency (dollars).
Appreciation of domestic currency:
● In a flexible exchange rate regime, when the price of domestic currency (rupees) in terms of foreign
currency (dollars) increases, it is called Appreciation of the domestic currency (rupees) in terms of
foreign currency (dollars).
● This means that the value of rupees relative to the dollar has risen and we need to pay fewer rupees
in exchange for one dollar.
Purchasing Power (PPP) theory:
● The purchasing Power (PPP) theory is used to make long-run predictions about exchange rates in a
flexible exchange rate system.
Fixed Exchange Rate System:
● In this exchange rate system, the Government fixes the exchange rate at a particular level.
● At this exchange rate, the supply of dollars exceeds the demand for dollars.
● The RBI intervenes to purchase the dollars for rupees in the foreign exchange market in order to
absorb this excess supply
● Thus, through intervention, the Government can maintain any exchange rate in the economy. But it
will be accumulating more and more foreign exchange so long as this intervention goes on.
Devaluation and Revaluation:
● In a fixed exchange rate system, when some government action increases the exchange rate
(thereby, making domestic currency cheaper) is called Devaluation.
● On the other hand, a Revaluation is said to occur, when the Government decreases the exchange
rate (thereby, making domestic currency costlier) in a fixed exchange rate system.
Managed floating exchange rate system:
● Without any formal international agreement, the world has moved on to what can be best described
as a managed floating exchange rate system.
● It is a mixture of a flexible exchange rate system (the float part) and a fixed rate system (the
managed part).
● Under this system, also called dirty floating, central banks intervene to buy and sell foreign
currencies in an attempt to moderate exchange rate movements whenever they feel that such
actions are appropriate.
● Official reserve transactions are, therefore, not equal to zero.
Gold Standard:
● From around 1870 to the outbreak of the First World War in 1914, the prevailing system was the gold
standard which was the epitome of the fixed exchange rate system.
● Fractional reserve banking helped to economize on gold.
● Paper currency was not entirely backed by gold; typically, countries held one-fourth gold against its
paper currency.
Bretton Woods System:
● The Bretton Woods Conference held in 1944 set up the International Monetary Fund (IMF) and the
World Bank and re-established a system of fixed exchange rates.
● A two-tier system of convertibility was established at the center of which was the dollar
● In 1967, gold was displaced by creating the Special Drawing Rights (SDRs), also known as ‘paper
gold'
● Originally defined in terms of gold, with 35 SDRs being equal to one ounce of gold (the dollar-gold
rate of the Bretton Woods system), it has been redefined several times since 1974.
 ● At present, it is calculated daily as the weighted sum of the values in dollars of four currencies (euro,
dollar, Japanese yen, pound sterling) of the five countries (France, Germany, Japan, the UK and the
US).
‘Smithsonian Agreement’:
● The ‘Smithsonian Agreement’ in 1971, which widened the permissible band of movements of the
exchange rates to 2.5 per cent above or below the new ‘central rates’ with the hope of reducing
pressure on deficit countries, lasted only 14 months
Currency Board System:
● Argentina, for example, adopted the currency board system in 1991.
● Under this, the exchange rate between the local currency (the peso) and the dollar was fixed by law.
● The central bank held enough foreign currency to back all the domestic currency and reserves it had
issued.
● In such an arrangement, the country cannot expand the money supply at will.
● Also, if there is a domestic banking crisis (when banks need to borrow domestic currency) the central
bank can no longer act as a lender of last resort.
● However, following a crisis, Argentina abandoned the currency board and let its currency float in
January 2002
India’s exchange rate policy:
● India’s exchange rate policy has evolved over time in line with the gradual opening up of the
economy as part of the broader strategy of macroeconomic reforms and liberalization since the early
1990s.
● This change was also warranted by the consensus response of all major countries to excessive
exchange rate fluctuations that accompanied the abolishment of the fixed exchange rate system.
● The major changes in the exchange rate policy started with the implementation of the
recommendations of the High Level Committee on Balance of Payments (Chairman: Dr. C.
Rangarajan, 1993) to make the exchange rate market determined.
● The Expert Group on Foreign Exchange Markets in India (popularly known as Sodhani Committee,
1995) made several recommendations with respect to participants, trading, risk management as well
as selective market intervention by the Reserve Bank to promote greater market development in an
orderly fashion.
● Consequently, the period starting from January 1996 saw wide-ranging reforms in the Indian foreign
exchange market. In essence, the exchange rate developments changed side-by-side with the
reform in the external sector of India.
Liberalized Exchange Rate Management System:
● The Finance Minister announced the liberalized exchange rate management system (LERMS) in the
Budget for 1992- 93.
● This system introduced partial convertibility of rupee.
● Under this system, a dual exchange rate was fixed under which 40 per cent of foreign exchange
earnings were to be surrendered at the official exchange rate while the remaining 60 per cent were
to be converted at a market-determined rate.
● The dual rates were converged into one from March 1, 1993; this was an important step towards
current account convertibility, which was finally achieved in August 1994 by accepting Article VIII of
the Articles of Agreement of the IMF.
● The exchange rate of the rupee thus became market determined, with the Reserve Bank ensuring
orderly conditions in the foreign exchange market through its sales and purchases.