Indian & Global Economic Development II

INDIAN AND
GLOBAL ECONOMIC
DEVELOPMENT
for
Third Year B.Com. (Semester - VI)
[Course Code : 363 - Total Credits : 03]
As Per New Syllabus
CBCS Pattern
Dr. (Mrs.) Girija Shankar

Former Principal
Professor and Head of Department of Business Economics
Ness Wadia College of Commerce, Pune
Dr. Iramani K Bhuyan

M.A., B.Ed., SET (Maharashtra), Ph.D.
Price ` 110.00
N5963
INDIAN AND GLOBAL ECONOMIC DEVELOPMENT ISBN 978-93-5451-394-7
First Edition : February 2022
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Preface …
This textbook titled 'Indian and Global Economic Development' for T.Y.B.Com. (Sem. VI) is
a culmination of several years of teaching and learning. It is a small venture towards kindling
the students' interest in the rudimentary of Global Economics in the context of Indian
Economy. An effort has been made to link Indian Economy with the Global Economy in
various topics. The language is crisp and lucid. An attempt has been made to enhance clarity
through appropriate tables, graphs, etc.
We sincerely thank Shri. Dineshbhai Furia and Shri. Jignesh Furia, the publishers, for the
confidence reposed in us and giving us this opportunity to reach out to the students of
commerce and management.
We are grateful to the Dean, Faculty of Commerce, Savitribai Phule Pune University
Dr. Parag Kalkar; Dean, Faculty of Humanities, Savitribai Phule Pune University, Dr. Anjali
Kurane; the Chairman of the Board of Studies (Business Economics) Dr. S. Dhage; the
Chairman of the Board of Studies (Economics) Dr. Sambhaji Kale and our colleagues for their
valuable suggestions.
Nirali Prakahsan with its energetic and enthusiastic team comprising of Mr. Amol
Mahabal, Akbar Shaikh, Prasad Chintakindi, Anjali Mule and Sachin Shinde have lent finishing
touches to the book.
We humbly acknowledge the contribution of all those authors, writers and economists
whose readings have played a significant role in the writing of this book.
Suggestions and feedback from readers are most welcome at
niralipune@pragationline.com.
February 2022
Dr. Girija Shankar
Dr. Iramani K Bhuyan
Syllabus …
1. Human Resources and Economic Development
1.1 Role of Human Resources in Economic Development
1.2 Human Development Index and India
1.3 Concepts of Different Indexes in Quality of Life and Status of India
1.3.1 Gender Development Index
1.3.2 Gender Inequality Index
1.3.3 Human Poverty Index
1.3.4 Global Hunger Index
2. Foreign Capital and Economic Development
2.1 Role of Foreign Capital in Economic Development
2.2 Types of Foreign Capital
2.3 Foreign Investment in India Since 2001
2.4 Limitations of Foreign Capital
3. India's Foreign Trade and Balance of Payment
3.1 Role of Foreign Trade in Indian Economic Development
3.2 India's Foreign Trade Since 2001
3.3 India's Recent Foreign Trade Policy (EXIM Policy)
3.4 Meaning and Components of Balance of Payment
3.5 India's Balance of Payment Since 2001
3.6 Causes of Unfavorable Balance of Payment
3.7 Convertibility of Indian Rupee - Current and Capital Account
4. International Financial Institutions and Regional Economic Cooperation
4.1 International Bank for Reconstruction and Development (World Bank) - Objectives
and Functions
4.2. International Monetary Fund (IMF) - Organization and Functions
4.3 World Trade Organization (WTO) - Introduction and Functions
4.4 South Asian Association for Regional Co-operation (SAARC) - Introduction and
Functions
4.5 BRICS : Introduction and Functions
Contents …
1. Human Resources and Economic Development 1.1 – 1.24
2. Foreign Capital and Economic Development 2.1 – 2.24
3. India's Foreign Trade and Balance of Payment 3.1 – 3.28
4. International Financial Institutions and

Regional Economic Cooperation 4.1 – 4.22
Unit 1…
Human Resources and
Economic Development
Contents …
Introduction
1.1 Role of Human Resources in Economic Development
1.2 Human Development Index and India
1.3 Causes of Low Human Development in India
1.4 Concepts of Different Indexes in Quality of Life and Status of India
1.4.1 Gender Development Index
1.4.2 Gender Inequality Index
1.4.3 Human Poverty Index
1.4.4 Global Hunger Index
• Points to Remember
• Questions for Discussion
• Multiple Choice Questions
Learning Objectives …
• To understand the meaning and importance of Human Resources
• To illustrate the role of Human Resources in Economic development
• To understand the meaning and definitions of economic development and economic
growth
• To discuss the Human Development Index of India
• To illustrate the causes of Low Human Development in India
• To discuss the meaning and composition of Gender Development Index
• To elaborate the Gender Development Index of India
• To understand meaning and composition of Human Inequality Index
• To describe the concept of Human Inequality Index in India
• To elucidate the meaning and composition of the Global Hunger Index
• To describe the concept of Global Hunger Index in the context of India
INTRODUCTION
The terms human resources and human capital are very closely related to each other
because they look at how current and potential human skills can be used in order to gain the
maximum efficiency and profitability. Human resources mean the people of a country. It may
1.1
Indian and Global Economic Development 1.2 Human Resources and Economic Development
or may not contribute significantly to the economy of a country. The healthy, skilled and
educated population is known as human capital. Human capital surely contributes
significantly to the economy of a country. Thus, human resources are the human potential
that can be drawn from vast pool of resources and human capital is the expertise and skills
that are already invested and utilized. Human capital is considered as a part of the human
resources. When there is more investment on human resources, there will be more human
capital formation. Human resources need to be trained, developed, hired and provided with
opportunities and then they are converted to human capital, which are human skills,
efficiencies, capabilities and competencies. This part of human resources is very helpful for
economic development of a country.
Thus, human resources along-with its productivity, educational qualities, efficiency,
farsightedness and organizational abilities are essential for the all round development of a
country. In simple words, by human resource we mean human capital, which implies the
skills, abilities and technical know-how among the population of a country. Efficiency and
productivity of human resources are very much essential for the proper utilization of natural
endowments and the level of production of wealth of the nation. To achieve higher level of
economic development, proper utilization of both human as well as natural resources is very
much essential.
In ordinary sense, human resources refer to the population of the country but in
economics the educated, skilled and healthy workforce is known as the human resource.
Human resources are the set of people who make up the workforce of an economy. It is
actually the process of improving the quality and efficiency of the people of a country.
Human capital is actually a narrower concept, which indicates the knowledge, efficiency, and
skills, which the individuals possess. Thus, human capital in a broad sense is a collection of
knowledge, intelligence, skills, experience, abilities, training and competences possessed by
the people of a country. In other words, human resources can be converted to human capital.
The extraordinary characteristic of human capital to grow cumulatively over a long period
distinguishes it from the tangible monetary capital. Since the foundation of human capital is
laid down by the educational and health inputs, it has uniformly rising growth rate over a
long period unlike monetary capital. If the present generation of the population is
qualitatively developed by investing more on their education, skill development and health,
the future generation will be benefited more from these investments. Thus, there is higher
cumulative growth of human capital formation in the succeeding generation as compared to
the preceding generation. In this regard, Prof. Meier said that human capital formation
is "the process of acquiring and increasing the number of persons who have skills, education
and experience which are critical for the economic and political development of the country."
Now let us discuss the meaning of economic growth and economic development in
order to understand the role of human resources on development.
Meaning of Economic Growth and Economic Development:
The continuous process that focuses on both quantitative and qualitative improvement
of the economy is broadly considered as economic development. The main purpose of
economic development is to achieve economic well−being for the nation. Economic
development measures all the aspects of human life such as wealth, health, better education,
access to good quality housing, etc. Moreover, higher economic development in an economy
can create more opportunities in the sectors of healthcare, education, employment and the
preservation of the environment as a whole.
Thus, economic development in an economy is the process whereby low-income national
economies are transformed into modern, industrial and high-income economies. Although
the term economic development is sometimes used as a synonym for economic growth,
generally it is used to explain a change in the country’s economy, which involves quantitative
as well as qualitative improvements. Economic growth has a quantitative dimension while
economic development has a qualitative dimension. Thus, economic development is
economic growth plus some progressive changes in some specific important variables such
as health, education, longevity, etc. that determine well-being of people. The process of
economic development is deliberate and irreversible.
Economic development in the economy indicates not only an increase in the per capita
income, but also an overall increase in the standard of living of every citizen. The higher
standard of living generally includes safe drinking water, improved sanitation systems, better
healthcare facilities, increase in employment opportunities, higher literacy rate, poverty
eradication, balanced transport networks, etc. Thus, quality of living standard is the most
important indicator of economic development in an economy.
For any economy, economic development is a long-term policy intervention that aims to
improve the overall well-being of people, whereas, economic growth is a phenomenon of
increase in Gross Domestic Product (GDP) and market productivity. One of the most
convincing definitions of economic development is proposed by Nobel laureate Amartya
Sen. He describes economic growth as but "one aspect of the process of economic
development". According to him, economic development is all about creating freedom for
people and removing obstacles to greater freedom. This greater freedom enables people to
choose their own fortune. The main obstacles to freedom, and hence to development include
lack of education, poverty, lack of healthcare facilities, lack of economic opportunities, poor
governance, corruption, etc.
Economic growth works as a catalyst in achieving the path of economic development.
Economic development in real sense reflects the social and economic progress and it
requires economic growth. On the other hand, economic growth is a vital and necessary
condition for development; however, it is not a sufficient prerequisite, as growth alone
cannot guarantee economic development.
1.1 ROLE OF HUMAN RESOURCES IN ECONOMIC DEVELOPMENT
It is a known fact that human resources play an important role in attaining higher
economic development of a country. Human capital formation is one of the important and
critical causes of economic development among other causes such as foreign trade,
technological transfer, structural transformation, resource allocation, savings and
investments, etc. Economic development is achieved by a country by proper utilization of its
available physical resources by its skilled and educated work force. However, a rapidly
growing population without productivity retards the process of development and thus
considered harmful for economic development of a country.
Here comes the importance of human capital formation, which implies the development
of abilities and skills among the population of a country. By adopting various measures for
human capital formation, liability of the huge size of population can be transformed into
assets for overall development of the economy. The human capital formation is explained by
Horibson as "the process of acquiring and increasing the number of persons who have
education, skills and experience which are critical for the economic and the political
development of a country. Human capital formation is thus associated with investment in
man and his development as a creative and productive resource." Lower level of investment
in human capital leads to underutilization of physical capital leading to retardation of
development of the country.
According to Nobel Laureate Simon Kuznets, “The major capital stock of an industrially
advanced nation is not its physical equipment; it is body of knowledge amassed from tested
findings and discoveries of empirical science and the capacity and training of its population
to use this knowledge effectively.”
Thus, even though the accumulation of physical capital is quite important in the process
of economic growth and development of a country, with the passage of time, it has been
realized that the growth of physical capital stock extensively depends on the investment on
the human capital formation. It is evident from the rapid economic development achieved by
the developed economies like the USA, France, Germany, etc. as a result of their increasing
allocation of outlays on education leading to significant improvement in the level of human
capital formation.
In this regard, Prof. John Kenneth Galbraith argued, “We now get the larger part of our
industrial growth not from more capital investment but from investment in men and
improvements brought about by improved men.” Unless the countries invest on education,
develop skills, knowledge, and expertise, and raise the level of physical efficiency of their
people, the productivity of physical capital cannot be enhanced.
The lower economic growth rate of the underdeveloped countries is resulted from lack of
investment in human capital. For example, Afghanistan is endowed with variety of natural
resources; however, due to lack of skilled human resources in the country, most of these
resources are underutilized or untapped. There is dire need for high investment on human
capital in order to develop the economy of the country. The same situation is there in
countries like Bhutan, Nepal, etc. On the one hand, these countries are facing lack of critical
skills needed for the development of industrial sector and on the other hand, they have a
surplus labour force. Thus, human capital formation helps in solving these problems by
creating required skills in the workforce and providing them gainful employments.
Thus, human resource development opens the path of economic development in various
ways. For example, education helps to control birth rate, infant mortality rate, death rate, etc.
and similarly, it improves life expectancy, literacy rate, etc. which are vital in economic
development. With the help of the following points, it is tried to summarize the role played
by human resources on economic development of a country:
(i) Skilled Human Resources Compensate for the Deficiency of Natural Resources:
For economic development, improvement of human resources is necessary. Economic
development has been achieved by countries like Japan, Singapore, Hong Kong, etc. by
investing more in human resources, research and development, technology and health
system. For example, there are virtually no major natural resources in Japan such as natural
oil, gas, gold, iron, copper, and coal. The country heavily depends on imports of raw material
and energy as it has negligible amount of natural resources. In spite of the scarcity of these
resources, Japan has come out to be one of the developed countries of the world by
investing more on human resources. Thus, educated, skilled and efficient human resources
help in the efficient use of other resources like land and capital. Human resources are
considered as the most active type of resources, which helps to utilize the natural resources
efficiently by developing science and technology. Human resources help in utilizing various
other types of resources available in the economy. Thus, countries with scarce natural
resources are also able to achieve high economic growth by developing their human
resources.
(ii) Increased Productivity:
Just like investment in physical capital, investment in human capital also yields a return.
Investment in human resources has played a bigger role in the economic development of a
country than its capital investments. Efficient human resources help to increase the
production of various goods and services at minimum cost of production. Prof. Galbraith was
of the view that "We now get the larger part of industrial growth not from more capital
investment but from investment in men and improvements brought about by improved
men." Skilled work-force helps to accomplish a task efficiently within a short span of time
with minimum use of resources. Better-trained persons as well as healthy people can
contribute more in economic development than physically weak and unskilled individuals.
Green Revolution and Information Technology (IT) Revolution leading to higher productivity
are two good examples of human resources development in India.
(iii) Development of Skills:
It is observed that the slow growth in developing and underdeveloped countries is
mostly resulted from lack of investment in human capital. All these countries suffer from lack
of critical skills and technical know-how required for the development of their industrial
sectors and face the problem of surplus labour force in its farm sector. They have to improve
the efficiency of human resources first so that they can attain higher level of economic
development. Thus, human capital formation is very much required for enhancing economic
growth and development of these countries. These countries suffer from shortage of
educated, skilled, technically trained individuals. However, at the same time, the developed
countries are maintaining higher investment on the development of human resources. Prof.
Meier has observed that, “While investment in human beings has been a major source of
growth in advanced countries, the negligible amount of human investment in UDCs has done
little to extend the capacity of the people to meet the challenge of accelerated
development.”
Thus, skill development is essential in order to attain an all round development of the
country. Human capital formation through adequate volume of investment on human
resources is very much important under the present context of development.
(iv) Increase in Volume of Output:
The development of human resources helps to increase the production capacity of the
economy. Investment on education, research and development makes human resources
skilled, efficient and knowledgeable. These individuals can make rational use of available
resources and there is increase in the volume of total output in the economy. Moreover,
higher investment in healthcare facility enhances physical capacity of the individuals. Strong
and healthy people eventually contribute more in increasing productivity than a physically
weak individual.
(v) Raises Per Capita Income:
Development of human resources helps in raising per capita income of the country
through increased formation of human capital. Development of innovative capacity and
entrepreneurship help the economy in positive way. Knowledge and education improve the
productivity of workers and thus, there will be rise in per capita income of the country.
Higher per capita income helps in increasing standard of living and eventually there will be
improvement in quality of life for the people in general. Rise in per capita income, increase in
life expectancy and higher educational attainments are the three important components for
the improvement of Human Development Index (HDI).
(vi) Utilization of Natural Resources:
For optimum utilization of available natural resources at minimum wastage, well-
developed human resources are required. Countries like Afghanistan, has huge pile of natural
resources reserved. However, due to lack of human capital formation, those resources are not
utilized optimally and the economic development achieved by the country is very low.
Human resources are very much essential for the utilization of natural resources like rivers,
forests, natural gas, oil, coal, metals, soil, wind, etc. Proper utilization of these resources is
necessary for economic development of a country. Human resources can easily mobilize
these resources from abundant areas to scarce areas and utilize them properly.
(vii) Improvement in Technology:
New and superior technology can be developed by investing more on education for
human resources. Research and development bring new technology to the economy which is
necessary in order to initiate the development process in the country. If modern and efficient
technologies developed by human resources are used for agriculture and industry sector,
their production level will increase in multiplication. In this regard, theofore Schultz observes,
"It is simply not possible to have the fruits of a modern agriculture and the abundance of
modern industry without making large investment in human being."
The role of human resources does not end here. Human resources help in the all-round
development of an economy by removing economic backwardness and making life of people
much easier and smoother. Human resource development has helped to increase managerial
capacity and entrepreneurship ability along with other required skills among people and
countries are transforming towards higher level of economic development.
1.2 HUMAN DEVELOPMENT INDEX AND INDIA

[A] Human Development Index (HDI):
The Human Development Index (HDI) is a statistic developed by Pakistani economist
Mahbub ul Haq and anchored in Indian economist Amartya Sen's work on human
capabilities. It was further used by the United Nations Development Programme (UNDP) in
order to measure countries' levels of economic and social development. The HDI index was
created in order to emphasize that people and their capabilities should be the ultimate
criteria for judging the level of development of a country, not the country's economic growth
alone. The HDI index tracks the level of development achieved by the countries over time
and it is considered as a summary measure of average achievement in some key dimensions
of human development. Thus, HDI index is used as a tool to measure changes in the level of
development achieved by counties over time and to compare the development levels of
various countries.
The United Nations Development Programme (UNDP) had introduced the HDI index in
1990 in order to provide a means of measuring the level of economic development in three
broad areas: Per Capita Income, Education and Health. The UNDP produces a development
report every year in order to provide an update of changes during the year. Three equally
weighted dimensions - Longevity i.e., long and healthy life, Knowledge and a decent
standard of living are used in order to measure the HDI index. The HDI is calculated by
taking the geometric mean of normalized indices for each of the three dimensions. The
following chart is used to show the indicators of Human Development Index:
Dimensions Long and Healthy Life Knowledge A decent standard of living
Indicators Life expectancy at birth Expected years Mean years GNI per capita (PPP $)
of schooling of schooling
Dimension Life expectancy index Education index GNI index

Index
Human Development Index (HDI)

Fig. 1.1 Human Development Index (HDI)
The component 'Longevity' is measured by the indicator life expectancy at birth;
dimension 'Knowledge' is measured by the indicator mean years of schooling for adults aged
25 years and more and the number of years children are enrolled at school; and The real
Gross National Income (GNI) per capita calculates the 'Standard of Living' dimension. The
dimension index of longevity, knowledge and standard of living are life expectancy index,
education index and gross domestic income index respectively. The HDI index is measured
on a scale from zero (0) [means no development] to one (1) means complete
development]. Following is the Classification of countries based on the HDI value:
• An index of 0 – 0.490 means low development
[E.g. Central African Republic's HDI as per 2020 report is 0.39]
• An index of 0.5 – 0.690 means medium development

[E.g. India's HDI as per 2020 report is 0.645]
• An index of 0.7 to 0.790 means high development
[E.g. Mexico's HDI as per 2020 report is 0.779]
• An index of above 0.8 means very high development
[E.g. Norway's HDI as per 2020 report is 0.957]
Thus, it is seen from above that the HDI is a very useful means of comparing the level of
development among countries. GDP per capita alone fails to indicate other aspects of
development, such as literacy rate or enrolment in school and longevity. Hence, the HDI is a
broader and more encircling indicator of development than economic growth, though GDP
still provides one third of the HDI index.
Considering the indicators of HDI, it can be said that a rise in HDI value shows progress
in quality of life of people and consequently economic development of the country.
The Human Development Report (HDR) is an annual HDI index published by the
United Nations Development Programme (UNDP). For the first time, since the introduction of
HDI index, the UNDP has introduced a new metric (different from previous index) to reflect
the impact caused by each country’s Per-Capita Carbon Emissions and its material footprint
which will measure the amount of fossil fuels, metals and other resources used to make the
goods and services it consumes. This new index is known as planetary pressures-adjusted
Human Development Index, which will adjust the standard HDI by a country's per capita
carbon dioxide emissions and material footprint. It is found in the HDR report that without
putting a huge strain on natural resources, no country has yet been able to achieve a very
high level of development.
If the Index were adjusted to assess the planetary pressures caused by each nation’s
development, Norway, which tops the HDI rank, would have fallen to 15th and India would
move up eight places in the rankings. Surprisingly, using this metric, 50 countries would drop
entirely out of the very high development group category. Thus, it is clear that this new
metric will definitely help to make clear assessments while calculating the value of human
progress.
According to the report published by the United Nations Development Programme
(UNDP), India's HDI rank is 131 with HDI value of 0.645 among 189 countries in the
year 2020. Norway topped the position with 0.957 HDI value. Most of the European
countries are ranked in the top ten positions. Many of the Asian countries also have
performed well in terms of the HDI index. Following are the ranks of some of the notable
countries out of total 189 countries of the world:
Table 1.1: HDI Ranks and HDI values of some selected countries (2020)
HDI Rank Country Value
1 Norway 0.957
6 Germany 0.947
8 Australia 0.944
11 Singapore 0.938
13 U.K. 0.931
17 U.S.A. 0.926
27 France 0.901
72 Sri Lanka 0.782
85 China 0.761
131 India 0.645
133 Bangladesh 0.634
154 Pakistan 0.557
189 Niger 0.394
Source: Human Development Report 2020 (UNDP)
Ireland, Switzerland, Hong Kong, Iceland, Germany, Sweden, Australia, the Netherlands
and Denmark secured the position of second, third, fourth, fifth, sixth, seventh, eighth, ninth
and tenth respectively. All these countries have HDI value above 0.940. The United Kingdom
with 0.932 HDI value is in the 13th position and the Unites States with 0.926 HDI value
secured 17th position.
The World Development Report (WDR) is also an annual report published by the World
Bank or International Bank for Reconstruction and Development since 1978. It provides in-
depth analysis and policy recommendations on a specific aspect of economic development. It
is an invaluable guide to social-economic and environmental state of the world today.
[B] Human Development Index and India:
India is in the medium Human Development Category in the Human Development
Report, 2020. Even though overall ranking is dropped by two places to 131, India's HDI value
has improved from 0.642 in 2018 to 0.645 in 2019. On Purchasing Power Parity (PPP) basis,
however, its gross national income per capita fell from $6,829 in 2018 to $6,681 in 2019. [The
PPP is a measurement of prices in various countries that uses the prices of specific goods in
order to compare the absolute purchasing power of the countries’ currencies.]
There has been an increase of 50.3 per cent of India's HDI value in between 1990 and
2019. The HDI value of the country is increased from 0.429 in 1990 to 0.645 in 2019. For the
same period, India’s mean years of schooling has been increased by 3.5 years, expected years
of schooling has been increased by 4.5 years and life expectancy has been increased by
almost 12 years. The report further states that India’s Gross National Income per capita has
been increased by about 274 per cent between 1990 and 2019.
According to the Report, life expectancy for Indians at birth is 69.7 years. The average life
expectancy of the medium Human Development Index groupings in the world is slightly
lower i.e. 69.3 years compared to that of India. However, life expectancy for Indians at birth is
slightly lower than the South Asian average of 69.9 years.
In terms of Gross National Income (GNI) per capita, despite a fall over the previous year,
India fared better than the South Asian average of $6,532. The average GNI per capita of the
medium Human Development Index groupings in the world is $6,153, which is far behind
India's GNI per capita of $6,681.
The report also states that the expected years of schooling in India was 12.2 years in
2019. The figure was 11.2 years in Bangladesh and 8.3 years in Pakistan. Mean years of
schooling in India is increased by 3.5 years in last 30 years, which is a very significant
development for the country. Thus, there has been gradual progress in each of the indicators
of HDI of the country and it is expected that it will increase faster as the government has
initiated various measures for the same.
1.3 CAUSES OF LOW HUMAN DEVELOPMENT IN INDIA
It is already discussed above that the Human Development Index (HDI) combines
indicators of life expectancy, education or access to knowledge and standard of living or
income and captures the level and changes to the quality of life of people. Even though India
has 131st-place ranking on the Human Development Index (HDI), in 2020, the various sub-
indices have performed really well during last few decades. As per the UNDP’s Human
Development Report 2019, since 2005 the gross national income per capita of India has more
than doubled. Moreover, the number of “multi-dimensionally poor” people fell by more than
271 million since 2005-06. Furthermore, inequalities in basic areas of human development
have reduced tremendously: for example, historically marginalized groups are catching up
with the rest of the population of the country in terms of educational attainment. As equal
weightage is given to all the three indices, HDI score of countries like India comes down
easily. For example, India being one of the most populous countries, it gets consistently low
scores on GNI per capita.
However, India's dismal performances in various other indicators are pulling down the
countries HDI value. According to the latest World Inequality Report 2022, India stands out
as a “poor and very unequal country, with an affluent elite”, where the top 1 per cent of
the population holds 22 per cent and 10 per cent holds 57 per cent of the total national
income of the country. While the bottom 50 per cent’s share is just 13 per cent of the total
wealth in 2021. The income growth between 2000 and 2018 of the bottom 40 per cent of the
population was significantly below the average income growth for the entire population. The
average income growth for the entire population was 122 per cent for the entire period,
while the figure for the bottom 40 per cent was only 58 per cent for the same period. Such
disparity on income distribution amplifies the issues related to the access to healthcare,
education, etc. and its cumulative impact spills over across generations.
Policy makers have been framing and implementing various policies in order to reduce
the disparity among the people of the country. Various social mechanisms are also needed to
address here. The country has done an apparently great job in multiplying its economy many
folds even though progress on the HDI front has not been very much appealing. During the
last three decades, India's HDI score is at an annual average rate of mere 1.42 per cent. Let us
discuss below the main causes of the low performance on HDI value of the country:
(i) Increasing Income Inequalities:

Inequality in income distribution is increasing in India. The share of income at the bottom
section of the population is very low compared to the share at the top section in the country.
Income inequality in a country amplifies the failings on the indices of the HDI. Because of
this, the average of the indicators of the Human Development Index is pulled down
automatically. Reduction of inequality of income will help to improve the indices of HDI
reflecting a rise in the HDI value. Fair distribution of resources is equally important like the
size of economic resources in determining the level of human development. Even with
moderate resources, HDI can be improved if there is equal distribution of the available
resources. Countries like Taiwan and South Korea have achieved higher value of HDI by
equalizing income distribution through early land reforms.
Over the last few decades, inequality between haves and have-nots has been soaring.
According to the 'World Inequality Report 2022', the richest 10 per cent of the global
population currently earns about 52 per cent of the global income. However, the poorest 50
per cent of the population earns only 8.5 per cent of it. While, an individual from the poorest
half of the global income distribution makes $3,920 per year on average, an individual from
the top 10 per cent of the global income distribution earns $122,100 per year. India is put
among the most unequal societies in the world by the report. While the bottom half of the
population in India earns only 53,610, the top 10 per cent of Indians earns at 11, 66,520
per year on average, 20 times more than the income of the bottom half of the population of
the country.
(ii) Healthcare and Education Facilities:
Because of the prevailing income-inequality in the country, the healthcare and
educational facilities available to the masses are also not adequate. Basic healthcare services
and minimum education at affordable rates to all are the need of the hour. The deprived
section of the society can be pulled out of poverty trap if universal education and health care
system can be implemented successfully. Policies that can give masses access to water,
electricity, housing, education, health care, etc. will help to improve quality of life of the
people of the country.
(iii) Gender Inequality:
Compared to other developing countries of the world, female per capita in India is very
low as compared to that of males. The main reason for this disparity is the exclusion of
females from the labour force. Only about 20 per cent of the females in the working age
group are in the labour force. It shows a dismal Female Labour Force Participation Rate
(LFPR). Gender empowerment is crucial for the improvement of HDI value of a country. As
gender equality and women's empowerment are integral parts of human development,
government should invest in these sectors in order to minimize gender inequality. This will
help the country to leap forward towards the development path.
(iv) Unemployment Rate:
Unemployment refers to the share of the labour force that is without work but available
for and seeking employment at the prevailing market wage rate. For the year 2020,
unemployment rate in India was 7.11 per cent which was a big rise from 2019. The rate was
5.27 per cent in 2019. This figure of unemployment rose to above 10 per cent due to the
lockdown imposed during the pandemic situation recently. However, the rate is falling
gradually and the rate of increase in employment rate is more in rural areas than in urban
areas.
High unemployment rate in the country is one of the biggest contributors to India's low
HDI value. Since the state of economic and social development of people is highly
dependent of the level of employment, care utmost care should be taken in order to reduce
unemployment rate.
The snowballing impact of these factors spreads out across generations. If the
government rolls out inclusive policies that help in strengthening public health, education
and reduce gender discrimination, India’s HDI scores can be substantially enhanced. The
government has been initiating various missions such as Food For All, Mahatma Gandhi
National Rural Employment Guarantee Act (MGNREGA), Swacchha Bharat Abhiyaan, Sarva
Shiksha Abhiyaan, Ayushman Bharat Pradhan Mantri Jan Arogya Yojana, etc. which are
helping to improve the HDI value of the country. Nevertheless, these are not sufficient; the
government needs to roll out some more schemes and policies, which will have positive
effect on the HDI value.
1.4 CONCEPTS OF DIFFERENT INDEXES IN QUALITY OF LIFE AND
STATUS OF INDIA
Quality of life index is a composite measure, which consists of certain selected social
indicators to assess the standard of living and welfare of the people. Since Gross National
Income per capita as the indicator of development has many limitations, economists have
tried to measure development in terms of some social indicators, which emphasize the
quality of life instead of quantitative aspect. These indicators include environment, life
expectancy, etc. As it is not possible to take into account all the determinants of welfare in
the construction of quality of life index [as many of them involve value judgment] certain
selected social indicators are combined together with due weight assigned to determine the
quality of life index. There are various indexes to measure the quality of life. Following are
some of the important indexes to measure health care facilities, availability of food and
nutrition, literacy and education, quality of life:
Gender Development Index (GDI), Human Inequality Index (HII), Human Poverty Index
(HPI) [HPI is replaced by global Multidimensional Poverty Index] and Global Hunger Index
(GHI). Let us discuss them one by one below in the context of the Indian economy:
1.4.1 Gender Development Index (GDI)
[A] Meaning and Composition of GDI:
Even though HDI is considered as a better measure of development worldwide, however,
it does not include the inequalities in opportunities between males and females. The neglect
of women in the world is rampant in various sectors such as allocation of health care, food
and nutrition, schooling, social position, etc. Freedom that is enjoyed by a male member is
denied to the female member. The gender gap in medical attention and education leads to
severe consequences on the economic and social health of a country. In order to measure
the extent of severity of this inequality, in 1995, the United Nations Development Programme
(UNDP) took a new initiative in order to construct an index known as 'Gender-related
Development Index' (GDI). In addition to this, in 1995, Gender Empowerment Index (GEI) was
also devised by the UNDP in order to measure the extent of empowerment of women.
GDI measures achievements in the same three dimensions of human development i.e.,
health, knowledge and standard of living like the HDI in respect of men and women
separately. Thus, GDI is the ratio of the HDI for females and males using the same
methodology as in the HDI and is shown as the female HDI as a percentage of the male HDI.
It is a direct measure of gender gap. In order to calculate these three dimension indexes,
minimum and maximum values for male and female indexes in each dimension are
calculated according to the following formula:
Actual Value – Minimum Value
Dimension Index =
Maximum Value – Maximum Value
The GDI index shows how much females are lagging behind their male counterparts or
how much males are ahead of their female counterparts. It further shows how much females
need to catch up within each dimension of human development. This index is very useful in
order to understand the real gender gap in human development achievements and at the
same time, it is informative to design policy tools in order to reduce the gap.
Female Male
Dimensions Long and Standard Long and Standard
healthy life Knowledge of living healthy life Knowledge of living
Indicators Life expectancy Expected Mean GNI per capital Life expectancy Expected Mean GNI per capita
years of years of (PPP $) years of years of (PPP $)
schooling schooling schooling schooling
Dimension Life expectancy Life expectancy Education
Index index Education index GNI index GNI Index
index index
Human Development Index (female) Human Development Index (male)
Gender Development Index (GDI)

Fig. 1.2 Gender Development Index (GDI)
The GDI is actually a reference on the disadvantage (or advantage) of females in the HDI
components, but not exactly a measure of gender inequalities. GDI being calculated as a
ratio, if it is closer to 1 (one), it will indicate a more balanced situation between males and
females. This reveals that there is less variation in the HDI values of males and females. If the
GDI value is perfectly 1, it shows that there is no divergence at all in the HDI values of both
males and females.
On the other hand, if the GDI value is closer to 0 (zero), it indicates that there is more
disparity in the HDI values of males and females. In the 2020 HDR report, there are many
countries that come close to 1 - Burundi (0.999), Slovenia (1.001), Dominican Republic
(0.999), etc. among others. There are many countries in the world where women are in an
advantageous position (>1) over men. Countries like Afghanistan, Yemen, etc. are with the
least satisfactory results, means women are far behind in terms of human development in
these countries.
The world average of the GDI value is 0.943, which depicts the existence of disadvantage
of females over males. The following table 1.2 shows the average GDI value of countries
based on the categories of HDI values:
Table 1.2: Gender Development Index by HDI categories (2020)
Category of HDI GDI
Very High HDI 0.981
High HDI 0.961
Medium HDI 0.861
Low HDI 0.835
Source: Human Development Report 2020 (UNDP)
[B] Gender Development Index (GDI) of India:
As per the Human Development Report (HDR) 2020, the GDI value of India is 0.820, with
the GDI value for males standing at 0.699 and that for females at 0.573, displaying a wide
contrast. In this measure, Bangladesh is much ahead of India with a GDI value of 0.904. The
GDI value of India is slightly lower than the average GDI for the South Asian region, which
stood at 0.824. Moreover, GDI value for medium HDI countries, which stood at 0.835, is also
higher than that of India.
Females in India had a value of 71 years of life expectancy at birth, while for males the
figure was 68.5 years in the GDI value of 2020. Thus, in terms of life expectancy, females are
ahead of males.
For the component education, the expected years of schooling for females in India was
valued at 12.6 years while the figure for males was 11.7 years. However, mean years of
schooling for females was a very disappointing figure. It was only 5.4 years as against the 8.7
years of males' mean years of schooling.
The estimated Gross National Income (GNI) per capita for females and males were taken
into consideration in order to compare the economic advantage of males over females. The
estimated GNI for males was US$ 10,702, while for females it was only US$ 2.331. It showed
the extreme disadvantageous situation of females over males.
Specific measures are required to be taken by the Government of India for the removal of
this gender disparity. Government should make the provisions of conducive environment
where females can easily come out of their houses and actively participate in the labour
force.
1.4.2 Gender Inequality Index (GII)
[A] Meaning and Composition of GII:
A major barrier to human development in any country is Gender Inequality and the main
source of inequality is the disadvantages facing by women and girls. Very often, females are
discriminated against education, health, politics, work force, etc. All these have negative
consequences on their freedom of choice and the development of their capabilities.
The United Nations Development Programme (UNDP) introduced Gender Inequality

Index (GII) in 2010, which is used for measuring gender disparity, in the Human Development
Report. The GII is a composite measure in order to quantify the disadvantages due to gender
inequality and it is an inequality index. It measures gender inequalities in terms of three
important aspects of human development:
(a) Reproductive health, which is measured by maternal mortality ratio and adolescent
fertility rate;
(b) Empowerment which is measured by the proportion of parliamentary seats occupied
by females and proportion of adult females and males aged 25 years and older [with
at least some secondary education]; and
(c) Economic status, which is expressed as labour market participation and is measured
by labour force participation rate of female and male populations aged 15 years and
older.
The GII is constructed on the same frame like the Inequality-adjusted Human
Development Index (IHDI). [IHDI is distribution sensitive average level of human
development] GII tries to better expose differences in the distribution of achievements
between males and females and measures the human development costs of gender
inequality. The value of GII lies between 0 (means males and females are fare equally) and 1
(means more disparity between males and females in all dimensions). Thus, there will be
more disparities between females and males and the more loss to human development if
there is high value of GII for a country. A small value of GII indicates lower inequalities
between females and males and causes lesser loss to human development. It is difficult to
find a country with perfect gender equality. Each country suffers some amount of loss in
achievements in the key aspects of human development when gender inequality is taken into
account. The indicators of GII highlight areas in need of critical policy intervention. Thus, GII
stimulates practical thinking and public policy to overcome systematic disadvantages of
females.
Dimensions Health Empowerment Labour Market
Maternal Adolescent Female and male Female and male Female and male
mortality birth population with at least shares of labour force
Indicators ratio rate secondary education parliamentary seats participation rates
Dimension Female reproductive Female empowerment Female labour Male empowerment Male labour
Index health index index market index index market index
Female gender Male gender

index index
Gender Inequality Index (GII)

Fig. 1.3: Gender Inequality Index (GII)
[B] Gender Inequality Index (GII) of India:
The Gender Inequality Index (GII) value of India was 0.488 in Human Development
Report 2020, published by the UNDP. Out of 162 nations, India was at the 123rd position in
terms of GII. Switzerland topped the position having a minimum of 0.025 GII value. The
component 'economic activity', which is measured by the labour market participation, stood
for females at 20.5 per cent and for males at 76.1 per cent in India. Compared to countries
having smaller value of GII, India's percentage of females in the labour market participation is
very miserable. For example, in Switzerland the percentage is 62.9 which is too high
compared to India's figure.
The second component of GII, 'reproductive health', is measured by maternal mortality
ratio and adolescent fertility rate. As per the report, India's maternal mortality ratio was 133
deaths per 1-lakh live births and adolescent birth rate was 13.2 births per 1,000 women. The
figure for maternal mortality ratio is less than 10 per 1-lakh life births in countries with
smaller GII value. The condition in India is very pity. There is need to reduce these numbers
and the Government of India should give priority for the improvement of health conditions
of pregnant women.
For finding the empowerment component, the GII index measures the percentage of
female seats in the Parliament. As per the report, in India, the percentage of female seats in
the parliament is only 13.5 per cent. However, this figure for countries having smaller value of
GII is about 40 per cent. India needs to improve in this sector also in order to have a smaller
value of GII and to reduce human development cost to its minimum.
1.4.3 Human Poverty Index (HPI)
[A] Meaning and Composition of HPI:
In order to complement the Human Development Index (HDI), the United Nations
introduced the Human Poverty Index (HPI) that focuses on derivations in human lives. With
HPI index, it is tried to measure poverty as a failure in capabilities in multiple dimensions. It
was first reported as part of the Human Development Report in 1997. The expectation was
that HPI would better reflect the extent of deprivation in deprived compared to the HDI.
In 2010, the UNDP and the Oxford Poverty and Human Development Initiative (OPHI)
launched Multidimensional Poverty Index (MPI) replacing Human Poverty Index (HPI). It
states that poverty is not one-dimensional, rather it is multidimensional. MPI as a measure
looks beyond income in order to include access to years of schooling, safe drinking water,
electricity, food, child mortality, cooking fuel, sanitation, housing, school attendance and
assets. It measures the complexities of lives of poor people every year and provides a
comprehensive picture of global trends in multidimensional poverty, covering 5 billion
people. A comprehensive and in-depth picture of global poverty is provided by the MPI
index. Across more than 100 developing countries, the MPI measures acute multidimensional
poverty by measuring each person’s deprivations across 10 indicators. Each indicator is
equally weighted within its dimension. The global MPI index is updated annually to
incorporate newly released surveys and share fresh analyses. People are counted as
multidimensionally poor if they are deprived of 1/3 or more of the 10 indicators mentioned
above.
Nutrition
Health
Child mortality
Years of schooling
Three dimensions Education
of poverty
School attendance
Cooking fuel
Sanitation
Drinking water
Standard of living
Electricity
Housing
Assets
Fig. 1.4: Structure of Multidimensional Poverty

The value of MPI lies between 0 and 1. An MPI value near 1 implies a higher
multidimensional poverty. On the contrary, if it is near zero, it implies a lesser
multidimensional poverty. The global Multidimensional Poverty Index (MPI) 2021 covers 109
developing countries, which include 3 high-income countries, 80 middle-income countries
and 26 low-income countries. Out of 5.9 billion people of these 109 countries, 1.3 billion
people i.e., 21.7 per cent live in acute multidimensional poverty. About half of these
1.3 billion poor people are children under 18 years of age and nearly 85 per cent of these
1.3 billion live in South Asia (532 million) or Africa (556 million). One more finding is roughly
1.1 billion live in rural areas and about 209 million live in urban areas.
[B] Human Poverty Index (HPI) of India:
India's rank in the global MPI 2021 is 66th out of 109 countries. According to the report,
five out of six multidimensionally poor individuals from India are from scheduled castes or
scheduled tribes. About 10 per cent of the scheduled tribe group and 33 per cent of
scheduled caste group live in multidimensional poverty.
Moreover, 27 per cent of the other backward classes (OBC) in India also fall under the
MPI group. In terms of maximum number of multidimensionally poor population, Bihar
comes first. Jharkhand and Uttar Pradesh are in second and third position respectively. Kerala
has the lowest share of the multidimensionally poor population (only 0.7 per cent) in the list
followed by Puducherry, Lakshadweep, Goa and Sikkim respectively. In between 2005 - 06
and 2015 - 16, India had lifted as many as 270 million populations out of multidimensional
poverty.
The study has mentioned that Covid-19 pandemic has a profound impact on increasing
poverty level in the country. It may set back the country's poverty levels to 3 to 10 years high.
1.4.4 Global Hunger Index (GHI)

[A] Meaning and Composition of GHI:
The Global Hunger Index (GHI) measures and tracks hunger globally as well as by country
and by region. The index is prepared by European Non Governmental Organizations (NGO)
of Concern Worldwide [Ireland's largest aid and humanitarian agency] and
Welthungerhilfe [a German aid and humanitarian agency]. GHI values and ranking of the
countries are calculated and published annually in the month of October.
In order to measure the progress towards Sustainable Development Goal - Zero Hunger
by 2030 at global, national, and regional levels, the GHI tracks its key indicators -
undernourishment, child wasting, child stunting and child mortality.
The year 2021 has gone as a distressing one due to the Covid-19 pandemic and the
climate crisis. This has led to a critical hunger situation globally. To achieve the goal of 'Zero
Hunger by 2030' is affected extremely by these changes and progress towards achieving it
which was already too slow, has stagnated or even, in some countries, seen reversals. It is
projected that the world as whole and 47 countries in particular will not be able to achieve
even low hunger by 2030.
The scale of GHI ranges from 0 (means no hunger) to 100 (worst situation) and the score
achieved by each country is classified by severity, from low to extremely worst. Thus, higher
the score of GHI, higher is the hunger level. The following table 1.3 shows the severity of
hunger associated with the range of possible GHI scores:
Table 1.3: Global Hunger Index Scores
GHI Value Severity Level
Low 0 - 9.9
Moderate 10.0 - 19.9
Serious 20.0 - 34.9
Alarming 35.0 - 49.9
Extremely Alarming ≥50.0
Data from 135 countries were assessed for the 2021 GHI report. Out of these, for 19
countries individual scores could not be determined due to lack of data. Sufficient data were
available for the remaining 116 countries in comparison to 107 countries in the year 2020.
According to the 2021 GHI ranking, Somalia has the highest level of hunger with GHI score of
50.8, which is considered as extremely alarming. Central African Republic, Chad, Democratic
Republic of the Congo, Madagascar and Yemen are preceding to Somalia in terms of hunger
having alarming levels of GHI scores. Preceding to these five countries, 31 countries have
serious levels of hunger. Even though GHI scores have been slowing down since 2000,
indicating a lower level of global hunger, the progress rate is slowing.
[B] Global Hunger Index (GHI) of India:
India's rank in Global Hunger Index, 2021 is 101 out of 116 countries. The GHI score of
the country is at a high level and it is among the 31 countries where hunger level is serious.
In GHI 2020 report, India's rank was 94 among 107 countries. The government has
considered carrying out a food consumption survey across the country in order to find out
the exact situation and to improve the country's ranking on the index. A high-level meeting
was held under the NITI Aayog vice chairman Rajiv Kumar immediately after launching of the
index in order to identify the problem areas and to work on them so that ranking can be
improved in the coming year.
The report stated that people in India were severely hit by covid-19 and the pandemic-
related restrictions in the country. Almost all the neighbouring countries of India have fared
better at feeding their citizens. According to the list of the GHI index, only 15 countries fare
worse than India. Some of them are Papua New Guinea (102), Afghanistan (103), Nigeria
(103), Congo (105), Somalia, etc.
POINTS TO REMEMBER
• Human resources mean the people of a country. It may or may not contribute
significantly to the economy of the country. The healthy, skilled and educated
population is known as human capital. Human capital surely contributes significantly
to the economy of the country.
• Human resources need to be trained, developed, hired and provided with
opportunities and then they are converted to human capital, which are human skills,
efficiencies, capabilities and competencies. This part of human resources is very
helpful for economic development of the country.
• Efficiency and productivity of human resources are very much essential for the proper
utilization of natural endowments and the level of production of wealth of the nation.
To achieve higher level of economic development, proper utilization of both human
as well as natural resources is very much essential.
• Human resources can be converted to human capital.
• If the present generation of the population is qualitatively developed by investing
more on their education, skill development and health, the future generation will be
more benefited more from these investments. Thus, there is higher cumulative
growth of human capital formation in the succeeding generation as compared to the
preceding generation.
• Economic development in an economy is the process whereby low-income national
economies are transformed into modern, industrial and high-income economies.
Economic growth has a quantitative dimension while economic development has a
qualitative dimension. Thus, economic development is economic growth plus some
progressive changes in some specific important variables such as health, education,
longevity, etc.
• Economic growth works as a catalyst in achieving the path of economic development.
Economic development in real sense reflects the social and economic progress and it
requires economic growth. On the other hand, economic growth is a vital and
necessary condition for development; however, it is not a sufficient prerequisite, as
growth alone cannot guarantee economic development.
• Economic development is achieved by a country by proper utilization of its available
physical resources by its skilled and educated work force. However, a rapidly growing
population without productivity retards the process of development and thus
considered harmful for economic development of the country.
• Lower level investment in human capital leads to under utilization of physical capital
leading to retardation of development of the country.
• Growth of physical capital stock extensively depends on the investment on the
human capital formation.
• Rapid economic development is achieved by the developed economies because of
their increasing allocation of outlays on education leading to significant improvement
in the level of human capital formation.
• Unless the countries invest on education, develop skills, knowledge, and expertise,
and raise the level of physical efficiency of their people, the productivity of physical
capital cannot be enhanced.
• Human resource development opens the path of economic development in various
ways. For example, education helps to control birth rate, infant mortality rate, death
rate, etc. and similarly, it improves life expectancy, literacy rate, etc. which are vital in
economic development.
• Role played by human resources on economic development of a country:
(i) Skilled Human Resources compensate for the Deficiency of Natural Resources
(ii) Increase in productivity
(iii) Development of Skills
(iv) Increase in Volume of Output
(v) Raises Per capita Income
(vi) Better Utilization of Natural Resources
(vii) Improvement in Technology
• The Human Development Index (HDI) is a statistic developed Pakistani economist
Mahbub ul Haq and anchored in Indian economist Amartya Sen's work on human
capabilities. The United Nations Development Programme (UNDP) used it in order to
measure countries' levels of economic and social development.
• The HDI index tracks the level of development achieved by the countries over time
and it is considered as a summary measure of average achievement in the following
dimensions of human development: Per Capita Income, Education and Health.
• The HDI is calculated by taking the geometric mean of normalized indices for each
of the three dimensions.
• 'Longevity' is measured by the indicator life expectancy at birth, 'Knowledge' is
measured by the indicator mean years of schooling for adults aged 25 years and
more and the number of years children are enrolled at school and the real Gross
National Income (GNI) per capita calculates the 'Standard of Living' dimension
• The HDI index is measured on a scale from zero (0) [means no development] to one
(1)[means complete development]. An index of 0 – 0.490 means low development,
0.5 – 0.690 means medium development, 0.7 to 0.790 means high development and
above 0.8 means very high development.
• The Human Development Report (HDR) is an annual HDI index published by the
United Nations Development Programme (UNDP).
• A new index planetary pressures-adjusted Human Development Index is introduced
recently in measuring HDI which adjusts the standard HDI by a country's per capita
carbon dioxide emissions and material footprint.
• According to the report published by the United Nations Development Programme

(UNDP), India's HDI rank is 131 with HDI value of 0.645 among 189 countries in the
year 2020.
• Norway topped the position with 0.957 HDI value.
• There has been an increase of 50.3 per cent of India's HDI value in between 1990 and
2019.
• The HDI value of the country is increased from 0.429 in 1990 to 0.645 in 2019.
• For the same period, India’s mean years of schooling has been increased by 3.5 years,
expected years of schooling has been increased by 4.5 years and life expectancy has
been increased by almost 12 years. India’s Gross National Income per capita has been
increased by about 274 per cent between 1990 and 2019.
• Causes of Low Human Development in India:
(i) Increasing Income Inequalities
(ii) Healthcare and Education facilities
(iii) Gender Inequality
(iv) Unemployment Rate
• The snowballing impact of these factors spreads out across generations. If the
government rolls out inclusive policies that help in strengthening public health,
education and reduce gender discrimination, India’s HDI scores can be substantially
enhanced.
• Even though HDI is considered as a better measure of development worldwide,
however, it does not include the inequalities in opportunities between males and
females.
• In order to measure the extent of severity of this inequality, in 1995, the United
Nations Development Program (UNDP) took a new initiative in order to construct an
index known as 'Gender-related Development Index' (GDI).
• GDI measures achievements in the same three dimensions of human development
i.e., health, knowledge and standard of living like the HDI in respect of men and
women separately.
• GDI is the ratio of the HDI for females and males using the same methodology as in
the HDI and is shown as the female HDI as a percentage of the male HDI.
• GDI is the ratio of the HDI for females and males using the same methodology as in
the HDI and is shown as the female HDI as a percentage of the male HDI.
• GDI being calculated as a ratio, if it is closer to 1 (one), it will indicate a more
balanced situation between males and females.
• If the GDI value is perfectly 1, it shows that there is no divergence at all in the HDI
values of both males and females.
• If the GDI value is closer to 0 (zero), it indicates that there is more disparity in the HDI
values of males and females.
• As per the Human Development Report (HDR) 2020, the GDI value of India is 0.820,
with the GDI value for males standing at 0.699 and that for females at 0.573,
displaying a wide contrast.
• The UNDP introduced gender Inequality Index (GII), which is used for measuring
gender disparity, in the Human Development Report in 2010. The GII is a composite
measure in order to quantify the disadvantages due to gender inequality and it is an
inequality index. It measures gender inequalities in terms of three important aspects
of human development:
(a) Reproductive health, which is measured by maternal mortality ratio and
adolescent fertility rate;
(b) Empowerment which is measured by the proportion of parliamentary seats
occupied by females and proportion of adult females and males aged 25 years
and older [with at least some secondary education]; and
(c) Economic status, which is expressed as labour market participation and is
measured by labour force participation rate of female and male populations aged
15 years and older.
• The value of GII lies between 0 (means males and females are fare equally) and 1
(means more disparity between males and females in all dimensions). Thus, there will
be more disparities between females and males and the more loss to human
development if there is high value of GII for a country. A small value of GII indicates
lower inequalities between females and males and causes lesser loss to human
development.
• The GII value of India was 0.488 in Human Development Report 2020, published by
the UNDP. Out of 162 nations, India was at the 123rd position in terms of GII.
• In 2010, the UNDP and the Oxford Poverty and Human Development Initiative (OPHI)
launched Multidimensional Poverty Index (MPI) replacing Human Poverty Index (HPI).
It states that poverty is not one-dimensional, rather it is multidimensional.
• MPI as a measure looks beyond income in order to include access to years of
schooling, safe drinking water, electricity, food, child mortality, cooking fuel,
sanitation, housing, school attendance and assets.
• The value of MPI lies between 0 and 1. An MPI value near 1 implies a higher
multidimensional poverty. On the contrary, if it is near zero, it implies a lesser
multidimensional poverty.
• India's rank in the global MPI 2021 is 66th out of 109 countries. According to the
report, five out of six multidimensionally poor individuals from India are from
scheduled castes or scheduled tribes.
• In between 2005 - 06 and 2015 - 16, India had lifted as many as 270 million
populations out of multidimensional poverty.
• The Global Hunger Index (GHI) measures and tracks hunger globally as well as by
country and by region. The index is prepared by European Non Governmental
Organization (NGO)s of Concern Worldwide [Ireland's largest aid and humanitarian
agency] and Welthungerhilfe German aid and humanitarian agency]. GHI values and
ranking of the countries are calculated and published annually in the month of
October.
• The year 2021 has gone as a distressing one due to the Covid-19 pandemic and the
climate crisis. This has led to a critical hunger situation globally. To achieve the goal
of 'Zero Hunger by 2030' is affected extremely by these changes and progress
towards achieving it which was already too slow, has stagnated or even, in some
countries, seen reversals. It is projected that the world as whole and 47 countries in
particular will not be able to achieve even low hunger by 2030.
• The scale of GHI ranges from 0 (means no hunger) to 100 (worst situation) and the
score achieved by each country is classified by severity, from low to extremely worst.
• Higher the score of GHI, higher is the hunger levels.
• According to the 2021 GHI ranking, Somalia has the highest level of hunger with GHI
score of 50.8, which is considered as extremely alarming.
• India's rank in Global Hunger Index, 2021 is 101 out of 116 countries.
• A high-level meeting was held under the NITI Aayog vice chairman Rajiv Kumar
immediately after launching of the index in order to identify the problem areas and
to work on them so that ranking can be improved in the coming year.
QUESTIONS FOR DISCUSSION
1. What do you mean by Human Resource? Differentiate between Human Resource and
Human Capital.
2. Explain the role of Human Resources in economic development.
3. Differentiate between Economic Development and Economic Growth.
4. Explain the meaning and composition of Human Development Index,
5. What are the dimensions of Human Development Index?
6. Discuss Human Development Index in the context of India.
7. Explain the causes of Low Human Development in India.
8. Illustrate the concepts of different indexes in Quality of Life and Status of India.
9. What is Gender Development Index? Explain the composition of Gender
Development Index.
10. Discuss Gender Development Index in the context of India.
11. Discuss Human Poverty Index in the context of India.
12. Write short Notes:
(a) Gender Inequality Index (GII)
(b) Global Hunger Index
(c) Human Poverty Index (HPI)
MULTIPLE CHOICE QUESTIONS
1. Which of the following is not a merit of human capital formation?

(a) Improves technical knowledge (b) Enlarges the size of business
(c) Increases cost of production (d) Changes social outlooks
2. Which of the following is not an indicator of education level?
(a) Years of schooling (b) Life expectancy
(c) Teacher-pupil ratio (d) Enrollment rate
3. Education and health are the indicators of social development.
(a) True (b) False
(c) Cannot say (d) Partially true
4. Who was the originator of the Human Development Report?

(a) Amartya Sen (b) Jan Tinberger
(c) Mahboob-ul-Haq (d) Dr. Manmohan Singh
5. Which of the following is not one of the factors related to HDI Human Development
Index?
(a) Longevity (b) Literacy
(c) Descent standard of living (d) Increase in Govt. Jobs.
6. The concept of PQLI was developed by ______.
(a) Morris D Morris
(b) UNO
(c) UNDP
(d) Oxford Poverty and Human Development Initiative
7. The component/s of HDI is/are ______.
(a) Life expectancy index (b) Infant mortality rate
(c) Population growth rate (d) All the above
8. The Multidimensional Poverty Index has been developed by
(a) The UNDP (b) Oxford HDI
(c) The UNO (d) Morris D Morris
9. Which of following is not a component of MPI?
(a) Health (b) Education
(c) Occupation (d) Standard of living
10. Which international organization compiles the Human Development Index?
(a) The World Bank (b) The International Monetary Fund
(c) The United Nations (d) Oxford
11. Who secured the top rank in The Human Development Report 2020?
(a) Sweden (b) Norway
(c) Switzerland (d) Austria
12. Who secured the lowest rank in The Human Development Report 2020?
(a) Afghanistan (b) Congo
(c) Niger (d) Kenya
13. What is the rank of India in the Human Development Index 2018?
(a) 142 (b) 136
(c) 140 (d) 131
14. Which of the following index is not released by the UNDP?
(a) Human Development Index (b) Multidimensional Poverty Index
(c) Gender Inequality Index (d) Environmental Quality Index
Answers
1. (c) 2. (b) 3. (a) 4. (c) 5. (d) 6. (a) 7. (a) 8. (b) 9. (c) 10. (c)
11. (b) 12. (c) 13. (d) 14. (d)
Unit 2…
Foreign Capital and
Economic Development
Contents …
2.1 Role of Foreign Capital in Economic Development
2.2 Types of Foreign Capital
2.3 Foreign Investment in India since 2001
2.4 Limitations of Foreign Capital
• To discuss the meaning of foreign capital.
• To understand the concept of foreign direct investment.
• To describe about foreign institutional investment.
• To differentiate between foreign direct investment and foreign institutional investment.
• To study about the role of foreign capital in economic development.
• To discuss the importance of rising foreign capital demand.
• To elaborate the trend of foreign investments in India.
• To describe the limitations of foreign capital.
INTRODUCTION
Foreign capital is a comprehensive term which includes any inflow of capital to the home
country from foreign countries. It may inflow to the home country from individual investors,
institutions, or foreign governments. Foreign capital may inflow to the ally country with
technological collaboration as well.
Generally, countries gain access to foreign capital through foreign investment. In most of
the developing countries, available domestic capital is inadequate in order to meet the
required rate of economic growth. With the help of foreign investment, the gap between
total required capital and available domestic capital can be filled up easily. Thus, it is typically
seen as a way of filling in gaps between the planned investment necessary to achieve
developmental targets and the domestically available capital. Everywhere in the world,
irrespective of the level of development of the countries, governments are striving with each
2.1
Indian and Global Economic Development 2.2 Foreign Capital and Economic Development
other in order to attract foreign capital. Since mid-1980, the belief that foreign capital plays a
constructive role in a country’s economic development has become stronger. Foreign capital
works as a catalyst for economic growth of a country in the future.
With increasing trend of globalization, more and more companies have set-up their
branches in various countries around the world. Multinational corporations open new
manufacturing and production plants in different countries as they are lucrative because of
the opportunities for cheaper labour and production cost. Moreover, these multinational
corporations often look forward to do businesses with those countries where they will have
to pay the least amount of taxes. This is equally beneficial for the host country also as they
can get their required capital through these investments.
Foreign capital may inflow to the home country through:
1. Foreign Aid: Generally speaking, foreign aid depends on the generosity of
developed nations in giving grants to poor and underdeveloped nations. The
availability of foreign aid depends on political international relations and an excessive
reliance on foreign aid endangers a country’s sovereignty. However, foreign aid
works as a means of relief at the time of hardship of a country.
2. Private Foreign Investment: Private foreign investment leads to an inflow of capital
to the home country. This kind of investment brings technical know-how and
entrepreneurial talents. However, the availability of foreign capital from private
investment depends on the policies framed by the government of the country.
Foreign private capital is of two types, one is direct business investment known as
foreign direct investment and another is portfolio investment or foreign institutional
investment. Foreign direct investment is investment in productive assets like
machinery and plants for their businesses in the host country. In this type of
investment, foreign investors are directly investing in the productive assets of another
nation. Multinational corporations are set by foreign direct investment, as its
operations are generally present in more than one country. This type of investment
could be market-seeking and trying to utilize opportunities in the domestic market of
the host country. On the other hand, foreign institutional investment is investment in
financial assets like the bonds and stocks of another country. Foreign institutional
investors put their money into the financial market instruments and these types of
investments are highly liquid.
3. Foreign Investment: When two or more countries take up a joint economic venture
that is known as the public foreign investment. Capital inflow from multilateral
organizations such as the World Bank, International Monetary Fund (IMF), Asian
Development Bank (ADB) or bilateral organizations such as the United States Agency
for International Development (USAID), the Department for International
Development (DFID) of UK, etc. is known as foreign public capital. These public
foreign investments have the same effect as private foreign investment in terms of
increasing the amount of capital available for investment in the host country.
Foreign capital helps in the acceleration of growth process of the country. However, too
much dependence on foreign capital may keep the country away from its self-reliance. Thus,
foreign capital should be resorted in the beginning of the economic growth process. When
the development process reaches the take-off stage, the country should rely on foreign trade
rather than foreign aid. Foreign aid is always political while trade is economic. Hence, true
development ultimately depends on trade, not on aid.
2.1 ROLE OF FOREIGN CAPITAL IN ECONOMIC DEVELOPMENT
The rate of capital formation in poor countries is low as they are capital deficient
countries. Rate of savings is also low in these countries. In order to meet developmental
requirement, initially these countries have to rely on foreign capital to some extent. Thus, in
the early stages of industrialization of a country, foreign capital plays a crucial role. Let us
discuss the role of foreign capital in the economic development of a country.
1. Increase in Resources and Job Opportunities: Foreign capital provides an addition
to the domestic resources and increases the productive assets of the country. Foreign
investment brings foreign exchange to the country. Creation of job opportunities is
the most obvious advantage of the inflow of foreign capital. Increase in foreign
capital leads to increase in income and employment in the recipient country. Because
of this reason, developing countries always try to attract more and more foreign
investment. Both manufacturing and service sectors are boosted by increased foreign
investment in the country by creating jobs in one hand and reducing the
unemployment rate on the other hand. Increased employment opportunities helps to
increase demand for goods and services and this will ultimately boosts spending in
the economy. Higher demand for goods and services eventually increases the growth
rate in the economy.
2. Risk Taking: Foreign capital undertakes the initial risk of developing new lines of
production. Generally, it has with it experience, initiative, resources to explore new
lines of production and thus to take up the risky businesses. If a concern fails, losses
are borne by the foreign investor.
3. Development of Backward Areas: Foreign investment helps to develop the
backward areas in the developing and underdeveloped countries. With the help of
increased foreign capital, backward areas can be transformed into industrial centers.
Along with the development of the big industries, ancillary industries to support the
main industry will grow and eventually, the economic and social life of the backward
area will develop. For example, the Hyundai unit at Tamil Nadu's Sriperumbudur
exemplifies this process of development.
4. Provision of Technical Know-how along with Finance: Foreign investment brings
the assets which are either missing or scarce in developing countries. These assets
include technology, managerial and marketing skills without which development
cannot take place.
Foreign investors bring the latest financial tools, technical and operational
practices and managerial know-how from across the world. Modern technology in
the recipient country helps to organize its resources in most efficient ways by
minimizing the cost of production on the one hand and optimizes the available
resources on the other hand. This results in enhanced efficiency and effectiveness of
the industry. Moreover, the local people who get employment are also provided
training facilities.
5. Increases Export and Reduces Trade Deficit: Foreign capital in the manufacturing
sector of the host country helps to increase the volume of production resulting
increase in exports. Since foreign investment comes along with latest technical know-
how, the exports are increased by raising the quality and quantity of products and by
lower prices. There will be increased demand for high quality and low priced exports
of the host country in the international market. As a result, the country will be able to
reduce its trade deficit.
6. Exchange Rate Stability: The inflow of foreign capital brings foreign exchange into
the host country which helps the country’s Central Bank to maintain a required
comfortable reserve of foreign exchange. As a result of this, stable exchange rate is
maintained in the country's foreign exchange market.
7. Increases Competition: Foreign investment may be helpful to break domestic
monopoly of few businesses and to increase the competition level. Increased
competition level helps to increase the quality and standard of the products on one
hand and reduces the price level on the other hand. Increasing trend of foreign
capital is considered as a good indicator of world's perception of a country's
potential.
8. Marketing Facilities: Foreign investment provides marketing facilities to the host
country. It helps imports and exports among the various units located in different
countries financed by the same firm. A healthy and efficient competitive environment
drives firms to continuously enhance their production processes and product
offerings. This fosters innovation. Consumers also get access to a wider range of
products at a comparatively lower price at the domestic market.
9. Stimulation of Economic Development: Stimulation of economic development is
another very important advantage of foreign investment. It is a significant source of
external capital and higher revenues for an economy. When new industries are set
up, local factors of production get employment, labourers get training, local market
expands, quality of products increases and price decreases due to higher competition
level, etc. These are helpful for the host economy and all these factors help in the
further development of the economy.
Generally, foreign capital performs the three gaps filling activities such as Trade gap,
Savings gap and Technological gap in the recipient country's economy which encourages
development of managerial expertise, technology, and integration of the domestic economy
with other economies of the world, export of goods and services and eventually, there is
higher growth in the host country's economy.
2.2 TYPES OF FOREIGN CAPITAL
For a developing country like India, it is difficult to raise the required capital from internal
sources alone. In such countries, foreign capital becomes an important part in filling the
capital supply gap. Foreign capital is mainly divided into two main categories - Foreign Direct
Investment (FDI) and Foreign Institutional Investment (FII). Foreign Institutional Investment
(FII) is also known as Foreign Portfolio Investment (FPI).
[A] Foreign Direct Investment (FDI):
Foreign direct investment (FDI) is the direct investment by foreign investors in productive
assets such as machinery and plants for their businesses in the host country. In simple words,
in this type of investment, foreign investors are directly investing in the productive assets of
another nation. Multinational corporations (MNCs) are set by foreign direct investment, as its
operations are generally present in more than one country. For example, a foreign company
that is based in the U.S.A. invests in Japan either by setting a wholly owned subsidiary or
getting into a joint venture with other company based in the host country and then conducts
its business in Japan. This type of investment could be market-seeking and trying to utilize
opportunities in the domestic market of the host country.
Types of Foreign Direct Investments:
Foreign direct investments are further categorized into four sub-groups such as
Horizontal FDI, Vertical FDI, Conglomerate FDI and Platform FDI. Let us discuss them one by
one:
1. Horizontal FDI: Horizontal foreign direct investment is the most common type of
foreign direct investment. In this type of investment, funds are invested in a foreign
company belonging to the same industry as that owned and/or operated by the
foreign investor. This simply means that a company invests in another company
located in a different country and both the companies are producing similar goods.
Example: Let us understand the concept of horizontal FDI with the help of the
following example: Let us assume that the Spain-based company 'Zara' has invested
in the Indian company 'Fab India' which also produces similar products as Zara does.
Since both the companies 'Zara' and 'Fab India' belong to the same industry of
apparel and merchandise, this type of foreign direct investment is classified as
horizontal FDI.
Thus, horizontal FDI takes place where funds are invested abroad in the same
industry. In simple words, an investor invests in a foreign firm that produces similar
goods.
Example: Let us take another simple and a very common example: Puma, a Germany
based firm may purchase Nike, a US based firm. They are both in the same industry
of sportswear and thus both of them would be classified as a form of horizontal FDI.
2. Vertical FDI: Another important type of foreign direct investment is vertical FDI. A
vertical FDI occurs when an investment is made within a typical supply chain in a
company, but not directly in the same industry. When vertical FDI happens, a
business / an investor invest in an overseas firm which may sell or supply products.
Vertical FDI is again categorized as forward vertical integrations and backward
vertical integrations.
Example: For instance, the U.S. chocolate manufacturer Hershey may invest in cocoa
producers in Brazil. This is known as backward vertical integration as the firm
investing in foreign land is purchasing a supplier or potential supplier in the supply

chain. On the contrary, forward vertical integration occurs when a company invests in
another foreign company which is ranked higher in the supply chain.
Example: If a tea company in India wishes to invest in a French grocery brand.
3. Conglomerate FDI: In conglomerate foreign direct investment, a company or a firm
invests in a foreign business that is not related to its core business. In simple words, a
company undertakes unrelated business activities in the foreign country. In this case,
the firm often takes the form of joint venture as the investing company has no prior
experience in the foreign company's area of expertise. This type of investment is not
very common as it involves the difficulty of penetrating a new market in the new
country.
Thus, conglomerate investments are made in two completely different companies of
entirely different industries.
Example: If the US retailer, Wal-Mart invests in the Indian automobile manufacturer
TATA Motors, it is known as conglomerate investment.
4. Platform FDI: In case of Platform foreign direct investment, a business of a country
expands into another country, but the products manufactured in the foreign country
are exported to a third country. This type of foreign direct investment is also known
as export-platform FDI and this usually happens in low-cost countries inside the free-
trade areas.
Example: If India's automobile manufacturer TATA motors purchases manufacturing
plants in South Korea with the purpose of exporting its cars to other countries let's
say to Bangladesh, then this is known as platform FDI. Another example of platform
FDI is, if French luxury fashion house 'Chanel' sets up a manufacturing plant in India
and export its products to other countries, this is also known as platform FDI.
Some more types of Foreign Direct Investment
Besides these four types, there are two more types of foreign direct investment. They are:
1. Greenfield Investment: A Greenfield Investment is an investment when a company
invests in a foreign country in order to set-up a whole new unit from scratch. In such
case, the infrastructure, acquiring support services, skilled human resources, vendors,
suppliers, etc. everything that is required to run the business is built from the ground
up.
2. Brownfield Investment: Brownfield Investment is opposite to the Greenfield
Investment. A Brownfield Investment is an investment when a company purchases or
leases existing production and business facilities in the foreign country in order to
launch a new production activity. The advantage of Brownfield Investment over
Greenfield Investment is that the buildings, infrastructures, etc. are already
constructed. These help to reduce the costs and time for the business to start.
Advantages of Foreign Direct Investment:
Following are advantages of foreign direct investment:
1. Economic Growth and Increase in Employment: In order to create job
opportunities, developing and emerging nations try to attract foreign direct
investments. Both manufacturing and service sectors get boost from foreign direct
investments. Increased employment opportunities in the host country help the
economy to grow eventually.
2. Technology Development: FDI enters into a country along with modern technology,
operational practices and latest financial tools. It enhances the efficiency and
effectiveness of the industries where foreign investments take place.
3. Enhancement of Export Volume: Most of the goods manufactured by foreign
investments have global markets. Increase in the volume of FDI increases production
capacity and thus there is expansion of total exports of the host country.
4. Improved Capital Flow: Countries with limited domestic resources get great help
from FDI as foreign investment can fill the gap between the required investment and
available domestic investment and the country can achieve higher growth rate.
5. Development of Human Capital Resources: Development of human capital
resources is another advantage that is brought about by FDI. However, it is not
immediately apparent. Human capital is known as the skills, efficiency, competence
and knowledge of the workforce. Training and education help to improve these
attributes and eventually there will be overall human capital of the country as a result
of the inflow of FDI.
Disadvantages of Foreign Direct Investment:
Though foreign direct investment is beneficial for the host country, yet there are some
disadvantages of FDI if a developing country becomes too much dependent on foreign
investors. Following are some of the disadvantages of FDI:
1. Displacement of Local Investors and Businesses: There is possibility that the entry
of large firms with heavy amount of investments may displace or disturb the local
businesses and small investors. Small retail businesses cannot compete with the
lower prices and higher quality of the large and established foreign firms.
2. Profit Repatriation: The foreign investors usually repatriate their profit accrued in
the host country rather than reinvesting them there.
3. Uncertain Government Policy: If there is any change in government policies in the
host country or in the foreign country which turns unfavourable for the foreign
investors, it may have an adverse effect on FDIs.
[B] Foreign Institutional Investment (FII) or Foreign Portfolio Investment (FPI):
Foreign institutional investment is an investment in the financial market of a foreign
country. It is investment in financial assets like the bonds, debentures, stocks, etc. of another
country. Foreign institutional investors put their money into these financial market
instruments and these types of investments are highly liquid. Foreign institutional investors
mostly involve investment banks, pension funds, insurance bonds, mutual fund, hedge fund,
high-value debentures, etc. They play a significant role in the development of an emerging
economy. For most of the developing countries, FIIs are important sources of capital.
However, many developing countries, like India, have set limits on the total value of assets a
foreign institutional investor can purchase and also on the number of equity shares it can
purchase, particularly in a single company. The primary reason of setting limit to FIIs is to
reduce the influence of FIIs on individual companies and the financial markets of the nation.
Too much dependence on investment by foreign investors may cause damage to the host
country if there is sudden withdrawal of FII by smelling a possible crisis in the near future.
With FII's buying of shares and securities in the financial market of the host country, there
is bull-run in the market and it trends upward. However, the opposite situation will occur if
FIIs withdraw their funds from the market. Thus, FIIs have considerable sway over the market.
These investments are sometimes called as 'hot money' as they can be withdrawn at any
time, increasing volatility in the financial market of the host country.
Advantages of Foreign Institutional Investment (FII):
1. FII enhances flows of equity capital into the domestic economy.
2. It enhances competition in financial markets and helps in improving efficiency of
financial market of the host country.
3. Inflow of FIIs helps in financial innovation and development of hedging instruments.
4. Investors generally prefer equity over debt. Thus, FIIs improve capital structures of
the companies they are investing in.
5. Equity market development aids in economic development.
6. FIIs generally constitute professional bodies of financial analysts and asset managers.
By contributing to better understanding of firms’ operations, they improve corporate
governance.
Disadvantages of Foreign Institutional Investment (FII):
1. Problem of Inflation: With increase in FII, demand for local currency increases which
ultimately leads to increase in inflationary situation in the host country.
2. FII may be Withdrawn at Any Time: When FII investors withdraw their investments,
the financial market may have to face a shortage of funds.
3. Problem for Small Investors: FIIs have considerable sway over the financial market
of the host country. FIIs buying and selling have heavy impacts on the stock markets'
up or down. This generally creates big problems for small investors as their fortunes
are get driven by the actions of the large FIIs.
4. Problem of Hot Money: Funds that are controlled by investors who seek short-term
returns refer to hot money. The financial market of the host country is highly affected
by the movement of the hot money. When these funds are injected into the market,
the exchange rate for the host country strengthens and when these funds are
withdrawn, the exchange rate weakens.
5. Adverse Impact on Exports: Inflow of FII funds leads to the appreciation of
domestic currency. The appreciation of domestic currency has a negative impact on
its exports as exports become uncompetitive due to the appreciation of the local
currency.
Difference between FDI and FII:

Though both FDIs and FIIs bring inflow of capital into the host country, there are various
differences between them. Let us discuss them below:
Foreign Direct Investment Foreign Institutional
Basis for Comparison
(FDI) Investment (FII)
1. Meaning FDI is the direct investment by FII is an investment in the
foreign investors in productive financial market of a foreign
assets such as machinery and country.
plants for their businesses in a
foreign country.
2. Entering vs. Both entry and exit of FDIs are It is quite easy to enter and
Exiting of difficult. exit an FII.
Investment
3. Ideal Investment FDIs are suitable for long-term FIIs are suitable for both long
Term investment objectives. and short-term investment
objectives.
4. Type of FDIs involve funds, resources, FIIs typically involve transfer of
Investment technical know-how, funds only.
technology, strategies, etc.
5. Economic Growth Inflow of FDIs increases Inflow of FIIs does not impact
economic growth of the host economic growth of the host
country. country directly.
6. Consequences on FDIs increase employment FIIs increase the volume of
the Host Country opportunities in the host capital of the host country.
country along with its Gross
Domestic Product (GDP).
7. Investment Target FDIs investment target is in No such target, investment
specific company. They try to flows into the financial market
get management control of only.
the company.
From above discussion it is ascertained that out of FII and FDI, FDI is far better than FII.
FDI by nature is a type of long-term investment in the economy. They cannot easily withdraw
their investments in the short-term unlike FII. Since FDI enters into an economy with
technology, infrastructure, etc., shutting of business from the host country will cause a great
loss for the foreign investor. Moreover, FDI provides employment opportunities in the host
country. On the other hand, FII investors can exit a nation easily whenever they wish to do
that. The problem of Hot Money is involved with FII investments.
2.3 FOREIGN INVESTMENT IN INDIA SINCE 2001
Investment that is made in India from outside the country is known as foreign
investment. Thus, investments that come to India from foreign nationals, foreign companies,
as well as Non-Resident Indians (NRIs) would fall into the category of foreign investment.
India being a developing country requires large volume of capital which cannot be met with
the internal sources alone. Hence foreign investments are considered as important part in the
total supply of capital for the country. Funds that come from foreign countries could be
invested in properties, management, ownership, shares, bonds, etc. Two important sources of
such capital are Foreign Direct Investment (FDI) and Foreign Institutional Investment (FII) or
Foreign Portfolio Investment (FPI).
Arvind Mayaram Committee in 2014 recommended the following on rationalizing
Foreign Direct Investment and Foreign Portfolio Investment definition:
1. Any foreign investment of having ownership of 10 per cent or more of the ordinary
shares or voting power in a listed company will be considered as foreign direct
investment (FDI).
2. An investor can hold the investments in a particular company either under the FDI
route or under the FPI route, but not both.
3. Any amount of investment by way of equity shares, compulsorily convertible
preference debentures / shares less than 10 per cent of the post-issue paid up equity
capital of a company or less than 10 per cent of the post-issue paid up value of each
series of convertible debentures of a listed / listed Indian investee company by
eligible foreign investors will be considered as Foreign Institutional Investment (FII) or
Foreign Portfolio Investment (FPI).
Foreign investments have been a major non-debt financial capital source for the
development of country. Foreign companies are attracted to invest in India due to the
availability of cheap labour and special investment privileges such as tax exemptions. The
Government of India has been offering favourable policy regime to attract more and more of
FDIs into the country. Moreover, the government is trying to build a robust business
environment in the country in order to have higher inflow of foreign investments into the
country.
FDI in the context of India is investment in the country by foreign companies either by
getting into a joint venture with some company based in India or setting-up a wholly owned
subsidiary in India and then conducts its business in the country. For example, Deutsche Bank
India Ltd. is initially based in Germany but it has opened its subsidiaries in India. Another
example of FDI in India is Maruti Suzuki, which is the joint venture of Suzuki of Japan and
Maruti Udyog Ltd. of India. BNP Paribas Assurance of France had joint ventured with State
Bank of India. These are few of the many examples of FDI in India.
In India, foreign direct investment policy is regulated under the Foreign Exchange
Management Act (FEMA) 2000 and it is administered by the Reserve Bank of India (RBI).
In recent years, the Government of India has taken various investor friendly initiatives such as
relaxing FDI norms across sectors such as defence, telecom, power exchanges, oil refineries,
stock exchanges, etc. in order to attract more and more of FDIs.
Routes of FDI
There are two main routes of foreign direct investments: one is Automatic route and the
other is Government route.
1. Automatic Route: FDI is allowed by the automatic route without prior approval by
the Government of India or by the Reserve Bank of India.
2. Government Route: Under government route, prior approval by the government is
needed. The application for the approval of FDI needs to be made through the
Foreign Investment Facilitation Portal. This portal facilitates single window clearance
of the application of FDI under approval route.
After adoption of liberalization policy, India became an attractive preferred investment
destination which can be ascertained from the large increase in FDI inflows to India.
In 2001-02, FDI inflow was around US$ 6 billion which rose to almost US$ 38 billion in
2008-09. This significant rise in FDI inflows into India had reflected the positive impacts of
liberalization of the economy as well as gradual opening up of the capital account. Thus, it
can be said that the climate of investment in Indian economy has considerably improved
since the opening up of the economy [NEP (New Economic Policy), 1991]. FDI inflow of mere
US$ 6 billion in 2001 rose to about US$ 45.15 billion in 2014-15 and since then it has been
consistently increasing.
India has crossed US$ 300 billion FDI milestone between April 2000 and September
2016. During 2015-16, the inflow of FDI in India was US$ 55.56 billion which increased to
US$ 60.22 billion in the next year. In 2017-18, the figure slightly rose to US$ 60.97 billion and
during the financial year 2018-19, the inflow of FDI increased to US$ 62.00 billion. Then in
2019-20 and 2020-21, the inflow of FDI jumped to record high level of US$ 74.39 billion and
US$ 81.97 billion respectively.
The annual growth of FDI inflow is the highest ever in the financial year 2020-21. During
the first four months of F.Y. 2021-22, India has attracted a total FDI inflow of US$ 27.37
billion which is 62 per cent higher as compared to the corresponding period of the previous
financial year which was US$ 16.92 billion. It shows that in recent times, India has been
considered as a preferred investment destination amongst the global investors.
According to the Ministry of Commerce and Industry, in last seven years, i.e. in
between 2014 and 2021, FDI inflow in India stands at US$ 440.27 billion, which is almost 58
per cent of total inflow of FDI in the last twenty one financial years (2000 - 2021). Total FDI
inflow during the last 21 financial years stands at US$ 763.83 billion.
The Commerce Ministry data also reveals that during last seven years, i.e. from 2014 to
2021, the largest share of FDI inflows was attracted by the computer hardware and software
sector (it was 19 per cent). This was followed by the service sector at 15 per cent. FDI inflow
was eight per cent in Trading and the Telecommunications & Construction (Infrastructure)
sector attracted FDI inflow of seven per cent each.
During the same seven years period, the top five countries from where India received FDI
equity inflows are Singapore (28 per cent), Mauritius (22 per cent), the United States of
America (10 per cent), the Netherlands (8 per cent) and Japan (6 per cent).
In September 2021, the Union Cabinet of Government of India has announced to allow
100 per cent foreign direct investment (FDI) via the automatic route in the telecom sector
from earlier 49 per cent in order to boost the sector.
The Government also amended the Foreign Exchange Management (non-debt

instruments) Rules, 2019, in August 2021 in order to allow the 74 per cent increase in foreign
direct investment (FDI) limit in the insurance sector from 49 per cent.
According to a report published by Confederation of Indian Industry (CII) and
Ernst & Young (EY), India is expected to attract foreign direct investments (FDIs) of about
US$ 120-160 billion every year by 2025. As per the Institute for Management Development
(IMD)’s annual World Competitiveness Index 2021, India's rank was 43rd. IMD observed that
the country's developments in government efficiency are largely due to relatively stable
public finances and optimistic sentiments among business stakeholders of the country with
respect to the funding and subsidies offered by the Government of India to the private firms.
It is seen from the above that inflow of FDI has been increasing year after year by setting
up new records since the economy has been opened up.
Foreign Institutional Investment (FII) is also foreign investment which is invested in
only financial assets such as bonds, stocks, etc. of the companies of India. FII is not involved
in the day to day business and management of the company.
Example of FII in India: Investment in the shares of Infosys, Tata Consultancy Service,
Reliance Capital, HDFC, etc. by any foreign investors / companies. Investment made by FIIs in
India is regulated by the Securities and Exchange Board of India (SEBI), while the upper
limit on such investments is maintained by the Reserve Bank of India (RBI). In order to
participate in the financial market of India, FIIs must register themselves with Securities and
Exchange Board of India (SEBI). SEBI has about 1500 foreign institutional investors registered
with it. The FIIs are considered both as a catalyst and a trigger for the financial market
performance of India. Foreign Institutional Investors or Foreign Portfolio Investors (FIIs/FPIs)
have been considered as one of the largest drivers of financial markets of India having
invested US$ 4.27 billion in 2021-22 (as of 22nd September, 2021).
Following are the types of FIIs investing in India:
• Pension Funds
• Trusts
• Hedge Funds
• Asset Management Companies
• Foreign Mutual Funds
• Sovereign Wealth Funds
• Endowments, University Funds, etc.
As per Bloomberg data published in September 2021, in India, the market capitalization
of all companies listed on the Bombay Stock Exchange (BSE) rose to US$ 3.49 trillion in
2021-22, from US$ 2.76 trillion in 2020-21 making it the sixth most-valued market worldwide.
Initiatives taken by Government of India for the Growth of Financial Markets of the
Country:
Government of India has started various initiatives for the growth of financial market of
the country. Some of them are discussed below:
1. The Securities and Exchange Board of India (SEBI), in August 2021, introduced the
idea of 'Accredited Investors' in the Indian securities market in order to explore a new
channel for raising funds. Moreover, SEBI mandated the use of distributed ledger
technology (DLT) or block chain in order to monitor the bonds status or other listed
debt securities.
2. Securities and Exchange Board of India (SEBI) in June 2021 announced the revised
overseas investment limit for Mutual Funds (MFs) from US$ 600 million to US$ 1
billion.
3. The finance bill of the Union Budget 2021 - 22 proposed amendments to allow
foreign institutional investors (FIIs) to participate in debt financing of emerging
investment vehicles such as Real Estate Investment Trusts (REITs) and Infrastructure
Investment Trusts (InvITs). This amendment will enhance the funding for real estate
and infrastructure in the country.
4. The Employees Provident Fund Organization (EPFO) invested US$ 3.79 billion in the
stock market during April 2020 to February 2021.
According to a report published by the UNCTAD (United Nations Conference on Trade
and Development), India's strong base and fundamentals offer anticipation for rise in
investments in the country in the medium term. Growth of FDIs in 2020 indicated recovery in
industrial production and trade and provided a strong basis for growth in FDI in 2021.
By 2024, India is expected to be the fifth- largest global stock market. The growth is
expected to be driven by the pipeline for future public listings. In 2021, start-ups in India
have raised an all time high of ` 1, 18,704 crore through Initial Public Offers (IPOs), which is a
significant growth over the last three years. India’s aggregate stock market value is expected
to go from the current US$ 3.5 trillion to beyond US$ 5 trillion by 2024.
Among the emerging nations of the world, India is being viewed as one of the most
potential opportunity by investors with the economy having the capacity to grow
tremendously. With strong support from the Government of India, FII investments in the
country are expected to grow further.
According to Mr. Nuno Fernandes from GW & K Investment Management LLC in New
York, 'India equities represent one of the fastest growth sectors globally and the country is
looked up at the top of the list with China for investment returns over the next 12-24 months
(2021-22).'
2.4 LIMITATIONS OF FOREIGN CAPITAL
Even though foreign capital is helpful in increasing the resources in the developing
countries, they are actually harmful for the host country in many aspects. Actually the free
and easy flows of foreign capitals are not in the best interests of the developing and
underdeveloped countries. Since most of the developing countries have adopted the planned
development technique, foreign investments generally have no place in such planned
economy.
United Nations senior economist Dr. H. W. Singer, who has strongly condemned the
role of private foreign capital in an economy, has stated, “It did little or nothing to promote
and on occasion, may even have impeded the economic development of the debtor countries”.
He further said that there has been cautious use of these foreign funds. Following are some
of the major disadvantages of private foreign capital:
1. Pattern of Development of the Planned Economy becomes Distorted: Foreign
capital is not suitable for countries that are adopting planned development
programmes. Foreign capitalists are guided and motivated by the maximization of
profit criterion while deciding about the investment projects. They are not at all
interested in the plan priorities of the host country. In simple words, since foreign
investors have their own motives, they are not interested in the priorities of the
economy.
2. Restrictive Conditions on Exports and Production: In many cases of foreign
collaboration agreements, they contain restrictive clauses in respect of production
and exports. For example, foreign collaborators make investments to exploit the
available resources in the country and to capture the domestic market of the host
country as they find it difficult to approach market from outside.
3. Adverse Balance of Payments of the Recipient Country: Profits earned by the
foreign investors are generally repatriated in due course of time. Since these profits
are not reinvested in the host country, the repatriation of them may cause serious
imbalances in the balance of payments of the host country.
4. Foreign Capitals may be Politically Motivated: Private foreign investments may
misuse their power in the political ground of the underdeveloped countries. These
countries are feared from foreign investments not only on economic reasons but also
on political grounds. Too much dependence on foreign investments may lead to loss
of independence of the recipient country. According to Prof. Lewis, “The loss of
independence may be partial or complete; partial if the capitalists confine themselves
to bribing politicians or backing one political group against another or complete if
the debtor country is reduced to colonial status”.
5. Limited Coverage of Business Sectors: Usually private foreign capital restricts itself
to certain limited areas of businesses in the host country as they are primarily
motivated by profit maximization. Foreign investors choose those areas of businesses
where they can make quick and large profits irrespective of the interest of the host
countries' development strategy. Generally, foreign investments pick up consumer
goods industries or those industries where there is short gestation period. For
example, before Independence foreign capital from British was directed to plantation
industries (cotton, tea, etc.).
6. More Dependence: Once private foreign capital starts inflowing into the nation,
dependence on foreign sources for investment goes on increasing gradually. Foreign
investments primarily do not have any interest in the development of required
technology. They just try to exploit the available resources and increase the
production level so that more goods and services can be exported. They give
importance in production of those goods which are convenient and comfortable for
them. They are least bothered to know the interest of the host country. This means
the host country will continue to depend upon the import of foreign technology from
where capital is inflowing into the country. This further aggravates the balance of
payments difficulties.
7. Remittance of Large Amounts: Foreign investments usually come to a nation with
the expectation of higher remittances of profit. Since the profits are not invested in
the host country, there is lesser chance of the growth of the economy of the nation
where foreign capital inflows compared to the economies from where these
investments outflow.
8. There is Possibility of Disappearance of Cottage and Small-scale Industries:
Products of small scale industries and cottage and village industries many a times
disappear from the local market of the host country due to the competition from the
low priced products coming from foreign investments. For example, bamboo and
cane products are replaced by the machine made plastic products.
9. Contribution to the Pollution: Pollution is another major problem that comes along
with foreign capital. Pollution-borne industries such as automobile industries are
generally shifted to the developing countries. By doing this, they can easily escape
pollution. However, most of the countries have now realized the potential loss of
environment related to foreign investments and they are now selective in the type of
foreign investments that they welcome to their nations. Many of the developing
countries are now promoting the "green FDI" which focuses on those types of foreign
investments that can promote growth without causing damage to the environment.
In conclusion, it can be said that private foreign capital is not very safe for developing
countries as foreign investments come with their hidden motives. Moreover, foreign capital
does not fit into the planned development process of many developing countries.
Furthermore, the objectives of achieving higher economic growth and rapid industrialization
are not realized in most cases. They just exploit the domestic market and leave. However, if
foreign investments can be utilized in the proper channel and to fulfill desired objectives,
they are really helpful for the country in order to overcome the problem of capital and
technology deficiency of the developing countries.
POINTS TO REMEMBER
• Foreign capital is any inflow of capital to the home country from foreign countries.
• Foreign capital may inflow to the home country from individual investors, institutions,
or foreign governments. Foreign capital may inflow to the ally country with
technological collaboration as well.
• Countries gain easy access to foreign capital through foreign investment.
• In most of the developing countries available domestic capital in developing
countries is inadequate in order to meet the required rate of economic growth.
• The gap between total required capital and available domestic capital can be filled
easily with the help of foreign investment.
• Foreign capital is typically seen as a way of filling in gaps between the planned
investment necessary to achieve developmental targets and the domestically
available capital.
• Everywhere in the world, irrespective of the level of development of the countries,
governments are striving with each other in order to attract foreign capital.
• Since mid-1980, the belief that foreign capital plays a constructive role in a country’s
economic development has become stronger.
• Foreign capital works as a catalyst for economic growth of the country in the future.
• Multinational corporations open new manufacturing and production plants in
different countries as they are lucrative because of the opportunities for cheaper
labour and production cost.
• Multinational corporations often look forward to do businesses with those countries
where they will have to pay the least amount of taxes. This is equally beneficial for
the host country also as they can get their required capital through these
investments.
• Foreign capital may inflow to the home country through:
1. Foreign Aid: Foreign aid depends on the generosity of developed nations in
giving grants to poor and underdeveloped nations. The availability of foreign aid
depends on political international relations and an excessive reliance on foreign
aid endangers a country’s sovereignty.
2. Private Foreign Investment: Private foreign investment leads to an inflow of
capital to the home country. This kind of investment brings technical know-how
and entrepreneurial talents. However, the availability of foreign capital from
private investment depends on the policies framed by the government of the
country.
3. Public Foreign Investment: When two or more countries take up a joint
economic venture, there may be public foreign investment. Capital inflow from
multilateral organizations such as the World Bank, Asian Development Bank
(ADB) or bilateral organizations such as The United States Agency for
International Development (USAID), The Department for International
Development (DFID) of UK, etc. are known as foreign public capital.
• Foreign capital helps in the acceleration of growth process of the country. Too much
dependence on foreign capital may keep the country away from its self-reliance.
• Foreign capital should be resorted in the beginning of the economic growth process.
When the development process reaches the take-off stage, the country should rely
on foreign trade rather than foreign aid.
• Foreign aid is always political while trade is economic. Hence, true development
ultimately depends on trade, not on aid.
• The rate of capital formation in poor countries is low as they are capital deficient
countries.
• In order to meet developmental requirement, initially these countries have to depend
on foreign capital to some extent.
• In the early stages of industrialization of a country, foreign capital plays a crucial role.
• Role of foreign capital in the economic development of a country:

1. Increase in Resources and Job Opportunities: Foreign capital provides an
addition to the domestic resources and increases the productive assets of the
country. Creation of job opportunities is the most obvious advantage of the
inflow of foreign capital.
2. Risk Taking: Foreign capital undertakes the initial risk of developing new lines of
production. Generally, it has with it experience, initiative, resources to explore
new lines of production and businesses. If a concern fails, losses are borne by the
foreign investor.
3. Development of Backward Areas: Foreign investment helps to develop the
backward areas in the developing and underdeveloped countries. With the help
of increased foreign capital, backward areas can be transformed into industrial
centers.
4. Provision of Technical Know-how along with Finance: Foreign investment
brings the assets which are either missing or scarce in developing countries.
These assets include technology, managerial and marketing skills without which
development cannot take place.
Foreign investors bring the latest financial tools, technical and operational
practices and managerial know-how from across the world.
5. Increases Exports and Reduces Trade Deficit: Foreign capital in the
manufacturing sector of the host country helps to increase the volume of
production resulting increase in exports.
6. Exchange Rate Stability: The inflow of foreign capital brings foreign exchange
into the host country which helps the country’s Central Bank to maintain a
required comfortable reserve of foreign exchange.
7. Increases Competition: Foreign investment may be helpful to break domestic
monopoly and to increase the competition level. Increased competition level
helps to increase the quality and standard of the products on one hand and
reduces the price level on the other hand.
8. Marketing Facilities: Foreign investment provides marketing facilities to the host
country. It helps imports and exports among the various units located in different
countries financed by the same firm.
9. Stimulation of Economic Development: It is a significant source of external
capital and higher revenues for an economy. When new industries are set up,
local factors of production get employment, labourers get training, local market
expands, quality of products increases and price decreases due to higher
competition level, etc.
• Foreign capital performs the three gaps filling activities:
1. Trade gap,
2. Savings gap, and
3. Technological gap.
• Foreign capital is mainly divided into two main categories - Foreign Direct Investment
(FDI) and Foreign Institutional Investment (FII).
• Foreign direct investment (FDI) is the direct investment by foreign investors in
productive assets such as machinery and plants for their businesses in the host
country. In simple words, in this type of investment, foreign investors are directly
investing in the productive assets of another nation.
• Types of FDI:
1. Horizontal FDI
2. Vertical FDI
3. Conglomerate FDI:
4. Platform FDI
5. Greenfield Investment
6. Brownfield Investment
• In horizontal FDI, funds are invested in a foreign company belonging to the same
industry as that owned and/or operated by the foreign investor.
• A vertical FDI occurs when an investment is made within a typical supply chain in a
company, but not directly in the same industry. When vertical FDI happens, a
business/an investor invest in an overseas firm which may sell or supply products.
• In conglomerate foreign direct investment, a company or a firm invests in a
foreign business that is not related to its core business.
• In case of Platform foreign direct investment, a business of a country expands into
another country, but the products manufactured in the foreign country are exported
to a third country.
• A Greenfield Investment is an investment when a company invests in a foreign
country in order to set up a whole new unit from scratch.
• A Brownfield Investment is an investment when a company purchases or leases
existing production and business facilities in the foreign country in order to launch a
new production activity.
• Advantages of Foreign Direct Investment:
1. Economic Growth and increase in Employment
2. Technology development
3. Enhancement of Export volume
4. Improved Capital Flow
5. Development of Human Capital Resources
• Disadvantages of Foreign Direct Investment:
1. Displacement of Local Investors and Businesses
2. Profit Repatriation
3. Uncertain Government Policy
• Foreign institutional investment is an investment in the financial market of a foreign
country.
• Foreign institutional investors mostly involve investment banks, pension funds,
insurance bonds, mutual fund, hedge fund, high-value debentures, etc.
• The primary reason of setting limit to FIIs is to reduce the influence of FIIs on
individual companies and the financial markets of the nation.
• Advantages of Foreign Institutional Investment:
1. FII enhances flows of equity capital into the domestic economy.
2. It enhances competition in financial markets and helps in improving efficiency of
financial market of the host country.
3. Inflow of FIIs helps in financial innovation and development of hedging
instruments.
4. Investors generally prefer equity over debt. Thus, FIIs improve capital structures
of the companies they are investing in.
5. Equity market development aids economic development.
6. FIIs generally constitute professional bodies of financial analysts and asset
managers. By contributing to better understanding of firms’ operations, they
improve corporate governance.
• Disadvantages of Foreign Institutional Investment:
1. Problem of Inflation
2. FII may be withdrawn at any time
3. Problem for small investors
4. Problem of Hot Money
5. Adverse impact on Exports
• Foreign companies are attracted to invest in India due to the availability of cheap
labour and special investment privileges such as tax exemptions.
• The Government of India has been offering favourable policy regime to attract more
and more of FDIs into the country.
• The government is trying to build a robust business environment in the country in
order to have higher inflow of foreign investments into the country.
• In India, foreign direct investment policy is regulated under the Foreign Exchange
Management Act (FEMA), 2000 and it is administered by the Reserve Bank of India
(RBI).
• There are two main routes of foreign direct investments: one is Automatic route and
the other is Government route.
• Automatic route: FDI is allowed by the automatic route without prior approval by
the Government of India or by the Reserve Bank of India.
• Government route: Under government route, prior approval by the government is
needed. The application for the approval of FDI needs to be made through the
Foreign Investment Facilitation Portal.
• In 2001, FDI inflow to India was merely US$ 6 billion which rose to about US$ 45.15
billion in 2014-15.
• India has crossed US$ 300 billion FDI milestone between April 2000 and
September 2016.
• In 2019-20 and 2020-21, the inflow of FDI jumped to record high level of US$ 74.39
billion and US$ 81.97 billion respectively.
• Foreign Institutional Investors or Foreign Portfolio Investors (FIIs/FPIs) have been

considered as one of the largest drivers of financial markets of India having invested
US$ 4.27 billion in 2021-22 (as of 22nd September, 2021).
• Types of FIIs Investing in India:
1. Pension Funds
2. Trusts
3. Hedge Funds
4. Asset Management Companies
5. Foreign Mutual Funds
6. Sovereign Wealth Funds
7. Endowments, University Funds, etc.
• The Securities and Exchange Board of India (SEBI), in August 2021, introduced the
idea of 'Accredited Investors' in the Indian securities market.
• The employees provident fund organization (EPFO) invested US$ 3.79 billion in the
stock market during April 2020 to February 2021.
• By 2024, India is expected to be the fifth- largest global stock market.
• In 2021, start-ups in India have raised an all time high of ` 1,18,704 crores through
Initial Public Offers (IPOs)
• Limitation of Foreign Capital:
1. Pattern of development of the planned economy becomes distorted.
2. Restrictive conditions on exports and production.
3. Adverse balance of payments of the recipient country.
4. Foreign capitals may be politically motivated.
5. Limited coverage of business sectors.
6. More dependence.
7. Remittance of large amounts.
8. There is possibility of disappearance of cottage and small scale industries.
9. Contribution to the pollution.
• Private foreign capital is not very safe for developing countries as foreign
investments come with their hidden motives.
• Foreign capital does not fit into the planned development process of many
developing countries.
• Objectives of achieving higher economic growth and rapid industrialization are not
realised in most cases. They just exploit the domestic market and leave.
(A) Subjective Questions:
1. Describe the Role of Foreign Capital in Economic Development.
2. Explain the causes of increasing FDI inflow in India.
3. Discuss various types of foreign capital.
4. What is Foreign Direct Investment? What are advantages and disadvantages of
Foreign Direct Investment?
5. What is Foreign Institutional Investment? What are advantages and disadvantages of

Foreign Institutional Investment?
6. What are various types of Foreign Direct Investment?
7. What do you mean by Greenfield Investment and Brownfield investments?
8. Write short notes on the following:
(a) Horizontal FDI
(b) Vertical FDI
(c) Conglomerate FDI
(d) Platform FDI
9. What are the limitations of foreign capital?
10. Discuss trend of FDI inflow in India since 2001 to 2021.
11. Distinguish between Foreign Direct Investment and Foreign Institutional
Investment.
(B) Multiple Choice Questions:
1. FDI stands for ______.
(a) Foreign Direct Investment (b) Federal Department of Investment
(c) Forest Development Index (d) None of the above
2. The foreign direct investment includes _______ .
(a) Technology (b) Research and Development
(c) Capital (d) All of the Above
3. More expansion of foreign direct investment can boost ______.
(a) Money circulation (b) Demand
(c) Employment (d) Unemployment
4. A surge in foreign capital inflow in India would lead to ______.
(a) Sale of foreign exchange by the central bank in order to prevent depreciation of
rupee
(b) Purchase of foreign exchange by central bank in order to prevent depreciation of
rupee
(c) Sale of foreign exchange by the central bank in order to prevent appreciation of
rupee
(d) Purchase of foreign exchange by central bank in order to prevent appreciation of
rupee
5. Which of the following is the recommendation of the Arvind Mayaram Committee on
rationalizing FDI / FPI definition?
(a) Foreign investment of 10% or more in a listed company will be treated as foreign
direct investment (FDI)
(b) In a particular company, an investor can hold the investments either under the
FPI route or under the EDI route, but not both.
(c) Any investment by way of equity shares compulsorily convertible preference

shares/debentures, which is less than 10% of the post-issue paid-up equity
capital of a company shall be treated as FPI.
(d) All of the above
6. Both foreign direct investment (FDI) and foreign institutional investment (FII) are
related to investment in a country. Which of the following is incorrect regarding FDI
and FII?
(a) Both FII and FDI bring capital into the economy.
(b) FII invests in technology-oriented enterprises, whereas FDI invests in traditional
business set ups.
(c) The restrictions on the entry of FDI are lower than that on FII.
(d) FDI is considered to be more stable than FII. FII can be withdrawn even at a short
notice.
7. The term “hot money” is used to refer to ______.
(a) Currency + reserves with the RBI (b) Net GDR receipts
(c) Net foreign direct investment (d) Foreign portfolio investment
8. Which of the following statements is/are correct regarding FDI under automatic
route?
1. FDI in India under the automatic route does not require prior approval either by
the Government of India or the Reserve Bank of India.
2. Investors are only required to notify the concerned regional office of the RBI
before receipt of inward remittances and file required documents with that office
before the issue of shares to foreign investors.
Select the correct answer using the codes given below:
(a) 1 only (b) 2 only
(c) Both 1 and 2 (d) Neither 1 nor 2
9. Consider the following statements:
1. Foreign investment may affect a country’s export performance adversely.
2. Inflow of foreign exchange may cause appreciation of local currency, leading to a
rise in the prices of export commodities.
Which of the statements given above is/are correct?
(a) 1 only (b) 2 only
(c) Both 1 and 2 (d) Neither 1 nor 2
10. Which of the following are the components of foreign capital?
1. Grants and loans
2. External commercial borrowings
3. Foreign direct investment
4. Deposits from non-residents
Select the correct answer using the codes given below.

(a) 1, 2, 3, and 4 (b) 1, 2, and 4 only
(c) 1 and 2 only (d) 3 and 4 only
11. The investment in productive assets and participation in management as stake
holders in business enterprises is ______.
(a) FDI (b) FII
(c) Balance of payment (d) SDR
12. The portfolio investment by foreign institutional investors is called ______.
(a) FDI (b) FII
13. Which of the following are the types of FIIs investing in India?
(a) Pension Funds (b) Trusts
(c) Hedge Funds (d) All of the above
14. SEBI has about ______ foreign institutional investors registered with it.
(a) 1,000 (b) 2,000
(c) 1,500 (d) 100
15. Total FDI inflow during the last 21 financial years stands at US$ ______ billion.
(a) 763.83 (b) 500.00
(c) 100.00 (d) 5000.05
16. Arvind Mayaram Committee is related to ______.
(a) IMF (b) World Bank
(c) FDI and FPI (d) Domestic investment
17. Foreign institutional investment is an investment in the ______ of a foreign country.
(a) Financial market (b) commodity market
(c) Vegetable market (d) none of the above
18. When a company purchases or leases existing production and business facilities in
the foreign country in order to launch a new production activity, it is known as
(a) Greenfield investment (b) Brownfield investment
(c) Both of them (d) None of them
19. An investment when a company invests in a foreign country in order to set-up a
whole new unit from scratch in known as
(c) Both of them (d) None of them
20. When an investment is made within a typical supply chain in a company, but not
directly in the same industry, it is known as:
(c) Vertical FDI (d) None of them
21. Funds are invested in a foreign company belonging to the same industry as that
owned and/or operated by the foreign investor in case of
(c) Vertical FDI (d) Horizontal FDI
22. Foreign aid is always political while trade is economic.
(a) True (b) False
Answers
1. (a) 2. (d) 3. (c) 4. (d) 5. (d) 6. (b) 7. (d) 8. (c) 9. (c) 10. (a)
11. (a) 12. (b) 13. (d) 14. (c) 15. (a) 16. (c) 17. (a) 18. (b) 19. (a) 20. (c)
21. (d) 22. (a)
Unit 3…
India's Foreign Trade and
Balance of Payment
Contents …
3.1 Role of Foreign Trade in Indian Economic Development
3.2 India's Foreign Trade since 2001
3.3 India's Recent Foreign Trade Policy (EXIM Policy)
3.4 Meaning, Importance and Components (Structure) of Balance of Payment
3.5 India's Balance of Payment since 2001
3.6 Causes of Unfavourable Balance of Payment
3.7 Convertibility of Indian Rupee - Current and Capital Account
• To explain the meaning of Foreign Trade.
• To discuss the Role of Foreign Trade in Indian Economic Development.
• To elucidate India's Foreign Trade Policy (EXIM Policy) since 2001.
• To elaborate the meaning of Balance of Trade and Balance of Payments.
• To elucidate the Components of Balance of Payment.
• To describe the Causes of Unfavourable Balance of Payment.
• To discuss the trend of India's Balance of Payment since 2001.
• To understand the meaning of Convertibility of a currency.
• To explain the Convertibility of Indian Rupee - Current and Capital Account.
3.1 ROLE OF FOREIGN TRADE IN INDIAN ECONOMIC DEVELOPMENT

[A] Meaning of Foreign Trade:
Exchange of goods and services between two parties is simply known as trade. Trade
between two or more nations is known as the foreign trade. Thus, foreign trade is trade
throughout national boundaries. Foreign trade is also known as external trade or
international trade. It involves different currencies of different nations and it is regulated by
the rules, laws, and regulations of the concerned countries. In the words of Wasserman and
Hultman, 'International trade consists of the transactions between residents of different
countries.'
3.1
Indian and Global Economic Development 3.2 India's Foreign Trade and Balance of Payment
[B] Types of Foreign Trade:

Foreign trade is divided into the following types:
1. Import Trade: When goods and services are purchased from another country, import
trade takes place. It refers to a country's purchase of goods and services from
another country. In case of import trade, goods and services are in-flowed to the
home country and foreign currencies are out-flowed from the home country. For
example: Crude oil and Petroleum products are imported by India from Middle-East
countries especially Saudi Arabia and Iraq.
2. Export Trade: When goods and services are sold to another country, export trade
takes place. It refers to a country's sell of goods and services to another country. In
case of export trade, goods and services are out-flowed from the home country to
foreign country and foreign currencies are in-flowed to the home country. For
example: Refined petroleum, rice, jewellery, tea, etc. are exported by India to various
countries of the world.
3. Entrepot Trade or Re-export Trade or Transshipment port: When goods and
services are first imported by a country and then the country exports them to another
country, entrepot trade takes place. The imported products are sometimes processed
before reselling to another country. For example: Various raw materials required to
make electronic goods such as washing machine, television, radio, etc. are imported
by Japan from France, Germany, England, etc. and then they are exported to various
other countries after some processing.
[C] Foreign Trade and Economic Development in India:
Countries need goods and services in order to satisfy wants of their people. With limited
available resources, a country cannot produce all the goods and services that it requires. The
goods and services that cannot be produced domestically are bought from other countries
where they can be produced at cheaper cost. On the other hand, the country will export its
products to other countries where they cannot be produced at cheaper cost. In other words,
the country can sell its surplus products to other countries. India too, exports its goods and
services to other countries and imports goods and services from other countries which
cannot be efficiently produced domestically.
No country is self-reliant and every country has to depend upon other countries for
importing the goods and services which are either available in insufficient quantities or are
non-available with it. Similarly, it can export the goods and services which are available in
excess quantity with it and are in high demand outside the country. Thus, foreign trade
allows the participating countries to expand their markets and access goods and services that
otherwise may not have been available domestically. International trade for the participating
nations could be a strong force for enabling effective use of resources, producing
employment opportunities, providing bonuses to entrepreneurs & traders, etc. All these
factors eventually boost standards of living of the people in all the trading countries. Hence,
foreign trade is considered as the engine of economic growth. This was witnessed by many
countries in the world such as the United Kingdom in the 19th century and Asian country
Japan in the 20th Century. Moreover, by adopting the Outward Oriented Growth Strategy,
countries like Taiwan, Hong Kong, South Korea, Singapore, etc. have also achieved higher
levels of economic growth.
Foreign trade helps to procure imports of capital goods, technology, etc. which ultimately
help to increase employment and factor productivity in the country. Foreign trade helps a
better allocation of resources in the domestic market. Increase in exports helps fuller
utilization of resources and capacity, increase in economies of scale, and adoption of new
technologies. With increase in demand for exports and imports, domestic workers' welfare
increases. Larger exports results into higher wages, and it helps to increase demand for
goods and services. Increasing trade helps consumers to get imported products at cheaper
price.
Foreign trade of India means the imports and exports to and from India. The Ministry of
Commerce and Industry of the Government of India administers the foreign trade in India at
all levels. Prior to the economic reform of 1991, (from 1947-1991) India was a restrictive and
closed economy. It used to impose heavy restrictions on its imports by levying high taxes on
import items and foreign investment was strictly restricted to allow Indian ownership of
businesses. Moreover, India attempted to attain economic growth and development through
the mechanism of import substitution rather than export promotion. This is known as the
inward-looking approach. Countries such as South Korea, Vietnam, Singapore, etc. which
were following outward looking approach by giving more emphasis to export promotion
were achieved higher economic growth compared to India. India had to open its economy
subsequently for more imports and to incentivize exports.
Thus, in the pre liberalization era, the volume of India's foreign trade was very small. After
the introduction of the New Economic Policy by the Government of India in 1991, India's
economy had started improving significantly and it was mainly because of its increased
volume of foreign trade. In a closed economy, consumption and investment expenditure of
both public and private sectors determine GDP. However, in an unrestricted and open
economy, along with consumption and investment expenditures, both exports and imports
also contribute to the GDP growth of the country. Both exports and imports have steadily
increased over last three decades. However the rate of increase is not always positive, a
couple of times it was negative also. Trade balance i.e., gap between exports earnings and
imports spending has mostly been in the negative. India has been reducing trade barriers
complying with the WTO (World Trade Organization) agreement.
Foreign trade has played a significant role in the economic growth of India in the past
three decades. Over the last three decades, the foreign trade of India has expanded manifold
and seen significant structural change in the composition and direction of foreign trade.
Expansion of the volume of foreign trade has enhanced competitiveness and expanded
business opportunities for domestic markets of the country. By removing unnecessary
barriers, the country is maintaining good trade relations with the leading trading countries of
the world. The significant reduction in tariff levels across various products and easing of
quantitative restrictions have helped to increase the country's share in foreign trade. India's
share of merchandise exports in total global exports during independence was negligible. It
has increased to around 1.71 percent of the total global exports in 2019. During early
nineties, the share of foreign trade in India's GDP was about 13-15 per cent which has
increased to over 43 per cent during 2011-13. There was decline of trade to GDP ratio for
both 2019 and 2020. For 2019, India's trade to GDP ratio was 39.39 per cent which is a 4.21
per cent decline from 2018. The ratio further declined by 2.92 per cent in 2020 to 36.47 per
cent.
India's overall exports have reached to US$ 479 billion during April - December 2021
from US$ 351 billion during April - December 2020. It's a 36 per cent rise over the same
period last year. India's exports volume has displayed a remarkable momentum in line with
the Government of India's vision of #MakeInIndia for the World'.
During April-December 2021, textiles exports of India flourish. It sees 41 per cent growth
for textile sector exports over previous year (from US$ 21 billion April-Dec 2020 to US$ 30
billion to during April-December 2021). It was almost stagnant during the last decade.
India now exports over 7500 products to about 190 countries and imports about 6000
commodities from 140 countries. Trade (per cent of GDP) in India according to a World Bank
report was reported at 37.87 per cent in 2020, which was less than 10 per cent during
independence.
3.2 INDIA'S FOREIGN TRADE SINCE 2001
India is a market driven economy now. It was a founding member of the World Trade
Organization (WTO) and the country always favours multilateral trade. Year after year, the
pattern of trade has been changing considerably.
The export basket of India has seen a noticeable shift from traditional products like
textile and agricultural commodities to engineering goods. The share of engineering goods
has been increasing gradually. The country has now become the pharmacy of the world as it
is exporting important drugs to most of the countries of the world. India is now considered
as the back-office of the world as various dominant global companies have outsourced their
knowledge based operations, business processes and other IT-intensive operations.
In the first decade of post policy reforms (1990-91 to 1999-2000), India’s exports grew at
a Compound Annual Growth Rate (CAGR) of 8.1 per cent. On the other hand, imports of India
grew at 8.7 per cent. The next decade i.e. during 2000-01 to 2009-10 the country witnessed a
surge in the trade growth when exports grew at 16.8 per cent and imports at 21.5 per cent
annually. Until 2011-12, there was continuity in the trend. However, after 2011-12 there has
been a steady decline in trade because of global slowdown. In the year 2014-15, exports of
India dipped by 1.8 per cent and imports dipped by 0.4 per cent. In the same way, India
witnessed a fall in trade volume in the financial year 2015-16 also - exports were dropped by
more than 15 per cent while, imports have declined by about 14 per cent. In 2016, India's
import share contracted to 2.21 per cent and in the next year it has reached to 2.48 per cent.
In the year 2017, the share of India in total merchandise exports of the world was 1.68 per
cent. This level has been more or less maintained by the country since 2011.
During the decade from 2001 to 2010, trade to GDP ratio of India nearly doubled from 26
per cent to 49 per cent. There were higher rates of growth for both exports and imports
during this period. Both exports and imports grew at rates close to 20 per cent during the
decade. According to report of the World Trade Organization (WTO), India’s share in
international merchandise trade stood at less than 2 per cent in spite of having the inherent
potential and strength. However, in the service sector India had done pretty well. Share of
manufacturing sector in GDP and employment during 1990 to 2020 remained almost
stagnant. Despite of having largest bases for raw materials in the world, India commands
only about 2 per cent share in the global exports. This is mainly because of lack of credit
availability to the private sector. In India, domestic credit to the private sector, as a
percentage of GDP, stood at merely 50 per cent as against 165 per cent in China and 123 per
cent in other countries of similar economic category.
According to a survey conducted by Credit Suisse, India's share of global merchandise
exports has reached an all-time high and it is increasing market share in manufacturing
exports. Import substitution has caused significant increase in manufacturing in consumer
electronics such as air conditioners, according to Credit Suisse. Exports of Electronic Goods in
India increased from 100.99 INR billion in October of 2021 to 108.44 INR billion in November.
India's merchandise goods exports reached to US$ 197.89 billion in the first half of 2022
(April-September 2021) with monthly exports staying above the US$ 30 billion mark. The
figure touched highest level of US$ 35.43 billion in the month of July 2021. It was a 35.05
per cent up from July 2019 and 49.85 per cent improvement from July 2020. In the month of
October 2021, the merchandise exports have achieved 42.33 per cent up from October 2020
to US$ 35.47 billion. In December 2021, the country's merchandise exports surged 38.91 per
cent on an annual basis to US$ 37.81 billion. This is the highest ever monthly figure in the
history of India's foreign trade. This feat is achieved due to healthy performance by sectors
viz. chemicals, textiles, engineering, etc. If the exports growth sustain like this, India's
ambitious goal of tripling annual goods exports to US$ 1 trillion by 2025 will be achievable.
547.12
600.00
500.00 461.42 479.07
398.41
400.00 351.47 347.76
USD Billion
300.00
200.00
100.00
63.01 3.70 68.06
0.00
April-December-19 April-December-20 April-December-21
–100.00
Exports Imports Trade De"cit
Fig. 3.1: Overall Trade during April-December 2019, 2020 and 2021
80.00 72.35
60.00 54.05 57.87

51.57
USD Billion
46.92 46.28
40.00
20.00
7.77
4.65 14.48
0.00
December 19 December 20 December 21
Exports Imports Trade De!cit
Fig. 3.2: Overall Trade during December 2019, 2020 and 2021
In December 2021, imports of India were also increased 38.55 per cent to US$ 59.48
billion. This was primarily due to increase in petroleum and crude oil imports. Import of gold
was also increased by 5.43 per cent to US$ 4.72 billion.
Top 10 Export Commodities of India are:
1. Engineering Goods
2. Petroleum Products
3. Gems and Jewelry
4. Organic and Inorganic Chemicals
5. Cotton Yarn/Fabrics/Made-Ups, Handloom Products, etc.
6. Drugs and pharmaceuticals
7. Electronic goods
8. Ready-Made Garments (RMG) of all textiles
9. Marine products
10. Plastic and linoleum
Top 10 Trading Partners of India:
The following table shows the top 10 trading partners of India and what they buy from
India for the financial year 2020-21:
Table 3.1: Top 10 Trading Partners of India
2020-21 2019-20 ($ million) Growth %

86,399.40
China 5.53
81,873.50
80,498.56
US –9.46
88,908.64
43,318.41
UAE –26.72
59,110.24
25,335.21
Hong Kong –9.20
27,902.44
21,980.40
Singapore –7.14
23,669.44
22,043.37
Saudi Arabia –33.39
33,094.23
21,189.34
Germany –3.61
21,982.01
17,496.38
Indonesia –8.83
19,191.20
15,786.09
Iraq –38.38
25,618.35
15,359.21
Japan –9.41
16,954.92
Total 6,84,774.10 7,88,070.32 –13.11
China has emerged as India's largest trading partner in the financial year 2021 with a
bilateral trade of US$ 86.4 billion by overtaking the U.S.A. in the process and registering 5.53
per cent growth. The U.S.A. is India's biggest export market at $51.62 billion in the fiscal
2021. It is declined by 2.76 per cent over fiscal 2020.
Government of India has initiated several important policy steps in this regard. For
example, in order to encourage domestic manufacturers, the corporate tax rate is reduced to
22 per cent for all firms and for the new firms, it is reduced to 15 per cent. The Production-
Linked Incentive (PLI) scheme in several key sectors is another important initiative taken by
the government in order to incentivize production instead of inputs. There has been
rationalized changes in labour laws, MSMEs, etc. in order to help domestic industries to
increase size and scale.
There is possibility of a sharp recovery for the Indian economy as the government has
focused on the improvements of the export sector. India has a big opportunity to integrate
itself into Global Value Chains (GVCs) which should not be missed at any cost.
3.3 INDIA'S RECENT FOREIGN TRADE POLICY (EXIM POLICY)

India's foreign trade policy is basically a set of guidelines for the exports and imports of
goods and services. This policy is formulated by the Directorate General of Foreign Trade
(DGFT), which is the governing body to promote and facilitate the imports and exports of
the goods and services under the Ministry of Commerce & Industry of the Government of
India.
In general, after five years of gap the foreign trade policy needs amendments. It aims to
develop export potential, improve export performance, create favorable balance of payments
position and encourage foreign trade. On the 31st of March every year the Foreign Trade
Policy or Export Import Policy (EXIM Policy) is updated and from the month of April of
each year new schemes, modifications and improvements becomes effective. Even though
the foreign trade policy covers the aspect of exports and imports, the primary aim of it is to
facilitate trade by reducing time, cost of transaction and by making the Indian exports
competitive in the global market.
Foreign Trade Policy 2015-20:
The Ministry of Commerce and Industry of the Government of India announced New
Foreign Trade Policy on 1st April 2015 for the period 2015-2020 [Ms. Nirmala Sitharaman,
Minister of State for Commerce & Industry unveiled it on 1st April 2015]. This foreign trade
policy was earlier known as Export Import (EXIM) Policy. The main highlights of the Foreign
Trade Policy 2015-20 are discussed below:
• Foreign Trade Policy, 2015-20 provided a framework for increasing exports of goods
and services as well as increasing value addition in the country and generation of
employment, in line with the ‘Make in India’ scheme.
• The Policy aimed to make trade a major contributor to the country’s economic
growth and development.
• Foreign Trade Policy, 2015-20 introduced two new schemes, namely ‘Services
Exports from India Scheme (SEIS)’ (replaced Service for India scheme) for
increasing exports of notified services and ‘Merchandise Exports from India Scheme
(MEIS)’ for exports of specified goods to specified markets. Under both the schemes
duty credit scrips were issued and goods imported against these scrips are fully
transferable. (Merchandise Exports from India Scheme replaced Focus Product
Scheme, Market Linked Focus Product Scheme, Focus Market Scheme,
Agriculture Infrastructure Incentive Scheme and Vishesh Krishi Upaj in Gram
Udyog Yojana)
• Countries where goods are to be exported had been categorized into 3 Groups for
grant of rewards under 'Merchandise Exports from India Scheme'. The rates of
rewards under 'Merchandise Exports from India Scheme' ranged from 2 per cent to 5
per cent. Similarly, under Services Exports from India Scheme, the selected services
were rewarded in the range of 3 per cent and 5 per cent of the export price as a duty
credit.
• Star Export Houses scheme was also introduced in order to boost export
performance. Based on the performance of the exporters, they were assigned status
holder positions. The exporter can get recognition of the status holder in any of the
five categories ranked from One Star Export House to Five Star Export House.
Export performance value for the exporters should be US$ 3 million, US$ 25 million,
US$ 100 million, US$ 500 million, and US$ 2000 million, respectively. These export
performance needed to be achieved in the current plus previous three financial
years.
• Towns of export excellence were provided infrastructure facilities like banking,
electricity, etc. In the Foreign Trade Policy 2015-20 measures were taken to give a
boost to exports of defense and hi-tech products.
• ‘Approved Exporter System’ of the government under the Foreign Trade Policy
2015-20 would help manufacturer exporters considerably in getting faster access to
the international markets.
• In order to boost exports, 108 Micro, Small & Medium Enterprises (MSME) clusters
had been identified for focused interventions. Accordingly, ‘Niryat Bandhu Scheme’
was repositioned and galvanized in order to achieve the objective of ‘Skill India’. The
other two major focus areas in this foreign trade policy were trade facilitation and
enhancing the ease of doing business. Above all, another major objective was to
move towards paperless working in 24x7 environments.
Even though the Foreign Trade Policy 2015-20 expired in April 2021, the government had
extended it until 30th September 2021 in view of the unprecedented situation due to the
COVID-19 pandemic. Even though the new Foreign Trade Policy 2021-26 was under
formulation, due to the ongoing COVID situation, the Government of India has further
extended the validity of the Foreign Trade Policy 2015-20 up to 31st March 2022.
3.4 MEANING, IMPORTANCE AND COMPONENTS (STRUCTURE) OF
BALANCE OF PAYMENTS
Meaning of Balance of Payments:
The Balance of Payments (BOPs) of a country plays an important role in the trade
relations of the country with the rest of the world. They help us to identify trends of trade
related activities of the country that may be beneficial or harmful to the economy of the
county so that the country can take appropriate measures. In simple words, Balance of
Payments of a country exhibits the economic strength on the nation. It shows the influence
of foreign trade and transactions on the national income of the country. The main purpose of
keeping records of balance of payments is to inform government about the international
economic position of the country. It helps them to formulate monetary, fiscal and
commercial policies for the nation.
Balance of payments is a systematic record of all economic transactions of the residents
of a country with the rest of the world during a given period, usually a year. Thus, balance of
payments is a yearly transaction statement which records all the monetary transactions that
are made between the residents of a nation and the rest of the world. This simply exhibits
about the receipts from foreigners and payments to foreigners. The systematic accounting is
done on the basis of double entry book keeping including both the sides of transactions i.e.,
credit side and debit side. Ideally the balance of payments should be zero, i.e., credits and
debits should balance. However, this may happen in rare cases.
Definitions of Balance of Payment:
Let us see the following definitions of balance of payments to have a clear understanding
of the concept:
1. Bo Sodersten: ‘Balance of payments is merely a way of listing receipts and payments
in international transactions for a country’.
2. B. J. Cohen: ‘Balance of payments shows the country’s trading position, changes in
its net position as foreign lender or foreign borrower, and changes in its official
reserve holding’.
3. Kindleberger: 'The balance of payments of a country is a systematic record of all
economic transactions between its residents and residents of foreign countries.'
4. Benham: 'Balance of payments of a country is record of the monetary transactions
over a period of time with the rest of the world.'
Thus, the main features of balance of payments are: It is a systematic record of economic
transactions of a country with the rest of the world within one year. It is comprehensive as it
includes visible, invisible and capital transfers. Receipts and payments of the balance of
payments are recorded on the basis of double entry system. The two sides of the balance of
payments accounts of a country are – credits on the left side and debits on the right side of
the statement. If a country has paid or given money to the rest of the world, the transaction
is counted as a debit and if the country has received money from the rest of the world, this is
known as a credit. Debits are the liabilities while credits are the assets for the country.
Receipts are shown in the credit side and payments are shown in the debit side of the
balance sheet. The main components of balance of payments include the current account,
the capital account and the official reserve account.
Importance of Balance of Payments:
1. Keeping records of balance of payments of a country shows its economic strength
and weakness i.e., the country’s international economic position.
2. We can also measure the influence of foreign trade and transactions on the national
income of a country by observing its balance of payments account statement.
3. It helps to ascertain whether the direction and composition of international trade and
capital movements of the country have improved or caused deterioration in the
economic condition of the country.
4. Another purpose of keeping records of balance of payments is to inform government
authorities about the country’s international economic position. The statement gives
warning signals for future policy formulation and, accordingly, the government
formulates various suitable policies for the economy.
Components / Structure of Balance of Payments:

Balance of payments account of a country shows the difference between all receipts from
foreign countries and all payments to foreign countries. Naturally, there are two sides of the
balance sheet – credits (receipts) and debits (payments). This balance of payments record of
a country is maintained in a standard double entry book keeping method. Each of the
transactions of the country is entered on either the credit side or the debit side of the
balance sheet. However, unlike business accounting (where debits are shown on the left side
and credits on the right side), in balance of payments accounting the practice is to show the
debits on the right side and credits are shown on the left side of the balance sheet. When the
country receives payments from a foreign country it will become a credit transaction. A
payment to a foreign country is a debit transaction.
There are three main components of balance of payments. They are:
1. Current Account,
2. Capital Account, and
3. Official Settlement / Reserve Account.
The following table shows how the balance of payments account of a country is
constructed:
Table 3.2: Components / Structure of Balance of Payments
Credits (+ve) [Receipts] Debits (-ve) [Payments]
1. Export of goods 1. Import of goods
Trade Account Balance or Balance of Trade (1)
2. Export of services 2. Import of services
3. Interest, Profit and Dividends received 3. Interest, Profit and Dividends paid
4. Unilateral transfers (grants, pensions, 4. Unilateral transfers (grants, pensions,
private remittance, other transfers, etc.) private remittance, other transfers, etc.)
receipts payments
Current Account Balance (1 to 4)
5. Investments (both financial and physical) 5. Investments (both financial and
by foreign countries physical) in foreign countries
6. Borrowing from foreign countries 6. Lending to foreign countries
Capital Account Balance (5 to 6)
7. Change in reserve (+) 7. Change in reserve (-)
[increase in foreign official holdings] [increase in official reserve of gold and
foreign currencies]
Official Reserve Account or Official Settlement Account (7)
Errors and Omissions
Total Receipts Total Payments
[a] Balance of Trade (BOT) Account or Trade Balance:

Balance of trade is the difference between exports and imports of goods only. Here,
invisible or intangible items are not included. This is also known as the merchandise account.
If the total volume of export of goods is more than that of imports, there will be surplus
balance of trade or favourable trade balance. On the other hand, if the total volume of
imports is more than that of exports, there will be a deficit in balance of trade or
unfavourable trade balance. On the balance sheet, export of goods is shown on the credit
side and import of goods is shown on the debit side.
[b] Current Account Balance:
The current account includes export and import of both goods and services i.e., along
with tangible (physical) items, it includes intangible items also. The service account includes
the exports and imports of services such as insurance, transport, communication, banking,
tourism, etc.
Transfer payments or unilateral payments are also included in the current account. They
relate to gifts, grants, charitable donations, etc. Receipts of these payments from foreign
nations are entered as credits in the current account while payments of these to foreigners
are entered as debits in the current account of the balance sheet.
Profits, dividends, interest, etc. earned on foreign investments enter in the credit side and
when foreigners earn these in the country, they are entered in the debit side of the current
account.
A surplus balance in current account strengthens the country’s international financial
position.
[c] Capital Account Balance:
Capital account shows the change in a country’s assets abroad and the change in foreign
assets in the country. The components of capital account are investments (physical as well as
financial), borrowing or lending of foreign capital, etc. Borrowings of the country and
investments by foreigners represent capital inflow (credit) while lending and investments
abroad represent outflow (debit) of capital. The net value of these credits and debits of assets
is known as the balance on capital account. If credit > debit, there will be a surplus and if
credit < debit, there will be a deficit in the capital account.
[d] Official Reserve / Settlement Account:
It shows the change in a country’s official reserve assets and the change in foreign official
assets in the country during a year. Official reserve assets include the gold holdings of the
nation’s monetary authorities, special drawing rights (SDR), holdings of its convertible foreign
currencies and its net position in the IMF. Increase in a nation’s official reserve assets are
debits while increase in foreign official assets in the nation are credits.
[e] Errors and Omissions:
As per the double entry book keeping method, there should always be balance in
balance of payments account. Sometimes the balance of payments does not balance and this
imbalance is shown as errors and omissions. Hence, any discrepancies in balance of
payments accounting may be due to any inaccuracy in the collection of data or omission of
any figure.
Difference between Balance of Trade and Balance of Payments:

• Balance of payments is a broad term compared to balance of trade. Balance of trade
includes export and import of goods only, but balance of payments includes export
and import of both goods and service.
• Balance of payments includes transactions of all items: visible, invisible and capital
transfers while balance of trade includes only visible items.
• Balance of payments = Current Account + Capital Account + Official Reserve Account
+ (or –) errors or omissions. On the other hand, balance of trade is only a part of the
Current Account.
• Factors affecting balance of payments are:
(a) economic conditions of foreign lenders,
(b) Economic policy of the Government,
(c) all factors that affect balance of trade, etc.
• The factors that affect balance of trade are:
(a) Production cost,
(b) Availability of raw materials,
(c) Price of goods at home market and abroad,
(d) Exchange rate, etc.
• Balance of payments is a true indicator of economic performance of an economy. But
balance of trade cannot be a true indicator of economic performance of the
economy.
Equilibrium and Disequilibrium of Balance of Payments
The balance of payments of a nation, in an accounting sense, must always balance. This
means the algebraic sum of the net credit and debit balances of current account; capital
account and official reserve account must equal to zero. Thus, the balance of payments can
be symbolically written as:
B = Rf – Pf
Where,
B stands for balance of payments,
Rf stands for receipts from foreigners, and
Pf stands for payments made to foreigners
If receipts from foreigners = payments made to foreigners, balance of payments will be
zero (i.e., Rf – Pf = B = 0). At this situation, balance of payment can be regarded as
equilibrium balance of payments. In simple words, when a country’s receipts from foreigners
(Rf) are equal to its Payments made to foreigners (Pf), it is said that the balance of payments
of the country is in equilibrium.
On the other hand, disequilibrium in balance of payment occurs when Rf is not equal to
Pf, i.e., when a country’s receipts from foreigners (Rf) is not equal to its payments to the
foreigners (Pf). There may be two different situations: one is surplus balance of payments i.e.,
favourable balance of payments and the other is deficit or adverse or unfavourable balance
of payments. If Rf > Pf, there will be a surplus in the balance of payments (favourable). On the
other hand, if payment made to foreigners is more than the receipts from foreigners, the
country will have an unfavourable balance of payments.
Consequences/Effects of Deficit Balance of Payment Position:
Any deviation from the equilibrium balance of payments is bad for the economy. But the
impact of continuous deficit balance of payments is more severe. Let us discuss some of the
consequences of deficit balance of payments position:
1. In a situation where imports are more, the country may benefit from higher level of
consumption through import of goods and services and consequently there will be a
higher standard of living up to a certain period. But if it crosses a certain limit, it will
be a dangerous situation for the importing nation.
2. If the excess of imports over exports is financed by foreign investments, there may be
increase in production, income and employment in the country. If these investments
continue in the long run and foreign investors start buying a large amount of physical
and financial assets in the country, the domestic investors / industries will have to
suffer as a consequence of this.
3. When a country has deficit in the current account of balance of payments account,
but the domestic industries are growing rapidly, then these industries may offer a
higher rate of return on foreign investments. As a consequence, there will be a large
inflow of foreign capital leading to a surplus in the capital account. It is obvious that
the external debt of the country increases but this debt is being utilized to finance
the rapid growth of the economy.
Thus, the real burden of the external debts become very low as they can be
repaid out of the increased income generated by the domestic industries in the
future.
4. Unlike this situation, let us suppose that the domestic industries are inefficient and
unproductive, and the current account deficit of the country is financed through
external borrowing. In this situation, there will be a huge burden of debt on the
economy in the future.
5. If foreign (or external) borrowings are being used by a country to finance real
investment, the deficit in current account will be beneficial for the country. If the
return on real investment is higher than the interest to be paid on foreign borrowing,
obviously there would be more wealth creation and increase in national income for
the country in future.
3.5 INDIA'S BALANCE OF PAYMENT SINCE 2001
After independence, India had faced severe threats in its external trade and performance
for multiple times. However, the most challenging and thorny one was the crisis of 1991. The
large and growing fiscal imbalances over the 1980s were the primary reasons for the
economic crisis of 1991. Investors lost confidence over the market because of the widening
current account imbalances and loss of reserves. The external sector of the economy was
doomed. The current account deficit during 1990-91 was US$ 7727 million (3.0 per cent of
GDP) compared with US$ 6837 million in the previous year. This was the all time high deficit
in balance of payments position of India. This situation came at a time when the ability to
finance the deficit had weakened massively. There was internal political turmoil, high inflation
and widening fiscal deficits which had led to a loss of international confidence. There was
outflow of capital and external commercial borrowing was dried up. Because of higher oil
prices, outflow of capital and loss of remittances, foreign currency assets plummeted to US$
1.7 billion (about three weeks of imports) by the end of June 1991.
The Government of India requested a twenty-month stand-by arrangement from the
International Monetary Fund (IMF) on 27th August 1991, for an amount equivalent to SDR
1,656 million. On 31st October 1991, this facility was approved by the IMF. The arrangement
became an opportunity for both the Reserve Bank of India and the Government of India to
embark upon a series of homegrown reforms in the financial and real sectors of the
economy.
The Government of India initiated policy reforms in July 1991 in order to find the way out
of the growing crisis. Concerned structural measures emphasized to accelerate the process of
industrial set up, delicensing of imports and then the policy shifted to further financial sector
reform, trade liberalization, tax reform, etc. In the pre 1991 era, capital flows to India
predominately consisted of commercial borrowings, aided funds and deposits of non-
resident Indians. There was restriction on foreign direct investment. The scope of foreign
portfolio investment was very limited and foreign equity holdings in Indian companies were
not permitted. Because of the concerned policy reforms initiated by the government of India,
the post reform period really eased India’s struggles with regard to external sector. There was
a distinct improvement in the balance of payments situation during 1992-93 (even though it
continued to be under pressure). Foreign exchange reserves had been built up to US$ 5.63
billion from a low of about US$ 1.7 billion in June 1991. During April-December 1992, exports
in terms of dollar had increased by 3.4 per cent compared with a decline of 3.7 per cent
during April-December 1991. Import for the same period was increased by 16.5 per cent
compared with a decline of 22.5 per cent during April-December 1991. In 1995-96, the
current account deficit again increased to US$ 5.91 billion which further declined to US$ 2.67
billion in 2000-01. The current account deficit during 2001-02 narrowed down to 0.5 per cent
of GDP from 1.1 per cent of GDP in the previous year. Thus, during 2001-02, India’s balance
of payments remained comfortable and the external sector of the country experienced a
distinct improvement. There were sharp increases in software service exports and private
transfers. Total imports during 2000-01 recorded only a moderate growth of 7.0 per cent,
which was much lower than the figure of 16.5 per cent in 1999-2000.
For the first time since 1991, the current account recorded surplus in its account only
during 2001-02, 2002-03 and 2003-04. However, the deficit in current account started again
to occur since then. In 2004-05, the current account deficit was 0.8 per cent of GDP. Since
then, growth of current account deficit was comparatively faster. The economy witnessed
financial crisis since 2007-08. The downfall of world economy due to economic crisis of 2008
had affected Indian economy also.
The current account deficit was US$ 46.0 billion in 2010-11 which was 2.7 per cent of
GDP. In 2011-12, the current account deficit of the country increased to US$ 78.155 billion,
which was 4.8 per cent of GDP. Comparatively low positive credits and huge negative debits
had caused for this deficit in the current account. Higher demand for gold and silver also
contributed this higher current account deficit.
The trade deficit in 2012-13 was US$ 195.70 billion which was dropped to US$ 147.60
billion in 2013-14 because of export recovery and moderation in imports. The current
account deficit fell to US$ 32.40 billion (which is 1.7 per cent of GDP) in 2013-14 from US$
87.80 billion (which is 4.7 per cent of GDP) in 2012-13. This was the result of contraction of
trade deficit and rise in net invisibles receipts. Compared with US$ 3.80 billion foreign
exchange reserves in 2012-13, it increased to US$ 15.50 billion during 2013-14. The current
account deficit for the year 2014-15 was 1.98 per cent of GDP which was narrowed to 1.1 per
cent of GDP during 2015-16. During 2014-15 exports of goods were US$ 316.5 billion, while
imports were US$ 461.5 billion. However, during 2015-16, both exports and imports dropped
to US$ 266.4 billion and US$ 396.4 billion respectively. The cause for narrowing of trade
deficit was fall of both exports and imports of goods.
During 2016-17, the current account deficit was 0.6 per cent of GDP and it widened to
1.8 per cent of GDP in the next fiscal. This was because of increased trade deficit from US$
112.4 billion in 2016-17 to US$ 160 billion in 2017-18. Inflow of gross foreign direct
investment into India increased to US$ 61 billion in 2017-18 from US$ 60.2 billion in 2016-17.
2.3
2
1.2
0.7
0
–0.6 –0.3 –0.6
–1.2 –1 –1.3 –1.3
–1.1 –0.9
–1.7 –2
–1.8
–2.3 –2.1
–2.8 –2.9
–4
–4.3
–4.8
–6
2000 2005 2010 2015 2020
Fig. 3.3: India's Current Account Balance since 2000 to 2020

The current account deficit further widened to 2.1 per cent of GDP in 2018-19 from
1.8 per cent of GDP of the previous fiscal on the back of widening of the trade deficit. Trade
deficit of the country increased from US$ 160.0 billion in 2017-18 to US$ 180.3 billion in
2018-19. Net inflow of foreign direct investment for the year 2018-19 was US$ 30.7 billion
which was marginally higher than US$ 30.3 billion in 2017-18. There was a depletion of US$
3.3 billion of foreign exchange reserves during 2018-19.
The year 2020-21 saw a surplus of 0.9 per cent of GDP in the current account balance of
the country [comprising net exports of goods and services] as against a deficit of 0.9 per cent
of GDP in 2019-20. This has happened for the first time in last 17 years (since 2003-04 when
trade surplus was nearly 2.3 per cent of GDP). It was because of contraction of trade deficits
to US$ 102.2 billion from US$ 157.5 billion in 2019-20. Strong capital flows, with a bulk of the
flows through portfolio flows and foreign direct investment, the balance of payments ended
in a surplus of US$ 87 billion during the year 2020-21. The inflow of net foreign direct
investment in 2020-21 was US$ 44.0 billion as against US$ 43.0 billion in 2019-20. The inflow
of net foreign portfolio investment was much higher than the net foreign direct investment
which was US$ 36.1 billion as against US$ 1.4 billion in 2019-20. However, deficits in the
current account balance is also expected in near future once the economy starts opening up
from the lockdown imposed due to Covid-19 and increase imports.
In the first half of 2021-22 i.e., H1: 2021-22 (April through September 2021) India
recorded a current account deficit of 0.2 per cent of GDP as against a surplus of 3.0 per cent
of GDP in H1: 2020-21 (April through September 2020) on the back of a sharp increase in the
trade deficit. The inflow of net foreign direct investment in H1: 2021-22 was US$ 21.2 billion
as against US$ 23.9 billion in H1: 2020-21. The inflow of net foreign portfolio investment
dropped to US$ 4.3 billion in H1: 2021-22 as against US$ 7.6 billion in H1: 2020-21. For the
same period, there was an accretion of US$ 63.1 billion to the foreign exchange reserves.
3.6 CAUSES OF UNFAVOURABLE BALANCE OF PAYMENT
Generally developing countries have unfavourable balance of payments due to the
following causes:
1. Export of Primary Products: Developing countries exports are based on mainly
primary products. The price elasticity of demand for primary products is inelastic.
Their demand cannot be increased by lowering price. Reliance on primary products
for export leads to unfavourable balance of payments. The present scenario of India's
trade is gradually changing and the country is trying to shift its exports to the
manufacturing sector.
2. Low Levels of Machinery and Technology: Developing countries mostly rely on
low levels of technology and machinery in production. For using better technology
they have to spend scarce foreign reserve on importing them. If they use low levels of
technology, the quality of their products will definitely be low and demand for their
products in the international market will be less. This also causes unfavourable
balance of payments.
3. Import of Finished Goods and Export of Raw Materials: Developing countries

heavily rely on import of finished goods and export raw materials. The cost of
importing finished goods is much higher than the receipts on exporting raw materials
causing unfavourable balance of payments for most of the developing countries.
4. Excessive Reliance on Foreign Funds: Developing countries generally finance their
development projects through heavy foreign borrowing. The interest burden of such
loans is very high. For the repayment of such loans along with interests, many of
them have to take the help of foreign borrowing again. This may cause a deficit in
the balance of payments.
5. Susceptibility to Natural Calamities: Agricultural activities in many developing
countries are dependent on good monsoon. If there is any irregularity in it like heavy
rainfall, flood, draught, etc. agricultural products are destroyed and these countries
will have to be heavily dependent on imports of such products.
6. Preference towards Foreign Goods: If there is change in tastes for domestic
products and people start demanding foreign products, import bill will increase
causing unfavourable balance of payments.
7. High Rate of Inflation: Higher inflation in the domestic market leads to fall in
exports and rise in imports. This happens because inflation in home market increases
the price of exported commodity and hence there is fall in export earnings. On the
other hand, imports become cheaper and demand for it goes up causing
unfavourable balance of payments.
Any disequilibrium in balance of payments account, either deficit or surplus, when it
persists continuously is undesirable for the country due to its negative impacts on internal
economic operations and international economic relations. However, disequilibrium due to a
deficit in the balance account is more harmful than a surplus account for the country’s
economic growth. Appropriate measures should be taken to correct deficit in balance of
payments account. The ultimate aim of adopting any kind of policies to correct a deficit in
balance of payments account is to promote exports and / or restrict import.
3.7 CONVERTIBILITY OF INDIAN RUPEE - CURRENT AND CAPITAL
ACCOUNT
Meaning of Currency Convertibility:
The ease with which currency of a country can be converted into gold or another
currency is known as Currency Convertibility. It refers to how liquid a country's currency is in
terms of exchanging with foreign currencies. Currency Convertibility is very important in
today's globalization era. For the exchange of global products, payments must be done in an
agreed-upon currency that may not be the buyer's domestic currency. When a country has
poor currency convertibility, it actually poses a risk and barrier to trade with foreign countries
who have no need for the domestic currency of the country with poor currency convertibility.
If a currency is convertible, it can be easily traded on foreign exchange markets with very
little to no restrictions. Investors do not have any trouble in buying and selling the
convertible currencies. It implies that convertible currencies such as U.S. Dollar, Japanese Yen,
European Union's Euro, British Pound, etc. are seen as reliable store of value in the global
market.
On the other hand, blocked currencies are currencies that can’t freely be converted to
other currencies on the foreign exchange markets as a result of exchange controls. Such
types of currencies are mainly used for domestic transactions alone and they do not freely
exchange with other currencies, often due to restrictions by authorities at home or abroad.
The balance of payments account of a country, which is a statement of all economic
transactions made between the country and the rest of the world, consists of two main
accounts - current account and capital account. The capital account of the balance of
payments statement is made up of cross-border movements of capital by way of
investments, borrowings, lending, etc. and the current account primarily deals with export
and import of goods and services; Interest, Profit and Dividends received and payments;
unilateral transfers; etc.
Currency convertibility means the ability to exchange one national currency for another
without any restrictions or limitations. It is the ease with which a nation's domestic currency
can be converted into another currency or gold in global exchanges. In other words, it
indicates the extent to which the authority allows inflow and outflow of currency to and from
the country. Currency convertibility is actually a situation in which domestic currency can be
converted into a foreign currency and vice-versa at a prevailing exchange rate without any
government interference. Currency of a country can be convertible in respect of current
account transactions as well as capital account transactions.
Convertibility of currency in current account implies that it can be converted to any
foreign currency at the existing market rate for trade purposes (for example, export and
import of goods and services) [refer to the current account of the balance of payments
account to understand the meaning]. During mid-1990s Indian currency 'Rupee' was made
fully convertible for current account irrespective of any trading activities.
Capital account convertibility means that it allows converting foreign financial assets into
domestic financial assets and vice-versa. Full convertibility in capital account means easy and
unrestricted inflow and outflow of capital (both FDI and FII) for all purposes (such as buying
or selling of physical assets). In India we still don't have full convertibility in capital account.
The Tarapore Committee has noted some benefits for full convertibility in capital account.
Convertibility of Indian Rupee:
Indian Rupee (INR) is not fully convertible yet. Continuous efforts have been taking by
the authority in order to make it fully convertible and setting up an onshore INR market.
Making Indian Rupee a fully convertible currency will mean increase liquidity in financial
markets, improve employment and business opportunities, and easy access to foreign capital.
In the first four decades of planning, Indian economy was under strict foreign exchange
control system. As part of the liberalization of the economy, the Government of India started
dismantling the foreign exchange control system from 1991-92 onwards. India introduced its
reforms during the early 1990s. The Union Budget for 1992-93, for the first time, has made
the Indian rupee partially convertible. It was an inescapable move for the quick integration of
Indian economy with the rest of the world. The Government of India introduced the partial
convertibility of rupee from the 1st of March 1992, in order to face the serious current
account deficit in the balance of payments during that period. Since then the country has
been taking continuous efforts to alter some of its standardized currency policies.
Until the early 1990s, i.e., during pre-reform era, anybody who wanted to do transactions
in a foreign currency, regardless of the purpose, he or she had to take permission from the
RBI. Any activity relating to the involvement of foreign currencies such as travelling abroad,
foreign studies, buying of imported goods, to get cash for foreign currencies received, etc.
were required to go through the RBI. The foreign currency exchanges for these activities
occurred at a pre-determined exchange rate fixed by the RBI. However, after the introduction
of liberal economic reforms during the early 1990s, the norms for foreign currency
transactions were relaxed to some extent. In August 1994, Indian rupee was made fully
convertible in current account transactions. Importers and exporters are now allowed to
exchange foreign currencies to trade unbanned goods and services. Citizens now get easy
access to foreign exchange for studying or travelling abroad or for buying imported goods.
Restrictions on foreign investments are also relaxed.
Though these relaxations are made by the authority, yet there are certain areas where still
permissions from the authority are required. For example, if Indian investors want to invest
abroad an amount beyond a certain limit, or if they want to purchase assets abroad, they still
require regulatory approvals.
Capital account convertibility as mentioned above refers to a liberalization of a nation's
capital transactions viz. investment, borrowings, lending, etc. In simple words, it is free
conversion of cross-border capital flows. Capital account convertibility of India rupee allows
freedom to convert local financial assets into foreign assets and vice versa. However, Indian
rupee is not fully convertible in the capital account. India has a partially convertible capital
account policy. One can still bring in foreign capital or invest in foreign countries, but there
are ceilings imposed by the government that require approvals.
With Mr. S. S. Tarapore as the Chairperson, the RBI appointed the Committee on Capital
Account Convertibility in 1997. The Tarapore Committee defined Capital account
convertibility as: 'the freedom to convert local financial assets into foreign financial assets
and vice versa at market-determined rates of exchange.' Capital account convertibility would
permit anyone to move freely from local currency into foreign currency and back.
The basic purpose of capital account convertibility is to encourage foreign investors by
sharing an easy market for free flow of capital and to show them that Indian economy is
strong and vibrant enough, and that India has enough foreign exchange reserves to meet
any flight of capital from the country, whatever may be its extent.
The benefits of full convertibility of capital account are more than that of partial
convertibility. Full convertibility of Indian rupee is a welcome measure. In order to get closer
integration with the global economy, it is very significant. However, since the state of Indian
financial ecosystem is not fully developed to face volatility risks associated with full
convertibility of capital account, adoption of partial convertibility of capital account is more
prudent and practical. By way of regulatory mechanism, the government can come to the
economy’s rescue in unstable and difficult times.
With foreign exchange reserve over US$ 600 billion, moderate fiscal deficit, inflation
within the control, increasing export volume, India can now think about the full convertibility
of capital account.
POINTS TO REMEMBER
• Exchange of goods and services between two parties is known as trade.
• Trade between two or more nations is known as the foreign trade.
• Foreign trade is also known as external trade or international trade.
• Types of Foreign Trade: Foreign trade is divided into the following types -
(a) Import Trade: It refers to a country's purchase of goods and services from
another country. Example: Crude oil and Petroleum products are imported by
India from Middle-East countries especially Saudi Arabia and Iraq.
(b) Export Trade: When goods and services are sold to another country, export
trade takes place. Example: Refined petroleum, rice, jewellery, tea, etc. are
exported by India to various countries of the world.
(c) Entrepot Trade: When goods and services are first imported by a country and
then the country exports them to another country, entrepot trade takes place.
Example: Various raw materials required to make electronic are imported by
Japan then they are exported to various other countries after some processing.
• Countries need goods and services in order to satisfy wants of their people. With
limited available resources, a country cannot produce all the goods and services that
it requires.
• No country is self-reliant and every country has to depend upon other countries for
importing the goods and services which are either available in insufficient quantities
or are non-available with it.
• Foreign trade allows the participating countries to expand their markets and access
goods and services that otherwise may not have been available domestically.
• Foreign trade of India means the imports and exports to and from India. The
Ministry of Commerce and Industry of the Government of India administers the
foreign trade in India at all levels.
• India attempted to attain economic growth and development through the
mechanism of import substitution rather than export promotion. This is known as the
inward-looking approach.
• After the introduction of the New Economic Policy of the Government of India in
1991, India's economy had started improving significantly and it was mainly because
of its increased volume of foreign trade.
• In a closed economy, consumption and investment expenditure of both public and

private sectors determine GDP. However, in an unrestricted and open economy,
along with consumption and investment expenditures, both exports and imports also
contribute to the GDP growth of the country.
• Trade balance i.e., gap between exports earnings and imports spending has mostly
been in the negative. India has been reducing trade barriers complying with the WTO
(World Trade Organization) agreement.
• Foreign trade has played a significant role in the economic growth of India in the
past three decades. Over the last three decades, the foreign trade of India has
expanded manifold and seen significant structural change in the composition and
direction of foreign trade.
• Expansion of the volume of foreign trade has enhanced competitiveness and
expanded business opportunities for domestic markets of the country.
• India's overall exports have reached to US$ 479 billion during April - December 2021
from US$ 351 billion during April - December 2020. It's a 36 per cent rise over the
same period last year. India's exports volume has displayed a remarkable momentum
in line with the Government of India's vision of #MakeInIndia for the World'.
• During April-December 2021, textiles exports of India flourish. It sees 41 per cent
growth for textile sector exports over previous year (from US$ 21 billion April-Dec
2020 to US$ 30 billion to during April-December 2021). It was almost stagnant during
the last decade.
• India now exports over 7500 products to about 190 countries and imports about
6000 commodities from 140 countries. Trade (% of GDP) in India according to a
World Bank report was reported at 37.87 % in 2020, which was less than 10 per cent
during independence.
• The export basket of India has seen a noticeable shift from traditional products like
textile and agricultural commodities to engineering goods. The share of engineering
goods has been increasing gradually.
• India has now become the pharmacy of the world as it is exporting important drugs
to most of the countries of the world. India is now considered as the back-office of
the world as various dominant global companies have outsourced their knowledge
based operations, business processes and other IT-intensive operations.
• Import substitution has caused significant increase in manufacturing in consumer
electronics such as air conditioners, according to Credit Suisse.
• India's merchandise goods exports reached to US$ 197.89 billion in the first half of
2022 (April-September 2021) with monthly exports staying above the US$ 30
billion mark. The figure touched highest level of US$ 35.43 billion in the month of
July.
• On the 31st of March every year the Foreign Trade Policy or Export Import Policy
(EXIM Policy) is updated and from the month of April of each year new schemes,
modifications and improvements becomes effective
• The Ministry of Commerce and Industry of the Government of India announced New
Foreign Trade Policy on 1st April 2015 for the period 2015-2020 [Ms. Nirmala
Sitharaman, Minister of State for Commerce & Industry unveiled it on 1st April 2015].
This foreign trade policy was earlier known as Export Import (EXIM) Policy.
• Foreign Trade Policy, 2015-20 provided a framework for increasing exports of goods
and services as well as increasing value addition in the country and generation of
employment, in line with the ‘Make in India’ scheme.
• Foreign Trade Policy, 2015-20 introduced two new schemes, namely ‘Services
Exports from India Scheme (SEIS)’ (replaced Service for India scheme) for
increasing exports of notified services and ‘Merchandise Exports from India
Scheme (MEIS)’ for exports of specified goods to specified markets.
• Star Export Houses scheme was also introduced in order to boost export
performance. Based on the performance of the exporters, they were assigned status
holder positions. The exporter can get recognition of the status holder in any of the
five categories ranked from One Star Export House to Five Star Export House.
Export performance value for the exporters should be US$ 3 million, US$ 25 million,
US$ 100 million, US$ 500 million, and US$ 2000 million, respectively.
• Towns of export excellence were provided infrastructure facilities like banking,
electricity, etc.
• In the Foreign Trade Policy 2015-20 measures were taken to give a boost to exports
of defense and hi-tech products.
• In order to boost exports, 108 Micro, Small & Medium Enterprises (MSME) clusters
had been identified for focused interventions. Accordingly, ‘Niryat Bandhu Scheme’
was repositioned and galvanized in order to achieve the objective of ‘Skill India’.
• Even though the Foreign Trade Policy 2015-20 expired in April 2021, the government
had extended it until 31st March, 2022.
• Balance of payments is a systematic record of all economic transactions of the
residents of a country with the rest of the world during a given period, usually a year.
• Balance of payments is a systematic record of economic transactions of a country
with the rest of the world within one year.
• It is comprehensive as it includes visible, invisible and capital transfers.
• Receipts and payments of the balance of payments are recorded on the basis of
double entry system. The two sides of the balance of payments accounts of a country
are – credits on the left side and debits on the right side of the statement.
• Balance of payments helps to ascertain whether the direction and composition of
international trade and capital movements of the country have improved or caused
deterioration in the economic condition of the country.
• There are three main components of balance of payments. They are:

(a) Current account: The current account includes export and import of both goods
and services i.e., along with tangible (physical) items, it includes intangible items
also.
(b) Capital account: Capital account shows the change in a country’s assets abroad
and the change in foreign assets in the country.
(c) Official Settlement / Reserve Account: It shows the change in a country’s
official reserve assets and the change in foreign official assets in the country
during a year.
• Balance of payments is a broad term compared to balance of trade. Balance of
payments includes transactions of all items: visible, invisible and capital transfers
while balance of trade includes only visible items.
• Balance of payments = Current Account + Capital Account + Official Reserve Account
+ (or –) errors or omissions.
• Balance of payments is a true indicator of economic performance of an economy.
But balance of trade cannot be a true indicator of economic performance of the
economy.
• The year 2020-21 saw a surplus of 0.9 per cent of GDP in the current account balance
of the country. This has happened for the first time in last 17 years (since 2003-04
when trade surplus was nearly 2.3 per cent of GDP).
• Causes of Unfavourable Balance of Payments:
o Export of Primary Products.
o Low levels of Machinery and Technology.
o Import of finished goods and export of raw materials.
o Excessive reliance on foreign Funds.
o Susceptibility to natural calamities.
o Preference towards foreign goods.
o High rate of inflation.
• Any disequilibrium in balance of payments account, either deficit or surplus, is
undesirable for the country.
• Disequilibrium due to a deficit in the balance account is more harmful than a surplus
account for the country’s economic growth.
• The ultimate aim of adopting any kind of policies to correct a deficit in balance of
payments account is to promote exports and / or restrict import.
• The ease with which currency of a country can be converted into gold or another
currency is known as Currency Convertibility.
• Blocked currencies are currencies that can’t freely be converted to other currencies
on the foreign exchange markets as a result of exchange controls.
• Convertibility of currency in current account implies that it can be converted to

any foreign currency at the existing market rate for trade purposes.
• Capital account convertibility means that it allows converting foreign financial
assets into domestic financial assets and vice-versa.
• In August 1994, Indian rupee was made fully convertible in current account
transactions.
• Indian rupee is not fully convertible in the capital account. India has a partially
convertible capital account policy. One can still bring in foreign capital or invest in
foreign countries, but there are ceilings imposed by the government that require
approvals.
• The basic purpose of capital account convertibility is to encourage foreign investors
by sharing an easy market for free flow of capital and to show them that Indian
economy is strong and vibrant enough.
• Partial convertibility of capital account is more prudent and practical. By way of
regulatory mechanism, the government can come to the economy’s rescue in
unstable and difficult times.
• With foreign exchange reserve over US$ 600 billion, moderate fiscal deficit, inflation
within the control, increasing export volume, India can now think about the full
convertibility of capital account.
1. What is Foreign Trade? Discuss various types of Foreign Trade.
2. Discuss the Role of Foreign Trade in Indian Economic Development.
3. Explain in detail India's Foreign Trade since 2001.
4. Mention the highlights of India's Foreign Trade Policy 2015-20.
5. What is Balance of Payments? Explain the components of Balance of Payments.
6. Discuss India's Balance of Payments situation since 2001.
7. Explain the causes of unfavourable balance of payments.
8. What do you mean by convertibility of a currency?
9. Explain the convertibility of Indian Rupee both in Capital Account and Current
Account.
10. Write Short Notes
(A) Current Account Balance
(B) Equilibrium and Disquilibrium of Balance of Payment
1. Types of Foreign Trade are ______.
(a) Import Trade (b) Export Trade
(c) Entrepot Trade (d) All of the above
2. When goods and services are purchased from another country ______ takes place
3. Taiwan, Hong Kong, South Korea, Singapore, etc. have achieved higher levels of
economic growth by adopting ______.
(a) Outward Oriented growth Strategy
(b) Inward Oriented growth Strategy
(c) Both of the above
(d) None of the above
4. When goods and services are sold to another country ______ takes place
5. Inward Oriented growth Strategy is based on:
(a) Import substitution (b) Export promotion
(c) Both of the above (d) None of the above
6. India's merchandise exports surged to the highest ever monthly figure in ______.
(a) December 2021 (b) December 2020
(c) December 2019 (d) December 2018
7. India's largest trading partner in the financial year 2021 was:
(a) China (b) USA
(c) Pakistan (d) UK
8. When goods and services are first imported by a country and then the country
exports them to another country ______ takes place.
9. Foreign Trade Policy is formulated by the Directorate General of Foreign Trade
(DGFT).
(a) True (b) False
10. Foreign Trade Policy was earlier known as ______.
(a) Bilateral trade policy (b) Multilateral trade policy
(c) EXIM policy (d) None of the above
11. ‘Services Exports from India Scheme (SEIS)’ and ‘Merchandise Exports from India
Scheme (MEIS)’ are two major schemes of ______.
(a) Foreign Trade Policy, 2015-20 (b) Foreign Trade Policy, 2009-14
(c) Foreign Trade Policy, 2021-26 (d) Foreign Trade Policy, 2003-08
12. Trade Policy 2015-20 is extended till ______.
(a) 30th September 2021 (b) April 2021
st
(c) 31 March 2022 (d) January 2021
13. Balance of payments record of a country is maintained in a standard ______ method.

(a) Single entry book keeping (b) Double entry book keeping
(c) Triple entry book keeping (d) None of the above
14. Components of balance of payments are ______.
(a) Trade account (b) Current account
(c) Capital account (d) All of the above
15. Which of the following is a part of capital account?
(a) Private capital (b) Banking capital
(c) Official capital (d) All the above
16. The investment in productive assets and participation in management as stake
holders in business enterprises is ______.
(a) FDI (b) FII
17. Consider the following statements and identify the right ones.
(i) IMF came into existence as an outcome on Bretton-Woods agreement
(ii) France was the 1st country to borrow from IMF
(a) only (i) (b) only (iii)
(c) Both (d) None
18. Which of the following is an institution of World Bank?
(a) IBRD (b) IDA
(c) IFC (d) All the above
19. Free Trade Policy refers to a policy where there is ______.
(a) Absent of tariff
(b) Restriction on the movements of goods
(c) Existence of anti-dumping policy
(d) Encouragement for balances growth ______.
20. A trade policy consists of
(a) Export-Import Policy (b) Licencing Policy
(c) Foreign Exchange Policy (d) Balance of Payment Policy
21. Invisible export means export of ______.
(a) Services (b) Prohibited goods
(c) Unrecorded goods (d) Goods through smuggling
22. The exchange of commodities between two countries is referred as ______.
(a) Balance of trade (b) Bilateral trade
(c) Volume of trade (d) Multilateral trade
23. Which of the following items was not exported prior to independence?
(a) Cotton textiles (b) Tea
(c) Jute (d) Engineering goods
24. The countries to which a country exports its goods and services and the Countries
from which it imports is called ______.
(a) Composition of trade (b) Direction of trade
(c) Balance of trade (d) None of these
25. A strategy to earn foreign exchange by promoting domestic exports and making
domestic industry competitive in the international market is called ______.
(a) Inward looking strategy (b) Export promotion strategy
(c) Outward looking strategy (d) None of these
26. Inward looking trade strategy was adapted to ______.
(a) Save foreign exchange (b) Achieve self reliance
(c) Protect domestic industries (d) All of these
Answers
1. (d) 2. (a) 3. (d) 4. (b) 5. (a) 6. (a) 7. (a) 8. (c) 9. (a) 10. (c)
11. (a) 12. (c) 13. (b) 14. (d) 15. (d) 16. (a) 17. (c) 18. (d) 19. (a) 20. (a)
21. (a) 22. (b) 23. (d) 24. (b) 25. (c) 26. (d)
Unit 4…
International Financial Institutions and
Regional Economic Cooperation
Contents …
4.1 International Bank for Reconstruction and Development (World Bank) - Objectives and
Functions.
4.2 International Monetary Fund (IMF) - Organization and Functions.
4.3 World Trade Organization (WTO) - Introduction and Functions.
4.4 South Asian Association for Regional Cooperation (SAARC) - Introduction and Functions.
4.5 BRICS (Brazil, Russia, India, China and South Africa) - Introduction and Functions.
• To understand the meaning and importance of International Financial Institutions.
• To understand the meaning and importance of Regional Economic Cooperation.
• To discuss the Role and Growth of International Bank for Reconstruction and
Development (IBRD).
• To study the objectives and functions of International Bank for Reconstruction and
Development.
• To illustrate Organization and Functions of the International Monetary Fund (IMF).
• To discuss the role of International Monetary Fund (IMF).
• To illustrate World Trade Organizations (WTO) - Introduction and Functions.
• To understand the role of South Asian Association for Regional Cooperation (SAARC).
• To discuss the Introduction and Functions of the regional cooperation - BRICS.
INTRODUCTION
In order to foster socio-economic development, International Financial Institutions were
founded by groups of countries after the World War II. These institutions promote public and
private investment among the countries. International Financial Institutions provide long-
term credits to the poor and developing nations at low-interest rates. They also provide
grants to finance big projects run by governments or the private sector. They operate on the
principle that strong economic institutions lead to economic and social development,
4.1
Indian and Global Economic Development 4.2 International Financial Institutions …
particularly in poor countries which are most affected by poverty. Further than the key
objectives of poverty reduction, sustainable economic growth and social equality, other
sectors, such as governance and rule of law, education and environmental resource
management are also included in the agenda of the International Financial Institutions.
Moreover, another significant agenda of these institutions is to promote private
investments in order to encourage entrepreneurial initiatives that help developing countries
to achieve sustainable growth. Lakshmi Venkatachalam, Vice-President, Private Sector and
Co financing Operations, Asian Development Bank has rightly said "Since the private sector
generates most of the jobs, development institutions should focus on helping creating
dynamic and sustainable private sector firms."
In nutshell International Financial Institutions share the following major goals and
objectives:
To improve people's living conditions and standards by reducing poverty; to support
social, economic and institutional development; to promote regional integration and
cooperation; etc. After World War II, the best known international financial institutions such
as the World Bank (IBRD), the IMF, etc. were established.
In the Bretton Woods Conference in 1944, both International Bank for Reconstruction
and Development (IBRD) and the International Monetary Fund (IMF) were established. [One
more organization named International Trade Organization (ITO) was proposed to establish
but that did not succeed]. IBRD and IMF are together known as the Bretton Wood's twins.
The main purpose of establishing these institutions at the United Nations Monetary and
Financial Conference (also known as the Bretton Woods Conference) was to bring about a
smooth transition from a war-time to peace-time economy. Let us now discuss the following
important international financial institutions:
4.1 INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT
(WORLD BANK) - OBJECTIVES AND FUNCTIONS
The world's largest development bank, International Bank for Reconstruction and
Development (IBRD) is a multinational financial institution established at the end of World
War II (in 1944). The Headquarters of IBRD is in Washington D.C. and it was decided in the
conference that the Head (President) of IBRD would always be from the U.S.A.
IBRD is an international agency owned by governments of the member countries and
operated by the board of governors. These governors are generally central bank governors
or finance ministers of the member countries.
Presently there are total 189 member countries in the IBRD. Voting power of each
member is linked to its capital subscription, which in turn is based on its economic resources.
The more developed and wealthier countries constitute the major shareholders of the IBRD
and thus they exercise greater power and influence in the decision making process.
The World Bank is made up of two major institutions - one is International Bank for
Reconstruction and Development (IBRD) and the other is International Development
Association (IDA). IBRD promotes long term investment loans at reasonable rates of interest.
IDA is dedicated to making developmental loans (usually interest free) to the poor countries
of the world. The World Bank is the largest source of financial assistance to developing
countries. Moreover, it provides technical assistance and policy advice to the member
nations.
IBRD which became operational from June 1946 provides financial products and policy
advice to help its member countries in order to reduce poverty and extend the benefits of
the long-term economic growth to them. The first loan provided by IBRD was to the
Government of France (a sum of US$ 250 million) in order to finance the reconstruction of
critical infrastructure in the country. Gradually, almost the entire Europe was getting benefits
from the IBRD. And then after 1950s, it shifted its focus to promoting economic development
in other parts of the world like Asia and Africa. It played a major role in financing investment
projects in infrastructural developments in developing countries, including roads, airports,
water and sewage facilities, maritime ports, hydroelectric dams, etc.
The World Bank Group:
The World Bank Group is comprised of five constituent institutions:
1. The International Development Association (IDA)
2. The International Bank for Reconstruction and Development (IBRD)
3. The Multilateral Investment Guarantee Agency (MIGA)
4. The International Finance Corporation (IFC), and
5. The International Centre for Settlement of Investment Disputes (ICSID).
The main objectives of establishing IBRD are to help with long-term capital for the
reconstruction and development of its member countries, to promote development and
reduce poverty and provide technology and other assistance.
The IBRD provides loans to the middle-income developing countries and creditworthy
lower-income countries at market rates of interest. The IDA, which was founded in 1960,
provides long-term interest-free loans, policy advice and technical assistance, to low-income
developing countries in areas such as education, health, and rural development. The IDA’s
lending operations are financed through contributions from the developed countries, while
the IBRD raises most of its funds on the world’s capital markets.
The IFC operates in partnership with private investors in order to provide loans, loan
guarantees and equity financing to business undertakings in developing countries. The
Multilateral Investment Guarantee Agency (MIGA) usually provides Insurance and Loan
guarantees to foreign investors against losses caused by non-commercial risks in developing
countries. The International Centre for Settlement of Investment Disputes (ICSID) operates
independently of the IBRD. It is responsible for the settlement by mediation or appeasement
of investment disputes between foreign investors and their host developing countries.
David Malpass is the current President of the World Bank Group.
Objectives of the World Bank (IBRD):

Following are the main objectives for the setting-up of the World Bank:
1. Reconstruction and Development:
To help in the reconstruction and development of the member countries by facilitating
the investment capital for productive purposes which includes the restoration of
economies destroyed or disrupted by the Second World War.
2. Encouragement to Capital Investment:
The World Bank encourages private investors to invest in underdeveloped countries by
means of guarantee of participation in loans and other investments made by private
investors. Thus, it promotes capital investment in member countries by following means:
(a) To provide a guarantee on private capital investment or loans.
(b) If required capital is not available even after providing a guarantee, the Bank provides
loans for the productive activities on certain conditions.
3. Encouragement to International Trade:
The World Bank promotes balanced development of international trade by encouraging
international trade among the poor countries. By encouraging international investment, it
induces the long-term balanced growth of foreign trade and the maintenance of
equilibrium in the balance of payments. Higher capital investment assists in raising
productivity, condition of labour and their standard of living in countries where such
investments take place.
4. Establishment of Peace Time Economy:
The World Bank ensures the member-countries' changeover from war-time economy to
peace-time economy. In simple words, this objective helps to the implementation of
developmental projects in order to bring about a smooth transference from war-time
economy to a peaceful economy.
5. Maintenance of Equilibrium in Balance of Payments:
The Bank also induces long-term capital investment to assure Balance of Payments
equilibrium of its member countries. Thus, poor countries can raise productive resources
for their development.
6. Environmental Protection:
World environmental protection is another objective of the World Bank. In this regard,
the Bank provides substantial financial assistance to the underdeveloped and developing
countries which are engaged in the mission of environmental protection.
Following are the two stated goals of the World Bank that it aims to achieve by 2030:
(a) To end extreme poverty in the world by decreasing the amount of people living on
less than US$ 1.90 a day to below 3 per cent of the world population.
(b) To increase overall prosperity of the world by increasing the income growth in the
bottom 40 per cent of the world's total population.
Thus, the basic objective of the Word Bank is to support development and reduce
poverty.
Functions of the World Bank:

Since its establishment, the World Bank has been playing an important role in giving
loans and loan guarantees for development works to its member countries, especially to
underdeveloped and developing countries. These loans are provided by the Bank for various
development projects of 5 to 20 years duration.
Following are the functions of the World Bank:
1. The World Bank grant loans to member countries up to 20 per cent of its total share
in paid-up capital.
2. The World Bank provides loans to private investors also belonging to the member
countries, but the private investors need to take permission of its native country. The
Bank usually charges from 1 per cent to 2 per cent as service charges.
3. The World Bank decides all the terms and conditions of the loans, the quantum of
loan service, interest rate on loans, etc.
4. Based on the project duly submitted to the bank by the member country, the World
Banks grants loans.
5. The World Bank provides support to developing nations through research and
analysis, policy advice, technical assistance, etc. It also serves various capacity
development programmes in the member countries. On various issues of
development and concerns in the emerging nations, it provides fruitful suggestions
and advice by participating in various conferences and forums.
6. By sharing the vast pool of knowledge, the World Bank ensures that the member
countries get access to the best global expertise.
7. The World Bank focuses on providing help to the developing countries in order to
deliver measurable results.
8. The World Bank also provides access to its various databases to the member
countries and helps the researchers across the nations in order to know about
indicators regarding development around the world.
9. The World Bank also provides live discussions on various issues faced by the member
countries through the live links of its websites.
4.2 INTERNATIONAL MONETARY FUND (IMF) - ORGANIZATION AND
FUNCTIONS
The International Monetary Fund (IMF) is an international financial organization which
promotes financial stability and global economic growth. It encourages international trade
and tries to reduce poverty and inequality. The key determinant of the voting power in IMF
decisions is the Quotas of member countries. There are 190 member countries in the IMF
presently. Votes in IMF decisions comprise one vote per 100,000 Special Drawing Right (SDR)
of quota plus basic votes (it is same for all member nations).
The main mission of the IMF is to promote economic growth and financial stability in the
world. As part of the Bretton Woods agreement (1944), the IMF was originally created in
1945, which became operational from 1947. By introducing a system of convertible
currencies at fixed exchange rates, the IMF attempted to encourage international financial
cooperation among the member nations. The areas of involvement of the IMF are exchange
rate, Special Drawing rights, liquid assets, currency, etc.
Organization of IMF:
The IMF has 17 departments and a management team which carry out the organization's
policy, technical work and analytical work. One specific department is charged with
managing the resources of the IMF and this department also explains from where and how
the IMF gets its resources and how they are utilized.
The head of the staff of the IMF is its Managing Director and he is assisted by a First
Deputy Managing Director and 3 other Deputy Managing Directors. The IMF is headed by a
board of governors who are usually their countries’ central bank governors or finance
ministers. The employees of the IMF are from all over the world. When countries become
members of the IMF they have to pay their capital subscription and from this money, the
resources for the organization are generated.
The International Monetary Fund's Headquarters is based in Washington D.C. Each
member nation has representation on the executive board of the IMF in proportion to its
financial importance. As mentioned above, Quotas are a key determinant of the voting power
in making decisions in the IMF.
The mission of the IMF is described in its website as "to foster global monetary
cooperation, secure financial stability, facilitate international trade, promote high
employment and sustainable economic growth and reduce poverty around the world."
The IMF also acts as a gatekeeper. It is because to become the member of the
International Bank for Reconstruction and Development (IBRD), the nation must be a
member of the IMF.
The Bretton Woods system collapsed in the 1970s and accordingly the IMF has promoted
the exchange rates system from fixed exchange rates to floating exchange rates. This simply
means that the market forces (demand for and supply of foreign currency) are able to
determine the value of currencies relative to one another. This system has been continuing
even today.
IMF Activities / Operation of IMF:
Since its establishment, the primary activities of the IMF have included financing the
short-term balance-of-payments deficits of member countries, stabilizing currency exchange
rates, providing technical assistance and advice to borrowing countries.
1. Financing Balance-of-payments Deficits:
Member countries having balance of payments deficits may borrow money from the IMF.
The borrowing will be in foreign currencies which they have to repay with interest, by
purchasing with the member countries own currencies the foreign currencies held by the
IMF. Member country can borrow at urgent basis up to 25 per cent of its quota in this way.
The amounts available for purchase are denominated in Special Drawing Rights (SDRs). The
value of SDR is calculated daily as a weighted average of four currencies - the U.S. dollar, the
euro, the British pound sterling and the Japanese yen. Member countries have to use the
SDRs that have been allocated to them by the IMF to settle international debts.
Special Drawing Rights are not part of the quota subscriptions supplied by the members
of the IMF. They are not the part of the general asset pool available for loans to its members.
The IMF uses the SDR as its unit of account for all types of transactions. Drawing on the IMF
by a country raises the fund’s holdings of that country’s currency but lowers its holdings of
another country’s currency by an equal amount. Thus the composition of the fund’s
resources changes, but the total resources as measured in SDRs remains the same.
The IMF mainly provides loans to those countries which are experiencing economic
distress to mitigate or prevent financial crises they are facing.
2. Stabilizing Currency Exchange Rates:
As per the original agreement, the IMF supervised a modified gold standard system of
pegged currency exchange rates. Each member nation declared a value for the country's
currency relative to the U.S. dollar. The U.S. Treasury in turn tied the dollar to gold by
agreeing to buy and sell gold to other governments at $35 per ounce. In order to eliminate
competitive devaluations by the countries, the IMF allowed exchange rate movements
greater than 1 per cent only for countries in fundamental balance-of-payments
disequilibrium. However, in August 1971, then U.S. President Richard Nixon ended this
system of pegged exchange rates. He refused to sell gold to other governments at the
stipulated price.
Since then the IMF has allowed each member to choose the method it uses to determine
its exchange rate - a floating exchange rate [where the exchange rate for a country’s currency
is determined by the demand and supply of that currency on the international currency
markets]; a managed float [where a country’s monetary officials can occasionally intervene in
international currency markets to buy or sell its currency to influence short-term exchange
rates] or a pegged exchange arrangement [where a country’s monetary officials pledge to tie
their currency’s exchange rate to another currency or group of currencies]. The IMF shifted its
focus to loaning money to developing countries after losing its authority to regulate currency
exchange rates.
3. Observation / Surveillance:
Massive amounts of data are collected by the IMF on international trade, national
economies and the global economy in aggregate. At both the national and international
levels, the organization also provides economic forecasts updated regularly. These forecasts
are published in the World Economic Outlook. For example, the IMF has projected that the
global economy will grow by 4.4 per cent in 2022 and in the year 2023, it will slow to 3.8 per
cent. They are accompanied by discussions on the effect of monetary, fiscal and trade
policies on financial stability and growth prospects.
4. Capacity Building:
Through the capacity building programs, the IMF provides technical assistance, policy
advice and trainings to its member countries through its various programs. Training in data
collection and analysis are included in these programs.
5. Lending:
Countries experiencing with economic distress are given loans by the IMF in order to
prevent or mitigate financial crises faced by the countries. Member nations of IMF contribute
the funds for these lending to a pool based on a Quota system.
The funds provided by the IMF are mostly conditional on recipient countries. The
recipients must make reforms in order to increase their growth potential and financial
stability. These conditional loans are known as Structural Adjustment Programs.
6. Advising Borrowing Governments:
The IMF consults annually with the government of each member nation. It attempts to
assess members' economic health and tries to prevent financial problems that may arise in
near future. The officials of member countries are provided training in macroeconomic
analysis and policy formulation.
Thus, the IMF works in various fields for the development of its member nations such as
to promote global monetary cooperation, facilitate international trade, promote high
employment, secure financial stability, sustainable economic growth, reduce poverty around
the world, etc.
The fundamental purpose of the IMF is to ensure the stability of the international
monetary system. Stability in exchange rates and international payments leads to the stability
in the international monetary system. This stability enables countries and their citizens in
order to transact with each other smoothly. IMF tries to maintain this stability by keeping
track of the economies of the member countries and the global economy. It provides loans
to countries with severe balance of payments difficulties and giving practical advice and help
to its members.
There are some fundamental difference between the World Bank and the IMF in their
respective purposes and functions:
The World Bank tries to reduce poverty by offering assistance to middle-income and low-
income countries while the IMF supervises the stability of the world's monetary system. The
IMF provides short and medium term loans while the World Bank gives long term loans.
4.3 WORLD TRADE ORGANIZATION (WTO) - INTRODUCTION AND
FUNCTIONS
The World Trade Organization (WTO) was established to supervise and liberalize world
trade. Let us understand first the history of the establishment of the WTO as an organization.
September 4, 1929 was the beginning of Great Depression in 1930s that started from the
U.S.A. It resulted in worldwide stock market crash on Tuesday, 29th October 1929 and this
Tuesday is known in the history as the Black Tuesday. Following this devastating economic
turmoil, countries had started tariff war which ultimately became one of the major economic
factors of the World War II from 1939 to 1945.
In the Bretton Woods Conference in 1944, there was proposal for establishing
International Trade Organization (ITO) so that it could supervise the international trade and
solve the problems created by tariff war among the trading countries. However, the so called
organization, ITO was never been established. In 1947, at Geneva Conference, the General
Agreement on Tariffs and Trade (GATT) was created. It came into effect from 1st January
1948. Although GATT was a provisional agreement, it helped in liberalizing world trade over
the next five decades. However, by the end of 1980s, there were calls for a stronger
multilateral organization in order to monitor trade and also to resolve trade disputes. After
multilateral trade negotiations, following the completion of the Uruguay Round of GATT
from 1986 to 1994, the WTO was established and it began operations from January 1, 1995.
Thus, WTO is the successor GATT. The Headquarters of the WTO is in Geneva, Switzerland.
GATT was just an agreement while WTO is a well structured organization. Services were
not included in GATT, but in WTO both goods and services are taken into account. The
General Agreement on Trade in Services (GATS) is an important component of the WTO.
Other significant components of the WTO include, the Agreement on Trade-Related
Aspects of Intellectual Property Rights (TRIPS), the Dispute Settlement Body, the Trade Policy
Review Mechanism, and four plurilateral agreements on civil aircraft, government
procurement, dairy products, and bovine meat (though the latter two were terminated at the
end of 1997 with the creation of related WTO committees). In April 1994, all these
agreements were signed in Marrakech, Morocco. GATS attempted to supervise and liberalize
trade related to services, TRIPS sought to improve protection of intellectual property across
borders, Dispute settlement body established rules for resolving conflicts between members
and the Trade Policy Review Mechanism documented national trade policies and assessed
their conformity with WTO rules.
The highest decision making body of the WTO is the Ministerial Conference. This body
meets at least once in two years.
The WTO is based on agreements signed by the majority of the world’s trading nations.
The organization helps producers, exporters and importers of goods and services in
protecting and managing their businesses. The WTO has 164 member countries as of 2021.
Afghanistan and Liberia are the most recent members of the WTO. They both joined in the
year 2016. There are 25 observer countries of the WTO.
On 15th February 2021, the General Council of the WTO selected two-time Nigerian
finance minister Dr. Ngozi Okonjo-Iweala as its Director-General. Dr. Ngozi is the first
woman and the first African to be selected for the Director-General position. She took office
on 1st March, 2021, and her term will end in August 2025.
The WTO is the only international organization that deals with the rules of trade between
nations. The primary goal of the WTO is to ensure that trade flows as freely, predictably and
smoothly as possible.
The WTO tries to help its member countries to raise living standards, create jobs and
improve people’s lives. The global systems of trade rules are operated by the organization. It
helps developing countries build their trade capacity. It also provides a forum for its member
countries in order to negotiate trade agreements and to resolve the trade related problems
faced by them.
Objectives of the WTO:

1. To promote world trade by reducing trade barriers.
2. To improve the standard of living of people in the member countries.
3. To ensure free movement of goods and services in the international trade.
4. To ensure optimum utilization of world resources.
5. To accept the concept of sustainable development.
6. To enlarge production and trade of goods.
7. To increase the trade of services.
8. To ensure full employment and broad increase in effective demand.
9. To protect the environment.
Principles of the WTO:
The WTO works on the basis of the following principles:
1. Non Discrimination - Most Favoured Nation (MFN): Under the WTO agreements,
countries cannot discriminate between their trading partners. If one trading partner is
given MFN, then the MFN giving nation have to do the same for all other WTO
members.
2. National Treatment: Both domestic products and imported products should be
treated equally in the market.
3. Transparency: The principle of Transparency of the WTO stipulates that the policies
and regulations of trade of a country affecting foreign trade should be clearly
communicated to its trading partners.
4. Free Trade: WTO promotes international trade on the principle of lowering trade
barriers. These barriers are customs duties (or tariffs) and measures such as quotas
that restrict quantities selectively.
5. Predictability: The principle of predictability is when countries agree to open their
markets for goods or services, they “bind” their commitments. With predictability,
investment is encouraged, employments are created and consumers can enjoy the
benefits of competition - diversified choices and lower prices.
Functions of the WTO:
Even though the WTO is a trade organization, it performs diversified functions for the
betterment of the member nations. Following are some of the functions of the WTO:
1. Improving People’s Lives: The primary goal of the WTO is to improve the standard
of living and welfare of people around the world. In the Marrakesh agreement it was
recognized that trade should be conducted with a view to raising standards of living,
increasing real income ensuring full employment and expanding global trade in
goods and services while allowing for the optimal use of the available resources of
the world.
2. Negotiating Trade Rules: The key objective of establishing the WTO was to
progressively reduce obstacles to trade. Reducing and removing trade barriers help
countries to increase their shares in the international market and thus, they can
productively utilize their resources as they have got expose to the bigger markets.
Countries which are facing trade barriers and wanting to reduce them, the WTO
negotiations have helped them to open their markets for trade. On the contrary, in
some circumstances, such as to protect consumers or the environment, WTO rules
support maintaining trade barriers.
3. Overseeing WTO Agreements: The documents of the WTO agreement provide the
rules for international commerce and bind governments to keep their trade policies
within agreed limits. Their goal is to help producers of goods and services, exporters
and importers conduct their business, with a view to raising standards of living, while
allowing governments to meet social and environmental objectives.
4. Maintaining Open Trade: The WTO's primary purpose is to help trade flow as freely
as possible considering that there are no undesirable side effects. Growth of trade
activities stimulates employment and economic growth and supports the integration
of developing countries into the international trading system. The rules of governing
trade have to be transparent and predictable. The WTO plays an important role here.
It ensures open trade to assure the trade participating nations that there will be no
sudden changes of trade policy.
5. Settlement of Disputes: Trade relations of the trading nations often involve
conflicting interests. Trade restrictions like tariffs and quotas imposed by the
countries on the products inflowing to their domestic markets are usually the causes
of disputes. Agreements negotiated in the WTO help to solve these disputes. The
most harmonious way to settle the differences among the trading nations is through
a neutral procedure based on an agreed legal foundation. That is the principle
behind the dispute settlement process of the WTO agreements.
Regional Economic Integration
Regional economic integration is the cooperation among some countries of a region with
the aim to develop that area. This is also known as Regional Economic Force, Regional Trade
Block and Regional Grouping. It is a type of inter-governmental agreement to reduce trade
barriers and promotes economic growth and stability among the participating nations.
Regional cooperation reduces chance of conflict and war, provides larger markets, freedom
of movement of goods and services, etc. However, one cannot deny the possibility of
overpowering by the powerful member. Some of the major trading blocks that have emerged
in recent years are:
European Union, Association of South East Asian Nation (ASEAN), South Asian
Association for Regional Cooperation (SAARC), BRICS (Brazil, Russia, India, China and South
Africa), etc. Let us discuss below SAARC and BRICS in detail where India plays a prominent
role.
4.4 SOUTH ASIAN ASSOCIATION FOR REGIONAL COOPERATION (SAARC) -

INTRODUCTION AND FUNCTIONS
The South Asian Association for Regional Cooperation (SAARC) was established in 1985.
It seeks to promote the welfare of the people of South Asia. The organization SAARC
promotes active collaboration and mutual assistance among the members and cooperates
with international and regional organizations.
In November 1980, the idea of regional cooperation in South Asia was first raised. The
foreign secretaries of the seven founding countries Bangladesh, Nepal, India, Maldives,
Pakistan, Bhutan and Sri Lanka met for the first time in Colombo in April 1981. In August
1983, the foreign ministers at their first meeting in New Delhi, adopted the Declaration on
South Asian Association for Regional Cooperation (SAARC) and finally formally launched the
Integrated Program of Action (IPA) in the following areas of cooperation:
• Agriculture and Rural Development
• Human Resource Development and Tourism
• Energy, Transport, Science and Technology
• Environment, Natural Disasters and Biotechnology
• Economic, Trade and Finance
• Social Affairs
• Postal service
• Telecommunications
• Information and Poverty Alleviation
• Arts, culture and sports
• Education, Security and Culture and Others
Thus, the organization of South Asian nations is dedicated to economic, social,
technological and cultural development emphasizing collective self-reliance of the region.
Currently, there are nine Observer countries to SAARC,
(i) Australia
(ii) China
(iii) European Union
(iv) Iran
(v) Japan
(vi) Republic of Korea
(vii) Mauritius
(viii) Myanmar and
(ix) United States of America.
The newest member of SAARC is Afghanistan. In 2007, the country became its 8th
member. Heads of state of the member countries usually meet annually and meetings of
foreign secretaries are held twice annually.
The Headquarters of SAARC is in Kathmandu, Nepal.
Purpose of SAARC:
The SAARC seek to promote the welfare of the peoples of South Asia. It aims to
strengthen collective self-reliance, promote active collaboration and mutual assistance in
various fields, and cooperate with regional and international organizations.
Principal Organs:
Following are the principal organs of SAARC:
1. Meetings of Heads of State or Government: The Heads of State or Government
during the 9th SAARC Summit agreed that a process of informal political
consultations would prove useful in promoting stability, harmony, peace and
accelerated socio-economic cooperation in the South Asian region.
2. Council of Ministers: The Council of Ministers comprises the Foreign Ministers of
Member States. The Council usually meets twice a year. It may also meet in
extraordinary and unexpected circumstances by agreement of Member States.
3. Standing Committee of Foreign Secretaries: This Committee provides overall
coordination, mobilizes resources, determines priorities and approves projects and
financing. Though in practice it normally meets twice a year, the committee may
meet as often as deemed necessary and submits its reports to the Council of
Ministers.
4. Secretariat: On 16 January 1987, the SAARC Secretariat was established in
Kathmandu, Nepal. The role of the Secretariat is to coordinate and monitor the
implementation of SAARC activities and service the meetings of the association. It
also serves as the channel of communication between SAARC and other international
organizations.
The composition of the Secretariat is the secretary-general on the top, seven directors,
and the general services staff. The Council of Ministers appoints the secretary-general. The
appointment of the secretary-general is on the principle of rotation for a non-renewable
tenure of three years.
Functions of the SAARC:
1. Promote Welfare: Promoting the welfare of the people of South Asia and to
improve their quality of life is the primary function of SAARC.
2. Accelerate Economic Growth: SAARC aims to accelerate economic growth, social
progress and cultural development in the South East region and to provide all
individuals the opportunity to live in dignity and to realise their full potentials.
3. Promote and Strengthen Collective Self-reliance: Promoting and strengthening
the collective self-reliance among the countries of South Asia is another important
objective of SAARC.
4. Promote Active Collaboration: Promote active collaboration and mutual assistance
in the economic, cultural, social, technical and scientific fields.
5. To Strengthen Cooperation with Other Developing Countries: Strengthen

cooperation among the member countries in international forums on matters of
common interests.
6. International and Regional Organizations: Another important function of SAARC is
to cooperate with international and regional organizations with similar aims and
purposes.
7. Removal of Poverty: SAARC works on removal of poverty through various packages
of programs among the member nations.
4.5 BRICS (BRAZIL, RUSSIA, INDIA, CHINA AND SOUTH AFRICA) -
INTRODUCTION AND FUNCTIONS
The acronym BRICS is used for the grouping of the world’s leading emerging economies,
namely Brazil, Russia, India, China and South Africa. Initially South Africa was not the member
of cooperation of these emerging economies and thus BRICS was known as BRIC. South
Africa was invited to join BRIC in 2010 and hence BRIC is now known as BRICS. All these
countries ranked among the fastest-growing emerging market economies of the world for
years. This was mainly because of low labour costs, favorable demographics and abundant
natural resources at a time of a global commodities boom.
Goldman Sachs' economist Jim O'Neill initially coined the acronym "BRIC" in 2001
(without South Africa). In a report he claimed that the four BRIC economies (Brazil, Russia,
India & China) would come to dominate the global economy by 2050 as these countries
together represent a significant share of the world's production and population.
Consequently, in 2006, the four countries initiated a regular informal diplomatic dialogue,
with annual meetings of Foreign Ministers at the margins of the General Debate of the UN
General Assembly (UNGA). Eventually this interaction became successful and the dialogue
was carried out at the level of Heads of State and Government in its Summits. The Summit of
BRICS leaders is convened annually. The first BRIC Summit focused on issues such as reform
of the global financial architecture and it took place Yekaterinburg, Russia on 16th June 2009.
Structure of BRICS:
The cooperation of BRICS countries does not exist in form of an organization. It is an
annual summit between the supreme leaders of these five member nations. In accordance
with the acronym B-R-I-C-S, the Chairmanship of the annual summit is rotated among the
members.
Salient Features of BRICS:
Together, BRICS nations accounts for about 25 per cent of the Gross Domestic Product
(GDP) of the world and over 40 per cent of the population of the world (over 3 billion)
making it a significant economic engine. It has become an emerging investment market and
global power bloc. This regional cooperation accounts for over 16 per cent share in the
international trade. These countries, over the years have become the main engines of global
economic growth. Among the BRICS countries, China has the largest at 16.86 trillion U.S.
dollars in 2021 and all other members have below three trillion US dollar. In total the BRICS
countries have a GDP over 23.5 trillion U.S. dollars in 2021.
Objectives of BRICS:
The BRICS seeks to broaden and intensify cooperation among the individual countries
and within the grouping for more sustainable, equitable and mutually beneficial
development.
Each member nation's growth, development and poverty objectives are taken into
consideration by BRICS in order to ensure that relations are built on the respective country’s
economic strengths and to avoid competition where possible.
Currently, with the passage of time BRICS has been emerging as a new and promising
political-diplomatic entity with diverse objectives. The present objectives are far beyond the
original objective of reforming global financial institutions.
Areas of Cooperation of BRICS:
1. Economic Cooperation
Trade and investment flows between BRICS countries have been growing very fast.
Agreements have been concluded in the areas of Innovation Cooperation, Customs
Cooperation, Economic and Trade Cooperation, etc.
All these agreements contribute to the realisation of the shared objectives of strong
economic cooperation and promoting integrated trade and investment markets.
2. People-to-People Exchange:
In order to foster closer cooperation in the areas of culture, sport, education, film and
youth, BRICS members have recognized the need for strengthening People-to-People
exchanges.
This policy seeks to forge new friendships, deepen mutual understanding between BRICS
peoples in the spirit of openness, diversity, inclusiveness and mutual learning.
Parliamentarian Forum, Trade Union Forum, Young Diplomats Forum, Civil BRICS as well
as the Media Forum, etc. are such People to people exchanges.
3. Political and Security Cooperation:
Political and security cooperation of BRICS members is aimed at achieving peace,
development, security and cooperation to have a more equitable and fair world.
In terms of domestic and regional challenges, BRICS as a forum provides opportunities
for sharing policy advice and exchanges of best practices.
4. Cooperation Mechanism: Cooperation among members is achieved through the
following mechanisms:
(a) Formal diplomatic engagement among the national governments of the member
countries.
(b) Engagement through government-affiliated institutions such as state-owned
business councils and enterprises.
(c) People-to-People and Civil society engagement.
Impacts of BRICS on Global Institutional Reforms:

The financial crisis of 2008 was the main reason to start co-operation among the BRICS
nation. The global recession of 2008 raised doubts over sustainability of the dollar-
dominated monetary system of the world.
Then in 2009, the BRICS countries called for the “the reform of multilateral institutions in
order that they reflect the structural changes in the world economy and the increasingly
central role that emerging markets now play”.
BRICS has worked as agenda setters in multilateral institutions. For example, BRICS
managed to push for institutional reform that led to IMF quota reform in 2010.
New Development Bank (NDB)
The New Development Bank set-up by the BRICS countries is headquartered in Shanghai,
China with regional offices in Brazil and South Africa. At the 4th BRICS Summit in New Delhi,
in 2012, there was discussion about the need for a development bank in the bloc to mobilize
resources for infrastructure and sustainable development projects in BRICS nations and in
other emerging economies, as well as in developing countries. Accordingly, the leaders of
BRICS signed the Agreement establishing the New Development Bank (NDB) during its Sixth
Summit in Fortaleza, Brazil on July 15, 2014. The Bank started operations from July 21, 2015.
Declaration of Fortaleza stressed that the New Development Bank would strengthen
cooperation among BRICS nations and would also supplement the efforts of multilateral and
regional financial institutions for global development.
The key areas of operation of NDB are sustainable urban development, transport
infrastructure, clean energy, irrigation, economic cooperation among the member countries,
etc.
The development bank functions on a consultative mechanism among the member
countries of BRICS and all member countries possess equal rights.
India's K.V. Kamath was the first President of the NDB and his period was from 2015 to
2020. The current president of NDB is Mr. Marcos Prado Troyjo from Brazil.
As a part of Fortaleza Declaration, BRICS nations signed BRICS Contingent Reserve
Arrangement (CRA) in 2014 considering the increasing instances of global financial crisis.
The CRA aims to provide short-term liquidity support to the member countries through
currency swaps in order to help mitigating balance of payments crisis situation and to further
strengthen financial stability in the entire region.
Way Forward
In the last decade, BRICS did very well to identify issues of common interests and to
create platforms to address these issues. Each of the member nations must make a realistic
assessment of the opportunities and inherent limitations in order to remain relevant over the
next decade. BRICS must build on the success of the NDB and also they should invest in
additional BRICS institutions such as an institutional research wing, along the lines of the
OECD, which can offer solutions suitable for the developing world.
POINTS TO REMEMBER
• International Financial Institutions provide long-term credits at low-interest loans.
• They also provide grants to finance big projects run by governments or the private
sector.
• They operate on the principle that strong economic institutions lead to economic and
social development, particularly in poor countries which are most affected by
poverty.
• A significant agenda of International Financial Institutions is to promote private
investments in order to encourage entrepreneurial initiatives that help developing
countries to achieve sustainable growth.
• In the Bretton Woods Conference in 1944 both International Bank for Reconstruction
and Development (IBRD) and the International Monetary Fund (IMF) were
established.
• IBRD and IMF are together known as the Bretton Wood's twins.
• IBRD which became operational from June 1946 and IMF from 1947.
• The main purpose of establishing IBRD and IMF was to bring about a smooth
transition from a war-time to peace-time economy.
• The world's largest development bank is the International Bank for Reconstruction
and Development (IBRD).
• The head quarter of IBRD is in Washington DC and it was decided in the conference
that the Head (President) of IBRD would always be from the U.S.A.
• Voting power of each member is linked to its capital subscription.
• The World Bank is made up of two major institutions- one is International Bank for
Reconstruction and Development (IBRD) and the other is International Development
Association (IDA).
• The World Bank is the largest source of financial assistance to developing countries. It
provides technical assistance and policy advice to the member nations.
• The first loan provided by IBRD was to the Government of France (a sum of US$ 250
million) in order to finance the reconstruction of critical infrastructure.
• The World Bank Group is comprised of five constituent institutions: the International
Development Association (IDA), the International Bank for Reconstruction and
Development (IBRD), the Multilateral Investment Guarantee Agency (MIGA), the
International Finance Corporation (IFC), and the International Centre for Settlement
of Investment Disputes (ICSID).
• Objectives of the World Bank:
1. Reconstruction and Development
2. Encouragement to Capital Investment
3. Encouragement to International Trade
4. Establishment of Peace Time Economy
5. Maintenance of Equilibrium in Balance of Payments
6. Environmental Protection
• Functions of the World Bank:

1. The World Bank can grant loans to member countries.
2. The World Bank provides loans to private investors.
3. The World Bank decides all the terms and conditions of the loans, interest rate on
loans, etc.
4. Based on the project duly submitted to the bank by the member country, the
World Banks grants loans.
5. The World Bank provides support to developing nations through research and
analysis, policy advice, technical assistance, etc.
6. By sharing the vast pool of knowledge, the World Bank ensures that the member
countries get access to the best global expertise.
• The International Monetary Fund (IMF) is an international financial organization
which promotes financial stability and global economic growth.
• By introducing a system of convertible currencies at fixed exchange rates, the IMF
attempted to encourage international financial cooperation among the member
nations.
• The areas of involvement of the IMF are exchange rate, Special Drawing rights, liquid
assets, currency, etc.
• The International Monetary Fund's Headquarters is based in Washington D.C.
• Quotas are a key determinant of the voting power in making decisions in the IMF.
• The IMF also acted as a gatekeeper as to become the member of the IBRD, the
nation must be a member of the IMF.
• The Bretton Woods system collapsed in the 1970s and accordingly the IMF has
promoted the exchange rates system from fixed exchange rates to floating exchange
rates.
• IMF Activities / Operation of IMF
1. Financing Balance-of-payments Deficits
2. Stabilizing Currency Exchange Rates
3. Observation / Surveillance
4. Capacity Building
5. Lending
6. Advising Borrowing Governments
• Difference between IMF and World Bank:
1. IMF maintains stability in the world monetary system.
2. World Bank tries to remove poverty.
3. The IMF provides short and medium term loans while the World Bank gives long
term loans.
• September 4, 1929 was the beginning of Great Depression.
• Tuesday, 29th October 1929 is known in the history as the Black Tuesday.
• In 1947, at Geneva Conference the General Agreement on Tariffs and Trade (GATT)
was created.
• Uruguay Round of GATT was continued from 1986 to 1994.
• The WTO became operational from January 1, 1995.

• WTO is the successor GATT. The Headquarters of the WTO is in Geneva, Switzerland.
• GATT was just an agreement. WTO is a well structured institution.
• Services were not included in GATT, but in WTO both goods and services are taken
into account.
• The highest decision making body of the WTO is the Ministerial conference. This
body meets at least once in two years.
• The WTO has 164 member countries as of 2021. Afghanistan and Liberia are the most
recent members of the WTO. They both joined in July 2016. There are 25 observer
countries.
• Dr. Ngozi Okonjo-Iweala is Director-General of WTO. She took office on 1st March,
2021, and her term will end in August 2025.
• The WTO is the only international trade organization.
• The WTO tries to help its member countries to raise living standards, create jobs and
improve people’s lives.
• Objectives of WTO:
1. Promote world trade by reducing trade barriers
2. Improve the standard of living of people
3. Ensure free movement of goods and services
4. Ensure optimum utilization of world resources
5. Accept the concept of sustainable development
6. Enlarge production and trade of goods.
7. Increase the trade of services.
8. Ensure full employment
9. Protect the environment.
• Principles of the WTO:
1. Non Discrimination - Most Favoured Nation (MFN)
2. National Treatment
3. Transparency
4. Free Trade
5. Predictability
• Functions of the WTO:
1. Improving People’s Lives
2. Negotiating Trade Rules
3. Overseeing WTO Agreements
4. Maintaining Open Trade
5. Settlement of Disputes
• SAARC was established in 1985.
• Bangladesh, Nepal, India, Maldives, Pakistan, Bhutan and Sri Lanka are founding
members of SAARC.
• The newest member of SAARC is Afghanistan
• The Headquarters of SAARC are in Kathmandu, Nepal.
• The Functions of the SAARC:

1. Promote Welfare
2. Accelerate Economic Growth
3. Promote and Strengthen Collective Self-reliance
4. Promote active collaboration
5. To Strengthen Cooperation with Other Developing Countries
6. International and Regional Organizations
7. Removal of Poverty
• Goldman Sachs' economist Jim O'Neill initially coined the acronym "BRIC" in 2001.
• Brazil, Russia, India, China, and South Africa are the members of BRICS.
• BRICS countries have a GDP over 23.5 trillion U.S. dollars in 2021.
• Areas of Cooperation of BRICS:
1. Economic Cooperation
2. People-to-People Exchange
3. Political and Security Cooperation
4. Cooperation Mechanism
1. What is Regional Economic Cooperation? Discuss the importance of such
cooperation.
2. Explain the organization and functions of the World Bank/IBRD.
3. Discuss the Objectives of IMF.
4. Distinguish between IMF and World Bank.
5. Explain the role played by the New Development Bank of BRICS.
6. Discuss the importance of the World Trade Organization.
7. Explain the history of establishing World Bank, IMF and GATT.
8. Write Short Notes
(A) Functions of the World Bank
(B) Principles of the WTO
(C) SAARC
(D) Areas of Cooperation of BRICS
1. Why was the World Bank established?
(a) To promote the International Trade
(b) To reconstruct the economies damaged during the Second World War
(c) To improve the adverse Balance of Payment situation of the non-member
countries
(d) None of the above
2. Which of the following statements is correct?

(a) Every member country of the IMF automatically becomes the member of the
World Bank
(b) The World Bank has 45 founder members
(c) India is not the founding member of the World Bank
(d) IMF is the part of World Bank group
3. Which of the following is not matched correctly?
(a) IBRD (estd.)--->1945 (b) IFC (estd.)--->1948
(c) IDA (estd.)--->1960 (d) MIGA (estd.)--->1988
4. How many members are there in the IBRD?
(a) 193 (b) 198
(c) 189 (d) 206
5. Which of the following statements is not correct?
(a) Both the IMF & IBRD have headquarters in Washington
(b) ICSID is the constituent organization of the World Bank Group
(c) IBRD is known as World Bank also
(d) India's vote share in the International Monetary Fund is 10%
6. Who is the current President of the World Bank Group?
(a) Robert Zoellick (b) David Malpass
(c) Christine Lagarde (d) Jim Yong Kim
7. Which of the following is not the function of the World Bank?
(a) To provide long-term loan to the member countries
(b) To provide loan to private investors belonging to member countries on its own
guarantee
(c) To ensure exchange rate stability
(d) To provides loan mainly for productive activities
8. Which of the following institutions is not part of the World Bank Group?
(a) IBRD (b) WTO
(c) IDA (d) IFC
9. Which of the following institutions is not part of the World Bank community?
(a) IBRD (b) WTO
(c) IDA (d) IFC
10. What are the forms of assistance that the World Bank provides to its members?
(a) Technical and financial (b) Political and financial
(c) Political and economic (d) Technical and military
11. The World Bank Group is made up of how many organisations?
(a) 3 (b) 5
(c) 8 (d) 10
12. Which organization of the World Bank Group deals with matters related to the
development of the poorest countries in the world?
(a) The International Bank for Reconstruction and Development
(b) The International Development Association
(c) The International Finance Corporation
(d) The Multilateral Investment Agency
13. When was IMF established?
(a) Dec. 27, 1945 (b) Jan. 30, 1947
(c) Jan. 1, 1946 (d) Sept. 24, 1947
14 The value of Special Drawing Right (SDR) is determined by the basket of ______
currencies.
(a) 4 (b) 5
(c) 6 (d) 7
15. Which of the following is not the objective of the IMF?
(a) To promote international monetary cooperation
(b) To ensure balanced international trade
(c) To ensure exchange rate stability
(d) To provide loan to private sectors
16. If the Balance of Payment of a country is adverse, then which institution will help that
country?
(a) World Bank (b) World Trade Organization
(c) International Monetary Fund (d) Asian Development Bank
17. Following is the soft loan section of the World Bank
(a) International Development Association (IDA)
(b) International Finance Corporation (IFC)
(c) Multilateral Investment Guarantee Agency (MIGA)
(d) All of the above
18. When did the World Trade Organization come into effect?
(a) March 6, 1996 (b) April 8, 1994
(c) February 5, 1994 (d) January 1, 1995
19. How many members are present in the WTO?
(a) 207 (b) 195
(c) 160 (d) 164
20. WTO agreements include _____.
(a) Goods (b) Services
(c) Intellectual property (d) All of the above
Answers
1. (b) 2. (a) 3. (b) 4. (c) 5. (d) 6. (b) 7. (b) 8. (b) 9. (b) 10. (a)
11. (b) 12. (b) 13. (a) 14. (b) 15. (d) 16. (c) 17. (a) 18. (d) 19. (d) 20. (d)

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INDIAN AND

Dr. (Mrs.) Girija Shankar

Dr. Iramani K Bhuyan

Published By : Polyplate Printed By :

KOLHAPUR JALGAON SOLAPUR

1. Human Resources and Economic Development 1.1 – 1.24

2. Foreign Capital and Economic Development 2.1 – 2.24

3. India's Foreign Trade and Balance of Payment 3.1 – 3.28

4. International Financial Institutions and

1.2 HUMAN DEVELOPMENT INDEX AND INDIA

Dimension Life expectancy index Education index GNI index

Human Development Index (HDI)

• An index of 0.5 – 0.690 means medium development

(i) Increasing Income Inequalities:

Human Development Index (female) Human Development Index (male)

Gender Development Index (GDI)

The United Nations Development Programme (UNDP) introduced Gender Inequality

Female gender Male gender

Gender Inequality Index (GII)

Fig. 1.4: Structure of Multidimensional Poverty

1.4.4 Global Hunger Index (GHI)

• According to the report published by the United Nations Development Programme

1. Which of the following is not a merit of human capital formation?

4. Who was the originator of the Human Development Report?

investing in foreign land is purchasing a supplier or potential supplier in the supply

Difference between FDI and FII:

The Government also amended the Foreign Exchange Management (non-debt

• Role of foreign capital in the economic development of a country:

• Foreign Institutional Investors or Foreign Portfolio Investors (FIIs/FPIs) have been

5. What is Foreign Institutional Investment? What are advantages and disadvantages of

(c) Any investment by way of equity shares compulsorily convertible preference

Select the correct answer using the codes given below.

3.1 ROLE OF FOREIGN TRADE IN INDIAN ECONOMIC DEVELOPMENT

[B] Types of Foreign Trade:

Exports Imports Trade De"cit

60.00 54.05 57.87

Exports Imports Trade De!cit

Table 3.1: Top 10 Trading Partners of India

2020-21 2019-20 ($ million) Growth %

Total 6,84,774.10 7,88,070.32 –13.11

3.3 INDIA'S RECENT FOREIGN TRADE POLICY (EXIM POLICY)

Components / Structure of Balance of Payments:

[a] Balance of Trade (BOT) Account or Trade Balance:

Difference between Balance of Trade and Balance of Payments:

Fig. 3.3: India's Current Account Balance since 2000 to 2020

3. Import of Finished Goods and Export of Raw Materials: Developing countries

• In a closed economy, consumption and investment expenditure of both public and

• There are three main components of balance of payments. They are:

• Convertibility of currency in current account implies that it can be converted to

13. Balance of payments record of a country is maintained in a standard ______ method.

Objectives of the World Bank (IBRD):

Functions of the World Bank:

Objectives of the WTO:

4.4 SOUTH ASIAN ASSOCIATION FOR REGIONAL COOPERATION (SAARC) -

5. To Strengthen Cooperation with Other Developing Countries: Strengthen

Impacts of BRICS on Global Institutional Reforms:

• Functions of the World Bank:

• The WTO became operational from January 1, 1995.

• The Functions of the SAARC:

2. Which of the following statements is correct?

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