Liberalisation

 New Economic Policy was announced in 1991. It consisted of various policy

measures and reforms introduced in order to create a more competitive environment
and improve the productivity and efficiency in the economy.
 It included liberalisation, privatisation and globalisation (LPG).
 Prior to 1991, the public sector was given an important role in the economic
development. Private sector was subject to lot of controls and restrictions.
 The public sector was not working efficiently due to multiple problems. This resulted
in an acute economic crisis in India in 1991.

Need for New Economic Policy

 Fiscal Deficit: Fiscal deficit means a shortfall in a government's income compared

with its spending. The income includes only taxes and other revenues and excludes
money borrowed to make up the shortfall. It is calculated as a percentage of gross
domestic product (GDP).
Prior to 1991, due to increase in the non-developmental expenditure of the
government, fiscal deficit was rising. In 1981-82, it was 5.4% of GDP but in 1991-92,
it rose to 8.4% of GDP. In order to cover this fiscal deficit, the government had to
raise loans and pay interest on them. So, due to increase in the fiscal deficit, there was
a corresponding increase in the public debt and interest payments. In 1980-81, interest
payments on public debt amounted to 10% of the total govt expenditure and in 1991,
the amount of interest payments increased to 36.4% of the total govt expenditure. This
led to a crisis situation in the country.
When India asked for financial assistance from IMF and other international financial
institutions, they refused to offer help to India unless and until they introduced
economic reforms in the country. This was known as ‘IMF Conditionality’.
 Fall in the Foreign Exchange Reserves: In 1990-91, India’s forex reserves had fallen
to a very low level. We were left with just US$ 1.1 billion of forex reserves which
were sufficient enough for just two weeks of imports. The situation was so acute that
in 1991, the government had to mortgage country’s gold to arrange for the necessary
foreign exchange.
 Gulf Crisis: Due to the Gulf War in 1990-91, prices of petrol suddenly increased.
India had to make huge payments to gulf countries so as to import petrol which
constituted an important import. This further worsened the crisis situation in India
adding to unfavourable Balance of Payment position.
 Unfavourable Balance of payment position: When the value of imports is greater than
the value of total exports in a country, then the problem of balance of payments arises.
Our exports were too less and our imports were becoming costlier and were
increasing due to which India was facing an unfavourable balance of payment
position.
 Rise in prices: In India price rise was very high. Average annual rate of inflation was
at 10.3%. Due to inflation, the country’s economic position further deteriorated.
  Poor performance of Public Sector Undertakings (PSU’s): Prior to 1991, all the major
areas were reserved for the public sector and huge amounts of public funds were
invested in them. But the public sector units continued to make losses. Due to their
poor performance, they became a liability and worsened the economic position of the
country.

Liberalisation

Liberalisation means to reduce unnecessary restrictions, controls and regulations on

the business units imposed by the government.
The following measures were taken under the liberalisation policy:
 De-Licensing: Prior to this policy, the private sector was functioning under a
compulsory licensing system whereby licenses were required to be obtained to start
production in an industry. Under liberalisation and New Economic policy, the licenses
were abolished for all the major industries except for 5 industries which still require
compulsory licensing, which are: a) Liquor, b) Cigarette, c) defence equipments,
d)industrial explosives, and e) hazardous chemicals.
 De-Reservation: Prior to 1991, 17 industries were exclusively reserved for the public
sector. Under liberalisation, these industries were reduced from 17 to 8, then to 6, then
to 4 and now at present, only 2 industries are reserved for the public sector-Atomic
Energy and Railways. Remaining 15 areas were de-reserved and thrown open to
investment by the private sector.
 Concessions from MRTP act: According to the provisions of MRTP( Monopolies and
Restrictive Trade Practices) Act 1969, all those companies having assets worth more
than Rs.100 crore were declared as MRTP firms and were subject to several
restrictions. Now, the concept of MRTP has been done away with and these firms are
no longer required to take prior approval from the government to take investment
decisions. Capital investment limit fixed earlier has been removed. The firms are free
to expand themselves and undertake any amalgamation and take overs. So under this
policy more emphasis will be laid on checking unfair trade practices. In 2002, MRTP
act was abolished and replaced by a more liberal Competition Act, 2002.
 Freedom of Expansion and Production to Industries: Under liberalisation, the
industries, other than those requiring compulsory licensing, are free to expand and
produce as per the following provisions:
(a) Prior to liberalisation, at the time of granting licenses to the industries,
government used to fix a maximum limit on the production capacity. No industry
could produce beyond this limit. Now, since licenses were abolished under this
new policy, the limit on production has been removed so as to enable the industry
to take full advantage of large scale production.
(b) Previously, only those goods could be produced which were mentioned in the
license. Now, since licenses were abolished so the producers are free to produce
any type of goods on the basis of demand in the market.
  Increase in Investment limit of Small industries: investment limit of small industries
was increased to Rs.5 crore and the investment limit of tiny or micro enterprises were
increased to Rs.25 lakhs.
 Freedom to Import Technology: New Economic policy laid emphasis on the use of
high technique to promote modernisation. The main objective was to develop the
sunrise industries (it means a new or a relatively new industry which is growing very
fast and is expected to become important in the future) like telecommunication,
computers and electronics. Hence, the government allowed easy import of high
technology. Also easy import of capital goods and raw materials was allowed for
expansion and modernisation of industries.
 Liberalisation of Export and Import Transactions: Government has liberalised Export
and import policy. It has made the import of capital goods, raw materials, technology
very easy. Quantitative Restrictions on imports have been withdrawn. Procedures
regarding import quota and import licenses have been simplified.
 Replacement of FERA with FEMA: Foreign Exchange Regulation Act (FERA), 1973
was enacted in a controlled and restricted regime. It was replaced by a more liberal
Foreign Exchange Management Act (FEMA), 1999.
 Liberalisation of Taxation Policy: Various tax reforms were introduced as a part of
the policy of 1991 as per the recommendations of the Chelliah committee. Prior to
1991, the tax rates were very high which demotivated entrepreneurs to set up new
enterprises and was an obstacle in the path of economic progress. So various tax
reforms were introduced:
(a) Peak income tax rates were reduced to 30 per cent.
(b) Custom duty rates were drastically reduced from 250 per cent to 10 per cent.
(c) Excise duty was reduced.
(d) Complex sales tax was replaced by a simple value added tax.
 Liberalisation in Capital Market: Capital market reforms were also introduced. SEBI
was established in 1988 but as a part of this policy, it was granted a statutory status in
1992. Earlier, the provisions regarding public issue of shares of the companies were
very restrictive so that only big companies could fulfil these conditions. But now
these provisions were liberalised. Indian companies were given the freedom to raise
funds from foreign capital markets.
 Liberalisation in Banking sector: Banking sector reforms were also introduced since
banks play a very important role in the economic development of a country. Earlier,
the monetary policy was very restrictive which hindered the development of the
banking sector. So, the key rates like SLR (Statutory liquidity Ratio) and CRR(Cash
Reserve Ratio) were reduced drastically. SLR was reduced from 38.5% to 25%. CRR
was reduced from 15% to 4.75%. The main purpose was to leave more funds with the
banks for further allocation to different sectors of the economy. Many private sector
banks were established in the country.

Benefits of liberalisation
  Liberalisation promoted globalisation. Due to this, the foreign investment increased
and India became a favourable destination for foreign investors.
 Before 1991, India was facing an acute shortage of foreign exchange. After
liberalisation, the forex reserves improved due to increase in exports and inflow of
foreign exchange. In April 2012, India’s foreign exchange reserves increased to US $
293.14 billion.
 Due to liberalisation in the licensing policy, MRTP Act, there was a boost in the
industrial production. Many foreign entrepreneurs also set up industrial units in India.
 Due to liberalisation, many domestic and foreign enterprises started business
operations in India. This resulted in increased competition. Also many private sector
players started operating in India which also increased competition for the public
sector. This helped in reducing the prices and improving the quality id the products.
 It helped in checking corruption to some extent since various licenses, quotas and
approvals were not required to be taken post liberalisation for which earlier the
government officials were demanding huge bribes.

Disadvantages of liberalisation

 Liberalisation has promoted capital intensive technology. It promoted automation,

computerisation and mechanisation of industrial activities which led to the problem
of unemployment in the country.
 Liberalisation promoted competition which adversely affected many small domestic
business units. The small domestic units which were unable to face competition
from MNCs were competed out and had to be shut down.
 Most of the MNCs in India cater to the products needed by the upper income groups
and have little interest in developing mass consumption goods or goods meant for
lower income groups. This added to the problem of income inequalities in India.
 Private sector units and foreign enterprises set up their business units only in the
developed regions of the country. They completely ignored the backward regions
and this led to the problem of regional imbalances.
 Our dependence on the foreign nations increased to a huge extent because we started
using more of foreign goods, Indian companies used imported technology and used
less of the indigenous technology. This hampered the self-sufficiency of the nation.

Ekjyot Kaur Gujral

Assistant Professor of Economics

Army Institute of Law, Mohali