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AGENDA
PRE-CRISIS PERIOD
Components of BoP
Current Account
Import and Export of goods Import and Export of services Unilateral transfers from one country to another
Capital Account
Foreign Investment FDI & portfolio Investment Loans Commercial Borrowings, External Assistance & Banking Capital Transactions
Current Account Balance = Balance of Visible Trade(goods) + Balance of Invisible Trade(services) + Balance of Unilateral transfers Capital Account Balance = Inflow of foreign exchange outflow of foreign exchange Official Reserves: The holdings of foreign reserves and gold by official institutions like the central bank Overall Balance of Payment = Current Account Balance+ Capital account balance+ Official Reserve Account
Political factors
Political Instability leading to decline in FDI and FII Populism policies which may encourage imports
Social factors
Change in tastes and preferences leading to demand changes Cross border prejudices which may lead to expensive sources of imports
Pre-CRISIS PERIOD
Economic Policies
Protectionist Policies- defined objective of self reliance through industrialization and import substitution Focus was on substituting imports and promoting domestic industries by heavy intervention while a gross negligence on exports External Debt- The development projects caused a large scale foreign borrowing which created pressure on the government
Economic policies
Export promotion- Indian exports were largely dependent on world trade situation due to predominance of primary goods in trade mix combined with lower quality standards.
Exchange rate- Fixed exchange rate was followed and constant devaluations by the central bank to promote exports raised the amount of external debt. Strong inward looking policy in all
Trends contd
Sharp rise in imports due to growth orientation and ( petroleum imports rose by 40% from 1986-87 to 1989-90 ) Doubling of external debt from 1984-85 ($35 bn) to 1990-91 ($69 bn) Loss of investor confidence led to outflows being increasingly dependent on short term external debts. An unstable government and the gulf crisis further aggravated the situation
Trends.contd
High revenue deficits especially after 1986, for which the government responded by creating a surplus capital account to finance them
THE CRISIS
World growth declined from 4.5% in 1988 to 2.5% in 1991 Political turmoil VP Singh government overthrown, Rajiv Gandhi assassination reduced credibility of India, investors lost interest and trust in Indias government.
Developments in 1991
Current account deficit averaging 2.2% of the GDP hit hard by the Gulf war Triggers oil bill increased by $2 billion overseas markets for exports shrinked (West Asia, Soviet Union) Fall in remittances The Reserve Position in IMF of $660 million was drawn in full by September, 1990 to add to the reserves The international credit rating agencies placed India on the watch list in August 1990
Import compression
Curb imports to reduce deficit
Surcharge on oil imports Cash margin
Import Trends
30 20
% change
10
0 -10 -20
1989-90 1990-91 Apr-Sep 1991
10
% change
The Crisis
Despite low trade deficit ,the slide in foreign reserves continued unabated Essentially became a crisis of confidence
Expectatio n of default expected devaluation
withdrawal by foreigners
Credit unavailability, trade disruption Shortages, industry dislocation ,unemployment High inflation , instability
The response
As a first step, in May 1991, the government leased 20 tonnes of confiscated gold to the State Bank of India for $200 million Later, RBI moved in four installments 47 tonnes of the gold held by it to the vaults of the Bank of England to raise a temporary loan of $405 million jointly from the Bank of England and the Bank of Japan Loan repaid in Sep-Nov. and the pledged gold was redeemed New government assumed charge in June ,1991
However, the need to monitor and watch the movements in the markets assumes importance, as foreign exchange markets tend to overshoot often
Balancing mechanism
Rebalancing by changing the exchange rate
An upwards shift in the value of domestic currency relative to others will make exports less competitive and make imports cheaper and will tend to correct a current account surplus.
Exchange rates can be adjusted by government in a rules based or managed currency regime, and when left to float freely in the market they also tend to change in the direction that will restore balance
Reforms Undertaken
Fiscal Correction:
Abolishing export subsidies, increasing fertilizer prices, as well as by keeping non- plan expenditure in check. Budget projected a sharp decline in the budget deficit to Rs.7719 crore in 1991-92.
Fiscal deficit was also projected to decline from Rs 43,331 crore in 1990-91 to Rs 37, 772 crore in 1991-92.
Reforms Undertaken
Industrial Policy Reforms:
Reforms Undertaken
The limit of foreign equity holders was raised from 40 to 51 % in the wide range of priority industries. Technology imports for priority industries are automatically approved for royalty payments upto 5 % of domestic sales and 8 % of export sales or for lumpsum payments of Rs 1 Crore.
Reforms Undertaken
Results of Industrial Reforms:
The number of investment approvals rise from 3335 in 1990 to 5538 in 1991.
505 foreign technology import agreements were also approved. In 1991, a total of 244 cases of foreign equity participation with the proposed equity investment of $ 504 million was approved.
Reforms Undertaken
Public Sector Reforms:
Government undertook a limited disinvestment of a part of public sector equity to the public through financial institutions and mutual funds in order to raise non- inflationary finance for development.
Sick Industrial Companies Act: To Bring public sector undertakings also in purview.
Reforms Undertaken
Trade Policy Reforms:
Large part of administered licensing of imports was replaced by import entitlements linked to export earnings. Advance licensing system for exports was simplified so as to improve exporters access to imported inputs at duty- free rates. Scope of canalization for both exports and imports was narrowed.
Reforms Undertaken
Anti-export bias in the trade and payments regime was also reduced substantially Effects of these reforms was to reduce the degree of licensing in import trade, to broaden, to enhance and harmonize export initiatives.
LERMS
Introduced, from March 1992, a dual exchange rate system in the place of a single official rate. One official rate for select government and private transactions and the market-determined rate for the others. Treated current and capital transactions in different ways.
Contd..
Despite the increase in imports to more normal levels during 1992-93, it has been possible to manage the BOP with the stable exchange rate and comfortable foreign exchange reserves throughout the year.
Effects of Liberalization
BOP Surplus: External sector - growth rates moving up to 11 and 20% in the two years ended March 2001 India successfully withstood the sharp rise in international oil prices since the closing months of 1999. NRI deposits with the banking system in India on the rise from 13 billion dollars in 1991-92 to 23.8 billion dollars by March 2001 BOP recorded an overall surplus consecutively for five years from 1996-97 Indias foreign exchange reserves, 1 billion in 1990 reached $ 40 billion the average annual addition being 4.5 billion dollars
Effects of Liberalization
Trade and Investments:
-8.4
1980-81
-10
1980-81 1991-92
1985-86 1992-93
1986-87 1993-94
1987-88 1994-95
1988-89 1995-96
1989-90 1996-97
1990-91
Result of a concious government policy to maintain a strict control over external indebtness and resulted favourably in improving the credit rating of India by international agencies.
1994-95:
Some private sector power and petroleum companies finalizing their financing packages
1995-96:
Large demand for borrowing with projects in petroleum, oil exploration and telecommunications.
External Assistance
EXTERNAL ASSISTANCE/TC (%)
70
60.9
60
63.9
50
46.9
43.7
36.2 34.6 36.7 33.2 29.8 26.3 18.5 19 11.7
40
30
20
10
0 1980-81 1985-86 1986-87 1987-88 1988-89 1989-90 1990-91 1991-92 1992-93 1993-94 1994-95 1995-96 1996-97 1980-81 1991-92 1985-86 1992-93 1986-87 1993-94 1987-88 1994-95 1988-89 1995-96 1989-90 1996-97 1990-91
Export Growth
EXPORT GROWTH (%)
25
20.2
20
20.3
20.4
15
11.6
Axis Title 10
9
5
5.6 4.5
-3.9
-10
Growth of Imports
GROWTH OF IMPORTS (%)
25
21.6
20
16.5
15
14.4
12.1 10
Axis Title
10
4.6
-7.1
-10
References