1991. Arguably the most remembered and celebrated year in contemporary India after 1947, and the most significant year in the economic history of independent India. The economy was in the deepest of chasms, when the government was forced to respond with a slew of major reforms.
The origin of the financial crisis can be traced from the inefficient management of the Indian economy in the 1980s. The government’s penchant for populist and socialist measures meant that fiscal imbalances had been growing for close to a decade already. The License Raj had made investment very unattractive in almost every sector.
The gross fiscal deficit of the government including the centre and the states rose from 9.0 percent of GDP in 1980-81 to 10.4 percent in 1985-86 and to 12.7 percent in 1990-91. For the center alone, the percentages were 6.1, 8.3 and 8.4 respectively. To meet these deficits, the government had to borrow extensively, hence its internal debt accumulated rapidly rising from 35 percent of GDP at the end of 1981 to 53 percent of GDP at the end of 1991.
To make matters worse, India’s value of exports was nowhere close to its import value. This led to large current account deficit and balance of payment issues. The Soviet Union, India’s biggest trade partner, was racked with political instability and ultimately broke down. This meant that India’s exports declined substantially. The situation precipitated to its worst when Saddam Hussein-led Iraq invaded Kuwait, causing oil prices to double in a matter of months. Since oil was a major import commodity for India, forex reserves decreased drastically to a point where it was barely worth 3 more weeks of essential imports. India was on the brink of defaulting on its external balance of payment obligations.
To overcome this crisis, the first step the government took was to borrow a sum of $2.2 billion from the IMF, who in turn instructed the government to carry out major economic reforms. Also, the government had to pledge a total of 67 tons of gold from its reserves to the Bank of England and the Bank of Switzerland.
After this the Rupee was devalued, first by 9% on the 1st of July 1991, then by 11% on the 3rd to improve the foreign exchange situation. Major reforms were introduced in the budget presented by Dr. Manmohan Singh and the then Finance Minister, P.V. Narasimha Rao G, on 24th July 1991, which are commonly referred to under the umbrella term of liberalization. This is a process continuing even today to make the economy more growth-oriented. Some of them are as follows:
- Industrial Policy Reforms: Prior to 1991, a license had to be obtained from the government to establish any company. Also, private investment was prohibited in many sectors and only small scale industries were allowed in certain others. All these archaic restrictions hindering development were removed almost completely.
- Fiscal Reforms: A number of subsidies were reduced or abolished. The government carried out disinvestment of its holdings in many public sector holdings. Taxes were reduced and made more transparent to ensure increased compliance.
- Trade policy reforms: Import duties were drastically reduced. Restrictions on foreign trade were eased. From 1992, the positive list that controlled imports was replaced by a limited negative one. A positive list meant only those items in the list were allowed. The negative list allowed all imports except those labelled as prohibited.
- Foreign investment reforms: FDI of up to 51% was allowed in high-tech industries initially, which was then increased to 74% and later to 100% in some sectors.
- Financial Sector Reforms: The RBI gave up control of interest rates on deposits in a sequence of steps. Guidelines for opening new private sector banks were formed. Banks were given more freedom to relocate branches.
- Capital Market Reforms: The Securities and Exchanges Board of India (SEBI), which was established in 1988, was given statutory status in 1992. It now had powers to ensure the creation of an environment which would facilitate mobilization and efficient allocation of resources through the securities market.
Initially, the reforms were unpopular. When Dr. Manmohan Singh concluded his 1992 February budget speech with “Tonight I feel like I am going to the theatre. Let the assassins be informed, I am prepared for the onslaught”, it was pretty evident that he and his government were aware of the political risks that they were taking. However they also knew that it was imperative that they continue with the reforms.
Dr. Singh ended his 1991 July budget speech with this strong statement: “I do not minimize the difficulties that lie ahead on the long and arduous journey on which we have embarked. But as Victor Hugo once said, ‘No power on earth can stop an idea whose time has come.’ I suggest to this august House that the emergence of India as a major economic power in the world happens to be one such idea. Let the whole world hear it loud and clear. India is now wide awake. We shall prevail. We shall overcome.” Now, 28 years after these reforms had been initiated, it is evident that this statement was as true as it was powerful.
– Dwijesh Athrey
nice article!
Thank you!!