Business Environment Shaikh Saleem

CHAPTER 01
Business Environment
CHAPTER OUTLINE

Introduction
Meaning and Definition
Salient Features
Importance of the Study
Environmental Factors
Business Environment and Strategic Management
Market Opportunities
Distribution of Household by Income, 19902000
Recent Political Environment
Recent Economic and Financial Environment
Case
Summary
Key Words
Questions

References

INTRODUCTION

Every business organisation has to interact and transact with its environment. Hence, the business
environment has a direct relation with the business organisation. Obviously then, the effectiveness of
interaction of an enterprise with its environment primarily determines the success or failure of a business.
The environment imposes several constraints on an enterprise and has a considerable impact and
influence on the scope and direction of its activities. The enterprise, on the other hand, has a very little
control over its environment. The basic job of the enterprise, therefore, is to identify with the environment
in which it operates and to formulate its policies in accordance with the forces which operate in its
environment. Every business organisation has to tackle its internal and external environment. For
example, a committed labour force provides an internal environment of any business, whereas the
ecological factors determine the external environment. While the internal environment reveals an
organisations strengths and weaknesses, the external environment reflects the opportunities available to
the organisation and the threats it faces.
India has a developing economy with abundant natural resources, large population, and a low level of per
capita national income. Although a substantial liberalisation has been envisaged for the country, the
economic activities are still considerably controlled by the government. A low standard of living, backed by
a vicious cycle of poverty, for a considerable section of population and about 250 million people under the
poverty line, coupled with a considerable concentration of economic power in few hands, characterise the
Indian economy.

A low standard of living, backed by a vicious cycle of poverty, for a considerable section of population
and about 250 million people under the poverty line, coupled with a considerable concentration of
economic power in few hands, characterise the Indian economy.
MEANING AND DEFINITION

Environment literally means the surroundings, external objects, influences, or circumstances under
which someone or something exists. Keith Davis defines the environment of business as the aggregate of
all conditions, events, and influences that surround and affect it (Davis and Blomstrom 1971).

Environment literally means the surroundings, external objects, influences, or circumstances under
which someone or something exists.
There are two sets of factorsinternal and externalwhich influence the business policy of an
organisation. The internal factors are known as controllable factors because the organisation has a control
over these factors. It can modify or alter such factors to suit the environment. The external factors are
known as uncontrollable factors because they are largely beyond the control of an individual enterprise.

Business policies of an organisation are influenced by its environment, which is the aggregate of all
conditions, events, and influences that surround and affect it.
The internal environment consists of a large number of factors which contribute to the success or failure of
an organisation. It refers to all the factors within an organisation, which impart strength or create
weakness of a strategic nature. Strength is the inherent capacity of an organisation which can be used to
gain strategic advantage over its competitors. On the other hand, the weakness of an organisation refers to
its inherent limitation or constraint which creates a strategic disadvantage.
The important internal factors include the following:
1.
2.
3.
4.
5.

Organisational resources,
Research and development, and technological capabilities,
Financial capability,
Marketing capability, and
Operations capability.

The term business environment generally refers to the external environment and includes factors outside
the firm which can lead to opportunities for or threats to the firm. Although there are many external
factors, the most important factors are economic, governmental, legal, technological, geographical, and
social.
SALIENT FEATURES

The nature of the environment is likely to determine, to a great extent, the role of the enterprise and hence,
the nature of the task and the role of the top management, in general, and that of the chief executive, in
particular. The salient and distinct features of the environment in which the enterprise operates determine
the nature of its business policy.
Public policies must be consistent with and conducive to creating confidence among business enterprises,
in particular, and people at large, in general. Obviously, government regulations need to motivate the
business community to make use of opportunities to actively participate in the task of developing the
economy, on the one hand, and increasing the living standards of the people, on the other.
Rapid social change leading to a transformation of the society has become the order of the day.
Industrialisation and the resultant urbanisation have given birth to a certain level of social disorganisation,
while an industrial society has emerged in the place of a traditional social setup. Now, the industrial
workforce in India represents the most organised segment of our society. They are, perhaps, most aware of
their rights and are fighting for the same. The struggle for protecting their interests is likely to be a
continuing feature, particularly in the face of threats posed by the adoption of newer technologies.

Industrialisation and the resultant urbanisation have led to a transformation in the social setup. It
has given birth to an industrial workforce, which is very organised and more conscious of its rights.
Every companys policy is, in many ways, affected by its environment because the accomplishment of its
objectives depends largely on the degree of interaction of the enterprise with its environment. The
environment imposes several constraints on the enterprise and has a considerable impact and influence on
the scope and direction of its activities. The nature of business environment in India is dominated by the
government regulations with a view to ensure a certain level of economic life to the people. Not only
government regulations, but also any fluctuation in the environment has an impact on the existing
business canvas.
Taking care of the nature of business environment enables the corporate policymaker to
1.
2.
3.
4.

Perform the critical function of matching the needs of the society and the capacity of the goods and services to satisfy the needs of the people,
Adapt the organisation itself to the dynamic conditions of the society,
Match the organisational policies and resources with the social needs, and
Contribute to the social responsibility of business.

Thus, a business policy should be matched with the specific needs of the customer, produces, and the
society at large. It means that the organisation has to focus itself on its environment.
A constant focus of the business organisation on critical aspects, such as customer satisfaction, product
development to satisfy specific needs of the society, how the products and services offered by the
organisation are capable of meeting the social and environmental needs, and so on, would enable the
organisational policies to identify with its business environment. Actually, environmental changes strongly
influence the organisation, through its customers, its market or channels of distribution banking
community, suppliers, and so on.

Any business organisation should keep its focus on critical aspects, such as product development and
customer satisfaction, with a view to meeting social and environmental needs.
IMPORTANCE OF THE STUDY

Before analysing the various external environmental factors, let us consider the importance of the study of
the business environment:
1.

It helps an organisation to develop its broad strategies and long-term policies.

2.
3.
4.
5.

It enables an organisation to analyse its competitors strategies and, thereby, formulate effective counter strategies.
Knowledge about the changing environment will keep the organisation dynamic in its approach.
Such a study enables the organisation to foresee the impact of socio-economic changes at the national and international level on its stability.
Executives are able to adjust to the prevailing conditions and, thus, influence the environment in order to make it congenial for business.

ENVIRONMENTAL FACTORS

Many factors can be included in the category of environmental factorssocial, economic, cultural,
geographical, technological, political, legal, and ecological factors; in addition to government policies,
labour factors, competitive market conditions, locational factors, emerging globalisation, and so on.
According to writers like W.F. Glueck and I.R. Jauch, the environment includes the factors outside the
firm which can lead to opportunities or threats to the firm. Although there are many factors, the most
important of the factors are socio-economic, technological, suppliers, competitors, and government. We
may examine some of these environmental factors briefly here.
Social Factors

Every business organisation operates within the norms of the society and exists primarily to satisfy its
needs. Hence, a business organisation has an important position in the social system. It has a social
responsibility. While the social factors influence the policy and strategy of business, the organisation
strives to satisfy the needs and wants of the society.

Every business organisation has a social responsibility. It operates within the norms of the society
and strives to satisfy the needs and wants of the society.
There are many social factors which affect the policy and strategy of corporate management. Culture,
values, tastes and preferences, social integration and disintegration, and so on must be a part of the
agenda of every business organisation. While social institutions are closely linked with business
organisations, business itself is a social institution. As observed by Keith Davis and Robert Blomstrom,
business is a social institution performing a social mission and having a broad influence on the way
people live and work together (Davis and Blomstrom 1971).
Economic Factors

Economic factors, such as per capita income, national income, resource mobilisation, exploitation of
natural resources, infrastructure development, capital formation, employment generation, propensity to
consume, industrial development, and so on, influence the business environment. Besides all these, the
economic performance of a country also determines the business environment. Indias economic
performance has been erratic in the 1980s. Although planned economic development has resulted in a
considerable economic growth over the years, political instability has resulted in a slow industrial progress,
price instability, high inflation rates, foreign-exchange crises, and so on. Above all, a countrys progress is
determined by its economic system too. The three types of Economic Systems are given in Box 1.1.

The economic factors that influence a business environment are per capita income, national income,
infrastucture development, capital formation, resources mobilisation, exploitation of natural
resources, etc.

Box 1.1 Economic Systems

There are three types of economic systemscapitalism, communism, and mixed.

1.

Capitalism believes in private ownership of production and distribution facilities. The United States, Japan,
and the United Kingdom are examples of capitalist countries.
2.
3.

4.
5.

6.

Communism is a system where the state owns all the factors of production and distribution. Cuba is an
example of the last remaining predominantly communist country.

Mixed economic system is one where the major factors of production and distribution are owned,
managed, and controlled by the state. France, Holland, and India are examples of mixed economies.

Cultural Factors

The cultural factors of a business environment should also be taken into consideration while scanning the
environment and during the policy formulation. Managers and policymakers in a global business cannot
disregard cultural variables like social and religious practices, education, knowledge, rural community
norms and beliefs, and so on, which are predominant in India, especially in the rural society. Sociological
and cultural factors are also very significant in the rural communities in India. Social stratification plays a
vital role in rural societies while cultural differences are unthinkable for any international manager or even
an urban Indian manager.
Geographical Factors

In a global business environment, geographical locations, seasonal variations, climatic conditions, and so
on, considerably affect the tastes and preferences of customers, and also prospects and the labour force.
The policies of the government regarding industrial locations are considerably influenced by the pace of
development in various geographical locations. Business policymakers, particularly managers in a global
business environment must, therefore, consider such geographical factors analytically.

Geographical locations, seasonal variations, climatic conditions, and such other factors considerably
affect the tastes and preferences of customers. Hence, business policymakers must consider
geographical factors analytically.
Technological Factors

Technology is considered to be one of the most important factors of any business environment. That is why
the government, in its industrial policy resolutions, industrial licensing policies, MRTP and FERA
regulations, and even in liberalisation policies, has assigned a great importance to sophisticated
technology and technology transfer. Foreign investment upto 100 per cent is allowed in industries with
sophisticated technology. Late Prime Minister Rajiv Gandhis vision of a modern India was of a
technology-based nation. Technology imports and foreign technical collaboration were allowed for this
purpose. Since technology develops rapidly, technological factors must be taken into consideration by
managers and policymakers.
Political Factors

The philosophy and approach of the political party in power substantially influences the business
environment. For example, the Communist-ruled state of West Bengal had the largest number of
industrial disputes and mandays lost through agitation. Similarly, during the Janata party rule at the
Centre, IBM and Coca Cola had to wind up their business. At the time of Congress rule, the stock prices
went up, whereas the stock market crashed during the unstable minority government of the National Front.
In the Kingdom of Saudi Arabia, the business environment and the social system are regulated largely by
Shariat (Islamic religious law). Thus, the management of business enterprises and their policies are
considerably influenced by the existing political systems.
Legal Factors

Every aspect of business is regulated by a law in India. Hence, the legal environment plays a very vital role
in business. Laws relating to industrial licensing, company formation, factory administration, industrial
disputes, payment of wages, trade unionism, monopoly control, foreign-exchange regulation, shops and

establishments, and so on are examples of what forms the legal business environment in India. Some of
these legislations are examined in other chapters.
Ecological Factors

Ecology deals with the study of the environment, biotic factors (plants, animals, and microorganisms),
abiotic factors (water, air, sunlight, soil), and their interactions with one another. Man is expected to
preserve the ecological factors for achieving a sustainable growth. A change in any biotic or abiotic factor
causes ecological imbalance. Industrial activities, automobiles, emission of fumes or smoke and effluents,
and so on, result in an environmental degradation. Hence, environmental protection and preservation
must be the responsibility of every organisation or an individual. Pollution-free industrial activity is,
therefore, considered to be a necessary condition of industrial organisations. The Government of India is
committed to the preservation of ecological balance.

Protection of the environment and preservation of ecological balance is the responsibility of every
business organisation.
Pollution-free technology and recycling of industrial wastes and effluents have become a corporate
concern now. Legislative measures have also been adopted for this purpose. Important legislations in this
connection are as follows:
1.
2.
3.

The Water (Prevention and Control of Pollution) Act, 1974 provides for the prevention and control of water pollution;
The Air (Prevention and Control of Pollution) Act, 1981 aims at preventing, controlling, and reducing air pollution; and
The Environment (Protection) Act, 1986 ensures the protection and improvement in the quality of the environment.

The governments concern for protecting the ecological environment and preventing it from degradation
and pollution is very evident in these Acts.
The Government Policies

The government policies provide the basic environment for business. For instance, the governments
policy to open up the Indian economy to integrate it with the global economy has resulted in liberalisation.
Industrial policy resolutions and licensing policies, trade policies, labour policies, location policies,
export-import policies, foreign-exchange policies, monetary and fiscal policies, taxation policies, and so on,
pave the way for business environment.
Labour Factors

Although labour within the organisation constitutes its internal environment, general labour policies and
climate may form a part of the external environment. If militant trade unionism is widespread in a
particular industrial location, such militancy would become the labour climate there and would make an
external element. At the same time, a specific organisation may have a committed labour force, which
could be the strength of the internal environment of that organisation.
Competitive Market Condition

Competitive market condition is an important environmental factor, especially in a global business

environment. In a socialistic economic environment, the market is controlled by a centralised
authoritythe governmentwhereas the competitive forces determine the market in a fully capitalist
economy. India, which has accepted a middle path, had been fostering both the conditions. As a result of
liberalisation, some characteristics integrating the Indian economy with the global economy have emerged.
As a result, a competitive market condition has emerged in India, creating a competitive business
environment. A situation of perfect competition now exists in respect of various products, for example,
automobiles, consumer durables, and so on. In a competitive situation, the market forces of demand and
supply must interact with each other, providing a business environment. As a part of globalisation, a
competitive market has come to stay.
Locational Factors

Locational policies are adopted by many countries for attaining an economic balance. The establishment of
the Tennesse Valley Authority (TVA) for a regional planning in the United States is an example. In India,

the metropolitan cities and their suburbs have been active with business and industrial activities, while
many areas have continued to remain backward. In order to develop the backward areas and to attain
economic balance, an industrial dispersal policy has been adopted by the government to boost business in
India. The government policy in India is, therefore, to achieve a dispersal of industrial activities to
underdeveloped locations and to avoid industrial concentration in developed areas. Government policies,
viz., industrial policy, industrial licensing policy, incentive policy, taxation policy, and even credit facilities
ensure the meeting of these objectives.
BUSINESS ENVIRONMENT AND STRATEGIC MANAGEMENT

The process of globalisation has progressed fast, hailing the end of communism and socialism. Business
corporations and conglomerates are projecting themselves as global corporate citizens. They formulate
their perspectives and strategic planning for the global market, while operational strategies are drawn for
the local market also. In this context, an important point to be considered in their corporate policy and
strategy would be the Economic Blocs.

The process of globalisation has led the business corporations and conglomerates to project
themselves as global corporate citizens. With increased participation in global economy, corporate
managers need to account for the nature and environment of the economic bloc where they propose
to operate.
The European Economic Community (EEC), North Atlantic Treaty Organisation (NATO), Third World
neutralist bloc, the Organisation of American States (OSA), Arab bloc, Organisation of African Unity,
Organisation of Petroleum Exporting Countries (OPEC), Non-Aligned Movement (NAM), Association of
Southeast Asian Nations (ASEAN), Commonwealth countries bloc, South Asian Regional Cooperation
(SAARC) bloc, European Free Trade Association (EFTA), Latin American Free Trade Association (LAFTA),
Central American Common Market, and so on are important associations in the global perspective. Any
new bloc can come into existence at any time, which should be reviewed by the global manager today.
Corporate managers, who make policies and strategies, must account for the nature and environment of
the bloc, where they propose to operate. For example, the EEC countries made a common economic bloc
with a common market and a common currency by 1999. A company might operate in a global market, but
it must have a specific strategy option for the EEC common market. The EEC market accounts for about
one-fifth of Indias total exports. Upgrading the quality of goods exported to EEC became necessary
because of high-quality specifications. All the 12 member countries laid emphasis on the improvement in
quality standards. Hence, the Bureau of Indian Standards (BIS) had a monumental task in laying down
high standards for Indian goods exported to EEC countries. The BIS collaborated with the European
Commission in the programmes relating to industrial standards, quality assurance, conformance testing,
information technology (IT), electronics, and telecommunication for standardisation and certification on a
mutual basis.
The concept of a single market has already gained ground. Since the EEC bloc has special standard
specifications, all the countries in the community follow the same standards. On account of stringent
measures of quality standards in the EEC, it is possible for EEC standards to be accepted as international
standards. Thus an economic bloc substantially influences the business policy of every player in the market.
In the meanwhile, the NAM is getting stronger and more globally acceptable.
In a globalised business environment, business policymakers and strategic managers must formulate
strategies and policies not only globally but locally, with an emphasis on individual economic blocs. In the
changed environment in which communist-socialism has become irrelevant, economic blocs may gain
greater importance.

In a globalised business environment, business policymakers and strategic managers must formulate
strategies and policies not only globally but locally, with an emphasis on individual economic blocs.
The globalisation of business may imply a one world with a free market where there would be a closer
cooperation among different states with greater mutual trade regime under trade agreements. Greater
closer cooperation can also be expected among the member countries of different economic blocs. Every
economic bloc may have its own common agenda of programme and common purpose, which should be
7

tackled by the corporate strategic planner. Preserving sustainable environment, especially ecological
environment, and answering the call for social responsibility of business would become a part of the global
corporate strategy.
The managers must take into consideration the following factors while designing the policies.
Risk Overview

Overall assessment. Indias main security concern is its relationship with Pakistan. Indias political
system is well-entrenched, though states are gradually taking on more powers. Corruption is a serious
concern and bureaucracy and vested interests have hindered reforms. The legal system is relatively
impartial, but suffers from delay in meting out justice. The main imbalance in the economy stems from
large fiscal deficits. Although efforts are under way to clarify the tax system, it is still quite complex and
remains heavily dependent on customs duties. Although the labour market is highly regulated, poor
transport infrastructure is likely to be a significant deterrent to investment.

Corruption is a serious concern and bureaucracy and vested interests have hindered reforms. The
legal system is relatively impartial, but suffers from delay in meting out justice. The main imbalance
in the economy stems from large fiscal deficits.
Security risk. India has several geographically discrete security concerns. A number of anti-Indian,
Islamic, and Kashmiri militant groups operate in the disputed state of Kashmir, and India has fought two
wars with Pakistan over the territory. Tensions with Pakistan have eased of late as the Indian Prime
Minister has made peace overtures to Pakistan; confidence-building measuresmainly sports and
transport linkshave been introduced. Possession of nuclear weapons by both nations perpetuates
concerns about a large-scale war, though Cold War is always going on in the form of frequent attacks from
both sides. Militant groups operate in north-east India, which is an important area for the production of
both tea and oil. The communal clashes between Hindus and Indias large Muslim minority are not
infrequent.
Political stability risk. In the general elections of 2004, the Congress party came up as the ruling party.
But to attain the majority in the Parliament, they had to take the support of the CPI, CPI (M), RJD, and so
on. The country is still ailing with the disease of coalition parties because of which no concrete decisions
can be reached in an easy way. The Congress party is trying hard to bring in a new wave of economic
reforms which are hanging in doldrums as the Leftists do not support a single suggestion put up by the
Congress party. Box 1.2 shows the details. Currently the country has got the best combination of politicians
sitting on ministerial positions; we have Dr. Manmohan Singh as the Prime Minister (PM) and P.
Chidambaram as the Finance Minister (FM). (A lot is expected from both of them). The Indian economy is
currently portraying an unjust growth. What the country currently needs is a political leadership with
vision, but the political instability is hampering Indias growth. India can become a superpower provided
we get the right kind of leaders with a stable political tenure.

Box 1.2 Reforms with a Human FaceAgenda of the New Government2004

Momentous changes in the political scenario are striking at the very basis of economic reforms. People, in
general, are concerned about the course of economic reforms, particularly privatisation under a
CongressLeft alliance at the Centre. Dr. Manmohan Singh, known as the forerunner of economic reforms
in India, in his first press conference after assuming the office of prime minister, reiterated that reforms
with a human face would continue. Outlining his agenda for the economic reforms, he named five major
priorities for his government:
1.

Strategic PSUs like the ONGC and GAIL as well as nationalised banks to remain in public sector.
2.
3.

4.

The government to strengthen road network programme; the Golden Quadrilateral programme not to be
scrapped.

5.
6.
7.
8.
9.
10.

Development to be a key priority; reforms to aim at removing poverty and increasing the employment.
Commitment of government to build strong privatepublic partnerships (PPP).

Economic reforms with a human face to be pursued

Box 1.3 Risk Assumption for Different Economic Systems

1.

Capitalism: Losses assumed by owners. Many transfer business risks to other businesses through
insurance.
2.
3.
4.
5.

6.

Socialism: People assume risks of state-owned industries. Losses recovered from taxes.

Communism: Economic production owned by the state. Risk assumed by the state. Losses reduce the
standard of living.

Government effectiveness risk. This risk is high. The divergent interests of the members of Indias
coalition government have hindered the introduction of rapid reforms and have led to concessions to
groups affected by reforms, which have negated their intended impact. Although senior civil servants are
generally professional, those further down the line are often resistant to change. The privatisation
programme is continually hindered by vested interests, not wishing to lose their power over state-owned
companies. The Supreme Court has ruled that the sale of two major oil refineries requires parliamentary
approval, delaying further the privatisation. Significant red tape is one of the main reasons behind the lack
of foreign investment and the mass of regulations relating to workplaces provide inspectors with
opportunities to demand payment for overlooking the numerous and outmoded regulations. Corruption is
a major problem.
Legal and regulatory risk. Indian legal system is relatively impartial, free, and fair. It is also
notoriously slow. Disputes often take years to resolve and, as a result, many foreign companies build in
clauses allowing for international arbitration of disputes. The regulatory system is not immune from policy
reversals due to pressure from vested interests and inter-ministry rivalries. However, more transparent
regulatory systems are being introduced in the previously unregulated sectors. For instance, as the power
sector is broken up, new regulatory bodies are being established. The risk of outright nationalisation is
very small, but creeping nationalisation, in which the goalposts are changed to the benefit of domestic
companies, has caused the foreign companies to withdraw from India. This has been particularly true in
the power sector, which has seen an exodus of foreign investors.

Indian legal system is relatively impartial, free, and fair. However, the regulatory system is not
immune from policy reversals due to pressure from vested interests.
Macro-economic risk. This risk is low in India. The economy was forecast to grow by 7.9 per cent (at
factor cost) in 200304. The major driver of growth was the services sector. Agriculture suffered from
poor rainfall in the second half of 2002 but rebounded strongly in 2003-04 as a result of the above-normal
rainfall. Spending on major infrastructure projects helped to sustain the industrial output. Consumer price
inflation was set to rise in 200405, as industrial bottlenecks emerged. The major macro-economic
imbalance is on the fiscal sidethe combined national and state deficit is more than 10 per cent of gross
domestic product (GDP). Weak GDP growth in 200203 (AprilMarch) kept the deficit high, and the
200304 tax-cutting budget, accompanied by pre-election spending, prevented the deficit from falling in
9

200304. As the economy picked up, the relatively high interest rates have resulted in the crowding out
of private investment. Substantial liquidity has also supported fast growth, raising a slight risk of
overheating.
Foreign trade and payments risk. India faces little risk of a trade embargo. Some sanctions were
imposed as a result of Indias nuclear tests in 1998, but the sanctions focused upon lending to India rather
than trade, and therefore, the sanctions have since been lifted. The tariff system is being rationalised, but
high import duties have been imposed on some sectors to protect domestic industries. Non-tariff barriers
have also been applied, though India removed all quantitative restrictions in April 2001. Special import
licences were also abolished. In 2002, India took several steps to ease agricultural exports and, thereby,
increase exports as a share of GDP. External commercial borrowing has been liberalised over the past
decade, though several stipulations are still in force. In 200304, India announced steps to further
liberalise capital account transactions; these will, among other things, allow greater outward investment
and make hedging easier. However, in the event of an economic crisis, these changes could be withdrawn.

In 2002, India took several steps to ease agricultural exports and, thereby, increase exports as a
share of GDP. In 200304, it announced steps to further liberalise capital account transactions; these
will, among other things, allow greater outward investment and make hedging easier.
Tax policy risk. This risk is a moderate one. Indian tax system is heavily reliant on excise and customs
duties. The tax system is complex, with numerous allowances and surcharges. The government hopes to
consolidate all the states sales taxes into a single value-added tax (VAT), but conflicts between the states
and the Centre have resulted in delays; VAT was set to be imposed in April 2003, then in June, but was
delayed owing to protests by shop-owners.
Finally, the VAT was introduced from April 1, 2005. Indias tax system is susceptible to tax evasion, and
the underground economy is estimated to be around half the size of the official economy. The highest rate
of tax on profits for foreign companies is 41 per cent, including a surcharge. Locally incorporated
companies are taxed at just under 36 per cent and are entitled to incentives available to Indian companies.
To address anomalies in the tax system, a government panel in November 2002 recommended that Indias
tax system be massively overhauled to encourage voluntary compliance and penalise non-compliance, but
these recommendations have been ignored.

To address anomalies in the tax system, a government panel in November 2002 recommended that
Indias tax system be massively overhauled to encourage voluntary compliance.
Labour market risk. Indian labour market is restricted by a number of laws and regulations, of which
the most important are those concerning the retrenchment of employees. Companies employing more
than 100 workers need government permission to lay off workers and this permission is often withheld.
Such restrictions have hindered foreign investment in India.
Labour relations in India are relatively poor, but the incidence of strike action in the private sector has
declined in recent years. However, strikes in protest at proposed privatisation have been relatively
commonplace. Unions are generally company- rather than industry-based and are linked to national
labour groups, many of which are affiliated to political parties.
Financial risk. The recent strength of Indias currency, the rupee, has caused increasing concerns among
exporters. After years of depreciation, the rupee stabilised in mid-2002 and has since appreciated, owing
to dollar weakness, significant capital inflows, and the sustained current-account surplus. There is a risk
that tension with Pakistan could cause a sudden depreciation in the currency. The banking sector is
dominated by the state-owned banks. The level of non-performing loans is high, though falling in part
because of the development of asset-reconstruction companies. Given that the dominant banks are
state-owned and private banks have much lower portfolios of non-performing loans, a systemic banking
sector crisis is unlikely. The stock market has suffered from a number of scandals but the long-run impact
of several changes to improve stock market regulation should be positive. Huge foreign inflows, exceeding
US$7 bn in 2003, have supported a stock market boom.

10

After years of depreciation, the rupee stabilised in mid-2002 and has since appreciated, owing to
dollar weakness, significant capital inflows, and the sustained current-account surplus.
Infrastructure risk. Indias infrastructure risk is high. Port facilities are overstretched. Both road and
rail links are run down. Although the government has increased funding to both, progress is likely to be
slow. The rail network is not funded adequately and a rapid improvement is highly unlikely. The power
system is a significant hindrance to business. Politically motivated, free provision of power to some sectors
of the population has placed the electricity-supply companies in a poor financial position. This, in turn,
has affected electricity generation, so that power supplies are erratic and companies, offices, and some
private houses use their own back-up generating facilities. Despite Indias successes in IT, computer and
Internet access is not widespread. Air transport facilities are being upgraded, particularly at the
international airports. The retail system is developing rapidly but remains generally backward. Shopping
malls are being established, particularly in Delhi and Mumbai.

In India, infrastructure risk is high. Although the government has increased funds for upgradation of
infrastructural facilities, like rail network, air transport, power generation, etc., progress is likely to
be slow.
Country risk. Country risk is exposure to a loss in cross-border lending, caused by events in a particular
country. These events must be, at least to some extent, under the control of the government of that country
and not under the control of a private enterprise or an individual. Major sources of country risk are
contained in frequent swings in content, objectives, or implementation design of macro-policies, including
monetary policy, fiscal policy, anti-inflationary policy, exchange-rate policy, foreign trade policy, policy
towards foreign investments and multinational corporations, industrial policy, agriculture policy, income
policy, and policy towards major social sectors. All cross-border lending in a country, whether to the
government, a bank, a private enterprise, or an individual, is exposed to country risk. Country risk is, thus,
a border concept rather than a sovereign risk, which is the risk of lending to the government of a sovereign
nation. Further, only events that are, at least to some extent, under the control of the government can lead
to the materialisation of a country risk.

All cross-border lending in a country, whether to the government, a bank, a private enterprise, or an
individual, is exposed to country risk. Country risk is, thus, a border concept rather than a sovereign
risk.
The various country risk factors affect individual corporate organisations in a number of ways. The effect
varies from organisation to organisation, depending upon its vulnerability to such factors. Many of these
factors are interrelated and exert a joint impact. A fiscal deficit, for example, may be followed by an
increase in taxes and money supply, further leading to a rise in the rate of inflation. Table 1.1shows the
above risks with their ratings too, as an overview.

Table 1.1 Risk Overview

11

Source: National Council of Applied Economic Research, India Market Demographics Report 2002.
Note: E = most risky; 100 = most risky.
The risk-rating model is run once a month.

Table 1.2 Checklist of

Political Risk Indicators
Political Environment

Form of government

Government crisis
History of government

Economic Pressures

Threat of war

Military-related violence
Diplomatic crisis, party political

Economic crisis

Balance of payments

Methods of Assessing
Environment Risk

Inflation rate

All types of risks keep

Legal system

Alliances
Income distribution
changing and a firms reaction
Party fractionalisation

Role of military
or response depends mainly
Religious or ethnic splits
on its own perception of
Trade-dispute volatility of
electorate
assessment of risk. Therefore,
Support of ruling party
large domestic firms and
Tax reforms
multinational enterprises are
more aware of the risk factors
and are making efforts to reduce them. Some of the following environment-risk assessment methods are
useful for both domestic and foreign firms.
stability

Foreign Pressures

platforms

Exchange-rate volatility

An organisations reaction or response to any kind of risk to the business environment depends on its
own perception of assessment of risk. To assess and analyse the risks, companies may follow certain
methods like taking an expert opinion or having checklists and rating systems.
Expert Opinion

The traditional method of analysing environmental changes relies on an experts opinion. The firm seeks
the subjective judgement of people who are well-informed about the current state of the environment and
its reading determinants. In this method, the questionnaires designed to assess environment risks are sent
to acknowledged experts, and their opinions, observations, and comments are obtained. A variant of this
method is the Delphi Technique in which a panel of experts is constituted and they are asked to give an
assessment or prediction of risk, individually and separately. The process may be repeated and the final
response is recorded as risk assessment.
Checklists

These consist of a number of economic, social, and political variables which affect the business
environment and point to some risk element in it. The risk, in turn, contains elements relating to the
various issues that the country is facing. This method gives a rough approximation of the business
12

environment risk and the future outlook. Checklists, as shown in Table 1.2, are used to assist in the
interpretation of the political system and co-national change.
Rating and Ranking Systems

This system is similar to the scoring system, whereby the country rating is done on the basis of a number
of economic, financial, political, and social parameters. Each of these parameters is weighed according to
its importance in the total environmental risk. The weighted parameters are assigned scores according to
the preset guidelines, and different sectors within a country are rated and ranked on a scale.
Economic Methods

These methods are complex and sophisticated and are used to quantify economic risk and related aspects.
They are used for both estimation and forecasting. In such methods, we first identify the factors (called
independent variables) which affect environment risk (called dependent variables), and establish a model
of their cause-effect relationship. The relationship is specified in a functional form that is usually stated as
a mathematical equation (in a linear or a non-linear form), which involves certain parameters whose
values are estimated. In this approach, it is possible to state, quantitatively, the strength of each variable
(or causative factor) that affects or determines business environment risk.
Managing Environment Risk

Developing the Local Economy

In order to develop good public relations around the area of location and to avoid any possible local
confrontation and criticism, it is a beneficial policy for a firm to contribute to the development of the local
economy. The firm may form joint ventures (JVs) with local shareholders. Participation of local
shareholders will also help to build links with the local community and provide the benefit of local
managements advice and knowledge. The firm may make local purchases and employ local people in
unskilled or semi-skilled activities. This strategy is helpful for the firm to gain acceptance by the
people. Box 1.3 shows the risk assumption for different economic systems.

A business organisation should contribute to the development of local economy. Participation of local
shareholders and employment of local people in unskilled or semi-skilled activities are strategies that
help an organisation to gain acceptance by people.
Good Corporate Citizenship

The corporate behaviour, conforming to what is usually referred to as a good citizen policy, is one of the
most popular prescriptions for avoiding adverse political initiative. This is among the best strategies to
deal with political risk. Firms follow this policy by responding promptly to government requests,
contributing to national goals, and developing a corporate image. With such an image, a firm may find it
easy to obtain licences, permits, power connections, government land, and other facilities from the
government.
Tie-up and Collaboration with Other Firms

The firms can manage risks not by standing alone but by collaborating with other firms. This strategy
helps a firm to share its risk with other firms.
Private Insurance

Even after committing its resources, the firm can resort to private insurance schemes to hedge against any
future loss. The insurance premium will be proportional to the threat of asset loss.
Avoiding Politically Sensitive Products

The firms can reduce risk by avoiding product lines that affect exchange rates, national security, and public
health, or are contrary to the general beliefs and moral values of people, for example, alcohol, cigarettes,
and explosives.
Avoiding Sensitive Regions

13

The firms can avoid politically sensitive regions and choose safer or more peaceful locations. Multiplant
and multi-product firms are able to avoid risk to a considerable extent.
Maintaining Good Political Relations

Many business firms find it wise to maintain politically neutral postures, but it is commonly believed that
they must have normal to cordial relations with the political parties in power to have a say in the
government.
MARKET OPPORTUNITIES

Low-average income levels have prevented Indias huge population of more than one billion from
becoming a lucrative market for consumer goods. The vast majority of the population is preoccupied with
meeting basic daily needs. Even so, the existence of a large middle class, the estimated size of which varies
from 25 million to 350 million, offers considerable potential for manufacturers and retailers. Table
1.3 gives in detail the related particulars.

Low-average income levels have prevented Indias huge population of more than one billion from
becoming a lucrative market for consumer goods.
India remains a predominantly agricultural society and is home to around 40 per cent of the worlds
poorest people; even the much-vaunted middle class has a limited disposable income. As a result, the early
enthusiasm of foreign companies, that are eager to tap Indias large market, has been replaced by a more
sober assessment of potential sales. The market for branded consumer goods, such as clothing, colour
televisions, and washing machines is now estimated to be just 50 million to 75 million though this exceeds
the population of many developing countries. Limited and unreliable supplies of water and electricity have
forced foreign manufacturers of white goods to rethink their approachfor example, by designing smaller
and more efficient washing machines and refrigerators. The demand for large- or even medium-sized cars
is small. Better quality products certainly appeal to Indias consumers, but price remains the major
determinant.

India remains a predominantly agricultural society and is home to around 40 per cent of the worlds
poorest people; even the much-vaunted middle class has a limited disposable income.

Table 1.3 Market Opportunities

Source: National Council of Applied Economic Research, India Market Demographics Report 2002.

14

Table 1.4 Distribution of Household by Income, 19902000

Source: National Council of Applied Economic Research, India Market Demographics Report 2002.

DISTRIBUTION OF HOUSEHOLD BY INCOME, 19902000

Any detailed assessment of Indias broader market potential must start with income distribution, though
such data are, at best, less than reliable. Nevertheless, the National Council of Applied Economic Research,
an independent research organisation, periodically produces a set of benchmark figures examining
incomes. Its assessment for 19992000, as given in Table 1.4, showed that India had about 176 million
households; of these, only around 6.2 million earned more than Rs 140,000 a year (at 1998/99 prices),
equivalent to US$3,100 and could, therefore, be considered as affluent. Foreign firms, marketing luxury
items and other top-end goods, have tended to focus almost exclusively on this segment of the population.
A further 57-million households earned between US$233 and US$3,100 a year; they can afford many
kinds of basic consumer products, though not necessarily top-of-the-range goods. It is this segment of the
population that holds the greatest potential for foreign firms that are selling in India.
RECENT POLITICAL ENVIRONMENT

In the run-up to the next general elections that are likely to be held sometime in 2009, there have been
significant changes in the political environmentboth within and around the country.
The Congress party that came to power in the year 2004albeit by a slender majorityhad to depend
heavily on such diverse fragmented parties like Lalu Prasads Rashtriya Janata Dal (RJD) on one side and
Ram Vilas Paswans Lok Janshakti Party (LJP) on the other, and also regional parties like Dravida
Munnettra Kazhagam (DMK) and Nationalist Congress Party (NCP).
All these political parties have their own constituencies and respective agendas, which they apply from
time to time to pressurise the government. But the greatest pressure group that the Manmohan Singh
government has to face is the Left Front, which supports the government from outside too. The Left parties
are particularly vociferous in their opposition to the nuclear deal with the United States and also
privatisation of many of the core-sector PSEs (public sector enterprises).

All these political parties have their own constituencies and respective agendas, which they apply
from time to time to pressurise the government. But the greatest pressure group that the Manmohan
Singh government has to face is the Left Front, which supports the government from outside too.
In spite of all the problems, the combination of Dr. Manmohan Singh as the Prime Minister, Mr. P.
Chidambaran as the Finance Minister, and Mrs. Sonia Gandhi as the Chairperson of United Progressive
Alliance (UPA) has done a commendable job, at least on the economic front, where the country has
maintained a growth rate of around 8 per cent to 9 per cent.
There had also been significant changes in the neighbouring countries as wellparticularly in Pakistan,
where the nine-year rule of General Pervez Musharraf has ended and Asif Ali Zardari is the current
president.

15

As an aftermath of the tragic assassination of Benazir Bhutto, on December 27, 2007, the subsequent
general elections brought her party, PPP (Pakistan Peoples Party) and her arch rival Nawaz Sharifs PML
(N) (Pakistan Muslim LeagueNawaz) closer. The combination worked effectively to defeat General
Musharrafs sponsored parties. As a result, Pakistan has Mr. Gillani as the new PM.
It is too early to envisage how the new government will function and what will be its policy visa-vis India.
However, Mr. Asif Ali Zardari, Co-chairman of PPP and husband of Benazir Bhutto, had shown a lot of
acumen in announcing that they would like to keep the Kashmir issue aside and concentrate on improving
the bilateral relations with India on the other fronts, including trade and technology.
There are also some positive developments in other countries like Bhutan and Nepal. In Bhutan, the long
feudal dynastic rule had come to an end, mainly due to the efforts taken by India and the people of
Bhutan,who have embraced democracy. Bhutan had, traditionally, very cordial relations with India and
the new democratic setup will be helpful for India to assist in the development of Bhutan.
Similarly, in Nepal, the 250-year-old dynastic rule too came to an end, as Maoists won the popular
mandate and Nepal was declared a republic on May 30, 2008; and the royal family was ordered to vacate
the palace, which would be converted into a museum. Although the Maoists are leaning towards China,
Indias traditional and cultural relations with the Himalayan state can further improve as Nepal will
constantly require Indias cooperation in many strategic areas as the country is far away from the warm
waters.
Among the other SAARC nations, Sri Lanka (inspite of LTTE problems) and Maldives in the Indian Ocean
are constantly increasing their trade relations with India, as presently both the countries have stable
governments. The only remaining trouble spot is Bangladesh, where there is still no political stability and
the country is presently facing a tug of war between the liberals and the fundamentalists.
Thus, in the above scenario, India remains the leader among the SAARC nationsnot only because of its
imposing size and population, which, of course, provides a lucrative market for industrialised countries,
but also because of its mature political leadership and rapidly growing economy which makes it a safe
place for the investors to deal with.

India remains the leader among the SAARC nationsnot only because of its imposing size and
population, which, of course, provides a lucrative market for industrialised countries, but also
because of its mature political leadership and rapidly growing economy which makes it a safe place
for the investors to deal with.
Relations with China

Besides India, the other Asian giant China, which is larger than India both in terms of size and population,
has also progressed remarkably in the last two decades, inspite of adhering to Communism. Chinas rapid
progress is a cause for concern, not only to other developed countries of Asialike Japan, Korea, and
Malaysia, but it has also raised an alarm in the Western countries. According to a recent survey, within a
decade, most of the Chinese products including automobiles will be seen dominating throughout the
world.
The Chinese economic development is more pronounced and widespread than India, as China has
emphasised on an all-round development and focused more on the manufacturing sector (thanks mainly
to its cheap labour), rather than the service sector. One strong point, however, in Indias favour is its
growing educational population, especially in higher and technical education like the IT sector, which is in
a great demand worldwide, which has enabled and attracted many leading IT companies to have trade and
technological cooperation with India.

The Chinese economic development is more pronounced and widespread than India, as China has
emphasised on an all-round development and focused more on the manufacturing sector (thanks
mainly to its cheap labour), rather than the service sector.
The outsourcing carried out by the US and the European countries have, in fact, benefitted Indias
personnel to a great extent; thereby, boosting the trade in the service sector, particularly. However, the
16

growing influence of China as an economic power and its trade relations with other countries have
restrained India from condemning China on the recent Tibet issue; and because of its geographical and
political proximity with Pakistan, India is compelled to have better relations with China.
Other Developments

The political developments all over the world are having a significant effect on the Indian economy, as new
political equations are being developed. The receding Russian influence on Indias foreign policy has given
way for India to adopt a more liberal trade policy and has also given rise to market economy and
privatisation of many industries, which were hitherto the domain of PSEs alone. The post-Cold War period
and also the fall of the Communist regime of the erstwhile Soviet Union left the world with only one
unchallenged Super Powerthe United States, thus, leaving most of the countries to reconcile with the
situation. This has boosted the trade and other relations between India and the United States.
The 9/11 incident and the subsequent wars on Afghanistan and Iraq have also forced India to adopt a more
pragmatic policy towards the Middle East, which resulted in growing cooperation with Israel in matters of
defence and security to combat with what has now come to be known as Islamic Terrorism.
Domestic Developments in Trade

Another significant development in the last few years is the growing importance of a large Indian
consumer market, which has encouraged many foreign brands to enter into trade pacts with the Indian
companies or to establish companies on their own. Retail has got particular attention, as it is the
second-largest sector in India after agriculture. This has given rise to organised retail sector or corporate
retail, resulting in the setting up of large retail chains and shopping malls across major cities, which has
now started to penetrate into medium and smaller towns as well. These chains are being developed by
major corporates from both India and abroad. Although these organised retailers are at a nascent stage,
they are bound to have a profound effect on the small retailers, even though the consumers will hopefully
be benefitted.

Indian consumer market, which has encouraged many foreign brands to enter into trade pacts with
the Indian companies or to establish companies on their own.

Although these organised retailers are at a nascent stage, they are bound to have a profound effect on
the small retailers, even though the consumers will hopefully be benefitted.
RECENT ECONOMIC AND FINANCIAL ENVIRONMENT

India has undergone a profound shift in the economic management. Since the mid-1980s, successive
reforms have progressively moved the Indian economy towards a market-based system. State intervention
and control over economic activity have been reduced significantly and the role of private sector
entrepreneurship has increased. To varying degrees, liberalisation has touched on most of the aspects of
economic policy, including industrial policy, fiscal policy, financial market regulation, and trade and
foreign investment.

India has undergone a profound shift in the economic management. Since the mid-1980s, successive
reforms have progressively moved the Indian economy towards a market-based system. State
intervention and control over economic activity have been reduced significantly and the role of
private sector entrepreneurship has increased.
Overall, reform has had a major beneficial impact on the economy. The annual growth in GDP per capita
has accelerated from just 1.25 per cent in the three decades after independence to 7.5 per cent currently, a
rate of growth that will double the average income in a decade. Potential output growth is currently
estimated to be 8.5 per cent annually, and India is now the third-largest economy in the world. Increased
economic growth has helped to reduce poverty, which has begun to fall in absolute terms.

17

Areas that have been liberalised have responded well. In the services sector, such as communications,
insurance, asset management, and IT, where government regulation has been eased significantly or is less
burdensome, the output has grown rapidly. In those infrastructure sectors which have been opened to
competition, such as telecoms and civil aviation, the private sector has proven to be extremely effective
and the growth has been phenomenal. At the state level, the economic performance is much better in
states with a relatively liberal regulatory environment than in the more restrictive states.
Significant problems still remain unresolved and the next round of reforms need to focus on a number of
key areas. In the labour markets, the employment growth is concentrated in firms that operate in sectors
that are not covered by Indias highly restrictive labour laws. In the formal sector, where these labour laws
apply, the employment has been falling and firms are becoming more capital-intensive despite abundant
low-cost labour. Labour market reform is essential to achieve a broader-based development and to provide
sufficient and higher productivity jobs to the growing labour force. In product markets, the inefficient
government procedures, particularly in some of the states, act as a barrier to entrepreneurship and need to
be improved. Public companies are generally less productive than private firms, and the privatisation
programme should be revitalised. A number of barriers to competition in financial markets and some of
the infrastructure sectors, which are other constraints on growth, also need to be addressed. The indirect
tax system needs to be simplified to create a true national market, whereas for direct taxes, the taxable
base should be broadened and rates lowered. Public expenditure should be reoriented towards
infrastructure investment by reducing subsidies. Furthermore, social policies should be improved to
provide more benefits to the poor and given the importance of human capital, the education system also
needs to be made more efficient.
The reforms must continue if the government is to achieve its growth targets. The governments target of
reaching a GDP growth of 10 per cent in 2011 is achievable only if reforms continue. In addition, if the
relatively restrictive states improve their regulatory frameworks, growth will be more inclusive and income
gaps across the states will narrow. The impressive response of the Indian economy to past reforms should
give the policymakers confidence that further liberalisation will deliver additional growth dividends and
foster the process of pulling millions of people out of poverty.

The reforms must continue if the government is to achieve its growth targets. The governments
target of reaching a GDP growth of 10 per cent in 2011 is achievable only if reforms continue. In
addition, if the relatively restrictive states improve their regulatory frameworks, growth will be more
inclusive and income gaps across the states will narrow.
Although we forecast that the growth momentum of Asias second largest economy will subside, it is still
expected to remain robust. If growth for FY2007/08 (FYfiscal year) reaches the central banks forecast of
8.5 per cent expansion rate, this will only be marginally below the 8.6 per cent average achieved over the
past four years. Inflation remains the biggest threat to this outlook and the supply-side factors, if not dealt
with appropriately, will render these growth rates unsustainable. Unfortunately, the infighting between
groups in the United Progressive Alliance, Indias ruling coalition, threatens to prevent any meaningful
reform from taking place. Its communist allies have already hampered many of the governments
privatisation plans, which the Prime Minister sees as crucial to boosting the GDP growth to 10 per cent
and are necessary to lift millions of the countrys poor above the poverty line. Continuing down this path
would, in effect, render the Congress party a lame-duck administration, unable to push through any
far-sighted reform measures during its current term.
Following a protracted wrangling between Indias ruling Congress party and its communist allies, the
India-US Civilian Nuclear Energy Agreement appears to be on its last legs. This is a major setback for the
Premier Singh, who has staked his reputation on this historic landmark deal and who, by succumbing to
the Lefts demands in order to avoid early elections, has severely impaired his credibility. The next 18
months could see the Indian National Congress kowtowing to its allies until the 2009 elections, when only
a stronger showing in parliament would allow it to reduce its reliance on the Left.
Indian economy expanded by an impressive 9.3 per cent y-o-y (year-on-year) in Q1 FY2007/08
(April-March), buoyed by a strong growth in the manufacturing and services, which have fuelled the
inflation concerns. However, the recent global credit crunch and a strong rupee mean that the central bank
will hold off on hiking interest rates any further for the time being. On the whole, it appears as though
economic growth will begin to moderate in the coming quarters. This is because we expect a tight
monetary policy to eventually impact on the demand. However, given the positive spillover effects of last
18

years robust growth rate of 9.4 per cent, we do acknowledge upside risks to our 8.2 per cent growth
forecast for FY2007/08.
The rapidly proliferating and much-heralded business prospects arising from India, mask a fundamental
development flaw facing the country. Despite a steady increase in inward investment flows, our data points
towards deterioration in Indias overall business environment, which has suffered because of policy
decisions that favour short-term investment strategies at the expense of longer-term goals. The latter
would require a marked improvement in the infrastructural development. This trend is a concern as it
threatens to accelerate the widening trend of regional disparity and, consequently, Indias business
environment rating has been revised down to 39.8 from 40.6.

The rapidly proliferating and much-heralded business prospects arising from India, mask a
fundamental development flaw facing the country. Despite a steady increase in inward investment
flows, our data points towards deterioration in Indias overall business environment, which has
suffered because of policy decisions that favour short-term investment strategies at the expense of
longer-term goals.
India Food and Drink

In February 2008, Indias domestic alcoholic drinks industry achieved a major target. In BMIs (Business
Monitor International) newly published India Food & Drink Report for Q 2008, we can truly see the
impact of WTO, which rejected complaints from the United States about the level of import tariffs on
international spirits in the country. Even after this whole episode, the investments remained high in spite
of a number of significant challenges.
The United States complaints were totally focused on the enormous dispel between Indian import
tariffs and those imposed by other regional markets. USA further claimed that Indias excise duties
amounted to unfair discrimination against imported brands. With the Indian spirits industry amounting to
over 1 billion litres per annum in 2007, the United States desire to gain a foothold is understandable.
By 2012, we expect volume sales growth in the industry to stand at 25.8 per cent. Today, the major barrier
to the growth in the sale of alcohol in India is the low disposable income. In order to compete, the Indian
manufacturers have been forced to reduce price in order to secure customer loyalty.
Indian Automotives

Indias new vehicle sales continued to grow in FY2007/08, but at a slower rate than the previous years.
BMI has revised downwards its sales forecast for the year on the back of first-half sales, even though the
optimism for continued growth over the five-year forecast period still exists. Passenger car sales for the
month of September rose by 11.6 per cent to 105,822 units, while sales for the six months from April to
September were up by 13 per cent to 569,621 units. Commercial vehicle sales increased by a little less than
1 per cent to 42,770 units, in September, and by 2.92 per cent, over the next six months, to 212,181 units.
BMI now projects a total sale of 1.775 mn units in FY2007/08, though we expect sales to recover over the
next five years if interest rates can be lowered. BMI also believes that the commercial vehicle segment can
play a pivotal role in rescuing the slide, based on a number of new JVs announced in recent months. Volvo
Bus Body Technologies India, a 70:30 JVs between Swedens Volvo and Indias Jaico Automobile, has set
up a new production plant to produce fully-built buses for export as well as domestic sale. The bus
segment has also seen a tie-up between the domestic manufacturer Tata Motors and Brazils Marco Polo to
build the worlds largest integrated bus plant in India.
Despite the slowdown in sales growth, India still ranks second in BMIs Business Environment Ranking for
the automotive industry in the Asia-Pacific region. Vehicle ownership is low, creating potential for further
sales growth, though with so many manufacturers already establishing production operations and the
industry running at a high level of capacity utilisation, the opportunities for entering the market as a
producer could be limited. In the meantime, Indias production of CBUs is expected to rise by 63 per cent
over the forecast period, which means Indias output growth is above the average for the Asia-Pacific
region, and the market scores highly as a result.

19

Despite the slowdown in sales growth, India still ranks second in BMIs Business Environment
Ranking for the automotive industry in the Asia-Pacific region. Vehicle ownership is low, creating
potential for further sales growth, though with so many manufacturers already establishing
production operations and the industry running at a high level of capacity utilisation, the
opportunities for entering the market as a producer could be limited.
Maruti Suzuki, which led the market in FY2006/07, posted a growth of 18 per cent over the first six
months of FY2007/08, thanks to the heavy discounts and the launch of two new modelsthe Swift
Compact and the SX4 Sedan. In this period, however, Maruti was pipped by the US giant General Motors
(GM), which more than doubled its Indian sales on the back of its two new Chevrolet Compact models, the
Spark and the Aveo U-VA. GMs sales for the six months to September 2007 rose by 140 per cent y-o-y to
20,695 units. Data from the Society of Indian Automobile Manufacturers (SIAM) also showed that the
manufacturers prominent in the larger Sedan segment, such as Honda and Ford, saw sales decline.
Global Economic Environment

The global expansion is losing speed in the face of a major financial crisis. The slowdown has been the
greatest in the advanced economies, particularly in the United States, where the housing market correction
continues to exacerbate financial stress. Among the other advanced economies, the growth in Western
Europe has also decelerated, though growth in Japan has been more resilient. The emerging and
developing economies have, so far, been less affected by financial market developments and have
continued to grow at a rapid pace, led by China and India, even though growth is beginning to slow in
some countries. At the same time, headline inflation has increased around the world, boosted by the
continuing buoyancy of food and energy prices. In the advanced economies, core inflation has edged
upward in the recent months, despite slow growth. In the emerging markets, headline inflation has risen
more markedly, reflecting both strong demand growth and the greater weight of energy.

The emerging and developing economies have, so far, been less affected by financial market
developments and have continued to grow at a rapid pace, led by China and India, even though
growth is beginning to slow in some countries.
Commodity markets have continued to boom despite slow global activity. Strong demand from emerging
economies, which has accounted for much of the increase in commodity consumption in recent years, has
been a driving force in the price run-up, whereas biofuel-related demand has boosted prices of major food
crops. At the same time, supply adjustments to higher prices have lagged, notably for oil and inventory
levels in many markets have declined to medium to long term. The recent run-up in commodity prices also
seems to have been at least partly due to financial factors, as commodities have increasingly emerged as an
alternative asset class.
Recent financial market stress has also had an impact on foreign-exchange markets. The real-effective
exchange rate (REER) for the US dollar has declined sharply since mid-2007, as foreign investment in US
bonds and equities has been dampened by reduced confidence in both the liquidity of and the returns on
such assets, as well as by the weakening of US growth prospects and interest rate cuts. The decline in the
value of the US dollar has boosted net exports and helped to bring the US current account deficit down to
less than 5 per cent of GDP by the fourth quarter of 2007, which is more than 1.5 per cent of GDP, lower
than its peak in 2006. The main counterpart to the decline of the dollar has been the appreciation of the
euro, the yen, and the other floating currencies, such as the Canadian dollar and some emerging economy
currencies. However, exchange-rate movements have been less marked for a number of countries that are
with large current account surplusesnotably, China and oil-exporting countries in the Middle East.
Direct spillovers to emerging and developing economies have been less pronounced than in the previous
periods of global financial market distress, even though capital inflows have moderated in recent months
and issuance activity has been subdued. A number of countries that had relied heavily on short-term
cross-border borrowing have been affected more substantially. Trade spillovers from the slowdown in the
advanced economies have been limited so far and are more visible in economies that trade heavily with the
United States. As a result, the growth among emerging and developed economies has continued to be
generally strong and broadly balanced across regions, with many countries still facing rising inflation rates
from buoyant food and fuel prices and strong domestic demand.

20

Recent financial market stress has also had an impact on foreign-exchange markets. The
real-effective exchange rate (REER) for the US dollar has declined sharply since mid-2007, as foreign
investment in US bonds and equities has been dampened by reduced confidence in both the liquidity
of and the returns on such assets, as well as by the weakening of US growth prospects and interest
rate cuts.
Multilateral Initiatives and Policies

Broadly based efforts to deal with global challenges have become indispensable. In the event of a severe
global downturn, there would be a case for providing temporary fiscal support, in a range of countries that
have made good progress in recent years in securing sound fiscal positions. Providing fiscal stimulus
across a broad group of countries, which would benefit from stronger aggregate demand, could prove
much more effective than isolated efforts, given the inevitable cross-border leakages from added spending
in the open economies. It is still early to launch such an approach, but it would be prudent for countries to
start contingency planning to ensure a timely response in the event that such support becomes necessary.
Reducing risks associated with global current account imbalances remains an important task. It is
encouraging that some progress is being made in implementing the strategy endorsed by the International
Monetary and Financial Committee and the more detailed policy plans laid out by participants in the
IMF-sponsored Multilateral Consultation on Global Imbalances aimed at rebalancing domestic demand
across countries, with supportive movements in REERs.

Broadly based efforts to deal with global challenges have become indispensable. In the event of a
severe global downturn, there would be a case for providing temporary fiscal support, in a range of
countries that have made good progress in recent years in securing sound fiscal positions.
CASE

Mahindra & Mahindra manufactures and markets jeeps and had a hold over a considerable portion of the
jeep market in India in the past. It was ranked sixth in the automobile sector of India in 2004, up from the
10th rank in 2003. The following are the prominent jeeps that operate in the Indian market
currentlyMahindra-Voyager, Mahindra-Armada, and Mahindra-Commander. Mahindra & Mahindra is
now facing problems like cut-throat competition, price rise, and sluggish market for jeeps. In terms of
price competition, Mahindra & Mahindra has an upper hand when compared to Tata jeeps, whereas
Tempo Trax has comparatively a low price.
Realising the need to grow fast, the company formulated an export policy. It paid off well. They formulated
plans to develop and grow in a foreign market. The first step was participation in trade fairs abroad,
particularly in Hanover (Germany) and Paris (France). This has helped to popularise its vehicle in those
countries. Mahindra jeeps started selling in France, and jeep export became an important marketing
activity of the company. The company started manufacturing diesel engines in collaboration with Peugeot
of France.
As soon as the company came to know that Australia, Denmark, Italy, Norway, and Sweden could prove to
be potential markets, plans began to be made accordingly. The company estimated that it would be able to
export about 2,500 jeeps annually to Australia. In order to cater to the lower segment of the market, the
Mahindra jeeps in Australia faced competition from Japanese companies. Stringent design rules and
requirements also needed to be met in Australia.
The company is confident of meeting all such requirements. The governments liberalisation policy will
also be helpful. The companys new policy has to take into account the environmental factors. The export
policy, with a special reference to export market, also deserves a considerable evaluation and analysis
because environmental factors, such as technological, economical, social, and political influences, relevant
to strategic decisions, operate in an industry.
Mahindra & Mahindra assessed all the opportunities in the market as well as the impact of external
environment on their strategic planning before expanding the production. In 2004, Mahindra & Mahindra
showed a significant improvement compared to Maruti Udyog, ranked as the number one automobile
company, as is evident from the table that follows:

21

Case Question

In the case discussed above, which are the different environmental factors that lead to opportunities and
threats to Mahindra & Mahindra?
SUMMARY

A business environment comprises a number of environmental factors. It can be an interface, linking

various such environmental factors, making a common ground that determines or influences the process
of policy making in every business organisation that functions within such an environment. An interaction
of all such factors, or some of them, can also take place, while the business organisation is expected to
interact with the environment.
Any substantial change in the environment or in any of the factors of the environment is bound to lead to
corresponding changes in the business policy of the organisation. It is here that this interface works. As
observed elsewhere, the demand-supply factors, for example, work as an interface between business
organisations and business environment. While demand-supply factors make an environment by
themselves for the business organisation, they act as an interface between the aggregate environment and
the organisation.
Evidently, a business environment represented by certain dominating factors, which can be called a
micro-environment, such as government policies, legal provisions, competitive factors, inflation, deflation
or recession, acting as an interface between the organisation and its macro-environment, provide
opportunities, threats, or challenges to the organisation. In the colour TV case discussed earlier,
technological factors and competitive factors acted as micro-environment interface between the colour TV
manufacturers and the macro-environment. While a new entrant is concerned with the existing
environment, particularly the microenvironment, and the ways and means for the company to fit in within
the framework of the existing environmental interface, an existing company is more interested in tracking
the changing environmental factors.
During the course of scanning the business environment, a number of methods like economic and
technological forecasting, detailed demographic projections, national and international market trends,
changing trade relationship between governments, and so on, can be used for identifying environmental
changes. It is, however, not very easy to identify or accurately measure the changes in the interface, in
particular, or in the macro-environment, in general, though some factors can be easily identified.
In a global environment, a competitive situation is bound to exist in the market; and hence, a competitive
marketing strategy in terms of market leader strategy, challenger strategy, niches strategy, or follower
strategy is appropriate. Such a strategy must ensure a defensive position for the company in the
competitive environment. In such situations, the environment itself acts as an interface between the
company and its competitor.
The structure of the industry, which includes the company and its competitors in addition to potential
entrants, suppliers, buyers, and so on determines the level of competition. Hence, the environment is
influenced by all of them in some manner or the other. The business policy of every player has, therefore,
to take cognisance of the threats posed by every other player including the new entrants. Thus, subject to
the influence of a number of factors, the business environment provides opportunities and threats, while
its internal environment provides its strengths and weaknesses.
A competitive business environment is an essential characteristic of globalisation. The nature of
competition varies in different economic systems. In the context of widespread globalisation process,
tremendous changes are taking place in the business environment of economic systems. Corporate
concern for international business environment is understandable in relation to the globalisation of
business. We may, therefore, throw some light on the international business environment here.

22

KEY WORDS

Business Environment
Country Risk
Cultural Factors
Economic Factors
Ecological Factors
Environmental Factors
Environmental Risk
Fiscal Policy
Geographical Factors
Globalisation
Labour Factors
Legal Factors
Infrastructure Risk
Monetary Policy
Political Factors
Political Stability Risk
Security Risk
Social Factors
Technological Factors

QUESTIONS

1.
2.
3.
4.
5.
6.
7.

Define business environment and state the importance of its study.

What is business environment? Explain the different factors of business environment.
Business environment is dynamic. Discuss.
How does political environment influence the business policy of an organisation?
What are the economic factors affecting business policies?
How does the socio-cultural environment influences the business policy of an organisation?
Do you believe that political stability leads to business development and vice-versa? Discuss.

REFERENCES

Aswathappa, K. (2004). Essentials of Business Environment, 2nd ed. Mumbai: Himalya Publishing House.
Batra, G. S. and R. C. Dangwal (2002). Business Management and Globalisation. New Delhi: Deep & Deep Publications.
Bedi, S. (2004). Business Environment. New Delhi: Excel Books.
Chanchal, C. (2003). Foreign Investment in India: Liberalisation and WTO-The Emerging Scenario. New Delhi: Deep & Deep Publications.
Cherunilam, F. (2000). Elements of Business Environment, 1st ed. Mumbai: Himalya Publishing House.
Cherunilam, F. (2004). Global Economy and Business Environment. Mumbai: Himalya Publishing House.
Chidambaram, K. and V. Alagappan (2003). Business Environment. New Delhi: Vikas Publishers.
Davis, K. and R. L. Blomstrom (1971). Business Society and Environment. New York: McGraw-Hill.
Ghosh, P. K. (2002). Business Environment. New Delhi: Sultan Chand.
Kalyani, I. and Paranjpe (2001). Business Environment and Development, 2nd ed. Mumbai: Himalya Publishing House.
Michale, V. P. (1999). Globalisation, Liberalisation and Strategic Management, 1st ed. New Delhi: Himalaya Publishing House.

23

CHAPTER 02
Planning in India
CHAPTER OUTLINE

The Emergence of Planning

The Planning Commission
The National Development Council
Objectives of Planning in India
Five-Year Plans
Distribution of Public Sector Outlay of Each Plan
Tenth Five-Year Plan (200207)
Five-Year PlansAchievements and Failures
Eleventh Five-Year Plan (200712)
Liberalisation and Planning
Case
Summary
Key Words
Questions
References

THE EMERGENCE OF PLANNING

The need for planned, coordinated economic development under government guidance was recognised all
along the freedom movement. In the 1930s, as the freedom struggle intensified, social and economic aims
also became more well defined. In December 1938, Subhash Chandra Bose, as the Congress President, laid
great stress on national planning and appointed a National Planning Committee with Jawaharlal Nehru as
its Chairman.
The so-called Bombay Plan (1944), a blueprint for economic development after independence, was worked
out by eight top industrialists, notably, Tata, Birla, and Shri Ram. It recommended a very active role for
the state in economic development. The Planning Commission was set up in March 1950. Its task was to
make an assessment of the material, the capital, and the most effective utilisation of these resources on a
priority basis.
Recovering from the horrors of partition, by 1951, India started planning seriously for the future. Indias
economic history may be broadly divided into the following phasesthe period from 1947 to the
mid-1950s, which was the preparatory phase in planning for development; the period from mid-1950s to
mid-1960s, characterised by rapid industrialisation; the period of late 1960s and the 1970s, when the plans
tried to focus on agriculture; and finally the phase of liberalisation starting tentatively in the 1980s, and
gearing up from 1991 to the present.
The period from independence to the mid-1950s signifies the preparatory phase in planning for
development. During the first phase, the main concern was to work out a broad framework for planned
24

development. Although a step in this direction had already been initiated with the formation of the
National Planning Commission, serious work in this direction gained momentum only after 1947. The
Planning Commission set up in 1950 with Nehru as its Chairman undertook the task of devising an
appropriate development strategy through five-year plans.
Strong advocacy of planning came from an emerging sub-discipline of economics called Development
Economics. This advocacy was reiterated by the spectacular economic success of the then USSR. The
Industrial Policy Resolution of 1956 outlined Nehrus vision of a socialistic pattern of society. The public
sector soon became the pivotal sector of the Indian economy and despite the changes in governmental
policies in 1971, 1979, 1980, and 1985, the provision of the Industrial Policy Resolution remained intact till
1990. The public sector undertakings played a critical role in the generation of surplus capital for the
infrastructural development.

The Industrial Policy Resolution of 1956 outlined Nehrus vision of a socialistic pattern of society,
making the public sector the pivot of Indian economy. Despite several changes in government policies
in the subsequent years, this resolution remained intact till 1990.
Generation of employment opportunities, removal of disparities, and alleviation of poverty were the
objectives of the public sector units.
Under Jawaharlal Nehru, India adopted a flexible plan strategy in order to bring about the functional and
structural transformation of the economy. This strategy of planning was adopted keeping in mind the
objectives, such as reduction in absolute poverty, unemployment, and inequalities, and providing basic
necessities and accelerating a balanced growth. The Indian socio-economic order had been hard hit by the
British handling of the Indian economy, by the Second World War, and, ultimately, by the partition of
India. The need to reorganise the economy and to channelise it towards self-dependence became
imperative. It would not be wrong to say that given the monolithic problems, the early years, right through
the mid-1960s, witnessed an optimistic assessment of Indias potential and performance.

Under Jawaharlal Nehru, India adopted a flexible plan strategy in order to bring about the
functional and structural transformation of the economy. This strategy of planning was adopted
keeping in mind the objectives, such as reduction in absolute poverty, unemployment, and
inequalities, and providing basic necessities and accelerating a balanced growth.
In the Second Plan, which was formulated in an atmosphere of economic stability, agriculture was
accorded a complementary role while the focus shifted to the industrial sector, especially to the
heavy-goods sector. The domestic industry was protected from foreign competition through high tariff
walls, exchange-rate management, controls and licences or outright bans. To begin with, P.C. Mahalanobis
introduced a single-sector model, based on variables of income and investment, which was further
developed into a two-sector model. The entire net output of the economy was supposed to produce only
two sectorsthe investment goods sector and the consumer goods sector. The basic strategy of the Second
Plan was to increase the investment in heavy industries and also the expenditure in services.
THE PLANNING COMMISSION

The Planning Commission of India was set up in March 1950 with Jawaharlal Nehru as its Chairman. The
Commission comprises eight members:
1.
2.
3.
4.
5.

Prime Minister (Chairman),

Four full-time members (including Deputy Chairman),
Minister of Planning,
Minister of Finance, and
Minister of Defence.

The Planning Commission was set up in March 1950. This Commission comprises eight members:
Prime Ministerwho is the Chairman of the Commission, four full-time members, Minister of
Planning, Minister of Finance, and Minister of Defence.
With a change in the government at the Centre, a new Planning Commission is always formed. The main
functions of the Planning Commission include:

25

1.
2.
3.
4.
5.
6.
7.

Making real assessment of various resources and investigating the possibilities of augmenting resources;
Formulating plans;
Defining stages of plan implementation and determining plan priorities;
Identifying the factors retarding economic growth and determining the conditions for its successful implementation;
Determining plan machinery at each stage of the planning process;
Making periodic policy measures to achieve objectives and targets of plan; and
Making additional recommendations as and when necessary.

THE NATIONAL DEVELOPMENT COUNCIL

The National Development Council (NDC) has been working as the highest national forum for the
economic planning in India since August 6, 1952. Representatives of both, the Central and the State
government, come together in the NDC to finally approve all important decisions relating to planning.
The NDC is composed of the following members:
1.
2.
3.

The Prime Minister of India,

Chief Ministers of all states, and
Members of Planning Commission.

The NDC works as an advisory body where the state governments occupy an important position.
Functions

The following are the main functions of the NDC:

1.
2.
3.

To review the National Plan periodically.

To consider important questions related to social and economic policy affecting national development.
To recommend various means of achieving aims and targets set out in the National Plan. The Council also recommends various measures for achieving active
participation and cooperation of the people, for improving efficiency in administrative services, for ensuring fullest development in the backward regions and the backward

4.
5.

sections of the community, and also for building up resources for national development.
The NDC also takes the final decision regarding the allocation of Central assistance for planning among different states. The Gadgil formula and all other systems
followed in transferring Central assistance for plan to states are finalised by the NDC.
The NDC approves the draft plan prepared by the Planning Commission.

OBJECTIVES OF PLANNING IN INDIA

In a developing country like India, economic planning plays a very important role in economic
development. The fundamental objective of the economic planning of our country is to accelerate the pace
of economic growth and to provide social justice to the general masses. Thus growth with social justice is
the main objective of economic planning in India. The major objectives of economic planning in India can
be summarised as follows:
1.
2.
3.
4.
5.
6.

Attainment of higher rate of economic growth,

Reduction of economic inequalities,
Achieving full employment,
Attaining economic self-reliance,
Modernisation of various sectors, and
Redressing imbalances in the economy.

The fundamental objective of the economic planning of our country is to accelerate the pace of
economic growth and to provide social justice to the general masses. Thus growth with social justice
is the main objective of economic planning in India.
Let us now discuss these objectives in detail.
Economic Growth

Attainment of a higher rate of economic growth has received topmost priority in almost all the five-year
plans of the country. Given the acute poverty in the country, a higher rate of economic growth would help
to eradicate poverty and improve the standard of living of the people. The First Plan envisaged a target of
11 per cent increase in national income against which 18 per cent growth in national income was achieved.
The Second, Third, and Fourth Plans envisaged annual growth rates of 5 per cent, 5.6 per cent, and 5.7 per
cent, respectively, against which 4 per cent, 2 per cent, and 3.4 per cent, respectively, were achieved. Again,
the Fifth and Sixth Plans proposed annual growth rates of 4.37 per cent and 5.2 per cent against which 5
per cent and 5.2 per cent, respectively, were achieved. The Seventh, Eighth, and Ninth Plans set targets of
5 per cent, 5.6 per cent, and 7 per cent annual growth rate of national income, respectively, against which

26

6.02 per cent, 6.68 per cent, and 5.35 per cent, respectively, were achieved. Thus, attaining higher rate of
economic growth is a common objective of all the five-year plans of our country.
Attaining Economic Equality and Social Justice

With its objective of growth scenario, expansion of employment opportunity, and poverty alleviation, the
Eighth Plan focused entirely on socio-economic condition. The Ninth Five-Year Plan endeavoured to be
sensitive to the needs of the poor, focused on the accelerated growth to realise the objective of removal of
poverty.
Reduction of economic inequalities and eradication of poverty have been the objective of almost all the
five-year plans of our country, particularly since the Fourth Plan. Following a faulty approach in the initial
planning process, economic inequality widened and poverty became acute. Under such circumstances, the
Fifth Plan adopted the slogan of Garibi Hatao for the first time. The Seventh Plan document showed that
nearly 37.4 per cent of the total population of the country fell below the poverty line and the plan aimed to
reduce this percentage to 29.2 per cent by 1990. Thus, to achieve the target, various poverty alleviation
programmes like the National Rural Employment Programme (NREP), Composite Rural Training and
Technology Centre (CRTTC), Crash Scheme for Rural Employment Programme (CSREP), Rural Landless
Employment Guarantee Programme (RLEGP), and so on were introduced. But the performance of these
programmes was not satisfactory.

Reduction of economic inequalities and eradication of poverty have been the objective of almost all
the five-year plans of our country. However, following a faulty approach in the initial planning
process, economic inequality widened and poverty became acute.
Achieving Full Employment

The Seventh Plan emphasised on the policy for accelerating the growth in food production, increasing
employment opportunities, and raising productivity. The Eighth Plan had its main focus on human
development. In order to achieve this goal, employment generation, population control, literacy, education,
health, drinking water, and provision of adequate food and basic infrastructure are broadly considered as
the priorities of the plan. The Ninth Plan incorporates a primary objective to generate greater production
employment in the growth process of various sectors and by adopting labour-intensive technologies in the
unemployment-prone areas.
Indias five-year plans have been laying stress on employment generation since the Third Plan. The
generation of more employment opportunities was an objective of both the Third and Fourth Plans. But up
to the Fourth Plan, employment generation never received its due priority. The Fifth Plan, in its
employment policy, laid a special emphasis on absorbing increment in labour force during the plan period.
The Sixth Plan accorded much importance to the reduction of incidence of unemployment. It was
estimated that employment would grow at the rate of 4.17 per cent per annum as against the annual
growth of labour force at 2.54 per cent. To achieve this target, major employment programmes were
introduced during the plan periodIntegrated Rural Development Programme (IRDP), NREP, Operation
Flood II Diary Development Project, schemes in the villages and small industries sector, the national
scheme of Training Rural Youth for Self Employment (TRYSEM), and various other components of the
Minimum Needs Programme (MNP).

Employment generation has been one of the objectives of the Planning Commission since the Third
Five-Year Plan. To achieve the target, major employment programmes were introduced in the Sixth
Plan period.
One of the major objectives of the Seventh Plan was a faster growth of employment opportunities. Thus,
the plan aimed that the employment potential would grow at 4 per cent as against the 2.6 per cent growth
in the labour force. Again, the Eighth Plan envisaged an annual employment growth of 2.6 per cent to 2.8
per cent over the next 10 years19972006.
Attaining Economic Self-reliance

27

One of the very important objectives of Indian planning has been to attain economic self-reliance. But the
objective came to the forefront only with the Fourth Plan, when the plan aimed at elimination of the
import of food grains under PL480. The Fifth Plan also laid much importance on the attainment of
self-reliance. It aimed at achieving self-sufficiency in the production of food grains, raw materials, and
other essential consumption goods. The plan also emphasised the need for import substitution and export
promotion for attaining economic self-reliance. The Sixth Plan laid stress on strengthening the impulses of
modernisation for the achievement of economic and technological self-reliance. The Seventh and Eighth
Plans followed the path for achieving self-reliance.
Although India has achieved self-sufficiency in respect of food grains, it has not yet achieved
self-sufficiency in respect of edible oil. In the meantime, we have developed a number of import-substitute
industries, particularly, basic and capital goods industries, but the huge import of petroleum along with
some other items is a serious drain on foreign-exchange reservessuch that in 199192, the country
reached near-bankruptcy level with a huge external debt obligation. Thus, the objective of self-reliance still
remains unfulfilled.
The important component of the development policy and strategy envisaged under the Ninth Five-Year
Plan was self-reliance. Since self-reliance demanded balance of payments sustainability and avoidance of
excessive external debt, what was needed was a commitment to sound and prudent macro-economic
policies. Self-reliance also demanded that the most of investible resources be generated domestically. The
component of self-sufficiency was especially applicable to food and the Ninth Plan targeted the higher
growth rate of agriculture to tide over bad monsoon also.

The important component of the development policy and strategy envisaged under the Ninth
Five-Year Plan was self-reliance. Since self-reliance demanded balance of payments sustainability
and avoidance of excessive external debt, what was needed was a commitment to sound and prudent
macro-economic policies.
Modernisation of Various Sectors

As far as technology was concerned, domestic capability was to be developed in that direction also and the
Ninth Plan proposed to implement the technology policy statement, called Vision 2020.
Another very important objective of the five-year plans was the modernisation of various sectors, more
specifically the agricultural and industrial sectors. The Fourth Plan laid much emphasis on the
modernisation of the agricultural sector that took the form of Green Revolution. Successive plans also
continued their efforts in the same direction but to a lesser extent. Box 2.1 lists the conditions that
determine the success of a plan.

Another very important objective of the five-year plans was the modernisation of various sectors,
more specifically the agricultural and industrial sectors. The Fourth Plan laid much emphasis on the
modernisation of the agricultural sector that took the form of Green Revolution.
The Sixth Plan categorically mentioned these objectives of modernisation for the first time. Modernisation
here meant those structural and institutional changes in economic activities, which could transform a
feudal and colonial economy into a progressive and forward-looking economy. Thus, through
condensation an economy may be diversified. It requires setting up of various types of industries and
advancement of technology. However, some sort of modernisation has always gone against employment
generation. Thus, the country is facing a conflict between the objective of modernisation and the objective
of removal of unemployment and poverty.
Redressing Imbalances in the Economy

Regional disparities and imbalances in the economy became so acute in India that they needed special
attention in our five-year plans. By regional development, we mean economic development of all the
regions by exploiting various natural and human resources and increasing their per capita income and
living standards. From the Second Plan onwards, the government realised the need for balanced
development. Thus, the Second, Third, Fourth, and Fifth plans laid emphasis on the redressal of economic

28

imbalances for attaining balanced regional development. The Sixth Plan aimed at a progressive reduction
in regional inequalities in the pace of development and in the diffusion of technological benefits. The
Seventh and Eighth plans also carried forward this objective of balanced development in a systematic
manner. The Ninth Plan has allotted more public investment in infrastructural projects, in favour of the
poor and less-developed states.

Box 2.1 Conditions for the Success of Planning

1.

Central planning authority

2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.
21.
22.
23.
24.

Reliable statistical data

Specific objective
Fixation of targets and priorities
Strong and stable government
Fair and efficient administration
Mobilisation of resources
Proper balance in a plan
Proper development policy
Flexibility in planning
International relations

Public cooperation

Box 2.2 Plan Model

A Plan Model is a mathematical model designed to help in drawing up the plan of economic development.
A plan model is defined as an optimally balanced collection of targets or quantitative measures with dates
in the future, standing for certain objectives and certain proposed steps leading to the attainment of those
objectives.
The tasks of a plan model can be described as follows:

To provide a framework for assessing the soundness of the target of a plan, that might have been set by some less formal methods,
To enable the making of quantitative projections for the economy over the plan period,
To provide a framework for the selection or preparation of projects for being integrated into a plan.

29

Besides these long-term objectives, the plans also laid importance on short-term objectives, such as
control of inflation, industrialisation, rehabilitation of refugees, building up of infrastructural facilities,
and so on. Box 2.2 details on the definition and the tasks of a plan model, which would help in a better
understanding of the five-year plans.
FIVE-YEAR PLANS

Let us now discuss the objectives of each five-year plan.

First Five-Year Plan (195152 to 195256)

The First Five-Year Plan of India had mainly two objectives:

1.
2.

To correct the disequilibrium in the economy caused by Second World War and the partition and
To initiate the process of an all-round balanced development for ensuring a rising national income and improvement in the standard of living.

The objective of the First Five-Year Plan was to correct economic disequilibrium and initiate the
process of an all-round development.
Thus, the First Plan aimed at removing food crisis and shortages of raw materials, to develop economic
and social infrastructure, such as, roads, railways, irrigation and power projects, and finally, rehabilitate
refugees. The plan also tried to lay a foundation for the future development of the economy, to attain social
justice, and to contain inflationary pressures. The plan fixed the targets for raising the rate of investment
by 7 per cent and national income by 11 per cent.
Second Five-Year Plan (195657 to 196061)

Indias Second Five-Year Plan was a bit more ambitious and bolder in comparison to the First Plan. The
Second Plan tried to lay the foundations of industrial progress, made a strong case for rural development,
and also tried to achieve a socialistic pattern of society.

The Second Five-Year Plan aimed at laying the foundation of industrial progress and, at the same
time, achieve a socialistic pattern of society.
The Second Plan had the following four main objectives:
1.
2.
3.
4.

A sizeable increase in the national income to raise the level of living in the country,
Rapid industrialisation with particular emphasis on the development of basic and heavy industries,
A large expansion of employment opportunities, and
Reduction of inequalities in income and wealth and a more even distribution of economic power

Third Five-Year Plan (196162 to 196566)

The Third Plan accorded greatest importance to the achievement of balanced regional development. It
realised the need for a balanced approach and, thus, gave importance to the development of agriculture
and rapid industrialisation through the promotion and development of heavy industries.

The Third Plan accorded greatest importance to the achievement of balanced regional development.
The main objective of the Third Plan was to attain self-sustaining growth in the economy. The following
were the other objectives of the Third Five-Year Plan:
1.
2.
3.
4.
5.

To secure an increase in the national income of over 5 per cent per annum, the pattern of investment being designed also to sustain the rate of growth during the
subsequent plan period,
To achieve self-sufficiency in food grains and increase agricultural production to meet the requirements of industry and exports,
To expand basic industries like steel, chemicals, fuel, and power and establish machine-building capacity, so that the requirements of further industrialisation
could be met indigeneously within a period of 10 years or so,
To utilise the manpower resources of the country to the fullest extent possible and to ensure a substantial expansion in employment opportunities, and
To establish progressively, greater equality of opportunities and to bring about reduction in disparities in income and wealth and a more even distribution of
economic power.

Fourth Five-Year Plan (196970 to 197374)

30

The Fourth Plan aimed at two main objects:

1.
2.

Growth with stability and

Progressive achievement of self-reliance.

The Fourth Plan aimed at two main objects:

Growth with stability and

Progressive achievement of self-reliance.

Besides these two, the other objectives were as follows:

1.
2.
3.
4.

Attaining social justice and equality along with care of the weak and under-privileged, and the common man,
Generating more employment opportunities both in the rural and urban areas,
Assigning an increasing role to the public sector in the growth process, and
Correcting regional imbalances among different states.

The Fourth Plan set a target for increasing the national income by 5.5 per cent per annum and for
increasing the per capita income from Rs 522 in 196869 to Rs 643 in 197374.
Fifth Five-Year Plan (197475 to 197879)

The draft of the Fifth Plan was presented before the Parliament in December 1973 and the plan became
operative from April 1, 1974. The period of the Fifth Plan was originally scheduled to be from 197475 to
197879. But with the formation of the Janata government at the Centre in March 1977, the Fifth Plan was
terminated at the end of March 1978a year before full term.
The Fifth Plan had two main objectives:
1.
2.

Removal of poverty and

Achievement of economic self-reliance.

The objects of the Fifth Five-Year Plan were removal of poverty and achievement of economic
self-reliance.
The Fifth Plan designed certain special measures to increase the level of income and consumption of the
lowest 30 per cent of the population who were living below the poverty line. The plan paid more attention
to improving the lot of the rural poor. Moreover, for promoting social justice, the Fifth Plan lunched the
Minimum Need Programme for the first time. It was designed to provide a minimum level of social
consumption to all sections of people throughout the country. The plan aimed to increase the per capita
consumption expenditure of the lowest 30 per cent of the population from Rs 25 per month to Rs 29 per
month. For achieving economic self-reliance, the Plan aimed at elimination of special forms of external
assistance, particularly food and fertiliser imports.

The Fifth Five-Year Plan aimed at growth with stability and progressive achievement of self-reliance.
Sixth Five-Year Plan (198081 to 198485)

After the termination of the Fifth Plan in 197778, the Janata government prepared its own draft of the
Sixth Plan (197883). However, after the fall of JanataLok Dal government, the Congress (I) government
drew up a new Sixth Plan (198085). This draft was approved by the NDC on February 14, 1981.
The Sixth Plan laid down the following objectives:
1.
2.

A significant step-up in the rate of growth of the economy by promoting efficiency in the use of resources and improved productivity,
Strengthening the impulses of modernisation for the achievement of economic and technological self-reliance,

3.

The Sixth Five-Year Plan aimed at providing impetus to the pace of economic development and
strengthening the impulse of modernisation and technological self-reliance.
4.
5.
6.
7.
8.
9.

Progressive reduction in the incidence of poverty and unemployment,

Speedy development of indigenous sources of energy with a proper emphasis on the conservation and efficiency in energy use,
Improving the quality of life of the people, in general, with special reference to the economically and socially challenged sections through an MNP,
Strengthening the redistributive bias of public policies and services in favour of the poor and, thus, contributing to reduction in inequalities of income and wealth,
Progressive reduction in regional inequalities in the pace of development and in the diffusion of technological benefits,

31

10.
11.
12.

Promoting policies for controlling the growth of population through voluntary acceptance of the small family norms,
Bringing about harmony between the long-term and the short-term policies, and
Promoting the active involvement of all sections of the people in the process of development through appropriate education, communication, and institutional
strategies.

Seventh Five-Year Plan (198586 to 198990)

The NDC approved the Seventh Five-Year Plan draft on November 9, 1985. The plan laid emphasis on
development, equity, and social justice through the achievement of self-reliance, efficiency, and increased
production. The Seventh Plan emphasised the policy for accelerating growth in food grains production,
increasing employment opportunities, and raising productivity. Thus, the Seventh Plan was mainly
devoted to food, work, and productivity.

The Seventh Five-Year Plan laid emphasis on development, equity, and social justice through
self-reliance, efficiency, and increased production.
The NDC approved the following objectives for the Seventh Five-Year Plan:
1.
2.

Achievement of self-sufficiency in the production of food grains as well as increase in production of agro-raw materials like oil seeds, cotton, and sugarcane by
raising the rate of growth of production in the agricultural sector;
Generation of productive employment for maximum utilisation of human resources and solving the problem of unemployment through the development of
agriculture and industry in a manner that would create employment potential for a large number of people;

3.

Generation of productive employment for maximum utilisation of human resources and solving the
problem of unemployment through the development of agriculture and industry in a manner that
would create employment potential for a large number of people;
4.
5.
6.
7.
8.
9.
10.
11.

To promote efficiency and productivity through elimination of infrastructural bottlenecks and shortages by improving capacity utilisation, and by promoting
modernisation of plan and equipment and more extensive application and integration of science and technology;
To promote equity and social justice through alleviation of poverty and reduction in inter-class disparities in respect of income and wealth;
To improve the equality of life and standard of living of the people in general with a special reference to the economically and socially weaker sections through an
MNP;
To promote a speedy development of power generation and irrigation potential along with utilisation of existing capacities and also to conserve energy along with
promotion of non-conventional energy sources;
To ensure growth with stability by restraining inflationary pressures through non-inflationary financing;
To achieve self-reliance through attaining self-sufficiency in food grains and by reducing dependence on external finance through export promotion and import
substitution; and
To decentralise planning and to achieve full public participation in development works along with promoting active involvement of all sections of population in the
process of development through appropriate education, communication, and institutional strategies.

Annual Plans (199091 and 199192)

After the completion of the Seventh Plan by March 1990, the Planning Commission initially decided to
launch the Eighth Plan as per its schedulefrom April 1, 1990. Accordingly, the Planning Commission
approved the approach to the Eighth Five-Year Plan (199095) on September 1, 1989, under the
chairmanship of Rajiv Gandhi. The highlights of this approach were attainment of 6 per cent growth in
gross domestic product (GDP), a sharp regional focus, international competitiveness, self-reliance, poverty
alleviation, and people participation.

The highlights of this approach were attainment of 6 per cent growth in gross domestic product
(GDP), a sharp regional focus, international competitiveness, self-reliance, poverty alleviation, and
people participation.
But after the 1989 General Election, the National Front government headed by V. P. Singh came to power
at the Centre. The NDC then approved a new approach to the Eighth Plan on September 18, 1990, and
finalised the total outlay of the Eighth Plan at Rs 610,000 crore, including a public sector outlay of Rs
335,000 crore. The total outlay of the Annual Plan 199091 was fixed at Rs 64,717 crore including a public
sector outlay of Rs 39,329 crore. The plan also envisaged a growth rate of 5.5 per cent in GDP, a domestic
savings rate of 22 per cent, and employment growth of 3 per cent per annum.
Following the collapse of the National Front government, the new government, headed by Chandra
Shekhar, expected to take a fresh look at the proposed size and other parameters of the Eighth Plan in view
32

of the adverse impact of the Gulf crisis on the countrys economy. The spurt in oil price aggravated the
countrys balance of payments position considerably. But before it could take a final decision about the
Eighth Plan, the Chandra Shekhar government collapsed, making way for another General Election in the
month of MayJune 1991.
After the formation of a new Congress (I) government at the Centre, headed by P.V. Narasimha Rao, on
June 21, 1991, fresh discussions were held about the fate of Eighth Plan in the face of one of the worst
financial crises faced by the country. On July 19, Prime Minister Narasimha Rao announced in Parliament
that the Eighth Plan would start from April 1, 1992, taking the earlier two years (199091 and 199192) as
Annual Plans.

On July 19, Prime Minister Narasimha Rao announced in Parliament that the Eighth Plan would
start from April 1, 1992, taking the earlier two years (199091 and 199192) as Annual Plans.
Eighth Five-Year Plan (199293 to 199697)

The approach paper of the Eighth Plan was approved by three different governments in 1989, 1990, and
1991. But due to political changes, the Eighth Five-Year Plan could not commence from 199091.
Following the installation of the Congress (I) government in June 1991, the Planning Commission was
reconstituted with Pranab Mukherjee as its Deputy Chairman. The revised time frame of the Eighth Plan
was from 199293 to 199697.
In order to meet the challenges faced by the economy, the Eighth Plan finalised the following objectives:
1.

Generation of adequate employment opportunities to achieve near-full employment by the turn of the century,

2.

The Eighth Five-Year Plan focused on the generation of adequate employment opportunities,
containing population growth, and strengthening of the infrastructure.
3.
4.
5.
6.
7.
8.

Containing population growth through peoples active cooperation and an effective scheme of incentives and disincentives,
Universalisation of elementary education and eradication of illiteracy among people in the age group of 1533 years,
Provision of safe drinking water and primary health care including immunisation to all villages and the entire population and complete elimination of scavenging,
Growth and diversification of agriculture to achieve self-sufficiency in food and generate surplus for exports,
Strengthening of the infrastructure (energy, transport, communication, irrigation) in order to support the growth process on a sustainable basis.

The Eighth Plan concentrated on the above objectives considering its need for (a) a continued reliance on
domestic resources for financing a planned investment; (b) increasing the technical capabilities for the
continuous development of science and technology; and (c) modernisation of competitive efficiency so that
the economy of the country could keep pace with the global development.
Ninth Five-Year Plan (199798 to 200102)

The NDC, in its meeting held on January 16, 1997, unanimously approved the draft approach paper for the
Ninth Five-Year Plan (199702) with a call for collective effort to raise Rs 875,000 crore for implementing
the plan.
The Planning Commission finalised the objectives of the Ninth Plan in conformity with the Common
Minimum Programme (CMP) of the United Front government and also in consultation with the chief
ministers of different states on maintenance of basic minimum services. The draft approach paper of the
Ninth Plan outlined the following important objectives for the plan:
1.

Accelerating the rate of economic growth with stable prices,

2.

The Ninth Plan focused on accelerating the rate of economic growth giving priority to agriculture
and rural development.
3.
4.
5.

Giving priority to agriculture and rural development with a view to generating adequate productive employment and eradicating poverty,
Attaining food and nutritional security for all, particularly the vulnerable sections of the society,

33

6.
7.
8.
9.
10.
11.

Providing basic minimum needs of safe drinking water, primary health care facilities, universal primary education, shelter, and connectivity to all in a time-bound
manner,
Containing the population growth of the country,
Ensuring environmental sustainability of the development process through social mobilisation and participation of people at all levels,
Empowerment of women and all socially disadvantaged groups such as scheduled castes, scheduled tribes, and other backward classes and minorities as agents of
socio-economic change and development,
Promoting and developing peoples participatory institutions like Panchayati Raj Institution (PRIs), cooperatives, and self-help group, and
Strengthening efforts to build self-reliance.

The aforesaid objectives were finalised to achieve growth with equity and were reflected in four
dimensions of the state policy:
1.
2.
3.
4.

Quality of life of the citizens,

Generation of productive employment,
Regional balance, and
Self-reliance.

The aforesaid objectives were finalised to achieve growth with equity and were reflected in four
dimensions of the state policy:

Quality of life of the citizens,

Generation of productive employment,
Regional balance, and
Self-reliance.

DISTRIBUTION OF PUBLIC SECTOR OUTLAY OF EACH PLAN

The distribution of public sector outlay from the First Plan to the Ninth Plan are given in Tables 2.12.10.

Table 2.1 Distribution of Public Sector Outlay in the First Plan

Heads

Expenditure (Rs crore)

Percentage of Total

Agricultural and community development

291

15

Major and medium irrigation schemes

310

16

Power

260

13

Village and small industries

43

Industries and minerals

74

Transport and communication

523

27

Social services and miscellaneous

459

23

Total

1,960

100

Source: Plan documents, Planning Commission, Government of India.

Table 2.2 Distribution of Public Sector Outlay in the Second Plan

Heads

Expenditure (Rs crore)

Percentage of Total

Agricultural and community development

530

11

Major and medium irrigation schemes

420

Power

445

10

Village and small industries

175

Industries and minerals

900

20

Transport and communication

1,300

28

Social services and miscellaneous

830

16

Total

4,600

100

Source: Second Five-Year Plan Review, India.

34

Table 2.3 Distribution of Public Sector Outlay in the Third Plan

Heads

Actual Expenditure (Rs crore)

Percentage of Total

Agriculture and community development

1,089

12.7

Major and minor irrigation schemes

664

7.7

Power

1,252

14.6

Village and small industries

241

2.8

Organised industry and mining

1,726

20.1

Transport and communication

2,112

24.7

Social services and miscellaneous

1,492

14.4

Total

1 8,577

100

Source: Fourth Five-Year Plan, 196974 Draft, pp. 5960.

Table 2.4 Distribution of Public Sector Outlay in the Fourth Plan

Heads

Actual Expenditure (Rs crore)

Percentage of Total

Agriculture and irrigation

3,810

24

Power

2,450

15

Industry

3,630

23

Transport and communication

3,240

20

Social services

2,770

18

Total

15,900

100

Source: Plan documents, Planning Commission, Government of India.

Table 2.5 Distribution of Public Sector Outlay in the Fifth Plan

Heads

Outlay (197478) Actual (Rs crore)

Percentage of Total

Agriculture and allied sectors

5,229

13.0

Irrigation and flood control

3,913

9.8

Power

7,491

18.7

Village and small industries

611

1.5

Industries and minerals

9,129

22.8

Transport and communication

6,831

17.0

Social services and others

6,873

17.2

Total

40,097

100

Source: Compiled from RBI on Currency and Finance, 197980, Vol. II, pp. 9899.

Table 2.6 Sectoral Distribution of Public Sector Outlay of the Sixth Plan
Heads

Actual Plan Outlay (Rs crore)

Percentage of Total

Agriculture

6,624

6.1

Rural development

6,997

6.4

35

Heads

Actual Plan Outlay (Rs crore)

Percentage of Total

Special area programme

1,580

1.4

Irrigation and flood control

10,930

10.0

Energy

30,751

28.1

Industry and minerals

16,948

15.5

Transport and communication

17,678

16.2

Science and technology

1,020

0.9

Social services

16,764

15.4

Total

190,292

100

Source: Seventh Five-Year Plan, 198590, Economic Survey 198788, Government of India.

Table 2.7 Plan Outlay of First Six Plans (Rs crore)

Source: Compiled from Planning Commissions India Planning ExperienceA Statistical Profile,
February 1989 and other plans.

Table 2.8 Sectoral Allocation and Progress of Expenditure of the Seventh Plan Public Sector Outlay (Rs
crore)

Source: Computed from the data given in Economic Survey 198990.

36

Table 2.9 Final Distribution of Public Sector Outlay in the Eighth Plan (199297) (Rs Crore)

Source: Planning Commission, Eighth Five-Year Plan, 199297, Vol. I; and Economic Survey 199697.
* At 199192 prices.
** At current prices: For 199293 and 199394 (Actuals), 199495 and 199596 (Revised Estimates), and
for 199697 (Budget Estimates).
Note: As per the revised budget classification.

Table 2.10 Distribution of Public Sector Outlay in the Ninth Plan (199702*)
Heads

Proposed Outlay (Rs crore)

Percentage of Total Outlay

Agriculture and allied activities

36,658

4.2

Rural development

74,942

8.6

Special programme

3,790

0.4

Irrigation and flood control

57,735

6.6

Energy

221,973

25.4

Industries and minerals

71,684

8.2

Transport

124,188

14.2

Communication

48,791

5.6

Science and technology

26,343

3.0

General economic services

15,569

1.8

Social services

180,931

20.6

General services

12,396

1.4

Total

875,000

100

Source: Ministry of Planning and Programme Implementation.

TENTH FIVE-YEAR PLAN (200207)

37

Introduction

The Tenth Five-Year Plan (200207) had been prepared against a backdrop of high expectation arising
from some aspects of the recent performance. GDP growth in the post-reforms period improved from an
average of about 5.7 per cent in the 1980s to an average of about 6.5 per cent in the Eighth and Ninth Plan
periods, making India one of the 10 fastest growing developing countries. Encouraging progress has also
been made in other dimensions. The percentage of impoverished population continued to decline, even if
not as much as was targeted. Population growth decelerated to below 2 per cent for the first time in four
decades. Literacy increased from 52 per cent in 1991 to 65 per cent in 2001 and the improvement is
evident in all states. Sectors such as software services, entertainment, and IT-enabled services (ITES)
emerged as new sources of strength, creating confidence about Indias potential to be competitive in the
world economy.

The Tenth Five-Year Plan (200207) had been prepared against a backdrop of high expectations that
aroused from some aspects of the then performance. Growth targets had, therefore, focused on the
growth in per capita income on per capita GDP. The Tenth Plan aimed at an indicative target of 8 per
cent GDP growth for the period 200207.
These positive developments were, however, clouded by other features which became a cause for concern.
Although employment growth almost kept pace with the labour force growth, the incidence of
unemployment on a current daily status basis was relatively high at above 7 per cent. More than half of the
children in the age group of one to five years in rural areas were undernouished, with female children
suffering even more severe malnutrition. The infant mortality rate (IMR) stagnated at 72 per 1000 for
several years. As many as 60 per cent of rural households and about 20 per cent of urban households did
not have a power connection. Only 60 per cent of urban households had taps within their homes, and
fewer had latrines inside the house.
The Tenth Plan provided an opportunity, at the start of the new millennium, to build upon the gains of the
past and address the weaknesses that had emerged. With large numbers of our population continuing to
live in abject poverty and alarming gaps in our social attainments even after five decades of planning,
policies and institutions needed to be modified based on past experience, keeping in mind the changes that
had taken place in the Indian economy and in the rest of the world. Therefore, it was necessary to draw up
a reform plan instead of merely having a resource plan.
Objectives

Traditionally, the level of per capita income has been regarded as a summary indicator of the economic
well-being of the country; growth targets have, therefore, focused on growth in per capita income on per
capita GDP. In the past, our growth rates of GDP have been such as to double our per capita income over a
period of nearly 20 years. Recognising the importance of making a quantum jump compared with the past
performance, the Prime Minister directed the Planning Commission to examine the feasibility of doubling
per capita income in the next 10 years. With population expected to grow at about 1.6 per cent per annum,
this target requires the rate of growth of GDP to be around 8.7 per cent over the Tenth and Eleventh Plan
periods. The Tenth Plan should aim at an indicative target of 8 per cent GDP growth for the period
200207. This is lower than the growth rate of 8.7 per cent needed to double the per capita income over
the next 10 years, but it can be viewed as an intermediate target for the first half of the period. It is
certainly a very ambitious target, especially in view of the fact that GDP growth has decelerated to around
6 per cent at present. Even if the deceleration is viewed as a short-term phenomenon, the medium-term
performance of the economy over the past several years suggests that the demonstrated growth potential
over several years is only about 6.5 per cent. The proposed 8 per cent growth target, therefore, involves an
increase of at least 1.5 percentage points over the recent medium-term performance, which is very
substantial.

Recognising the importance of making a quantum jump compared with the past performance, the
Prime Minister directed the Planning Commission to examine the feasibility of doubling per capita
income in the next 10 years.

38

The plan includes not only an adequate level of consumption of goods and other types of consumer goods
but also an access to basic social services, especially education, health, availability of drinking water, and
sanitation. It also includes the expansion of economic and social opportunities for all individuals and
groups, reduction in disparities, and greater participation in decision making. It is proposed that in
addition to the 8 per cent, growth target, the targets given here should also be considered as being central
to the attainment of the objectives of the plan.

The plan includes not only an adequate level of consumption of goods and other types of consumer
goods but also an access to basic social services, especially education, health, availability of drinking
water, and sanitation.
Targets

Reduction of poverty ratio by 5 percentage points by 2007 and by 15 percentage points by 2012,
Gainful employment to the addition to the labour force over the Tenth Plan period,
Universal access to primary education by 2007,
Reduction in the decadal rate of population growth between 2001 and 2010 to 16.2 per cent,
Increase in literacy to 75 per cent by 2007,
Reduction in infant mortality rate (IMR) to 45 per 1,000 live births by 2007 and to 28 by 2012, and
Reduction in maternal mortality ratio (MMR) to 2 per 1,000 live births by 2007 and to 1 by 2012.

In order to emphasise the importance of ensuring balanced development for all states, the Tenth Plan
should include a state-wise breakdown of the broad development targets, including targets for growth
rates and social development. These state-specific targets should take into account the potentialities and
constraints present in each state and the scope for improvement in performance, given these constraints.
This will require a careful consideration of the sectoral pattern of growth and its regional dispersion. It will
also focus attention on the nature of reforms that will have to be implemented at the state level to achieve
the growth targets set for the states.

In order to emphasise the importance of ensuring balanced development for all states, the Tenth Plan
should include a state-wise breakdown of the broad development targets, including targets for
growth rates and social development.
Growth, Equity, and Sustainability

It is important to emphasise that the equity-elated objectives of the plan which are extremely important
are intimately linked to the growth objective and attainment of one may not be possiblewithout the
attainment of the other. External markets are an extremely important source of demand and they need to
be tapped much more aggressively for many sectors. However, given the size of the economy and the
present relative size of exports, much of the demand needed to support high growth will have to come from
the domestic economy itself. Although growth has strong, direct poverty-reducing effects, the frictions and
rigidities in part of the Indian economy can make these processes less effective. There are several ways in
which this can be achieved.

Although growth has strong, direct poverty-reducing effects, the frictions and rigidities in part of the
Indian economy can make these processes less effective.
First, the agricultural development must be viewed as a core element of the plan since growth in this sector
is likely to lead to the widest spread of benefits, especially to the rural poor, including agricultural labour.
Also, since the majority of women workers are engaged in agriculture, investment in this sector has
enormous implications for gender equality and must be designed to have the maximum impact on this
dimension.
Second, the growth strategy of the Tenth Plan must ensure rapid growth of sectors which are most likely to
create high-quality employment opportunities and deal with the policy constraints which discourage
growth of employment. Those sectors include construction, real estate and housing, transport, small-scale
industry (SSI), modern retailing, entertainment, ITES, and a range of other new services which need to be

39

promoted through supportive policies. One activity which has the potential to stimulate most of these
sectors through backward and forward linkages is tourism.
In pursuance of the Ninth Plan objective of empowering women as agents of socio-economic change and
development, the National Policy on Empowerment of Women was adopted in April 2001. Accordingly, a
National Plan of Action (NPA) is being formulated to ensure the requisite access of women to information,
resources, and services. The Tenth Plan shall stress upon the effective implementation of the NPA.

In pursuance of the Ninth Plan objective of empowering women as agents of socio-economic change
and development, the National Policy on Empowerment of Women was adopted in April 2001.
Population

During the Tenth Plan, the major focus of the family welfare programme will be on ensuring that families
have improved access to healthcare facilities providing appropriate high quality of health care to enable
them to achieve their reproductive goals. This, in turn, will enable the country to achieve the goals set in
the National Population Policy of 2000. Irrespective of their socioeconomic status, the majority of the
population try to access public sector facilities for ante-natal care (60 per cent), immunisation (90 per
cent), and sterilisation (86 per cent). During the Tenth Plan, there will be continued commitment to
provide essential primary health care, emergency, and life-saving services in the public domain. Services
under national disease control and family welfare programmes will be provided free of cost to all according
to their need.

During the Tenth Plan, there will be continued commitment to provide essential primary health care,
emergency, and life-saving services in the public domain.
Quality and Productivity of Employment

In order to address the concerns of equity in a sustainable manner, it is necessary not only to ensure that
all adult people looking for work are employed, but also to ensure that they are employed at levels of
productivity and income which are necessary for them to afford a decent life. The slowdown in the rate of
population growth, an increase in the share of the aged, and an increasing participation of the younger age
group in education are likely to moderate the growth of labour force and, to that extent, the pressure on
the need for employment creation is reduced. The challenge, however, is to bring about a qualitative
change in the structure and pattern of employment in terms of promoting growth of good-quality work
opportunities. The employment strategy in the Tenth Plan needs, therefore, to focus on employment
growth and on the qualitative aspects of employment. In order to enable the poor to access the
opportunities and to ensure consistency between the requirement and availability of skills, emphasis will
need to be placed on skill development.

In order to enable the poor to access the opportunities and to ensure consistency between the
requirement and availability of skills, emphasis will need to be placed on skill development.
Resources and Other Measures

In this section, we examine the macro-economic implications of the target of 8 per cent growth for the
Tenth Plan period with a particular focus on the implications for domestic and external resource
mobilisation and the incremental capital output ratio (ICOR). Our assessment is based on the assumption
that the broad strategy of the plan will be to rely on a combination of increased investment and
improvement in efficiency based on unlocking of hidden capacities in the economy, unleashing repressed
productive forces and entrepreneurial energies, and upgrading technology in all sectors, all of which will
improve efficiency in all economic activities. This will require an acceleration in the process of moving
towards a market economy, with rapid dismantling of policy constraints, procedural rigidities, and price
distortions. It will also require that the essential institutional structure necessary for the orderly operation
of a market economy be strengthened significantly. Tables 2.11 and 2.12 show programmes and sectoral
allocations in detail.

40

Table 2.11 Programmes that Generated Additional Employment During the Tenth Plan
Development Initiative

Employment Opportunities (million)

Agriculture and allied activities

3.55

Greening the country through agro-forestry

2.50

Energy plantation for bio-mass power generation

2.01

Rural sectors and small and medium industries

7.06

Education and literacy

1.70

Employment through information and communication Technology (ICT)

0.70

Health, family, and child welfare services

0.80

Total

19.32

Source: Planning Commission, Tenth Five Year-Plan, 200207.

Table 2.12 Sectoral Allocations of Public Sector Resources for the Tenth Plan
Tenth Plan
Sectors
Amount

Percentage

Agriculture and allied activities

58,933

3.9

Rural development

121,928

8.0

Special area programmes

20,879

1.3

Irrigation and flood control

103,315

6.8

Sub-total (1+2+3+4)

305,055

20.0

Energy

403,927

26.5

Industries and minerals

58,939

3.9

Transport

225,977

14.8

Communications

98,968

6.5

Science, technology, and environment

30,424

2.0

General economic services

38,630

2.5

Social services

347,391

22.8

General services

16,328

1.0

Total

1,525,639

100.0

Source: Planning Commission, Tenth Five-Year Plan, 200207.

The challenge the economy has to face to reach an average growth of 8 per cent per annum over the Tenth
Plan period must be assessed against a base-run scenario. Table 2.13 presents two alternative growth rates
for the Tenth Plan, one as a base scenario and the other as a target scenario. The base scenario is described
as one emerging from current macro-economic trends supplemented by the fiscal measures which are
already in the pipeline. For the first two years, the growth improvement in the target scenario from the
base scenario is based mainly on the utilisation of the existing slack in the economy. The additional policy
efforts needed therefrom, are reflected in the difference in the growth trajectory of the last three years of
the Tenth Plan, that is, between 6.6 per cent and 8.7 per cent. In the target scenario, the Tenth Plan ends
with over 9 per cent growth rate in the terminal year and also includes provision for a further acceleration
in the Eleventh Plan period.

41

In the target scenario, the Tenth Plan ends with over 9 per cent growth rate in the terminal year and
also includes provision for a further acceleration in the Eleventh Plan period.
Table 2.14 provides the macro-economic parameters of the two alternative scenarios and a comparison of
the two gives the dimensions of efforts to be made to meet the 8 per cent growth target of the Tenth Plan.
Past experience shows that the average gestation lag of the Indian economy as a whole is about two and a
half years. In such a situation, the productive capacity that will be available in the first two years of the
Tenth Plan has already been determined by the investment made by the current year 200001. As it
happened, the two years most relevant for the beginning of the Tenth Plan period, 19992000 and
200001, recorded relatively low investment rates ranging between 23.3 per cent and 24 per cent of GDP.
In this light, the increase in investment rate to 32.6 per cent in the targeted scenario calls for a significant
increase in the domestic savings to nearly 29.8 per cent and the foreign saving (current account balance of
the balance of payments) to 2.8 per cent from the present level of 1.5 per cent. This is reasonable in the
light of the experience of other emerging countries. The more difficult task is to increase the public sector
saving from 2.4 per cent to 4.6 per cent, and, especially, the government saving from a negative level to 1.7
per cent of GDP in the target growth scenario. As the economy is likely to move more on the market-based
private sector activities, an increase in the savings rate of the private corporate sector from 4.9 per cent to
5.8 per cent has been regarded to be achievable. The household sector saving will remain almost at the
same percentage level.

The more difficult task is to increase the public sector saving from 2.4 per cent to 4.6 per cent, and,
especially, the government saving from a negative level to 1.7 per cent of GDP in the target growth
scenario.

Table 2.13 Alternative Growth Paths for the Tenth Plan

Table 2.14 Macro-economic Parameters for the Tenth PlanA Comparison

Heads

Base line

Target

Average GDP growth rate (per cent p.a.)

6.5

8.0

Gross investment rate (per cent of GDPmp)

27.8

32.6

Implicit ICOR

4.28

4.08

Current account deficit

1.5

2.8

Gross domestic savings (of which)

26.3

29.8

Public sector (of which)

2.4

4.6

Government

-0.6

1.7

Public enterprises

3.0

2.9

Private corporate sector

4.9

5.8

Household sector

19.0

19.4

Table 2.15 presents the fiscal corrections needed to reach the target scenario from the base one. The
average fiscal deficit of the Centre needs to be reduced from 2.8 per cent to 2.6 per cent of GDP at current
market prices. This is in line with the targets set in the Fiscal Responsibility and Budget Management
Bill proposed by the government. This will need to be accompanied by a reduction in the consolidated

42

fiscal deficit of the Centre and states from 4.4 per cent of GDP in the base-line scenario to 3.3 per cent in
the target scenario. It will also be necessary to ask for a reduction in the revenue deficit by nearly 1 per cent
on the average both in the states and in the Centre in the Target scenario from the Base one.

The average fiscal deficit of the Centre needs to be reduced from 2.8 per cent to 2.6 per cent of GDP at
current market prices. This is in line with the targets set in the Fiscal Responsibility and Budget
Management Bill proposed by the government.
Table 2.16 provides the possible scenario of the receipts and expenditures of the Central government as a
percentage of GDP. The details are given in the Annexure 1. As it is shown in the table, the 8 per cent
growth scenario will need significant efforts and several policy changes to increase the revenue rates from
9 per cent average of GDP in the Ninth Plan to 10.2 per cent in the Tenth Plan. This again seems to be an
achievable target since the percentage has already been achieved in the recent past. Revenue expenditure
should be reduced from 12.5 per cent to 10.7 per cent through reduction in subsidies and downsizing. The
rationale behind this is given in the following paragraph. What all the above means is the revenue deficit of
the Central government must be reduced to hardly 0.5 per cent over the Tenth Plan period and the
non-plan expenditure may be reduced from 11.5 per cent to 9.5 per cent and the fiscal deficit from 5 per
cent to 2.6 per cent, close to the target set by the Ministry of Finance.
The suggested measures for fiscal correction and consolidation have to be viewed against recent
developments in finances of both the Central and the state governments.

Table 2.15 Fiscal Correction in the Tenth PlanA Comparison

(Per cent of GDP at Market Prices)
Heads
Base-line

Target

Consolidated fiscal deficit

4.4

3.3

Gross centre

2.8

2.6

Net centre

2.0

1.8

States

2.4

1.5

Consolidated revenue deficit

2.9

0.8

Centre

1.8

0.5

States

1.1

0.3

Table 2.16 Target Growth ScenarioFiscal Parameters of the Central Government

(Percentage of GDP)
Heads
Ninth Plan

Tenth Plan

Revenue receipts

9.1

10.2

Revenue expenditure

12.5

10.7

Revenue deficit

3.4

0.5

Total expenditure

15.4

14.0

(a) Plan expenditure

3.9

4.5

(b) Non-plan expenditure

11.5

9.5

Non-debt capital receipts

0.8

1.2

Fiscal deficit

5.0

2.6

43

ANNEXURE-1 Central Government Finances at 8 per cent Growth

Central Finances

The fiscal situation of the Central government deteriorated continuously in the 1990s and, especially,
during the Ninth Plan. The combined balance of current revenues of the Centre and the states declined
from a negative of Rs 13,324 crore in 199697 or 1 per cent of GDP to Rs 92,969 crore or 4.8 per cent of
GDP in 19992000. This occurred because of a substantial increase in interest payments and the
increased wages and salaries on account of the Fifth Pay Commission award and, equally importantly,
because the revenue receipts of Centre as a proportion of GDP declined from 11.3 per cent in 198990 to
9.3 per cent in 200001. The shortfall between the revenue receipts and expenditure (non-plan) has been
increasing and is around 3.4 per cent of the GDP. The Central government has bridged this gap through
consistently high public borrowings including borrowing from small savingsthe most expensive source of
capital receipts for the government. As a result, debt service payments of the Central government have
risen inexorably from about 30 per cent of tax revenue in 198085 to about 70 per cent at present. A rise
in debt service burden has meant that revenue deficit, which was 17 per cent as a proportion of fiscal
deficit in 198085, has now increased to about 50 per cent. In other words, nearly half of the current
borrowings go to financing current expenditure.

The fiscal situation of the Central government deteriorated continuously in the 1990s and, especially,
during the Ninth Plan. The combined balance of current revenues of the Centre and the states
declined from a negative of Rs 13,324 crore in 199697 or 1 per cent of GDP to Rs 92,969 crore or 4.8
per cent of GDP in 19992000.
State Financing

The finances of the state governments have deteriorated precipitously in the 1990s. The states balance
from current revenue (BCR) has deteriorated continuously, declining from Rs 3,118 crore in 198586 to Rs
44

220 crore in 199293, after which it turned negative and reached Rs 32,306 crore in the year 200001!
During the same period, the states overall debt multiplied manifold from a level of Rs 53,660 crore in
198687 to Rs 418,583 crore in 200001. The consolidated revenue deficit for the states for 19992000
(Revised Estimates) is 2.9 per cent of the gross domestic product (GDP) and the gross fiscal deficit (GFD)
of the states touched a level of 4.9 per cent of GDP, surpassing the previous level of 4.2 per cent in
199899. Table 2.17 gives details in regard to the financing pattern of the State Plan.

The finances of the state governments have deteriorated precipitously in the 1990s. The states
balance from current revenue (BCR) has deteriorated continuously, declining from Rs 3,118 crore in
198586 to Rs 220 crore in 199293, after which it turned negative and reached Rs 32,306 crore in
the year 200001!
The deterioration in the finances of the state in recent years is, largely, an outcome of the fact that in the
face of a limited resource base, the states had to cope with a significant growth in their committed
expenditure. These include wages and salaries, pensions and interest payments, which account for a major
proportion of the non-plan expenditure and, together, absorb a sizeable part of the revenue receipts. The
pension liabilities of 14 major states have increased by 200 times, from Rs 100 crore in 197576 to Rs
20,000 crore in 199899. It has, thus, increased from just 2 per cent of revenue receipts in 198081 to
about 12 per cent in 19992000 and is likely to touch 20 per cent by the end of the Tenth Plan.
A major cause for concern on the revenue front is the near stagnation in the states tax-GDP ratio at
around 5.4 per cent throughout the 1980s and 1990s. While the borrowings of the state governments have
grown sharply, a major portion of the borrowed funds are being diverted to bridging the revenue gap,
leaving very little funds for investment in core sectors. Revenue deficit accounted for 60 per cent of the
GFD in 19992000 as against only 28.3 per cent in 199091. As a result, there has been a deceleration in
the growth of the capital expenditure from 37 per cent to 17 per cent between 1980 and 1998. More
importantly, not only has the share of plan expenditure to total expenditure of the state government
declined over successive plans, but the allocations for the social sectors have also suffered in the process.
Plan expenditure has fallen from 27 per cent of the total state expenditure in the Sixth Plan to only 19 per
cent in the Ninth Plan. The share of states in the overall plan expenditure has fallen from 52 per cent in the
Fifth Plan to 37 per cent in the Ninth Plan. Besides, Central assistance hardly increased in the Ninth Plan
when compared to the previous plan. On the other hand, the contribution of the BCR to the financing of
state plans, which was as high as 28 per cent in the Sixth Plan has now fallen to () 52 per cent! Thus, the
state governments are borrowing more and more to finance non-plan revenue expenditures rather than
capital expenditures. This can only lead to further worsening of the fiscal situation in the coming years. If
reckless borrowing is not kept in check, some states may be forced to declare financial emergency in the
Tenth Plan!

A major cause for concern on the revenue front is the near stagnation in the states tax-GDP ratio at
round 5.4 per cent throughout the 1980s and 1990s. While the borrowings of the state governments
have grown sharply, a major portion of the borrowed funds are being diverted to bridging the
revenue gap, leaving very little funds for investment in core sectors.

Table 2.17 Financing Pattern of State Plan (All figures at 199394 prices)

# The scheme of financing of Annual Plan 200102 used in the table is as per official level discussions

45

The share of states in the overall plan expenditure has fallen from 52 per cent in the Fifth Plan to 37
per cent in the Ninth Plan. Besides, Central assistance hardly increased in the Ninth Plan when
compared to the previous plan.
In fact, in many states, most plan funds are also being used for payment of salaries. Staff that was being
paid out of non-plan budget earlier is now being shown against the plan in a complete reversal of what
used to happen in the early decades of planning when, after each plan period, the staff was shifted from
plan to non-plan. There are several implications of fiscal insecurity on the delivery of programmes.
First, often the Government of India (GOI) funds are diverted for paying salaries, and not passed on to the
development departments for months and years, thus defeating the very purpose of the intention of
funding of social sector schemes by the Centre. In such a scenario, neither can the commitment of the field
staff be sustained, nor can peoples participation so essential for the success of programmes be encouraged.
Second, states do not release the counterpart funds in time, leading to further uncertainty about the
availability of funds at the field level. Third, lack of counterpart funds leads states to demand Centres
Social Sector scheme (CSSs) to be funded entirely by GOI, which dilutes the sense of ownership of states
with development schemes. When states do not contribute, the political and bureaucratic leadership does
not put its weight behind the implementation of such schemes. Fourth, some states are unable to find
counterpart funds for CSSs, and hence are not able to draw the earmarked allocations. Since CSSs
generally require only 25 per cent contribution from the states, in effect, it means that if the states could
pay Re 1 less to their staff, they could get Rs 3 from GOI to spend on development programmes.

When states do not contribute, the political and bureaucratic leadership does not put its weight
behind the implementation of such schemes.
Lastly, even when some projects/programmes are completed, its sustainability is a serious concern. The
precarious financial position in many cases prevents the state governments from taking up committed
liabilities of the project such as repairs or maintenance after completion, thus drastically reducing the life
of the project. There can be no investment in future if the states are forever obsessed with ways and means
of trying to make ends meet by excessive borrowing from the market or by diverting funds from GOI,
meant for development purposes to salaries.
The following decisions have to be made to achieve the fiscal corrections needed at the Centre:
1.
2.
3.
4.
5.
6.
7.

Gross budgetary support for the plan should be steadily increased as a percentage of GDP to 5 per cent by the terminal year of the plan, implying an average annual
growth of 18.3 per cent per annum.
Reduction in the number of government employees by 2 per cent per year, with no new recruitment during the five-year period. All additional requirements should
be made through redeployment and rationalisation of various ministries.
Non-plan expenditure excluding interest payments, defence allocations, and pay and allowances held constant in real terms to current level implying annual
growth rate of 5 per cent.
Gross tax (including diesel cess) to GDP ratio rising from 9.16 per cent in 200102 to 11.7 per cent in 200607 implying buoyancy of 1.44 per cent.
Disinvestment process to be accelerated to yield Rs 16,000 to Rs 17,000 crore per year on the average over the first three years of the Tenth Plan.
Higher tax revenue should be achieved mainly through buoyancy and expansion of the tax base. Besides, a widespread and bold imposition of user charges of all
non-merit goods.
For tax revenues to increase as a share of GDP, an imposition of indirect taxes on the services sector is imperative. This can essentially be achieved by the
imposition of a widespread value-added tax (VAT) on all sectors of the economy. This would mean levying tax at every stage of value addition from production to sale of both
goods and services. Levying such a tax will require an amendment to the Constitution along with the achievement of the consensus with the states so that it becomes feasible
to do so. The VAT came into force with effect from April 1, 2005 and majority states implemented the VAT.

In expenditure control, there are two areas which need special focus. The first is subsidies, both direct and
implicit, which are estimated to form a substantial proportion of GDP. The definition, magnitude, utility,
and justification of these subsidies merit consideration, particularly since this is precisely the area with the
highest potential for savings. The same considerations would also apply to various cross-subsidisation
mechanisms that are currently in force. We have discussed some measures to reduce food subsidy in the
next chapter. The second is the pension liability of the government, which is the fastest growing
component of current expenditures. At present, these liabilities are unfounded and represent a claim on
the general revenues.
A good deal of public sector investment is directed for provision of public services. The pattern and
conditions of the provision of such infrastructure services has been done in such a way that the public has
got used to not paying economic charges for these services. The include above infrastructure services
power, water supply, irrigation, and transport, among other key services. The Finance Ministry has
calculated that hidden subsidies on non-merit goods amount to as much as 10.7 per cent of GDP on an
annual basis. It is no wonder that the combined fiscal deficit of the Centre and the states amounts to
46

almost 10 per cent of GDP. In the case of power alone, the losses resulting from lower-than-economic
pricing to the agriculture and domestic sectors amount to almost Rs 25,000 crore a year. It is primarily the
absence of appropriate pricing of public services and the lack of will to collect the levied charges that has
caused the large fiscal imbalance that afflicts the country.

A good deal of public sector investment is directed for the provision of public services. They include
key services, such as power, water supply, irrigation, and transport, among others. The Finance
Ministry has calculated that hidden subsidies on non-merit goods amount to as much as 10.7 per cent
of the GDP on an annual basis.
The argument for not charging appropriate user charges has essentially been based on equity
considerations. It is argued that the poor are not able to pay adequately for these essential public services.
This argument ignores the fact that it is the better-off sections of the society that consume most of such
services and, therefore, benefit from these services. In fact, if the better-off are made to pay, it would then
become possible to provide essential services to reach the poor. The fiscal health of both the Central and
state governments can improve dramatically over, say, a five-year period if this correction is made. But this
reform cannot be done by mere announcement. It needs research, public awareness, public education, and
persuasion. The Central government must lead this campaign and forge an understanding and consensus
with state governments, who must do the same with local bodies.
The External Sector

The acceleration in growth rate cannot take place without tapping into the opportunities offered by the
international economy in terms of markets, investment, and technologies. But in doing so, vulnerabilities
have to be identified and addressed. This is, particularly, important in view of the emerging trends in the
international economy which suggest that the period of very high growth in world trade is coming to an
end. World trade growth has declined dramatically this year and appears likely to remain well below that
of the last decade for some time. The slowdown of the US economy and its role as an engine of growth for
world trade is an important factor. In the second half of the 1990s, China gradually became a competitor
for South East Asian exports. In the first decade of the 21stcentury, Indian producers are likely to feel the
heat of Chinas competition. The nature of the world trading system has also changed, with an increasing
trend towards regional trading blocs in which Indias participation is minimal. We must gear up to meet
these competitive challenges by accelerating our domestic reforms to create conditions for competitive
advantage by domestic and foreign-invested enterprises in the country.

The acceleration in growth rate cannot take place without tapping into the opportunities offered by
the international economy in terms of markets, investment, and technologies. But in doing so,
vulnerabilities have to be identified and addressed. This is, particularly, important in view of the
emerging trends in the international economy which suggest that the period of very high growth in
world trade is coming to an end.
A high rate of GDP growth will necessarily be associated with a high rate of growth of imports. This is,
particularly, true given the extent of dependence on imports of energy and the limited likelihood of
expanding domestic energy sources rapidly enough. The recent liberalisation of imports will also have a
role to play. In such a situation, sustained high rates of growth of exports will be essential for keeping the
current account deficit within manageable limits. Rapid export growth will also be necessary for aggregate
demand reasons, since a steady increase in the rate of domestic savings implies that the rate of domestic
consumption growth will be less than the rate of growth of output. Therefore, external markets will have to
be sought for sustaining high levels of capacity utilisation. Exports can also stimulate product and process
innovation to meet the challenges of the global market. In industries with significant economies of scale,
exports also help in bringing down the average cost of supply by more efficient phasing of lumpy
capacities.

Rapid export growth is necessary for aggregate demand reasons, since a steady increase in the rate
of domestic savings implies that the rate of domestic consumption growth will be less than the rate of
growth of output.

47

At present, the Indian economy suffers from two principal infirmities in expanding its exports rapidlythe
share of tradeables in GDP has been falling steadily, and the tradeable sectors continue to be dominantly
inward-looking. Measures for reversing these attributes are essential for sustainable growth. Unless
capacities are created in India, specifically, for the export market, it is unlikely that the export growth
targets can be met. There are, of course, exceptions, but excessive reliance on a limited number of goods
and services exposes the economy to vulnerability.
The most effective means of encouraging an outward orientation is to lower tariffs on imports so that the
anti-export bias both in policies and mind-sets get corrected. Protection, if at all necessary, should be
provided mainly through the exchange rate mechanism. In recent years, there have been periods when the
real exchange rate was appreciated, but they reflect more on the inability of the Indian economy to absorb
all available investible resources than any other factor. With investment demand growing strongly, this
should not be a source of concern.
Most importantly, it is necessary to recognise that rapid growth and development will not be possible
without a greater integration with the international economy. In order to make most of the opportunities
available, it is essential that India evolves a positive agenda for its future negotiations at the World Trade
Organization (WTO). Until now, the strategy has been defensive and status-quoits. While this was
perfectly appropriate for an inward-looking development strategy, it is not so now. The Tenth Plan will
evolve a strategic position for our inter-national negotiations.

Most importantly, it is necessary to recognise that rapid growth and development will not be possible
without a greater integration with the international economy. In order to make most of the
opportunities available, it is essential that India evolves a positive agenda for its future negotiations
at the World Trade Organization (WTO).
The Financial Sector

With the steady reduction in the share and role of the public sector in the economy, the importance of
financial intermediation activities has increased, and will continue to do so. It is becoming evident,
however, that the organised financial sector in India is either unable or unwilling to finance a range of
activities that are of crucial importance both for growth and development. Agriculture, unorganised
manufacturing, and many types of infrastructure are instances of such sectors. Recent financial sector
reforms have naturally focused primarily on improving the viability and stability of financial institutions,
without adequately addressing this issue. It is necessary, therefore, to consider methods of encouraging
the financial sector to finance such activities without impinging on its viability or compromising on
prudential concerns.

Recent financial sector reforms have naturally focused primarily on improving the viability and
stability of financial institutions, without adequately addressing this issue. It is necessary, therefore,
to consider methods of encouraging the financial sector to finance such activities without impinging
on its viability or compromising on prudential concerns.
The most important issue in this context is the utility and effectiveness of subsidised interest rates for
various purposes and segments of people. The evidence suggests that, on the one hand, financial
institutions are reluctant to make such loans and advances since they are not in their interest; and, on the
other hand, these benefits are systematically misused by the powerful and influential. Often, the actual
beneficiary ends up bearing a higher effective interest rate than would be available in the normal course. It
appears more important to ensure a smooth flow of resources than providing limited amounts with
subsidy.
Finally, there is a serious shortage of long-term risk capital in India, which will need to be bridged if rapid
growth is to be achieved. In addition, excessive reliance on debt instruments by savers for meeting their
long-term income flow requirements places pressure on the level and structure of interest rates. A
judicious mix of interest and capital gains incomes is necessary to balance the needs of both savers and
investors. Therefore, a widening and deepening of the capital market, including equity and long-term debt,
with adequate regulatory over-sight, is central to the process of a sustained growth in savings and
investment in the country over the longer run.

48

Sectoral Policy Issues

Pursuit of a strategy for achieving 8 per cent growth in the Tenth Plan will call for bold departures from
existing policies in each of the major sectors. Some of the critical issues which need to be addressed in
individual sectors are discussed here.
Agriculture and Land Management

The policy approach to agriculture, particularly in the 1990s, has been to secure increased production
through subsidies in inputs, such as power, water, and fertiliser, and by increasing the minimum support
price rather than through building new capital assets in irrigation, power, and rural infrastructure. This
strategy has run into serious difficulties. Deteriorating state finances have meant that subsidies have
crowded out public agricultural investment in roads and irrigation and expenditure on technological
upgrading. Apart from the inability to create new assets, the lack of resources has eroded expenditure on
maintenance of canals and roads. The financial unavialability of the State Electricity Boards (SEBs), only
partly due to subsidies on agricultural power supply, has made it difficult to expand power supply in
uncovered rural areas and contributed to the low quality of rural power. These problems are particularly
severe in the poorer states.

The policy approach to agriculture, particularly in the 1990s, has been to secure increased production
through subsidies in inputs, such as power, water, and fertiliser, and by increasing the minimum
support price rather than through building new capital assets in irrigation, power, and rural
infrastructure.
The equity, efficiency, and sustainability of this approach are questionable. The subsidies have grown in
size and are now financially unsustainable. Some of the subsidies, for example, the fertiliser subsidy, are
really meant to cover the high cost of the fertiliser industry. Other subsidies, for example, the
under-pricing of power and irrigation, do not improve income distribution in rural areas and may also be
environmentally harmful. Excessive use of subsidised fertiliser has created an imbalance between N, P,
and K, whereas excessive use of water has produced waterlogging in many areas.
It is necessary to evolve a new approach to agricultural policy based on a careful assessment of current
constraints and possibilities. A sober and careful assessment of our resources indicates that both land and
water will be crucial constraints on our efforts to expand production in agriculture. As a nation, we are
already in a situation where the extent of forest cover has declined alarmingly. Although in recent years
there has been some improvement, we are a long way from our eventual target. In such a situation, we see
little possibility of increase in the cultivated area in the country, and, indeed, perhaps, an eventual decline
as urban demand and environmental imperatives lead to conversion of some agricultural land. There is,
therefore, no alternative but to focus on raising the productivity of our land in a manner which is
sustainable over the longer term.

It is necessary to evolve a new approach to agricultural policy based on a careful assessment of

current constraints and possibilities. A sober and careful assessment of our resources indicates that
both land and water will be crucial constraints on our efforts to expand production in agriculture.
Nevertheless, every effort needs to be made to bring presently uncultivated land into productive use,
whether in agriculture or in forestry. For this, it will be essential to evolve a comprehensive land-use policy
which will lay out the contours of the ownership and institutional framework that will encourage the
productive utilisation of such lands. Furthermore, in order to optimise the utilisation of our land resources,
state governments may take such initiatives as deemed appropriate to remove impediments in the way of
productive utilisation of cultivable land, including tenurial reforms. The Tenth Plan must also focus on
increasing work opportunities for and productivity of women farmers. Increasing womens access to
productive land by regularising leasing and sharecropping of uncultivated agricultural land by womens
groups, encouraging collective efforts in bringing wastelands under cultivation, and providing policy
incentives to women in low-input subsistence agriculture, will have immediate benefits in terms of
household food security and womens empowerment.
Poverty Alleviation Programmes

49

Over the years, poverty alleviation programmes of various types have expanded in size and, today, there is
a wide variety of such programmes which absorb a large volume of resources. The plan provision for rural
development is Rs 7,000 crore, for food subsidy Rs 13,000 crore, and for kerosene and LPG subsidy about
Rs 12,000 crore, making a total of Rs 32,000 crore. Against this, the provision for irrigation is Rs 1,700
crore and for afforestation Rs 400 crore. We need to examine whether the resources used for poverty
alleviation scheme and for various types of subsidies in the name of the poor, may or may not be more
effective in alleviating poverty, if directed to various types of basic infrastructural asset creation
programmes in rural areas.

Over the years, poverty alleviation programmes of various types have expanded in size and, today,
there is a wide variety of such programmes which absorb a large volume of resources.
Several evaluations of the IRDP show that the projects undertaken under the programme suffer from
numerous defects, including, especially, sub-critical investment levels; unviable projects; lack of
technological and institutional capabilities in designing and executing projects utilising local resources and
expertise; illiterate and unskilled beneficiaries with no experience in managing an enterprise; indifferent
delivery of credit by banks (high transaction cost, complex procedure, corruption, one-time credit, poor
recovery); overcrowding of lending in certain projects, such as dairy; poor targeting and selection of
non-poor; absence of linkage among different components of the IRDP; rising indebtedness; and scale of
IRDP outstripping the capacity of government and banks to absorb. A disturbing feature of the IRDP in
several states has been rising indebtedness of the beneficiaries of IRDP. Besides, the programme for
upgrading skills, TRYSEM, was not dovetailed with IRDP. There were non-existent training centres and
non-payment of stipend in some cases. However, the programme for women, DWCRA, did well in some
states (AP, Kerala, Gujarat).
IRDP was restructured in 1999 to address some of its shortcomings. The Swarna Jayanti Gram Swarozgar
Yojana (SGSY), which replaced IRDP, is a holistic programme based on a group approach with selection of
viable activities. The objective is to help the poor to generate adequate levels of income to bring them
above the poverty line on a sustained basis. This should be possible without any subsidy, which in many
cases leads to corruption. The subsidy amount should instead be used for increasing the revolving fund
given to self-help groups.

The Swarna Jayanti Gram Swarozgar Yojana (SGSY), which replaced IRDP, is a holistic programme
based on a group approach with selection of viable activities. The objective is to help the poor to
generate adequate levels of income to bring them above the poverty line on a sustained basis.
During the Tenth Plan, it is suggested that:

SGSY should be transformed into a micro-finance programme to be run by the banks and other financial institutions, with no subsidy.
Funds to gram sabhas should be extended only when the people contribute, either in cash or in kind, say 15 per cent in normal blocks and 5 per cent in tribal/poor
blocks. This will instil a sense of ownership in the community.

There should be a single-wage employment programme to be run only in areas of distress. The focus should be on undertaking productive works and their
maintenance, such as rural roads, watershed development, rejuvenation of tanks, afforestation, irrigation, and drainage. The payment of wages should be mainly in the form
of food grains with some cash component. This will improve self-targeting.

Rural development funds should also be used for enhancing the budgetary allocation of successful rural development schemes that are being run by state
governments, or for meeting the state contribution for donor-assisted programmes for poverty alleviation.

Grassroots womens groups should be empowered and encouraged to implement selected poverty alleviation schemes, particularly, food-for-work schemes in areas
affected by natural disasters.

Special efforts should be made to strengthen the economy of the marginal and small farmers, forest-produce gatherers, artisans, unskilled workers, and others. The
poor should not only benefit from growth generated elsewhere, but they should also contribute to growth.

Special efforts must be made to encourage development of tiny and village industries suited for rural areas to provide non-farm employment in rural areas.

Public Distribution System and Food Security

Despite a hefty increase in the annual food subsidy from Rs 2,450 crore in 199091 to Rs 9,200 crore in
199900 and to Rs 13,000 crore in 200001, all is not well with the Targeted Public Distribution System
(TPDS) in India. There is 36 per cent diversion of wheat, 31 per cent diversion of rice, and 23 per cent
diversion of sugar from the system at the national level. TPDS does not seem to be working in the poorest
north and north-eastern states. The allocation of poorer states such as UP, Bihar, and Assam was more
than doubled as a result of shifting to TPDS in 1997. Yet, due to poor off-take by the states and even poorer
actual lifting by the BPL families, the scheme has not made any impact on the nutrition levels in these
states.
50

It is important to emphasise that these initiatives are resource neutral. They do not require the investment
of significant public resources but they will help to improve agricultural income generation. In addition,
the proposed changes discussed here will reduce the surplus with the FCI, as well as reduce leakages.
There would thus be massive saving in the food subsidy that can then be used for direct income transfer to
the poorest and for improving land and water productivity in the poorer areas.
New initiatives have been taken in India in the field of decentralised procurement of food grains. Some
state governments have, for instance, initiated their own food procurement operations. More such
initiatives should be encouraged in the future. Under such a situation, it is conceivable that some of the
FCI godowns (with staff) are transferred to the state governments. In this context, the task of maintaining
buffer stocks will become the joint responsibility of the Central and state governments. Deficit states
should be encouraged to buy directly from surplus states, and they should be compensated for transport
and storage and so on. These states will most probably hire private agencies to do so, which will bring
private expertise into the field.

New initiatives have been taken in India in the field of decentralised procurement of food grains.
More such initiatives should be encouraged in the future.
Forests

Forests are natural assets and provide a variety of benefits to the economy. The recorded forest area is
about 23 per cent of the geographical area of the country but 41 per cent of the area has degraded and,
hence, is unable to play an important role in environmental sustainability and in meeting the forest
produce needs of the people, industry, and other sectors.
The existing policy, laws, rules, regulations, and executive orders should be reviewed for removing
constraints in holistic development of forestry with peoples participation. Areas where action by
government is needed relate to the following:

Focus on farm forestry has been surprisingly diluted since 1991 despite its enormous potential, especially in agriculturally backward areas. There are better social
returns in promoting agro-forestry models in the rain-fed or semi-arid regions, which contain most of Indias marginal lands. It is in this sector that we need to take a big
initiative. Similarly, tree plantation on marginal land and wastelands belonging to the poor is not encouraged.

Integrated land-use planning is not being attempted, and common lands adjacent to forests have been getting a low priority in this field after 1991.
Continuing subsidies on government auctions of wood and bamboo industries, which acts as a disincentive to industry, to pay a remunerative price to farmers.
Governments need to examine the pattern of subsidy to forest-based industries and wipe out that subsidy in a time-bound manner to improve valuation of forests. This will
also give a big boost to farm forestry.

Government must review the tariff structure on forest-based products such as timber and pulp, keeping in view the incentive effect on farmers.
Agro-forestry, mountains, watershed development, river valleys, arid areas, and wastelands afforestation programme should be given priority.
Research and technological development must increase productivity, production of new products, value addition, improved marketing, export, and productive
employment generation.

Promotion of coastal shelterbelt plantations for prevention of natural calamities.

The existing policy, laws, rules, regulations, and executive orders should be reviewed for removing
constraints in holistic development of forestry with peoples participation.
Industrial Policy Issues

The industrial sector will have to grow at over 10 per cent to achieve the Tenth Plan target of 8 per cent
growth for GDP. This represents a major acceleration from its past performance; the sector grew at only
about 7 per cent in the Eighth and Ninth Plan periods taken together. Besides, this acceleration has to take
place in an environment which will be significantly different from the past.

The industrial sector will have to grow at over 10 per cent to achieve the Tenth Plan target of 8 per
cent growth for GDP.
Two differences are particularly important. First, industry will have to face much stronger international
competition, as our domestic market is now more open with quantitative restrictions (QRs) on imports
having been removed with effect from April 1, 2001. Second, the relative role of the public sector as a
distinct entity will decline in the course of the Tenth Plan as the incremental capacities will be mainly in
the private sector, and the process of disinvestment converts many of the existing public sector enterprises
from government-controlled enterprises to non-government enterprises in which government may have a
51

minority stake, but the units will either become board-managed or will be managed by a strategic investor.
In either case, they will not be part of the public sector.
The Tenth Plan must, therefore, focus on creating an industrial policy environment in which private sector
companies, including erstwhile public sector companies, can become efficient and competitive. The
specific policy issues that deserve special attention are discussed here.
The removal of QRs on imports is an important step in opening the economy to foreign competition.
However, while QRs have been removed, import protection is still very high. It is estimated that Indias
import-weighted tariffs have declined from around 90 per cent at the start of the reforms to around 34 per
cent in 200102 but this reduced level is three times higher than the level prevailing in East Asia. It is now
well recognised that while industrial protection may appear to help a particular sector, it also raises
domestic costs and make downstream industrial activity uncompetitive. The net effect is to make industry
as a whole uncompetitive in world markets. Recognising this, the developing countries the world over have
steadily reduced the level of protection over the past 10 years. The government has announced that Indias
tariff levels will be brought to the East Asian levels in a three-year period and a plan for a phased reduction
will be announced before the Budget for 200203. This is, in our view, the right approach and will give the
Indian industry a clear indication of the pace at which the transition will be made. Care, however, will have
to be taken to ensure that adequate safeguards are provided for ensuring a level-playing field and to
prevent dumping and other forms of misuse.

The removal of QRs on imports is an important step in opening the economy to foreign competition.
SSIs, has a vital role to play in the process of industrialisation, providing a vehicle for entrepreneurship to
flourish and a valuable entry point for new entrepreneurs who can start small and then grow. SSIs are also
vehicles for achieving a broader regional spread of industry. Since SSIs are generally more
employment-intensive per unit of capital than a large-scale industry, they are also a source of
much-needed employment. Khadi and village industries also have an important role to play, especially in
promoting non-farm employment in rural areas.
The Tenth Plan must ensure that policies towards the small-scale sector are supportive. Liberalisation of
controls at the state level can help in this process. Equally important is the need to ensure that adequate
credit is made available to SSI units. A proactive policy encouraging banks to meet the needs of SSI, while
maintaining all necessary banking diligence in credit appraisal is very necessary. Procedures for credit
approval and disbursement in the public sector banks need to be modernised to ensure quick response.

The Tenth Plan must ensure that policies towards the small-scale sector are supportive.
Liberalisation of controls at the state level can help in this process.
Labour Policy

Finally, it is essential to take a fresh look at the structure of labour laws. Our present laws are far too rigid
since they do not allow firms to retrench labour or downsize without the permission of the appropriate
government, which in most cases is the state government. This permission is almost never given.
Unfortunately, these provisions which were meant to protect employment have actually served to
discourage growth of employment. The inability to shed labour in times of difficulty encourages
entrepreneurs to avoid hiring labour. It is important to note that rigidity in labour laws represents a
greater burden for the labour-intensive industries than for capital-intensive industries, where the labour
force is small and excess labour can be more easily carried, or alternatively, Voluntary Retirement Scheme
(VRS) packages can be worked out which do not pose a huge burden.

Our present laws are far too rigid since they do not allow firms to retrench labour or downsize
without the permission of the appropriate government, which in most cases is the state government.
Science and Technology

Recognising that the comparative advantage in the globally integrated, knowledge-based world economy
today is shifting to those with brain power to absorb, assimilate, and adopt the spectacular developments
52

in science and technology and harness them for national growth, the Tenth Five-Year Plan will give a
special thrust to the field by leveraging on the strong institutional science and technology framework built
in post-independent India.
Innovative technologies will be generated to meet the Indian needs and to preserve, protect, and add value
to Indias indigenous resources, its vast biodiversity, and its rich traditional knowledge. Technology
pluralityan appropriate mix of traditional, conventional, and modern technologywill be harnessed to
enhance the national productivity to the maximum.
Technology will be used as a tool to give India a competitive position in the new global economy. For
example, Indian exports today derive their comparative advantage through resource and labour rather
than differentiation and technology. Therefore, increasing Indias share in high-tech products, deriving
value from technology-led exports and export of technology will be given a major thrust.

Increasing Indias share in high-tech products, deriving value from technology-led exports and
export of technology will be given a major thrust.
Social Infrastructure

Education: Our performance in the field of education is one of the most disappointing aspects of our
developmental strategy. Out of approximately 200 million children in the age group of 614 years, only
120 million are in schools and net attendance in the primary level is only 66 per cent of enrolment. This is
completely unacceptable and the Tenth Plan should aim at a radical transformation in this situation.
Education for all must be one of the primary objectives of the Tenth Plan. The Sarva Shiksha Abhiyan,
which has been launched to achieve this objective, indicates a strong reiteration of the countrys resolve to
give the highest priority to achieve this goal during the plan period. It should also be our resolve that the
process of integrating our educational system with the economic needs of the people and of the nation
must begin at the primary school stage itself.
Universalising access to primary education and improvement of basic school infrastructure must be a core
objective of the Tenth Plan. This would mean targeting the provision of one teacher for every group of 40
children for primary and upper primary schools, opening of a primary school/alternate schooling facility
within 1 km of every habitation, provision of free textbooks to all SC/ST children and girls at the primary
and upper primary school, management and repair of school buildings through school management
committees, provision of opportunities for non-formal and alternative education for out-of-school children
in the most backward areas and for those segments of the population that have not been reached in
response to local needs and demands articulated at the grass-root level.

Access to primary education and improvement of basic school infrastructure must be a core objective
of the Tenth Plan.
The Mid-day Meal Programme has made a difference in attendance and retention wherever a proper,
cooked meal is served. The practice of providing only grains followed by some state governments, and that
also not according to the prescribed norms in all cases, is vitiating the very purpose of the scheme. The
state governments must make efforts to provide hot, cooked meals.
If it is not possible to cover all the primary schools, efforts must be made to cover all schools in the
backward and tribal areas, so that at least the children who badly need this extra nutrition are covered.
Health: Improvement in the health status of the population has been one of the major thrust areas in
social development programmes of the country. This was to be achieved through improving the access to
and utilisation of health, family welfare, and nutrition services with a special focus on under-served and
under-privileged segments of population. Technological improvements and increased access to health care
have resulted in a steep fall in mortality, but the disease burden due to communicable diseases,
non-communicable diseases, and nutritional problems continue to be high. In spite of the fact that norms
for creation of health care infrastructure and manpower are similar throughout the country, there remain
substantial inter-state/inter-district variations in the availability and utilisation of health care services and
health indices of the population.

53

Data from National Social Survey Organisation (NSSO) indicate that escalating health-care costs is one of
the reasons for indebtedness not only among the poor but also in the middle-income group. It is, therefore,
essential that appropriate mechanisms be explored by which the cost of severe illness and hospitalisation
can be borne by individual/organisation/state, and affordable choice can be made. Global and Indian
experience in this area, including efforts at risk pooling, cross-subsidy at local levels, social insurance,
health insurance/health maintenance organisations have to be reviewed and appropriate steps initiated.

Escalating health-care costs is one of the reasons for indebtedness not only among the poor but also
in the middle-income group. It is, therefore, essential that appropriate mechanisms be explored by
which these costs can be borne by individual/organisation/state, and affordable choice can be made.
Nutrition: Currently, the major nutrition-related public health problems are chronic energy deficiency;
micro-nutrient deficiencies, such as anaemia due to iron and folic acid deficiency, Vitamin A deficiency,
iodine-deficiency disorders, chronic energy excess, and obesity and associated health hazards.
As a Tenth Plan strategy, efforts have to be made to move from untargeted food supplementation to fully
operationalising growth monitoring, including screening pre-natal women, in order to identify onset
under-nutrition and initiate appropriate health and nutritional interventions. Another necessary step is to
move from treatment of infection when children are brought, to prevention, early detection, and
management of infections through improved access to health care, which would prevent any deterioration
in the nutritional status of children.

As a Tenth Plan strategy, efforts have to be made to move from untargeted food supplementation to
fully operationalising growth monitoring, including screening pre-natal women, in order to identify
onset under-nutrition and initiate appropriate health and nutritional interventions.
Electric power: The power sector has been suffering from serious problems which were identified as far
back as 10 years ago. Although a number of corrective measures have been taken, they are yet to yield the
desired results. The outcome is that the power sector faces an imminent crisis in almost all states. No SEB
is recovering the full cost of power supplied, with the result that they make continuous losses on their total
operations. These losses cannot be made good from state budgets, which are themselves under severe
financial strain. As a result, the SEBs are starved of resources to fund expansion and, typically, end up
even neglecting essential maintenance. The annual losses of SEBs at the end of the Ninth Plan were
estimated at Rs 24,000 crore and this led to large outstanding dues to central PSUs, NTPC, NHPC, CIL,
railways, and others amounting to Rs 35,000 crore.
The reasons for the huge losses of the SEBs are well known. Power tariffs do not cover costs because some
segments, especially agriculture, but also household consumers, are charged very low tariffs, while
industry and commercial users are overcharged. However, the overcharged segments do not always pay
the high charges because theft of electricity, typically with the connivance of the staff in the distribution
segment, is very high. Of the electricity charges billed only 80 per cent are actually collected. These large
issues were hidden by claiming a large absorption of electricity in agriculture which is unmetered, which
enabled SEBs to claim transmission and distribution (T&D) losses of around 24 per cent. However, when
actual losses were calculated more precisely in states undertaking power sector reforms, it was found that
the actual T&D loss were as high as 45 per cent to 50 per cent. Operational efficiencies in generation are
also very low in some states. Overstaffing is rampant. Political interference in the management of SEBs has
become the norm in most states, making it difficult to ensure high levels of management efficiency.

The reasons for the huge losses of the SEBs are well known. Power tariffs do not cover costs because
some segments, especially agriculture, but also household consumers, are charged very low tariffs,
while industry and commercial users are overcharged.
Coal: It is a primary energy source which is available in plenty in the country and is also the cheapest fuel
for power generation. Coal production will fall below the target for the Ninth Plan but this has not
presented a problem because thermal power generation capacity has not expanded as targeted. For the
Tenth Plan period, however, if electric power is to expand to support 8 per cent growth, a substantial
expansion in domestic coal production will be needed. The gestation period for a coal mine is considerably

54

longer than that of a power plant; this means that coal production planning should have in mind not only
the requirement of the Tenth Plan but also the Eleventh Plan.

If electric power is to expand to support 8 per cent growth, a substantial expansion in domestic coal
production will be needed.
A major policy constraint affecting the coal sector is the fact that it is the only energy sector that is not
open to private investment except for captive mining. At a time when the petroleum sector has been
opened to private investment, there is no reason why commercial mining of coal should not be thrown
open also. A proposal for amending the Coal Mines (Nationalisation) Act, 1973 has been introduced in
Parliament in 2000. Early passage of this amendment is a necessary step for attracting private investment
in this important area. Opening the sector for private investment will not only improve total supplies, but
also ensure an improvement in quality because of the pressure of competition.
It should be noted, however, that amendment of the Coal Mines (Nationalisation) Act may not be sufficient
to attract private investment in this important area. It will also be necessary to make other amendments to
overcome the hurdle placed in the way of private mining in notified tribal areas by the Samatha Judgment.
The procedures for environmental clearance also need to be greatly simplified so that potential private
investors face clear and transparent rules.
Hydrocarbons: The government has already evolved India Hydrocarbon Vision2025, which lays
down the framework to guide the approach and policies in this sector. Our dependence on imported oil is
increasing. It is expected to be about 70 per cent by the beginning of the Tenth Plan and is likely to
increase further in the course of the plan period. It is also likely that the use of gas for power generation
will increase rapidly in the coming years. Efforts should be made to increase indigenous production of oil
and gas. Arbitrary administrative restrictions on consumption and imports of petroleum products are not
the solution and will affect the economic growth of the country. The correct approach would be to allow
the scarcity value of such exhaustible natural resources to be reflected in prices. This will create an
incentive for conservation and efficient use of petroleum products. This underscores the importance of
ensuring that the Administrative Price Mechanism (APM) for petroleum products is dismantled on
schedule by April 2002, and petroleum price determination shifts to market-based pricing at the start of
the Tenth Plan. Complete price deregulation and operation of an efficient market in the petroleum sector
needs the establishment of prudential rules and regulations by a statutory regulatory authority. Therefore,
setting up of regulatory mechanisms needs to be expedited to ensure smooth transition from APM to
market-driven pricing mechanism.

Complete price deregulation and operation of an efficient market in the petroleum sector needs the
establishment of prudential rules and regulations by a statutory regulatory authority.
Non-conventional energy: There is a significant potential to meet the basic energy requirement of
people (viz., cooking and lighting), both in the rural and urban areas, in an economically efficient manner
through non-conventional and renewable sources of energy. The emphasis has to be on preparing a
time-bound plan for progressive electrification covering groups of users or a village as a whole. Wherever
feasible, community systems have to be put up to meet and manage the energy requirements in the villages.
Peoples participation through panchayats, other local bodies, cooperatives, and NGOs, is to be secured in
planning and implementation of such programmes. In addition, other energy users would have to be
encouraged to use these energy forms for their particular applications. The approach has to be
decentralised and based on a judicious mix of public and private investment.

Peoples participation through panchayats, other local bodies, cooperatives, and NGOs, is to be
secured in planning and implementation of such programmes.
Railways

Considering Indias continental size, geography, and resource endowment, it is natural that railways
should have a lead role in the transport sectornot to mention other considerations, such as greater
energy efficiency, eco-friendliness, and relative safety.

55

However, Indian Railways has experienced a continuous decline in its position relative to the road
transport system. Some reduction in share in favour of road transport was to be expected and is in line
with trends elsewhere, but there is a reason to believe that in India this has been excessive. This has
happened primarily because of policy distortions, which need to be corrected urgently.
There is also a need to contain burgeoning administrative costs. Expenditure on staff has been increasing
at a rapid pace, reflecting a considerable overstaffing combined with large Pay Commission increases. The
burden on the Railways for pension payments is, particularly, onerous. Corrective action in these areas is
urgently needed. The aim should be that staff cost including pension remains within the level of 45 per
cent of gross traffic receipt up to the year 2010. This will imply that the staff strength will have to be
reduced to around 12 lakh and maintained at that level.

Expenditure on staff has been increasing at a rapid pace, reflecting a considerable overstaffing
combined with large Pay Commission increases. The burden on the Railways for pension payments is,
particularly, onerous. Corrective action in these areas is urgently needed.
If the provisions of rail transport services, which lacks consumer focus at present, is to be replaced by a
system which provides services in line with consumer needs, it will require restructuring of Indian
Railways. The Railways should concentrate on its core function, that is running of transport services on
commercial lines, while spinning off non-core/peripheral activities, such as manufacturing units, into
individual corporations. These can remain in the public sector for the time being, but should operate like
any other public sector unit on commercial accounting principles. Restructuring of even the core functions
of Indian Railways appears to be desirable in order to improve efficiency and to better meet the objectives
of the organisation.

The Railways should concentrate on its core function, that is running of transport services on
commercial lines. Restructuring of even the core functions of Indian Railways appears to be desirable
in order to improve efficiency.
Greater emphasis has to be laid on the completion of existing projects, and a proper prioritisation of all
ongoing projects has to be made to ensure that resources are not spread too thinly across projects.
Capacity on the saturated high-density corridors needs to be augmented, particularly, on the Golden
Quadrilateral, by undertaking doubling, opening up of alternative routes through new lines, gauge
conversion, and so on. The programme of containerisation needs to be accelerated, not only to promote
inter-modal transport but also as a strategy for increasing its own market share and catering to high-value
traffic. It would also be necessary to ensure that projects aimed at raising revenue and capacity must
achieve their objective.

Greater emphasis has to be laid on the completion of existing projects, and a proper prioritisation of
all ongoing projects has to be made to ensure that resources are not spread too thinly across projects.
During the Tenth Plan, the Railways should also enlarge the scope of private sector participation gradually
in acquiring rolling stock through innovative leasing schemes, and aim at upgrading safety infrastructure
through induction of technical aids to support human element and enhance asset reliability.
Roads

Our road network is not up to the requirement of a rapid growth in an internationally competitive
environment in which Indian industry must compete actively with other developing countries.
Improvement in the national highway network should have high priority in the Tenth Plan. Completion of
the ongoing work on the Golden Quadrilateral and the NorthSouth/EastWest corridor projects must
have top priority in the Tenth Plan. More generally, the existing deficiencies in the road network should
receive higher priority than the extension of the network itself. In the longer run, it may be necessary to
plan and take preliminary action for expressways to be built in future on those sections where they can be
commercially justified.
Rural road connectivity is an extremely important aspect of rural development. Substantially enhanced
rural road accessibility should be achieved in the Tenth Plan by linking up all villages with all-weather
56

roads through the Prime Ministers Gram Sadak Yojana. However, while constructing rural roads,
connectivity of public health centres, schools, market centres, backward areas, tribal areas, and areas of
economic importance should be given priority.

Rural road connectivity is an extremely important aspect of rural development. Substantially

enhanced rural road accessibility should be achieved in the Tenth Plan by linking up all villages with
all-weather roads through the Prime Ministers Gram Sadak Yojana.
Ports

The functioning of major ports under various Port Trusts is characterised by operational inflexibility partly
due to the structure of the decision-making process and partly due to outdated labour practices. This
introduces delays in shipments and additional costs, all of which makes our exports uncompetitive.
Radical reforms are needed in this area including corporatisation of the major ports within a short period
of time and induction of private investors in port development. Fortunately, this is one area where the
experience with private investment has been good.

Radical reforms are needed in this area including corporatisation of the major ports within a short
period of time and induction of private investors in port development.
Productivity improvement at major ports will be another important thrust area in the Tenth Plan. Through
productivity improvement, it is expected, a capacity equivalent of 11 MT15 MT could be added during the
plan. The augmentation of capacity and improvement in productivity should make for a situation where
berths wait for ships rather than ships for berths.
Telecommunications

Telecommunications is a critical part of infrastructure and one that is becoming increasingly important,
given the trend of globalisation and the shift to a knowledge-based economy. Until 1994,
telecommunication services were a government monopoly. Although telecommunications expanded fairly
rapidly under this arrangement, it was recognised that capacities must expand much more rapidly and
competition must also be introduced to improve the quality of service and encourage induction of new
technology. Telecommunications has become especially important in recent years because of the
enormous growth of information technology (IT) and its potential impact on the rest of the economy. India
is perceived to have a special comparative advantage in IT or in ITES, both of which depend critically on
high-quality telecommunications infrastructure. Telecommunication has also become extremely important
for a wide range of rural activities, and this importance will only increase as the process of diversification
of rural economic opportunities gains momentum. Universal service obligation must, therefore, be insisted
upon for all providers of telecom services.
The telecommunications policy in the Tenth Plan must, therefore, provide IT and related sectors with
world-class telecommunications at reasonable rates. Formulating a policy for the sector faces an additional
challenge because technological change in telecommunication has been especially fast and is constantly
leading to major changes in the structure of the telecommunication industry worldwide. With its
technological and cost advantages, Internet telephony should be opened up. Tariff rebalancing with the
objective of cost-based pricing, transparency, and better targeting of subsidies should be the guiding
principles for tariffs. Convergence of data, voice, and image transmission and use of wide bandwidth and
high-speed Internet connectivity have added new dimensions to infotech and entertainment which need to
be taken into account in the policy regime. Such convergence of services and appropriate changes in the
licensing regime are needed to optimise the utilisation of resources with a least cost of provision and
encourage competition across the country in services and among the service providers.

Formulating a policy for the telecommunication sector faces an additional challenge because
technological change in telecommunication has been especially fast and is constantly leading to
major changes in the structure of the telecommunication industry worldwide.
Conclusion

57

The last decade of the 20th century has seen a visible shift in the focus of development planning from the
mere expansion of production of goods and services and the consequent growth of per capita income to
planning for enhancement of human well-being. The notion of human well-being itself is more broadly
conceived to include not only consumption of goods and services in general, but also more, specifically,
ensuring that the basic material requirements of all sections of the population, including especially those
below the poverty line, are met and that they have access to basic social services, such as health and
education. Specific focus on these dimensions of social development is necessary because experience
shows that economic prosperity measured in terms of per capita GDP does not always ensure enrichment
in quality of life, as reflected, for instance, in the social indicators on health, longevity, literacy,
environmental sustainability, and so on. The latter must be valued as outcomes that are socially desirable,
and, hence, made direct objectives of the development process. They are also valuable inputs in sustaining
the development process. In addition to social development measures in terms of access to social services,
an equitable development process must provide expanding opportunities for advancement to all sections
of the population. Equality of outcomes may not be a feasible goal of social justice but equality of
opportunity is a goal for which we all must strive.

The concept of human well-being includes not only consumption of goods and services in general but
more specifically ensuring that the basic material requirements of all sections of the population are
met and that they have access to basic social services such as health and education.
The development process must, therefore, be viewed in terms of the efficiency with which it uses an
economys productive capacities, involving both physical and human resources, as a means to attain the
desired social ends (and not just material attainment). To this end, it is absolutely essential to build up the
economys productive potential through high rates of growth without which we cannot hope to provide
expanding levels of consumption for the population. However, while this is a necessary condition, it is not
sufficient. It becomes imperative, therefore, to pursue a development strategy that builds on a policy focus
on exploiting synergies among economic growth, desirable social attainments, and growing opportunities
for all.
As we set out to discuss the approach to the First Five-Year Plan of the new millennium and the tenth since
our independence, we can justifiably take pride in having reversed the worst inequities of our colonial past
and succeeded in building an economy of considerable economic diversity and strength within a
framework of federal democracy. Much has been attained and yet much more needs to be done. The
economy has the potential to achieve much more than it has done in the past 10 years and this
achievement is, indeed, necessary if India is to take her rightful place in the comity of nations. However,
achievement of this potential requires a decisive action.
In many aspects, the development policy in future must make a break from the past. The government had,
over the years, taken on itself too many responsibilities, with the result that it not only marginalised
individual initiative but also succeeded in imposing severe strains on its financial and administrative
capabilities. More importantly, in the face of momentous changes in the domestic economic policy in the
last decade and an equally fast-paced integration of our economy with the emerging global order,
investment planning is no more the only, or the only predominant, or even the most effective instrument
of pursuing development. Planning has to necessarily go beyond undertaking mere budgetary allocations
among competing sectors and regions. It has to address with greater vigour, the need to release latent
energies and stimulate private initiative in various facets of our development process. Ultimately, we have
to plan for an environment that provides ample opportunities for all to actualise their potential
individually, as also collectively, for the nation as a whole.

The government had, over the years, taken on itself too many responsibilities, with the result that it
not only marginalised individual initiative but also succeeded in imposing severe strains on its
financial and administrative capabilities.
To this end, the approach to the Tenth Five-Year Plan proposes to shift the focus of planning from merely
resources to the policy, procedural, and institutional changes, which are considered essential for every
Indian to realise his or her potential. In view of the continued importance of public action in our
development process, increasing the efficiency of public interventions must also take high priority. These
measures collectively are expected to create an economic, political, and social ambience in the country

58

which would enable us to realise the Prime Ministers vision. The minimum agenda on which there must
be full political agreement, and for which the approval of the NDC is sought, is listed below:
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.

Reduction of Centrally sponsored schemes through transfer to states, convergence, and weeding out.
Expansion of project-based support to states.
Support to states made contingent on agreed programme of reforms.
Adoption of core plan concepts at both Centre and states.
Preference to be given to completion of existing projects than to new projects. Identification to be done by joint team from the states, central ministries, and
Planning Commission.
Plan funds to be permitted for critical repair and maintenance activities as decided by a joint team.
Greater decentralisation to Peoples Representative Institutions (PRIs) and other peoples organisations.
Privatisation/closure of non-strategic PSUs at both Centre and states in a time-bound manner.
Reduction in subsidies in a time-bound manner to provide more resources for public investment.
Selected fiscal targets to be achieved at both Centre and states.
Accelerating tax reforms to move towards a full-fledged VAT in a time-bound manner.
Legal and procedural changes to facilitate quick transfer of assets, such as repeal of SICA, introduction and strengthening of bankruptcy and foreclosure laws, and
so on.
Reform of labour laws.
Reconsideration of all policies affecting the small-scale sector.
Adoption of a model blueprint for administrative reforms.
Reform and strengthening of judicial systems and procedures.

The approach to the Tenth Five-Year Plan proposes to shift the focus of planning from merely
resources to the policy, procedural, and institutional changes, which are considered essential for
every Indian to realise his or her potential.
FIVE-YEAR PLANSACHIEVEMENTS AND FAILURES

Five decades of planning experience has witnessed achievements and failures in different sectors of the
economy. At best, the planning experience has proved to be a mixed blessing. Table 2.18 explains the
growth performance in all nine five-year plans.
Economic planning through public sector has been successful in laying a strong infrastructure in the
economy. It has provided congenial conditions for investment initiatives by the private sector. It is also
true that public sector has been mainly responsible for the development of such industries as iron and steel,
non-ferrous metals, petroleum, fertilisers, heavy engineering, coal, electricity, armament, transport, and
communications.

Economic planning through public sector has been successful in laying a strong infrastructure in the
economy. It has provided congenial conditions for investment initiatives by the private sector.
A major achievement of economic planning is the increase in food grains production from 50 million
tonnes in 195051 to 208.9 million tonnes in 19992000, recording a four-fold increase over a period of
half a century. However, the increase in per capita availability of food grains per day has been modest:
from 395 grams in 1951 to 466 grams in 2000. This is attributable to the enormous increase in production
that has helped the country to achieve a considerable degree of self-sufficiency in terms of food
requirements and tide over recurring food shortages reminiscent of the 1960s and 1970s. The
breakthrough has been achieved as a result of substantial public investment in irrigation, agricultural
research and extension schemes, subsidised inputs, credit facilities, and price-support programmes.

A major achievement of economic planning is the increase in food grains production from 50 million
tonnes in 195051 to 208.9 million tonnes in 19992000, recording a four-fold increase over a period
of half a century.
Through economic planning, India has successfully maintained a reasonable degree of price stability
during the post-independence period. The annual rate of inflation, with some exceptions, has remained a
single digit through better management of demand and supply of essential commodities. A vast public
distribution system has been built up to contain the prices of essential goods.

Table 2.18 Growth Performance in the Five-Year Plan

59

(Per cent per annum)

Plan Period
Target

Actual

First Plan (195156)

2.1

3.60

Second Plan (195661)

4.5

4.21

Third Plan (196166)

5.6

2.72

Fourth Plan (196974)

57

2.05

Fifth Plan (197479)

4.4

4.83

Sixth Plan (198085)

5.2

5.54

Seventh Plan (198590)

5.0

6.02

Eighth Plan (199297)

5.6

6.02

Ninth Plan (199702)

6.5

5.35

Source: Tenth Five-Year Plan, 200207, Planning Commission, Government of India.

Note: The growth targets for the first three plans were set with respect to national income. In the Fourth
Plan it was net domestic product. In all plans, thereafter, it has been GDP at factor costs.

Successive plans have stressed the need to develop the backward regions of the country. In promoting a
regional balanced development, the public sector has played an important role as many public enterprises
are located in the most backward areas of the country. It has helped these areas in terms of development of
infrastructure, employment opportunities, and growth of ancillary industries.

Successive plans have stressed the need to develop the backward regions of the country. In promoting
a regional balanced development, the public sector has played an important role as many public
enterprises are located in the most backward areas of the country.
In the beginning, the planning process relied on the automatic benefits of growth as a means to eradicate
poverty. The unsatisfactory results of this approach forced the government to attack poverty directly
through rural development and rural employment schemes. Some major poverty alleviation schemes of
the government launched since the late 1980s are 1. Integrated Rural Development Programme (IRDP), 2.
The National Rural Employment Programme (NREP), and 3. Rural Landless Employment Guarantee
Programme (RLEGP).
Summing up the achievements of planning, the Eighth Five-Year Plan (199297) observed,
Growth has brought about a structural change in the economy. This has surfaced in the form of a shift
in the sectoral composition of production, diversification of activities, advancement of technology and a
gradual transformation of a feudal and colonial economy into a modern industrial nation. The
composition of national income has changed steadily over the planning years. While the share of
agriculture and allied activities in the GDP has declined, that of the tertiary sector has increased. The
expansion of services has not only been conducive for employment generation but also for better
efficiency of the system and better quality of life.

The composition of national income has changed steadily over the planning years. While the share of
agriculture and allied activities in the GDP has declined, that of the tertiary sector has increased.
In spite of achievements in agriculture and capital goods sector, economic planning has performed poorly
in several areas. The rate of growth in real gross national product (GNP) envisaged in successive plans has
generally ranged between 5 per cent and 5.5 per cent. However, during the first three decades of economic
planning (195180), the economy progressed at a modest average growth rate of 3.5 per cent per annum.
If we take into account the annual growth rate of population (around 2 per cent), the growth rate of per
capita real income would turn out to be very modest.

60

The massive backlog of unemployment in rural as well as in urban areas is a glaring failure of the planning
process. The undue emphasis on heavy industries is partly responsible for the present serious
unemployment problem. The ICOR is quite high (around 6) in the Indian economy due to a host of factors
including higher interest rate and long gestation period of projects. The reduction in ICOR can be achieved
by giving priority to investment in agriculture, rural work programmes, and village and small industries.
Furthermore, ICOR can be lowered if investment projects are completed on time.
The benefits of development under the plans have not trickled down to the poorest sections of society. In
the rural sector, the policy of land reforms has virtually failed. The growth of black money in urban areas
has led to a wasteful expenditure by the urban elite. The slogan of establishment of a socialistic pattern of
society has remained on paper only. The widening economic disparities among various classes and regions
have caused social tensions.

The benefits of development under the plans have not trickled down to the poorest sections of society.
In the rural sector, the policy of land reforms has virtually failed. The growth of black money in
urban areas has led to a wasteful expenditure by the urban elite.
Indias internal and external debt has reached alarming proportions. The country is virtually caught in a
debt trap. Moreover, the budgets of the Central and state governments are showing huge deficits of a
chronic nature. The fiscal policy has failed to contain budgetary deficits with the result that deficit
financing has to be resorted to on a large scale.
The experience of economic planning in India over the last five decades has been a mixed blessing.
Commenting on the achievements and failures of economic planning, the Ninth Five-Year Plan (199702)
remarked
During the past fifty years, there has been an overall progress in all areas of social concern. Yet, the
achievements are mixed, with stark contrasts and disparities. The chronic food deficit economy of the
fifties and the sixties has been transformed into a self-sufficient one and an elaborate food security
system is in place to enable the country to face even droughts without any imports or foreign help. Yet,
more than 300 million people live below the poverty line and millions of children remain
undernourished.

During the past fifty years, there has been an overall progress in all areas of social concern. Yet, the
achievements are mixed, with stark contrasts and disparities.
ELEVENTH FIVE-YEAR PLAN (200712)

Objectives and Challenges

On the eve of the Eleventh Five-Year Plan, our economy is in a much stronger position than it was a few
years ago. After slowing down to an average growth rate of about 5.5 per cent in the Ninth Five-Year Plan
period (199798 to 200102), it has accelerated significantly in the recent years. The average growth rate
in the last four years of the Tenth Plan period (200304 to 200607) is likely to be a little over 8 per cent,
making the growth rate as 7.2 per cent for the entire Tenth Plan period Although the above detail is below
the Tenth Plan target of 8 per cent, it is the highest growth rate achieved in any plan period.
This performance reflects the strength of our economy and the dynamism of the private sector in many
areas. Yet, it is also true that the economic growth has failed to be sufficiently inclusive, particularly after
the mid-1990s. Agriculture has lost its growth momentum from that point on and, subsequently, has
entered a near-crisis situation too. Jobs in the organised sector have not increased despite faster growth.
The percentage of our population below the poverty line is declining but only at a modest pace.
Malnutrition levels too appear to be declining but the magnitude of the problem continues to be very high.
Many people still lack access to basic services, such as health, education, clean drinking water, and
sanitation facilities, without which they cannot claim their share in the benefits of growth. Although
women have increased their participation in the labour force as individuals, they continue to face
discrimination and are subject to increasing violence: one stark example of which is the declining child sex
ratio.

61

Despite the problems, most of the commoners have tried to cope with their livelihood issues. Many have
participated in a collective action by trying to improve their social and economic conditions.
Empowerment of PRIs is ongoing but much remains to be done. Civil society organisations have gained
strength and are making new experiments to reach the unreached, often in partnership with PRIs. Women
are participating in meetings of PRIs and are leading group actions for a better life.
A Vision for the Eleventh Plan

The Eleventh Plan provides an opportunity to restructure policies, to achieve a new vision based on faster,
more broad-based, and inclusive growth. It is designed to reduce poverty and focus on bridging the various
divides that continue to fragment our society. The Eleventh Plan must aim at putting the economy on a
sustainable growth trajectory with a growth rate of approximately 10 per cent by the end of the plan period.
It will create productive employment at a faster pace than before and target robust agriculture growth at 4
per cent per year. It must seek to reduce disparities across regions and communities by ensuring access to
basic physical infrastructure as well as health and education services to all. It must recognise gender as a
cross-cutting theme across all sectors and must commit to respect and promote the rights of a commoner.
The first steps in this direction were initiated in the middle of the Tenth Plan based on the National CMP
(NCMP) adopted by the government. The above steps must be further strengthened and consolidated into
a strategy for the Eleventh Plan.

The Eleventh Plan must aim at putting the economy on a sustainable growth trajectory with a
growth rate of approximately 10 per cent by the end of the plan period. It will create productive
employment at a faster pace than before and target robust agriculture growth at 4 per cent per year.
Rapid growth is an essential part of our strategy for two reasons. Firstly, it is only in a rapidly growing
economy that we can expect to sufficiently raise the incomes of the mass of our population to bring about a
general improvement in living conditions. Secondly, rapid growth is necessary to generate the resources
needed to provide basic services to all. Work done within the Planning Commission and elsewhere
suggests that the economy can accelerate from 8 per cent per year to an average of around 9 per cent over
the Eleventh Plan period, provided appropriate policies are put in place. With the population growing at
1.5 per cent per year, the 9 per cent growth in GDP would double the real per capita income in 10 years.
This must be combined with policies that will ensure that this per capita income growth is broad based,
benefitting all sections of the population, especially, those who have thus far remained deprived.
A key element of the strategy for inclusive growth must be an all-out effort to provide the mass of our
people the access to basic facilities, such as health, education, clean drinking water, and so on. In the short
run, the above essential public services impact directly on welfare but in the longer run, they determine the
economic opportunities for the future.

A key element of the strategy for inclusive growth must be an all-out effort to provide the mass of our
people the access to basic facilities, such as health, education, clean drinking water, and so on.
It is important to recognise that access to the above basic services is not necessarily assured simply by a
rise in the per capita income. Governments at different levels have to ensure the provision of these services,
and this must be an essential part of our strategy for inclusive growth. At the same time, it is important to
recognise that better health and education are the necessary pre-conditions for sustained long-term
growth.
Even if we succeed in achieving broad-based and inclusive growth, there are many groups that may still
remain marginalised. They include primitive tribal groups, adolescent girls, the elderly and the disabled
who lack family support, and the children below the age of three and the others who do not have strong
lobbies to ensure that their rights are guaranteed. The Eleventh Plan must pay special attention to the
needs of these groups.
The private sector, including farming, micro, small, and medium enterprises (MSMEs), and the corporate
sector, has a critical role to play in achieving the objective of faster and more inclusive growth. This sector
accounts for 76 per cent of the total investment in the economy and an even larger share in employment
and output. MSMEs, in particular, have a vital role to play in expanding the production in a regionally

62

balanced manner and generating widely dispersed off-farm employment. Our policies must aim at creating
an environment in which entrepreneurship can flourish at all levels, not just at the top.

The private sector, including farming, micro, small, and medium enterprises (MSMEs), and the
corporate sector, has a critical role to play in achieving the objective of faster and more inclusive
growth. This sector accounts for 76 per cent of the total investment in the economy and an even
larger share in employment and output.
To stimulate private investment, policy-induced constraints and excessive transaction costs need to be
removed. To increase the number of successful entrepreneurs, a competitive environment must be created
that encourages new entrants and provides enough finance for efficient enterprises to expand.
Competition also requires policies to curb restrictive practices, particularly those that deter entry, for
example, preemptive acquisition of property. To achieve such an environment, it is imperative that the
reforms agenda be pursued with vigour. Although licensing controls and discretionary approvals have
been greatly reduced, there are many remnants of the control regime that still need drastic overhaul.
Quantitative controls, where they exist, should give way to fiscal measures and increased reliance on
competitive markets, subject to appropriate, transparent, and effective regulations. The burden of multiple
inspections by government agencies must be removed and tax regimes rationalised. A major component of
the Eleventh Plan must be to design policies that spur private sector investment while encouraging the
competition itself by guarding against monopolistic practices. Continued commitment to the
developmental and social roles of banking is important to ensure that the benefits are widespread.

To stimulate private investment, policy-induced constraints and excessive transaction costs need to
be removed. To increase the number of successful entrepreneurs, a competitive environment must be
created that encourages new entrants and provides enough finance for efficient enterprises to
expand.
Even while encouraging the private sector growth, the Eleventh Plan must also ensure a substantial
increase in the allocation of public resources for the plan programmes in critical areas. This will support
the growth strategy and ensure inclusiveness. The above resources will be easier to mobilise if the economy
grows rapidly. A new stimulus to public sector investment is particularly important in agriculture and
infrastructure and both the Centre and the states have to take steps to mobilise resources to make this
possible. The growth component of this strategy is, therefore, important for two reasons:
1.
2.

It will contribute directly by raising income levels and employment, and

It will help finance programmes that will ensure more broad-based and inclusive growth.

Even while encouraging the private sector growth, the Eleventh Plan must also ensure a substantial
increase in the allocation of public resources for the plan programmes in critical areas.
All this is feasible but, by no means, it is an easy task. Converting something that is potential into a reality
is a formidable endeavour and will not be achieved if we simply continue on a business-as-usual basis.
There is a need for both the Centre and the states to be self-critical and evaluate programmes and policies
to see what is working and what is not. Programmes designed to achieve specific objectives often fail to do
so even though substantial expenditure is incurred on them. It is, therefore, necessary to focus on
outcomes rather than outlays, including a disaggregated level to examine their impact on different groups
and genders. The practice of gender budgeting already begun by the Central government should extend to
the states, so that performance is judged on the basis of gender-disaggregated data. Particular attention
must also be paid to SCP/TSP (special component plan/tribal sub-plan) guidelines for expenditure and
monitoring of outcomes.

Programmes designed to achieve specific objectives often fail to do so even though substantial
expenditure is incurred on them. It is, therefore, necessary to focus on outcomes rather than outlays,
including a disaggregated level to examine their impact on different groups and genders.
The Strengths of Our Economy

63

The strengths of our economy are reflected in the macro-economic indicators in Table 2.19, which
compare the position in the Tenth Plan with that of the Ninth Plan. When compared to the Ninth Plan, the
pace of growth of our economy has accelerated and our macro-economic fundamentals are sound now.

Domestic savings rates have been rising and have reached 29.1 per cent in 200405.
The combined fiscal deficit of the Central and State governments is higher than what it should be, but has been falling and the Budget Estimates for 200607
suggest it may come down to 7 per cent.

Inflation has been moderate despite the sharp hike in international oil prices.
As of August 25, 2006, our foreign exchange reserves are at a very comfortable level at $165.3 bn.

The current account was in surplus during the first two years of the Tenth Plan but in deficit to the extent
of 1.0 per cent of the GDP in the third year, that is, 200405, the deficit is estimated to haverisen to
around 1.3 per cent of the GDP during 200506 reflecting the revival of investment and also the impact of
high oil prices; but a deficit of this order is eminently financeable.

Table 2.19 Macro-economic Indicators

Ninth Plan

Tenth Plan

Heads
(199798 to 200102)

(200203 to 200607)

GDP growth (%) of which

5.5

7.2

Agriculture

2.0

1.7

Industry

4.6

8.3

Services

8.1

9.0

Gross domestic savings (% of GDP, at market prices)

23.1

28.2

Gross domestic investment (% of GDP, at market prices)

23.8

27.5

Current account balance (% of GDP, at market prices)

-0.7

0.7

Combined fiscal deficit of Centre and states (% of GDP at market prices)

8.8

8.4

Foreign exchange reserves (US$ bn)

54.2

165.3

Rate of inflation (based on WPI)

4.9

4.8

Notes:
1.
2.
3.
4.
5.

The growth rate for 200607 is as projected by the Economic Advisory Council to the Prime Minister.
Gross savings rate, gross investment rates, and the current account balance are expressed in current prices and are averages for the plan. For the Tenth plan, these
are the averages of the first three years, i.e., for the years 200203 to 200405.
Combined fiscal deficit is the average of the plan. For the Tenth plan, it is the average of the first four years of the plan, i.e., for the years 200203 to 200506.
Foreign exchange reserves are as on March 29, 2002 for the Ninth plan and March 31, 2006 for the Tenth Plan.
The rate of inflation for the Tenth Plan is the average up to January 2006.

As a result of economic reforms implemented by successive governments over the past decade and a half,
our economy has matured in several important aspects. It is now much more integrated into the world
economy and has benefitted from this integration in many ways. The outstanding success of IT and ITES
has demonstrated what Indian skills and enterprise can dogiven the right environment. Similar strength
is now evident in sectors, such as pharmaceuticals, auto components, and, more recently, textiles. The
above gains in competitiveness need to spread to other sectors too.

As a result of economic reforms implemented by successive governments over the past decade and a
half, our economy has matured in several important aspects. It is now much more integrated with the
world economy and has benefitted from this integration in many ways.
One of the benefits derived from global integration is the increased inflow of foreign direct investment
(FDI). FDI increased from an average of $3.7 bn in the Ninth Plan period to an average of $5.7 bn in the
first four years of the Tenth Plan. This, however, is still below potential. The NCMP states that the country
needs and can absorb three times the amount of FDI that it gets. This is a reasonable target and can be
achieved in the Eleventh Plan.
64

In the longer run, there is another important potential strength arising from our demographic trends. Our
dependency rate (ratio of dependent to working-age population) is falling whereas in industrialised
countries and even in China, it is rising. The presence of a skilled young population in an environment
where investment is expanding and the industrial world is ageing, could be a major advantage. It is
important to realise, however, that we can reap this demographic dividend only if we invest in human
resource development and skill formation in a massive way, and create productive employment for our
relatively young, working population.

It is important to realise, however, that we can reap this demographic dividend only if we invest in
human resource development and skill formation in a massive way, and create productive
employment for our relatively young, working population.
Some Major Challenges

The strengths enumerated so far are real and provide a sound base on which the Eleventh Plan can build.
Yet, several challenges remain.
Agricultural Crisis: Regaining Agricultural Dynamism

One of the major challenges of the Eleventh Plan will be to reverse the deceleration in agricultural growth
from 3.2 per cent observed between 1980 and 199697 to a trend average of around 2.0 per cent,
subsequently. This deceleration is the root cause of the problem of rural distress that has surfaced in many
parts of the country and has even reached crisis levels in some. Low farm incomes, because of inadequate
productivity growth, have often combined with low prices of output and with lack of credit at reasonable
rates, to push many farmers into crippling debt. Even otherwise, uncertainties seem to have increased
(regarding prices, quality of inputs, and also weather and pests), which, coupled with unavailability of
proper extension and risk insurance have led farmers to despair. This has also led to a widespread distress
migration, a rise in the number of female-headed households in rural areas, and a general increase in
womens work burden and vulnerability. In 200405, women accounted for 34 per cent of principal and
89 per cent of subsidiary workers in agriculture, higher than in any previous round of the National Sample
Survey.

One of the major challenges of the Eleventh Plan will be to reverse the deceleration in agricultural
growth from 3.2 per cent observed between 1980 and 199697 to a trend average of around 2.0 per
cent, subsequently.
The crisis of agriculture is not a purely distributional one that arises out of the special problems of small
and marginal farmers and landless labour. In fact, agricultural deceleration is affecting farms of all sizes.
To reverse this trend, corrective policies must not only focus on the small and marginal farmers who
continue to deserve special attention, but also on the middle and large farmers who suffer from
productivity stagnation arising from a variety of constraints.
It is vital to increase agricultural incomes as this sector still employs nearly 60 per cent of our labour force.
A measure of self-sufficiency is also critical for ensuring food security. A second green revolution is
urgently needed to raise the growth rate of agricultural GDP to around 4 per cent. This is not an easy task
as the actual growth of agricultural GDP, including forestry and fishing, is likely to be below 2 per cent
during the Tenth Plan period. The challenge, therefore, is to at least double the rate of agricultural growth
and, to do so, recognise demographic realities, particularly the increasing role of women.

It is vital to increase agricultural incomes as this sector still employs nearly 60 per cent of our labour
force. A measure of self-sufficiency is also critical for ensuring food security.
Changing Employment Patterns

Doubling the growth of agricultural GDP to 4 per cent per annum will improve the rural employment
conditions by raising the real wages and reducing the underemployment. However, even if this is attained,
an overall growth of 9 per cent will further increase income disparity between agricultural and

65

non-agricultural households, unless around 10 million workers, currently in agriculture, find remunerative
non-agricultural employment. To make this possible, and absorb all new entrants into the labour force,
non-agricultural employment has to increase at over 6 per cent per annum during the Eleventh Plan. This
poses a major challenge not only in terms of generating non-agricultural employment but also in matching
its required location and type. Care has to be taken to manage the resulting livelihood changes and to
ensure that employment is generated at all levels of skill in non-agricultural sector. The inadequacy of
widely dispersed and sustainable, off-farm productive employment opportunities is a basic cause of most
divides and disparities. Growth without jobs can neither be inclusive nor can it bridge divides. All avenues
for increasing employment opportunities, including those that can be provided by micro and small
enterprises (MSEs) need to be explored. If we fail to do so, the demographic dividend can turn into a
demographic nightmare. Thus, employment creation and raising employability is another major challenge
for the Eleventh Plan.

The inadequacy of widely dispersed and sustainable, off-farm productive employment opportunities
is a basic cause of most divides and disparities. Growth without jobs can neither be inclusive nor can
it bridge divides.
Providing Essential Public Services to the Poor

A key element of the Eleventh Plan strategy should be to provide essential education and health services to
those large parts of our population who are still excluded from the above categories. Education is the
critical factor that empowers participation in the growth process, but our performance has been less than
satisfactory, both overall as well as in bridging gender and other divides. Overall literacy is still less than
70 per cent and rural female literacy less than 50 per cent with corresponding rates even lower among the
marginalised groups and minorities. Although the Sarva Shiksha Abhiyanhas expanded the primary
school enrolment, it is far from providing a quality education. Looking ahead, we cannot be satisfied with
only universal primary education, but we must move towards universal secondary education too, as
quickly as possible. In the area of health, there continue to be large gaps in the most basic services, such as
mother and child care, clean drinking water, and access to basic sanitation facilities; the poor do not have
even a minimum access.

Education is the critical factor that empowers participation in the growth process, but our
performance has been less than satisfactory, both overall as well as in bridging gender and other
divides.
Although both education and curative health services are available for those who can afford to pay, quality
service is beyond the reach of the commoners. Other privately provided services are of highly variable
quality. In this situation, access to essential services can only be through public financing. In most cases,
this means public provision or partnership with non-profit and civil society organisations.
A major institutional challenge is that even where service providers exist, the quality of delivery is poor
and those responsible for delivering the services cannot be held accountable. Unless such accountability is
established and cutting-edge service providers are trained, it will be difficult to ensure a significant
improvement in delivery even if large resources are made available.

A major institutional challenge is that even where service providers exist, the quality of delivery is
poor and those responsible for delivering the services cannot be held accountable.
Increasing Manufacturing Competitiveness

Although growth in manufacturing sector has accelerated when compared to the Ninth Plan, it is unlikely
to exceed 8 per cent in the Tenth Plan. This is unacceptably low. If we want our GDP to grow at 9 per cent,
we have to target a 12 per cent growth rate for this sector.
Our remarkable success in ITES has prompted some observers to conclude that China has a comparative
advantage in manufacturing, whereas India has the same in services. It has, thus, been suggested that we
should concentrate on the growth of high-value services. This approach is simplistic. Indias performance
in the ITES and other high-end services is clearly a source of strength that must be built upon. However,
66

India cannot afford to neglect manufacturing. We meet most of the requirements for attaining a
double-digit growth rate in this sector. We have a dynamic, entrepreneurial class that has gained
confidence in its ability to compete. We have skilled labour and excellent management capability even
though this is an area where supply constraints will soon emerge. There are, however, some important
constraints that limit our competitiveness, especially, in labour-intensive manufacturing, and the Eleventh
Plan must address these issues on a priority basis.
A major constraint in achieving faster growth in manufacturing that needs immediate attention is the
inadequacy of our physical infrastructure. Our roads, railways, ports, airports, communication, and, above
all, power supply, are not comparable to the standards prevalent in our competitor countries. This gap
must be filled within the next 510 years if our enterprises are to compete effectively. In the increasingly
open-trading environment that we face today, our producers must compete aggressively not just to win
export markets, but also to retain domestic markets against the competition from imports. Indian industry
recognises the above fact and no longer expects to survive on protection. But they do expect a level-playing
field in terms of quality infrastructure. Development of infrastructure is, therefore, to be accorded a high
priority in the Eleventh Plan.

A major constraint in achieving faster growth in manufacturing that needs immediate attention is
the inadequacy of our physical infrastructure. Our roads, railways, ports, airports, communication,
and, above all, power supply, are not comparable to the standards prevalent in our competitor
countries.
Developing Human Resources

Decades ago, we had emphasised on quality higher education by setting up IITs (Indian Institute of
Technology) and other premier educational institutions. This has paid us rich dividends. However, there
are emerging signs that rapid growth can result in shortage of high-quality skills needed in
knowledge-intensive industries. One area of concern is that we are losing our edge on the tracking of pure
sciences. To continue our competitive advantage and ensure a continuous supply of quality manpower, we
need large investments in public sector institutions of higher learning. This should be accompanied by a
fundamental reform of the curriculum as well as service conditions to attract a dedicated and qualified
faculty. Expanding capacity through private sector initiatives in higher learning needs to be explored while
maintaining quality standards.

To continue our competitive advantage and ensure a continuous supply of quality manpower, we
need large investments in public sector institutions of higher learning.
At the present pace of economic development, the country cannot train everyone to become skilled
professionals and even university-level education to all cannot be ensured. But our industries require skills
in specific trades, and, unfortunately, India has historically lagged behind in the area of
technical/vocational training. Even today, enrolment rates in Industrial Training Institutes (ITIs) and
other vocational institutes, including nursing and computer training schools, are only about a third of that
in higher education. This is quite the opposite of other Asian countries which have performed better than
us in labour-intensive manufactures. Vocational training institutes need to be substantially expanded not
only in terms of the people they train but also in the number of different skills and trades for meeting the
industry requirements, as well as creating opportunities for self-employment.

Vocational training institutes need to be substantially expanded not only in terms of the people they
train but also in the number of different skills and trades for meeting the industry requirements, as
well as creating opportunities for self-employment.
Protecting the Environment

Our concern for environmental issues is growing along the lines of global concern. In the short run, there
may seem to be a trade-off between environmental sustainability and economic growth, but in the longer
run, we must take recourse to the complementarities between environmental sustainability and human
well-being. We have already seen that neglect of environmental considerations. For example, profligate

67

use of water or deforestation has devastating effects. The threat of climate change poses a real challenge to
future generations. Our development strategy, therefore, has to be sensitive to these concerns and should
ensure that threats and trade-offs are appropriately evaluated.

The threat of climate change poses a real challenge to future generations. Our development strategy,
therefore, has to be sensitive to these concerns and should ensure that threats and trade-offs are
appropriately evaluated.
Improving Rehabilitation and Resettlement Practices

Our practices regarding rehabilitation of those displaced from their land because of development projects,
conflicts, or calamities, are very deficient. These deficiencies have caused many people to feel vulnerable,
and there is anger because of forced exclusion and marginalisation. In particular, the costs of displacement,
borne by our tribal population, have been unduly high. Compensation has been tardy and inadequate,
leading to unrest and insurgency in many regions. This discontent is likely to grow exponentially if the
benefits from the enforced land acquisition are seen accruing to private interests, or even to the state at the
cost of those displaced. To give the displaced people, especially women, their due rights, it is necessary to
frame a transparent set of policy rules that address compensation, proper resettlement, and rehabilitation,
and also give project-affected people a permanent stake in project benefits. Moreover, these rules need to
be given a legal format in terms of the rights of the displaced.

To give the displaced people, especially women, their due rights, it is necessary to frame a
transparent set of policy rules that address compensation, proper resettlement, and rehabilitation,
and also give project-affected people a permanent stake in project benefits. Moreover, these rules
need to be given a legal format in terms of the rights of the displaced.
Improving Governance

Good governance and transparency should be ensured in the implementation of public programmes, and
also in governments interaction with the ordinary citizens. Corruption is now seen to be endemic in all
spheres of life. Better design of projects, implementation mechanisms, and procedures can reduce the
scope for corruption. Much more needs to be done by both the Centre and the States to lessen the
discretionary power of government, ensure greater transparency and accountability, and create awareness
among citizens. The Right to Information (RTI) Act empowers people to demand improved governance,
and as government, we must be ready to respond to this demand.

Much more needs to be done by both the Centre and the States to lessen the discretionary power of
government, ensure greater transparency and accountability, and create awareness among citizens.
Justice delayed is justice denied. Quick and inexpensive dispensation of justice is an aspect of good
governance which is of fundamental importance in a successful society. Indias legal system is respected
for its independence and fairness but it suffers from notorious delays in dispensing justice. The poor
cannot access justice because delays cost money. Fundamental reforms are needed to give justice to two
essential attributes: speed and affordability.
Disparities and Divides

Even as we address the specific challenges listed earlier, we must deal with the perception that
development has failed to bridge the divides that afflict our country and may even have sharpened some of
them. Some of these perceptions may be exaggerated, but they exist nonetheless. The Eleventh Plan must
seek to bridge these divides as an overarching priority.

Even as we address the specific challenges listed earlier, we must deal with the perception that
development has failed to bridge the divides that afflict our country and may even have sharpened
some of them.

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There are many divides. Foremost among them is the divide between the rich and the poor. As explained
in Chapter 11, poverty is declining, but only at a pace which is no longer acceptable, given the minimalist
level at which the poverty line is fixed. There is also a divide between those who have access to essential
services, such as health, education, drinking water, sanitation, and so on, and those who do not. Groups
that have hitherto been excluded from our society, such as SCs, STs, some minorities, and OBCs continue
to lag behind the rest.
Another important divide relates to gender. It begins with the declining sex ratio, goes on to literacy
differential between girls and boys, and culminates in the high rate of maternal mortality. The extent of
bias is self-evident. The statistics given in Table 2.20 are reflective of the trend but do not tell the whole
story. Differentials in educational status and economic empowerment are heavily biased against women.
Special, focused efforts should be made to purge society of this malaise by creating an environment for
women to become economically, politically, and socially empowered. Measures to ensure that society
recognises womens economic and social worth, and accounts for the worth of womens unpaid work, will
be a concomitant of this.
The divide between urban and rural India has become a truism of our times. The Central government has
already adopted a multi-pronged strategy to reduce this divide in its various dimensions. For example, the
Bharat Nirman programme addresses the gaps in rural infrastructure, and covers irrigation, road
connectivity, housing, water supply, electrification, and telephony; the National Rural Employment
Guarantee Act (NREGA) attempts to ensure a social safety net as it provides guaranteed employment in
rural areas; and at the same time, has the capacity to build rural infrastructure, especially, if resources
from other programmes are pooled in; the Sarva Shiksha Abhiyan and National Rural Health Mission are
ambitious programmes for providing elementary education and primary health services, respectively. All
these programmes indicate the priority being given by the government to rural development and are
meant to give a new hope to rural India. Even while making the above provisions for rural India, the
Eleventh Plan must also provide basic amenities to the growing number of poor in urban areas.

Table 2.20 Status of Some Socioeconomic Indicators

Notes:
1.
2.
3.
4.
5.

For the years 199091 and 200304.

The poverty estimates given are for 199394 and the latest estimates are based on the NSS 200405 Survey, which is comparable with 199394.
Calculated from the information based on Census 1991 and 2001.
Based on SRS.
Percentage below 2 standard deviation from the mean of an international reference population.

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Regional backwardness is another important issue. Differences across the states have always been a cause
of concern but there exists imbalances within the states as well. Backward districts of otherwise
well-performing states present a dismal picture of intra-state imbalance and neglect. Unless the Centre
and the states together deal with this problem on a priority basis, discontent, injustice, and frustration will
breed extremism. The spread of Naxalite movement to more than hundred districts in the country is a
warning sign. There is anger and frustration where communalism has left scars. This is the direct fallout of
the failures of the state apparatus to create an environment where the bulk of the people reap the benefits
of development.

Regional backwardness is another important issue. Differences across the states have always been a
cause of concern but there exists imbalances within the states as well. Backward districts of otherwise
well-performing states present a dismal picture of intra-state imbalance and neglect.
Special efforts must be made to give the people a sense of fairness, dignity, and hope. The Backward
Regions Grant Fund is meant to address the problem of regional imbalance so that the growth momentum
is maintained.
Brief Policy Approaches of the Eleventh Plan

Prepared after widespread consultations, the approach paper is the first step in defining the objectives and
targets of the Eleventh Plan, and identifying the associated challenges and implications for the policy. A
number of important conclusions emerge which need to be considered by both the Central and the state
governments as we move to formulate the detailed strategy for the Eleventh Plan.
Objectives and Targets

A major advantage in formulating the Eleventh Plan is that Indias economic fundamentals have improved
enormously, and we now have the capacity to make a decisive impact on the quality of life of the mass of
our people, especially, on the poor and the marginalised. This objective cannot be achieved, however, if we
simply follow a business-as-usual approach. Let alone acceleration, even if the rate of growth in the last
few years is to be sustained, it needs support. Besides all these, growth has not been sufficiently inclusive
thus far, and this is a significant shortcoming that needs to be corrected.
Traditionally, the rate of growth of GDP has been at the centre of planning and for good reasons. In a
low-income country, it is only through rapid economic growth that the production base of the economy
can be expanded to sustain a higher standard of living for the people. A faster growing economy also
makes it easier to generate the resources needed to finance many of the social development programmes.
However, both arguments also highlight the fact that growth is not an end in itself but is a means to an end
which must be defined in terms of multi-dimensional, economic, and social objectives. The Eleventh Plan
must, therefore, not only set targets for the rate of growth of GDP, but must also set monitorable targets
for other dimensions of performance, reflecting the inclusiveness of this growth.

The Eleventh Plan must, therefore, not only set targets for the rate of growth of GDP, but must also
set monitorable targets for other dimensions of performance, reflecting the inclusiveness of this
growth.
The monitorable targets that emerge from this approach paper are given in Box 2.3. The Eleventh Plan
should be formulated in a manner, whereby, these national targets are further disaggregated into
appropriate targets for individual states. Policies and programmes must then be identified both at the
Central and State levels to ensure that these targets are achieved by the end of the Eleventh Plan period.
The growth target for the Eleventh Plan must build on the average growth of 8 per cent in the last four
years of the Tenth Plan. A feasible objective is to accelerate from 8 per cent growth at the end of the Tenth
Plan to 10 per cent by the end of the Eleventh Plan, yielding an average GDP growth rate of about 9 per
cent in the Eleventh Plan. Achievement of this target and continued growth rate of 10 per cent in the
Twelfth Plan would lead to a doubling of per capita income over the next two plan periods. The structure of
growth should also be such as to promote a wide spread of benefits. Doubling agricultural GDP growth to
around 4 per cent is particularly important in this context. This must be combined with policies to
promote rapid growth in non-agricultural employment so as to create 70 million job opportunities in the
70

Eleventh Plan. If these objectives are achieved, the percentage of people in poverty could be reduced by 10
percentage points by the end of the plan period.

A feasible objective is to accelerate from 8 per cent growth at the end of the Tenth Plan to 10 per cent
by the end of the Eleventh Plan, yielding an average GDP growth rate of about 9 per cent in the
Eleventh Plan.
The basic objective of the Eleventh Plan must be to extend access to essential public services, such as
health, education, clean drinking water, sanitation, and so on, to those who are deprived of them. Our
failure on this count is a major reason for the wide-spread dissatisfaction and the feeling of exclusion from
the benefits of growth. Recognising that the provision of good quality education is the most important
equaliser in society, the Sarva Shiksha Abhiyan has tried to universalise elementary education. The focus
must now be on reducing the drop-out rate from 52 per cent in 200304 to 20 per cent and also on
achieving a significant improvement in the quality of education. The literacy rate must be increased to 85
per cent and the gender gap in literacy narrowed to 10 percentage points. Compulsions that force a child to
work must be removed so that every child can go to school.

The basic objective of the Eleventh Plan must be to extend access to essential public services, such as
health, education, clean drinking water, sanitation, and so on, to those who are deprived of them.
It is also time to bridge the large gaps in health-status indicators which currently place India below some
of the worlds poorest countries. The Eleventh Plan must ensure a substantial improvement in health
indicators, such as maternal mortality, infant mortality, total fertility rate, and malnutrition, particularly
among children, and set monitorable targets for these areas. Success in this area involves convergence of
multiple efforts in many sectors other than health and family welfare. Supply of safe drinking water and
access to sanitation for all must be the top priority. In addition, we must address the lack of education,
especially in women, which has severely limited our ability to improve nutrition and control neo-natal
diseases.

The Eleventh Plan must ensure a substantial improvement in health indicators, such as maternal
mortality, infant mortality, total fertility rate, and malnutrition, particularly among children, and
set monitorable targets for these areas.

Box 2.3 Monitorable Socio-economic Targets of the Eleventh Plan

Income & Poverty

Accelerate growth rate of GDP from 8% to 10% and then maintain at 10% in the Twelfth Plan in order to double the per capita income by 201617.
Increase agricultural GDP growth rate to 4% per year to ensure a broader spread of benefits.
Create 70 million new work opportunities.
Reduce educated unemployment to below 5%.
Raise real-wage rate of unskilled workers by 20%.
Reduce the headcount ratio of consumption poverty by 10 percentage points.

Education

Reduce dropout rates of children from elementary school from 52.2% in 200304 to 20% by 201112.
Develop minimum standards of educational attainment in elementary school, and by regular testing monitor effectiveness of education to ensure quality.
Increase literacy rate for people of age seven years or more to 85%.
Lower gender gap in literacy to 10 percentage points.
Increase the percentage of each cohort going to higher education from the present 10% to 15% by the end of the Eleventh Plan.

Health

Reduce infant mortality rate (IMR) to 28 and maternal mortality ratio (MMR) to 1 per 1000 live births.
Reduce total fertility rate to 2.1.
Provide clean drinking water for all by 2009 and ensure that there are not slip-backs by the end of the Eleventh Plan.
Reduce malnutrition among children of age group 03 to half its present level.
Reduce anaemia among women and girls by 50% by the end of the Eleventh Plan.

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Women and Children

Raise the sex ratio for age group 06 to 935 by 201112 and to 950 by 201617.
Ensure that at least 33% of the direct and indirect beneficiaries of all government schemes are women and girl children.
Ensure that all children enjoy a safe childhood, without any compulsion to work.

Infrastructure

Ensure electricity connection to all villages and BPL households by 2009 and round-the-clock power by the end of the Plan.
Ensure all-weather road connection to all habitation with population 1,000 and above (500 in hilly and tribal areas) by 2009, and ensure coverage of all significant
habitation by 2015.

Connect every village by telephone by November 2007 and provide broadband connectivity to all villages by 2012.
Provide homestead sites to all by 2012 and step up the pace house construction for rural poor to cover all the poor by 201617.

Environment

Increase forest- and tree cover by 5 percentage points.

Attain WHO standards of air quality in all major cities by 201112.
Treat all urban waste water by 201112 to clean river waters.
Increase energy efficiency by 20 percentage points by 201617.

The Eleventh Plan must also pay special attention to gender equity and help create an enabling
environment for the social, economic, and political empowerment of women. The shameful practice of
female foeticide, which is reflected in low and falling sex ratio for age group 06 must be stopped. The
plan must focus on ways of improving womens socio-economic status by mainstreaming gender equity
concerns in all sectoral policies and programmes. Special efforts must be made to ensure that the benefits
of government schemes accrue in appropriate proportions to women and girls.

The Eleventh Plan must also pay special attention to gender equity and help create an enabling
environment for the social, economic, and political empowerment of women.
Protection of the environment is extremely important for our well-being, but it is even more so for future
generations who will bear the brunt of environmental degradation. The Eleventh Plan must aim at
significant improvements in this area. Forest cover must be increased by 5 percentage points. Determined
steps must be taken at the level of state government to improve air quality in all major cities to meet World
Health Organizations (WHO) standards. As our rivers and water bodies are seriously threatened by
unrestricted discharge of effluents and sewage, urban waste water must be fully treated. This essential
requirement to clean up our rivers should receive priority attention from state governments, especially, in
areas of large urban and industrial concentration. Moreover, appropriate policies must be designed and
implemented to increase energy efficiency by 20 percentage points and, thus, limit the harmful effect of
carbon combustion on the environment.

Protection of the environment is extremely important for our well-being, but it is even more so for
future generations who will bear the brunt of environmental degradation. The Eleventh Plan must
aim at significant improvements in this area.
In addition to the monitorable targets listed in Box 2.3, many new social interventions are needed to help
achieve the objective of inclusiveness. Some important interventions proposed in this approach paper are
listed in Box 2.4.
Policies for Faster and More Inclusive Growth

The approach paper has identified areas where new policy initiatives are needed to achieve the 9 per cent
growth target and its desired sectoral composition. These areas will be spelt out in greater detail in the
plan. Some critical issues, however, can be identified at this stage.
Investment Requirements

One set of issues concerns the aggregate resource requirement. An average growth rate of 9 per cent over
the Eleventh Plan period will require an increase in domestic investment rates from 27.8 per cent in the
Tenth Plan to 35.1 per cent in the Eleventh Plan. Half of this increase is expected to come from private

72

investment in agricultural farms, small and medium enterprises, and in the corporate sector. The rest will
come from public investment, with a focus on critical infrastructure sectors.

An average growth rate of 9 per cent over the Eleventh Plan period will require an increase in
domestic investment rates from 27.8 per cent in the Tenth Plan to 35.1 per cent in the Eleventh Plan.
Private investment has been buoyant in the last two years and this buoyancy can be expected to continue
as long as GDP growth prospects remain favourable. Nevertheless, steps must be taken to continuously
improve the investment climate. The Central government has already done much in this area to encourage
private investment, both domestic and foreign, by creating a competitive environment which encourages
entrepreneurship. These policies have yielded positive results and must continue to be strengthened.
It is particularly important to take steps to encourage entrepreneurship and expansion among small and
medium enterprises. State governments have a major role to play in this context by improving the
investment climate. Many state governments are taking steps in this direction but much more can be done,
such as streamlining of multiple taxes and reduction of the rigours of the Inspector Raj. As far as the
Centre is concerned, it must ensure that there is financial inclusion for MSMEs and that the financial
system functions in a way that supports the investment needs of MSMEs. Innovative forms of financing to
help start or expand new businesses, such as micro-finance, venture capital funds, private equity funds,
and so on, must be encouraged.

It is particularly important to take steps to encourage entrepreneurship and expansion among small
and medium enterprises. State governments have a major role to play in this context by improving
the investment climate.
Public Investment and the Plan Size

The approach paper draws attention to the need for increments in public investment in several areas.
These increments would have to come from a combination of investment undertaken through the plan
budgets of the Central and the state governments and increased investment by the public sector, financed
by internal and extra-budgetary resources. The plan size will need to make provision for the addition to the
public investment, financed through budgets of the Central and state governments and also the planned
expansion in public services, much of which is not investment but revenue expenditure.

Box 2.4 Important New Social Interventions

Provide one year of pre-school education for all children to give those from underprivileged backgrounds a head start.
Expand secondary schools with provision of hostels and vocational education facilities to assure quality education to all children up to Class X.
Expand facilities for higher and technical education of quality with emphasis on emerging scientific and technological fields
Provide freedom and resources to select institutions so that they attain global standards by 201112.
Provide emergency obstetrics-care facilities within 2 hours travel from every habitat.
Ensure adequate representation of women in elected bodies, state legislatures, and the Parliament.
Provide shelter and protection to single women, including widows, handicapped, deserted, and separated women.

The plan size will need to make provision for the addition to the public investment, financed through
budgets of the Central and state governments and also the planned expansion in public services,
much of which is not investment but revenue expenditure.
Given the constraints on the fiscal deficit imposed by the Fiscal Responsibility and Budget Management
(FRBM) legislation, achievement of the desired plan size will depend critically upon achieving an increase
in the tax revenues as a proportion of GDP and a fall in non-plan expenditure as a percentage of GDP.
Determined action on both fronts should make it possible to achieve a level of GDP for the plan (Centre
and states combined), which, expressed as a ratio of GDP, is 2.5 percentage points of GDP higher than
what it was in the Tenth Plan. The increase in tax revenues depends critically upon achievement of the
growth targets and good revenue buoyancy. Fortunately, the experience in recent years holds great
promise for revenue buoyancy both for the Central and the state governments. Effective control on
non-plan expenditure in practice means control of subsidies, especially, untargeted subsidies that are not
73

aimed at the poor and vulnerable sections. It also means levying of rational user charges in many areas to
limit the demands for budgetary support.
Policies Towards Agriculture

The objective of doubling the growth rate of agricultural GDP to 4 per cent per annum is critical to ensure
the inclusiveness of growth. This, however, poses major policy challenges in the immediate future. It is
necessary to adopt region-specific strategies, focusing on the scope for increasing yields with known
technologies and the scope for viable diversification, keeping in mind marketing constraints. It is
necessary to improve the functioning of the agricultural development administration, especially, the
extension system, which is the key to bridging the knowledge gap. Particular attention must to be paid to
water management problems in the dry land rain-fed areas. Implementation of a region-specific strategy
depends critically upon state-level agencies. The Central government can, at best, help by providing
financial assistance and policy guidance.

The objective of doubling the growth rate of agricultural GDP to 4 per cent per annum is critical to
ensure the inclusiveness of growth. This, however, poses major policy challenges in the immediate
future.
These issues have been comprehensively examined by the National Farmers Commission, which has
submitted its reports containing several recommendations. The NDC Committee on Agriculture is
expected to submit its report in December 2006. The Eleventh Plan will draw on these reports, clearly
defining the relative roles of the Centre and the states to shape a credible strategy for agriculture.
Promoting Access to Health and Education

Achieving the Eleventh Plan targets for health and education requires a greatly expanded role for the state
in these areas. This is because access to essential public services, such as health, education, clean drinking
water, and sanitation is not an automatic outcome of rising incomes. It calls for a deliberate public
intervention to ensure delivery of these services. It is in this context that the National Rural Health
Mission has been launched in order to improve the access and availability of quality health care, sanitation,
and nutrition. Achievement of these targets also requires a conscious effort in capacity mobilisation of the
state at various levels to provide such services through public action. This can be supplemented wherever
possible by private effort, but there is no doubt that even after allowing a scope for expanded supply by the
private sector, the bulk of the responsibility will fall on the public sector. For this reason, plan expenditure
in education and health will have to increase substantially. However, mere increases in expenditure will
not suffice unless accountability is also improved. For locally delivered services, such as elementary
education and health, more active supervision by the PRIs can make a difference. For secondary and
higher education, as well as for tertiary health care, other methods of monitoring performance and
enforcing accountability are necessary. Both the Centre and the states have to cooperate in finding ways to
improve monitoring and enforce accountability. Measures to bring about effective devolution to PRIs will
help improve local involvement and accountability. Civil society organisations can play a major role in
assisting PRIs in this area.

Achieving the Eleventh Plan targets for health and education requires a greatly expanded role for the
state in these areas. This is because access to essential public services, such as health, education, clean
drinking water, and sanitation is not an automatic outcome of rising incomes.
Developing Infrastructure

The biggest constraint on rapid growth in the years ahead will be the lack of physical infrastructure. The
deficiencies in our roads, ports, railways, airports, electric power system, and also various types of urban
infrastructure must be overcome during the Eleventh Plan period if the industrial sector is to achieve the
targeted growth of 10 per cent. Both the Centre and the states have responsibility in this area as different
types of infrastructure fall under different jurisdictions.
A start had been made in the Tenth Plan to address these gaps in infrastructure, but much more needs to
be done. Public investment in this area must be increased. However, the total resources required to correct
the infrastructure deficit exceed the capacity of the public sector. The strategy for infrastructure

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development must, therefore, encourage public-private partnerships (PPP) wherever possible. However,
the PPP strategy must be based on principles which ensure that PPPs are seen to be in the public interest
in the sense of achieving an additional supply at a reasonable cost. PPP must serve to put private resources
into public projects and not the other way round.

The deficiencies in our roads, ports, railways, airports, electric power system, and also various types
of urban infrastructure must be overcome during the Eleventh Plan period if the industrial sector is to
achieve the targeted growth of 10 per cent.
Rural Infrastructure

The development of rural infrastructure is crucial for ensuring inclusiveness and for giving a new deal to
rural areas. The Bharat Nirman Programme had made a good start in the Tenth Plan and will continue
into the Eleventh Plan. The programmes must be adequately funded and vigorously implemented so that
every village has road connectivity, drinking water, rural housing, and rural telecom connectivity.
Homestead sites must be provided to all by 2012. The implementation of the NREGA Programme and the
Backward Regions Grant Fund provides two additional sources of funding infrastructure development in
the most backward districts of our country.

The development of rural infrastructure is crucial for ensuring inclusiveness and for giving a new
deal to rural areas. The Bharat Nirman Programme had made a good start in the Tenth Plan and
will continue into the Eleventh Plan.
Special Focus on Weaker Sections

Despite special programmes for the development of the weaker sections, there are many groups in our
society that do not benefit adequately from development. The Eleventh Plan must pay special attention to
the needs and requirements of the SCs, STs, minorities, and other excluded groups to bring them at par
with the rest of the society. The Central and the state governments implementation of the special plan for
SCs and STs leaves much to be desired. These two strategic policy initiatives to remove socio-economic
disparities should receive special attention in the Eleventh Plan. The 15-point programme for the welfare
of minorities circulated to all state governments must be implemented with a serious concerted effort. The
strategy for faster and more inclusive growth outlined in this approach paper presents formidable
challenges and requires determined action by both the Centre and the states. Achieving these targets will
not be an easy task, but it is definitely feasible. The knowledge that the economy is in many ways better
placed today than it has ever been should help us achieve such ambitious targets.

The Eleventh Plan must pay special attention to the needs and requirements of the SCs, STs,
minorities, and other excluded groups to bring them at par with the rest of the society.
LIBERALISATION AND PLANNING

Indias adoption of liberalisation came after more than six months of negotiations with the World Bank,
starting from January 1991. However, the series of reforms that were initiated in the country did not evolve
through discussion or dialogue in any forum within India. The content and implementation of reforms was
not debated in Parliament nor did it come up as the subject of discussion in any tripartite form comprising
representatives of transparency, extremely essential in a democracy. The reforms were announced as a
package in July 1991 by the newly installed minority government led by P. V. Narasimha Rao. They
consisted of a two-pronged economic policy:
1.
2.

The IMF-inspired macro-economic stabilisation that would focus on reducing the twin deficits in balance of payments and
A comprehensive programme for structural changes of the economy in the fields of trade, industry, foreign investment, public sector among others, which was
inspired by the World Bank.

Indias adoption of liberalisation came after more than six months of negotiations with the World
Bank, starting from January 1991. However, the series of reforms that were initiated in the country
did not evolve through discussion or dialogue in any forum within India.

75

The series of measures undertaken were expected to contribute not only to macro-economic stabilisation
but also to ensure higher growth, the benefits of which, it was felt, would automatically percolate to the
poor. There is no doubt that the package of reforms were a conditionality imposed by the World Bank and
the International Monetary Fund (IMF) as the basis for giving financial assistance to India to tide over the
foreign-exchange crises. As such, the social consequences of the reforms were not taken into consideration
before their implementation. They signified a sharp break from Indias economic and socialist political
culture; nevertheless, they were implemented without a hitch. Although the government claimed later that
the new economic measures were a part of a well-thought out and well-considered long-term programme
contention, it is obvious that the pressure of economic crisis pushed the government to make compromises
and commitments and adopt policies which were a startling break from the ethos of Indian planning.
Economic liberalisation in India brings sharply into focus the relative failures of the democratic experience.
It reflects on the inability of a democratic state to fight off effectively the devils of want, hunger, and
deprivation.

There is no doubt that the package of reforms were a conditionality imposed by the World Bank and
the International Monetary Fund (IMF) as the basis for giving financial assistance to India to tide
over the foreign-exchange crises. As such, the social consequences of the reforms were not taken into
consideration before their implementation.
The Structural Adjustment Policy (SAP) of the Indian government and terms of liberalisation and
globalisation, deregularisation, and privatisation pose more threats than opportunities for the
agriculture-based development which forms the focus of the plans. Apart from agriculture, concern also
arises about the public sector in the new set-up. It is not only in the doldrums but also faces an uncertain
future. The Exit Policy has not been all that successful. The Ninth Plan also focused on the introduction of
a countrywide Employment Assurance Scheme (EAS) to tackle unemployment as well as
underemployment through PRIs. Its objective of equity is reflected in the seven basic servicessafe
drinking water, primary health, primary education, public housing to the poor, nutritional support to
children, connectivity of villages by roads, and public distribution system targeted at the poor. All this
shows a continued heavy reliance on planning even while the new economic policy entails fundamental
and far-reaching changes as far as economic development goes.

The Structural Adjustment Policy (SAP) of the Indian government and terms of liberalisation and
globalisation, deregularisation, and privatisation pose more threats than opportunities for the
agriculture-based development which forms the focus of the plans.
That liberalisation is incompatible with planning is obvious. The question that arises isis liberalisation
warranted and does it augur well for the common man, the poor, the unemployed, the undernourished,
and the undereducated? What would be the implications of a free market economy on the eradication of
poverty, unemployment, inequalities, gender disparities, and the multitude of problems that plague the
country. The efficacy of planning also comes to be seriously questioned in view of the kind of laissez
fairism that liberalisation entails. Notwithstanding its noble projections, planning in India is up against a
new adversary in liberalisation.

The efficacy of planning also comes to be seriously questioned in view of the kind of laissez fairism
that liberalisation entails. Notwithstanding its noble projections, planning in India is up against a
new adversary in liberalisation.
CASE

Not for nothing have all political parties, barring the constituents of the United Progressive Alliance (UPA)
governing at the Centre, taken serious exception to the formal induction of representatives of the
International Monetary Fund (IMF), the World Bank, the Asian Development Bank (ADB), and McKinsey
& Company into the Planning Commission of India.
The move is as ill-advised as it is objectionable. The Deputy Chairman of the Planning Commission
justified the move on the argument that they have been brought in only to assist in the mid-term review of
the Tenth Plan, and not to oversee the functioning of the Commission as a whole. He feels that being
76

outsiders, they would be able to bring to bear their critical professional judgement on the appraisal,
drawing on their exposure to situations in other countries; whereas one set of official within the
government, undertaking the similar exercise, and going over the work of another set of officials, might be
inhibited in exposing gaps and deficiencies in performance in an equally frank and forthright manner. Also,
the role the foreign agencies was meant to be strictly advisory, and not binding on the government whose
power and authority to take final decisions would continue to remain, without its independence being in
any way allowed to be compromised or diluted.
The matter is not as simple as it is made out and begs a whole host of questions:
Will the representative of foreign agencies be invited to attend meetings of only the expert groups
connected with the mid-term review or of all bodies set up under the aegis of the Commission?
Will they, under the guise of reviewing the Tenth Plan, have the freedom to comment on issues directly or
indirectly related to the whole range of economic policies?
Will their access to official data be restricted only to open, unclassified documents or be extended to cover
whatever is relevant to the material under discussion in meeting?
Are the various sections of the Commission under obligation or instruction to accede to their requests for
information over and above what is furnished to them?
Can they, on their own, call on officials and hold private consultations?
Will the summary records of the proceedings explicitly record their views and suggestions?
Does their participation in meetings and discussions entail payment of any fees?
The Deputy Chairman is being rather simplistic in assuming that the role of foreign agencies being
advisory in nature somehow gives the government the right to overrule them and take independent
decisions on issues according to its best lights and in the best interests of the country.
It is astonishing and, at the same time, disappointing that both the Deputy Chairman and Chairman,
having dealt for so many years with the kind of foreign agencies now given entre into Indias corridors of
power, should have failed to take note of some factors that compulsively and, even routinely, determine
their behaviour in their relations to other countries.
The first set of factors has to do with their organisational culture and style of functioning. Being largely
peopled by self-centred and presumptuous know-alls, lacking in humility, and unfamiliar with the
complexities and diversities of countries like India, they act on knee-jerk reflexes and impose their quick
fixes based on the premise one size fits all.
They have a few simplistic prescriptions that they seek to thrust down the throat of countries without
taking account of conditions peculiar to them. Those prescriptions are privatise government undertakings,
devalue the current, extract user fees, eliminate subsidies, remove tariffs, let prices find their levels
however high, open the doors for foreign investors, and so on.
Here are a few examples from the writings of Western critics on their mind-set.
The IMF Secretariat with 2,300 staffers works in secret, drawing up policies for the 80 countries under its
control, largely without their participation and without the knowledge of the world. This shows the IMFs
monopoly of power over policies. The role of the IMF and the World Bank is of concern. The conditions
placed on their loans often force countries into rapid liberalisation with scant regard to the impact on the
poor.
The problem with foreign agencies with their noses in the air is that they do not take it well if the advice
they give is rejected for good reasons. They hold it against the client and the government concerned,
sometimes going to the extent of influencing the opinion of investors, financing institutions, collaborators,
and other governments against it.
Since realpolitik plays an invisible and significant role in the functioning of these agencies, one cannot also
be sure whether their advice is truly objective or subserves some other extraneous interests. Again, as has
happened in some other countries, the initial foothold may end up as a repetition of The story of the Arab
and The Camel.
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Case Question

By considering both sides of the coin, give your view about the induction of representatives of foreign
agencies into the Planning Commission of India.
SUMMARY

Formulated against the backdrop of the Second World War and the partition of the country, the First
Five-Year Plan accorded high priority to agriculture, irrigation, and power projects. It endeavoured to
solve the food crisis, reduce dependence on food grain imports, and ease the raw material problem,
especially, in jute and cotton. As such, almost 45 per cent of the resources were allocated to agriculture
while the industry got a paltry 4.9 per cent. Although an ad hoc type of plan conceived in haste, the First
Plan was successful in so far as national income rose to 18 per cent, per capita income to 11 per cent, and
per capita consumption to 9 per cent. However, the plan could hardly be called a farsighted one. In fact,
it was a loose affair that put together a set of important projects and did not have a strong analytical base.
According to John P. Lewis, the First Five-Year Plan was based on a bad procedural mode. It was simply a
collection of discrete state and ministerial projects with very little independence.
In the Second Plan, which was formulated in an atmosphere of economic stability, agriculture was
accorded a complementary role while the focus shifted to the industrial sector, especially to the heavy
goods sector. The domestic industry was protected from foreign competition through high tariff walls,
exchange rate management, controls and licences, or outright bans. To begin with, P. C. Mahalanobis
introduced a single-sector model based on variables of income and investment, which was further
developed into a two-sector model. The entire net output of the economy was supposed to produce only
two sectorsthe investment goods sector and the consumer goods sector. The basic strategy of the Second
Plan was to increase the investment in heavy industries and also the expenditure on services.
The Third Plan aimed at increasing the national income by 30 per cent from Rs 145 bn in 195061 to Rs
190 bn by 196566. It aimed at increasing the per capita income by 17 per cent. It also targeted a 30 per
cent increase in agricultural production and a 70 per cent in industry. It laid stress on the need to mobilise
domestic as well as external resources. However, whether on account of spillovers of the Mahalanobis
model or on account of the inability of the planners to make certain changes in long-term plans introduced
under the Second Plan, the Third Five-Year Plan failed to bring about any noticeable progress in the
agricultural and the industrial sectors. Other major exogenous shocks came when two successive
monsoons failed. This not only led to a drastic fall in food production but also had a deep negative impact
on the overall growth prospects. The plan period was also marked by two warsthe Chinese war in 1962
and the Pakistan war in 1965. As a result, the period following the Plan was fraught with inflationary
pressures and a staggering balance of payment crisis. With a kind of disillusionment setting in, during the
period between 1966 and 1969, the Five-Year Plans were abandoned and three annual plans were adopted.
The disappointing results of the first three Five-Year Plans necessitated a change. There was a concerted
effort to make the Fourth Plan, launched in 1969, more realistic and attuned to the socio-economic
problems faced by the country. At the time of formulation of the plan, it was felt that the GDP growth and
a high rate of capital accumulation alone may not help to achieve economic self-sufficiency. So the
emphasis shifted to education and employment. The Fourth Plan which was to work within the framework
of actual plan targets had two principal objectives. It aimed at maintaining growth with stability and an
accelerating progress towards the Nehruvian dream of self-reliance. Keeping in mind the agrarian nature
of the Indian economy, the Fourth Plan gave priority to agricultural development. The strategy it adopted
was known as the Green Revolution in popular parlance. This marked the third phase of Indias
developmental planning.
During the Fourth Plan period, the country had faced severe inflationary pressures. The Fifth Plan,
therefore, concentrated on reigning in inflation and achieving stability in the economic situation. With
then Prime Minister Indira Gandhis slogan of Garibi Hatao, this plan re-emphasised the
objectivesremoval of poverty and attainment of economic self-reliance. Among other things, it envisaged
an expansion of productive employment, adequate procurement and distribution system for essential
consumption goods to the poor at reasonable rates, vigorous export promotion, and import substitution, to
put the economy on the road to self-reliance. Several new economic as well as non-economic variables
such as nutritional requirements, health and family planning, and so on, were incorporated in the
planning process. Poverty was defined in terms of minimum level of consumption. Stress was laid on the

78

upliftment of backward classes and backward regions. However, the issue of land reforms continued to be
neglected and the focus on technological modernisation continued.
Like the Fifth Plan, the Sixth Plan also aimed at structural transformation of the economy with a view to
achieving a high, sus tained rate of growth. The basic objectives continued to be removal of poverty and
unemployment. The Sixth Plan sought to achieve higher production target and a concomitant increase in
employment opportunities for the poorest section of society. The Sixth Plan emphasised the need for a
sharper redistribution of the share of the poorer sections in national income, consumption, and utilisation
of public services. By adopting the IRDP, the Sixth Plan aimed at raising 12 million households in the rural
sector above the poverty line. At the same time, the NREP aimed at providing employment opportunity
and utilising manpower for economic development. The Sixth Plan also gave importance to the Minimum
Need Programme introduced in the Fifth Plan. The Congress government returned to power in 1980 and,
thereafter, sought to simultaneously focus on improvement in agriculture as well as industry in order to
achieve rapid economic growth.
The Seventh Plan that was formally launched with the Budget for 198586 laid down three immediate
objectives. It aimed at accelerating the growth in food grain production, increasing employment
opportunities, and raising productivity. In order to attain these objectives, the Seventh Plan proposed:
1.
2.
3.
4.

Action to sustain and enhance the momentum of economic expansion;

Adoption of effective promotional measures to raise productivity and incomes of the poorer sections of the population, poorer regions, and poorer states;
Expansion and qualitative improvement in facilities for health education and other basic amenities; and
Measures for bringing about a sharp reduction in the rate of population growth.

The Seventh Plan aimed at a direct attack on the problems of poverty, unemployment, and regional
imbalance. The plan also gave high priority to the development of human resources, increasing the level of
education, expanding health services, and providing basic needs.
The Eighth Plan also attempted to lift the economy from the mire of licence permits. After the demolition
of licence quotas and the granting of market orientation to the economy, the very functioning of the
economy underwent a structural transformation. The role of the public sector was restricted and the state
intervention was selective and supportive of the private sector. In fact, private enterprises including
foreign private investors have been permitted over a much larger space than ever before and state
intervention has been confined to strategic areas like defence, infrastructure, social sectors, and correction
of market failures. The terms and conditions governing the flow of capital and goods and services with
other countries have been eased. This type of indicative planning placed the Eighth Five-Year Plan on a
different footing from other previous plans.
The Ninth Five-Year Plan undertook the task of ushering in a new era of people-oriented planning. Thus,
not only the governments at the Centre and the states but also the people at large, particularly, the poor,
would participate in what was described by the Planning Commission as a participatory planning process.
This was initiated with a view to assure equity while, at the same time, to target the areas of vulnerability
and weakness as exposed by the Eighth Five-Year Plan. Thus, even as India embarked on a process of
opening up of its economy, planning still remained an important component of development policy and
strategy.
The United Front government led by Prime Minister Deve Gowda, in consultation with the 13 parties that
constituted the Front, adopted the CMP that formed the basis for the objective of the Ninth Five-Year Plan.
The underlying objective growth with equity emerged obviously in the four important dimensions of
state policy:
1.
2.
3.
4.

Quality of life of the citizen,

Generation of productive employment,
Regional balance, and
Self-reliance.

However, it goes without saying that such objectives may not be necessarily attained by the free operation
of market forces.
The Tenth Five-Year Plan (200207) represented a subtle shift in Indias development perspective with
agriculture moving centre stage. At the same time, emphasis has been laid on improving the quality of
governance. In fact, the Tenth Plan has devoted a separate chapter to the issue. It is indeed an eye opener
that the Planning Commission has now accepted governance as one of the most important constraints to
growth and sought to make rectifications. Among the new features focused in the Tenth Plan the rapid
79

growth of labour force is one. Keeping in view the looming danger of increase in unemployment, the Tenth
Plan targets have been fixed accordingly. The plan also addresses the issue of poverty and the unacceptably
low levels of social indicators. For the first time, it has broken down the national targets to state-level so as
to harness the states within the Indian Union in the larger development programme along with the Centre.
While approving the approach paper to the plan, the NDC made mandatory a set of objectives. These
included the doubling of per capita income in 10 years, an 8 per cent growth of GDP per annum, and
harnessing the benefits of growth for improving the quality of life. In keeping with the policy of economic
liberalisation, the Tenth Plan also provides for a government organisation and a voluntary organisation, an
interface. In fact, in the approach paper to the plan itself, 11 targets that can be monitored had been laid
down that provided for increased partnership between the government sector and the voluntary sector.
KEY WORDS

Central Financing
Economy
Economic Inequality
Economic Self-Reliance
External Sector
Financial Sector
Fiscal Deficit
Five-Year Plan
Gross Domestic Product (GDP)
National Plan of Action (NPA)
National Development Council (NDC)
Planning Commission
Targeted Public Distribution System (TPDS)
Quantitative Restrictions (QRs)
State Financing
Social Infrastructure
Sustainability
Inflation

QUESTIONS

1.
2.
3.
4.
5.
6.
7.
8.

Explain the main objectives as incorporated in the various five-year plans in India.
Explain the objectives, outlay, sectoral allocation, and achievements of the first three five-year plans in India.
Write a short note on the Planning Commission of India.
Explain the background, outlay, sectoral allocation, and targets of the Annual Plans for 199091 and 199192.
Analyse the objectives and public sector outlay of the Ninth Plan of India.
Analyse the highlights, priorities, sectoral targets, outlay, and macro-parameters of the Tenth Plan.
Analyse the failures of planning in India.
Suggest various measures for the success in economic planning in the country.

REFERENCES

Adhikary, M. (2001). Economic Environment of Business, 8th ed. New Delhi: Sultan Chand.
Datt, R. and K. P. M. Sundharam (2005). Indian Economy. New Delhi: Sultan Chand.
Desai, S. S. M. and N. Bhalerao (2000). International Economics. 2nd ed. Mumbai: Himalya Publishing House.
Ghosh, B. N. and R. Ghosh (2000). Fundamentals of Monetary Economics, 2nd ed. Mumbai: Himalaya Publishing House.
Kumar, N. and R. Mittal (2002). Economic Development and Planning. New Delhi: Anmol Pub.
Kumar, N. and R. Mittal (2002). Monetory Economy. New Delhi: Anmol Pub.
Mithani, D. M. (2005). The Essence of International Economics, 1st ed. Mumbai: Himalaya Publishing House.
Mittal, A. C. and S. P. Sharma (2001). Indian Planning: Issues and Policies. New Delhi: RBSA Pub.
Planning Commission, Government of India (2005). Indias Five Year Plans: Complete Documents: First Five Year to Tenth Five Year Plan, 195156 to 200207.
New Delhi: Academic Foundation.

Trivedi, I. V. (2004). Emerging Dimensions of Economic Scenario. New Delhi: RBSA Pub.

CHAPTER 03
80

Industrial Policy
CHAPTER OUTLINE

Historical Background
Governments Role
Meaning and Objectives of Industrial Policies
Industrial Policies
Evaluation of the New Industrial Policy
New Trade Policy of 1991
The New Small-scale Sector Policy of 1991
Recent Policies for Micro and Small Enterprises (MSE) Sector
Case
Summary
Key Words
Questions
References

HISTORICAL BACKGROUND

East India Company

The Britishers came to India in the year 1600 as traders of the East India Company. Attracted by stories of
the fabulous wealth of India, Englishmen were eager to establish commercial contacts with the East.
During the British rule in India, the government policy towards industry and business was indifferent. The
first century of British rule saw the decline of nearly all indigenous industries for many
reasonstechnological, economic, and political.

During the British rule in India, the government policy towards industry and business was
indifferent. The first century of British rule saw the decline of nearly all indigenous industries for
many reasonstechnological, economic, and political.
The Britishers did not become a ruling power in India until the second half of the 18th century till it was
only a trading concern. Thereafter, events of greater importance took place in the interior of Bengal. It was
a period of gradual disintegration of the Mughal Empire. Soon after the death of Emperor Aurangzeb, the
controlling and powerful unifying force that existed in the country under his rule declined, and India
became a battleground of rival principalities. The East India Company took full advantage of this chaotic
situation and, gradually, established itself as the unrivalled master of the Indian subcontinent.
Modern industrial enterprises in India developed only after 1850. Its earliest manifestations came in the
wake of the construction of railways, which made it essential to have modern workshops for repair and
maintenance of the rolling stock. The development of railways ended the isolation of the villages, made the
world market available to the Indian producer, facilitated both foreign and domestic trade, and created the
necessary condition for the growth of large-scale industry.

Modern industrial enterprises in India developed only after 1850. Its earliest manifestations came in
the wake of the construction of railways, which made it essential to have modern workshops for
repair and maintenance of the rolling stock.
The first isolated attempt at officially encouraging the growth of large-scale industry took place around
1900. The Madras Government, under the guidance of Sir Alford Chatterton, started a bold policy of
surveying industrial possibilities, assisting private enterprises, improving technical education, and starting
pioneer industries with state resources.

The first isolated attempt at officially encouraging the growth of large-scale industry took place
around 1900.
First World War

81

The outbreak of the First World War brought an end to the policy of hostility between British Bengal
Chamber of Commerce and the Government, and forced on the government a more progressive policy that
included selective encouragement of some industries and protective tariff in order to meet war demands.
There was an urgent need for a new constructive economic policy. This led to the appointment, in 1916, of
the famous Indian Industrial Commission to examine and report the possibilities of a further industrial
development in India and submit recommendations for a permanent policy of industrial stimulation.

Indian Industrial Commission was set up in 1916 to examine and report the possibilities of industrial
development in India and submit recommendations for a policy of industrial growth.
The Commission presented its report in 1918. Its proposals were based upon the fundamental principles
that in the future the government must play an active part in the industrial development of the country. It
summarised the industrial situation by saying that India was a country rich in raw materials and industrial
possibilities but poor in manufacturing accomplishments. The main recommendations of the Commission
fell under four headings.
First, it proposed an improved departmental organisation for the encouragement and control of industries.
Second, suggestions were made to improve technical training and education and also to improve the
conditions in factories and industrial centres. Third, there were proposals for the reorganisation of the
scientific staff of the industrial departments. Fourth, recommendation was made for technical and
financial aid to industries, encouragement of industrial cooperatives, and provision of improved transport
and freight facilities.
The Government of India accepted these recommendations in principle, but little could be done
immediately due to the war and post-war problems of reorganisation and the difficulty of coordinating
industrial policy with the political reforms of 1919 and with the recommendations of the Fiscal
Commission (192122).
Second World War

The Second World War was a major watershed in the development of government-business relations in
India. For one, as India became the main supply base of the Allied War efforts in the Far Eastern and
Middle Eastern fronts, its industrial development received a tremendous boost from the substantial orders
for locally manufactured goods and through setting up of a large number of new industrial units in the
fields, hitherto, the inconceivable.

As India became the main supply base of the Allied War efforts in the Far Eastern and Middle
Eastern fronts, its industrial development received a tremendous boost from the substantial orders
for locally manufactured goods and through setting up of a large number of new industrial units.
Secondly, in response to the needs of war-time economy, the government, in a bid to conserve and control
the resources of the country and under the provisions of the Defence of India Rules, brought about a series
of controls affecting various aspects of the economy, for example, import, export, capital investment, and
foreign exchange.
These controls become a permanent picture of the economic landscape, as these were found to be useful
weapons by the government not only after the war, but even after independence to meet the needs of
planned development.
During the two brief years that intervened between the end of the war (1945) and independence (1947),
government efforts were mostly directed at dealing with shortages that developed in a large numbers of
items, both consumer goods as well as essential war materials.
In almost all the industries, for example, cotton, textile, cement, steel, sugar, and paper, production
showed a steep downward trend caused by the fall in demand, overworking of the plants during the war,
non-availability of capital equipment, shortage of many materials, general unrest in the country, and
transport and distribution bottlenecks.

82

Reconstruction programmes were talked of, but not pursued owing to the prevailing uncertainty, and the
difficulty in importing capital goods. Government efforts were mainly directed at price and distribution
controls through emergency powers in respect of a whole range of articles like cotton, textile, woollens,
paper, coal, steel, mica, and petroleum and petroleum products.
GOVERNMENTS ROLE

Pandit Jawaharlal Nehru laid the foundation of modern India. His vision and determination have left a
lasting impression on every facet of national endeavour since independence. It is due to his initiative that
India now has a strong and diversified industrial base and is a major industrial nation of the world. The
goals and objectives set out for the nation by Pandit Nehru on the eve of independence were as follows:
1.
2.
3.
4.

Rapid agricultural and industrial development of the country,

Rapid expansion of opportunities for gainful employment,
Progressive reduction of social and economic disparities, and
Removal of poverty and attainment of self-reliance.

The goals and objectives set out for the nation by Pandit Nehru on the eve of independence
were(a) agricultural and industrial development, (b) generation of employment opportunities,
(c)removal of poverty, and (d) alleviation of economic and social disparity.
These objectives remain as valid today as they were at the time Pandit Nehru first set them out before the
nation. Any industrial policy must contribute to the realisation of these goals and objectives at an
accelerated pace.
The emergence of India as an independent nation on August 15, 1947 was the beginning of the new
glorious era in the history of our country. Initial government efforts were directed towards improving the
climate of industrial relations. On April 7, 1948, Parliament adopted an Industrial Policy Resolution laying
down the broad objective of the government policy in the field of industrial development and demarcating
the respective shapers for public and private sector. The government also took steps to clarify its policy
towards foreign capital in a policy statement made by the Prime Minister on April 6, 1949.

The emergence of India as an independent nation on August 15, 1947 was the beginning of the new
glorious era in the history of our country. Initial government efforts were directed towards
improving the climate of industrial relations.
Since 195051, India has passed through ten five-year plans and several annual plans and is now in the
Eleventh five-Year Plan. The financial and the balance of payment crises that the nation faced from the
onset of the 1990s compelled the acceptance of deregulation, reduced role for public sector, making the
public sector efficient and surplus generating, and much reliance in general on the private sector for
industrial and infrastructure development.

The financial and the balance of payment crises that the nation faced from the onset of the 1990s
compelled the acceptance of deregulation, reduced role for public sector, making the public sector
efficient and surplus generating, and much reliance in general on the private sector for industrial
and infrastructure development.
The vastly enlarged role for the private sector indicates that India is in step with the prevailing dominant
trend in governmentbusiness relationship in the world scene. The government has a crucial role to play
in the context of the emerging liberalisation of business. In this context, the following aspects deserve
special consideration:

Government role as a promoter, caretaker, and regulator,

Promoting and protecting the small-scale sector,
Facilitating the revival of sick units,
Facilitating the development of Indian companies for the global market,
Promoting inflow of foreign capital and technology,
Promoting and maintaining ecological balance,
Promoting the social role of business,
Developing adequate infrastructural facilities for the overall development of the economy, and
Formulating and operating industrial policies conducive to balance industrial and economic growth.

83

MEANING AND OBJECTIVES OF INDUSTRIAL POLICIES

Meaning

Industrial policy means rules, regulations, principles, policies, and procedures laid down by government
for regulating, developing, and controlling industrial undertakings in the country. It prescribes the
respective roles of the public, private, joint, and cooperative sectors for the development of industries. It
also indicates the role of the large, medium, and small-scale sector.

Industrial policy means rules, regulations, principles, policies, and procedures laid down by
government for regulating, developing, and controlling industrial undertakings in the country.
It incorporates fiscal and monetary policies, tariffpolicy, labour policy, and the government attitude
towards foreign capital, and role to be played by multinational corporations in the development of the
industrial sector.
After independence, the Government of India has formulated policies for industrial growth and
development. For regulating these industrial policies, adequate measures were also adopted by way of
industrial licensing policies. These polices have substantially regulated the business environment in the
country.

After independence, the Government of India has formulated policies for industrial growth and
development. These polices have, substantially, regulated the business environment in the country.
Objectives

Industrial policy statements have been announced from 1948 onwards. A number of objectives have been
projected by the Government of India while making industrial policy declarations. Some of the important
objectives can be identified as follows:

Achieving a socialistic pattern of society,

Preventing undue concentration of economic power,
Achieving industrial development,
Achieving economic growth,
Reducing disparities in regional development,
Developing heavy and capital goods industry,
Providing opportunities for gainful employment,
Expanding the public sector for achieving socialism,
Achieving faster economic growth,
Achieving a self-sustained economy,
Alleviating poverty,
Protecting and developing a healthy small-scale sector,
Building up a large and growing cooperative sector,
Updating technology and modernisation of industry, and
Liberalisation and globalisation of economy.

Many measures have been adopted by the Central government for the accomplishment of these industrial
policy objectives.
INDUSTRIAL POLICIES

We examine the following industrial policy resolutions and the important aspects involved in the
industrial policies:

Industrial Policy Resolution of 1948.

Industrial Policy Resolution of 1956.
Industrial Policy Statement of 1973.
Industrial Policy Statement of 1977.
Industrial Policy Statement of 1980.
The New Industrial Policy of 1991.

Industrial Policy Resolution of 1948

84

The Government of India announced its first Industrial Policy Resolution on April 6, 1948. The policy
resolution laid stress on the role of the state in the development of industry. The industrial activities were
divided into four broad areas:
1.
2.
3.
4.

Items under the central government controlarms and ammunition production and control of atomic energy, ownership and control of railway transport, and
others;
Items under the state government controlcoal, iron and steel, aircraft manufacture, shipbuilding, manufacture of telephones, telegraphs, and wireless apparatus;
Items of basic importance planned and regulated by the Central government salt, automobiles, tractors, heavy machinery, fertiliser, cement, sugar, paper, and so
on; and
Items for the private sectorall other items left to the private sector.

Highlights of Policy

The 1948 policy resolution visualised a mixed economy. It aimed at laying the foundation for Indias
economic and industrial development through such an economy which was guided by the desire for
establishing a strong industrial base in India.

The 1948 policy resolution visualised a mixed economy. It aimed at laying the foundation for Indias
economic and industrial development through such an economy which was guided by the desire for
establishing a strong industrial base in India.
Although foreign investment, know-how, and technology were felt to be necessary for building up a proper
industrial base, it was felt that, as a rule, the major interest in ownership and effective control should
always be in Indian hands.
Industrial Policy Resolution of 1956

After the introduction of the Industrial Policy Resolution of 1948, a number of changes took place in the
country. India became a republic, the First Five-Year Plan was envisaged, socialistic pattern of society was
accepted as the national policy, public sector was assigned the task of raising the pillars of economic
structure, and so on. Besides, the concept of a mixed economy was widely recognised as the basis for the
national economic policy. All these aspects paved the way for a new approach and the second Industrial
Policy Resolution was announced on April 30, 1956. The basic objectives of the policy included the
following:
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.

Speeding up the process of industrialisation in India,

Developing heavy and capital goods industries,
Expanding an effective public sector,
Accelerating the rate of economic growth,
Building up a large and growing cooperative sector,
Encouraging private sector industries,
Preventing private monopolies,
Developing small-scale, village, and cottage industries,
Achieving balanced economic development,
Participation of workers in management, and
Maintenance of industrial peace.

The concept of a mixed economy was recognised as the basis for the national economic policy.
With these objectives in mind, a new approach was given to the industrial sector of India. A new vision was
announced in respect of the industrialisation of the country. It provided guidelines to and laid the
foundation for a well-planned industrial backbone in the country.
The Industrial Policy Resolution of 1956 gave the broad policy framework of industrial development in
India. In spite of the considerable changes that took place from time to time, this resolution remained the
Magna Carta for Indian industry till its replacement by the July 1991 industrial policy, which, in many
aspects, sought to return to the spirit of 1956.

The Industrial Policy Resolution of 1956 gave the broad policy framework of industrial development
in India. In spite of the considerable changes that took place from time to time, this resolution
remained the Magna Carta for Indian industry till its replacement by the July 1991 industrial policy,
which, in many aspects, sought to return to the spirit of 1956.
85

The classification of industries under three heads, viz., Schedule A, Schedule B, and Schedule C, made in
this policy are still being followed. In fact, all following industrial policy resolutions kept these
classifications in mind while defining industries. The following industries were placed in the first and
second categories, respectively. The third category was included in the remaining where future
development would generally be left to the initiative and enterprise in the private sector.
Classification of Industries

Schedule A

Arms and ammunitions and defence equipment,

Atomic energy,
Heavy castings and forging of iron and steel,
Iron and steel,
Heavy plant and machinery required for iron and steel production. Mining, machinery tools, and other basic industries,
Heavy electrical plant,
Coal and lignite,
Mineral oils,
Mining of iron ore, manganese ore, chrome ore, gypsum, gold, diamonds, and sulphur,
Mining and processing of copper, zinc, lead, tin, wolfram, and molybdenum,
Minerals as per Atomic Energy Order, 1953,
Aircraft,
Air transport,
Railway transport,
Shipbuilding,
Telephone and telephone cables and telegraph and wireless instruments, excluding radio-reviewing sets, and
Generation and distribution of electricity.

Schedule B

Other minerals excepting minor minerals defined in the Minerals Concession Rules, 1949, Section B,
Aluminum and other non-ferrous metals not included in Schedule A,
Ferro alloys and tool steels,
Machine tools,
Manufacture of drugs, dyestuffs, plastics, and other basic and intermediate products required by chemicals industries,
Antibiotics and other essential drugs,
Fertilizers,
Synthetic rubber,
Carbonisation of coal,
Chemical pulp,
Road transport, and
Sea transport.

Industries placed under Schedule A were treated as the exclusive responsibility of the state. Schedule B
industries were progressively state owned. Schedule C industries were left for the private sector. In
schedule A, 17 industries were included whereas in Schedule B, 12 industries were listed.
The resolution made it clear that division of industries into separate categories did not imply that they
were being placed in watertight compartments. It was open to the state to start any industry not included
in Schedule A and Schedule B when the needs of planning so required. The Industrial Policy
Resolution of 1956 had a positive approach to industrialisation in many ways which are as follows:

1.
2.
3.
4.

Rapid industrial growth backed by balanced regional development was the backbone of the policy.
Appropriate manpower development and industrial harmony between public, private, and large and small sectors were the basic ideals of the policy.
Small sector was encouraged in such a way that even some of the items of Schedule A were allowed to be taken up by small enterprises.
Providing exclusive incentive system, direct subsidies, and differential tax rates protected the small-scale sector.

The resolution made it clear that division of industries into separate categories did not imply that
they were being placed in watertight compartments.
Thus, a new direction was given to industrial development in India in the Industrial Policy Resolution of
1956, and it laid the foundation for all future developments.
Industrial Policy Statement of 1973

An industrial policy statement was made in a press note on February 2, 1973. It was an extension of the
Industrial Policy Resolution of 1956. It was specifically mentioned that Industrial Policy Resolution of
86

1956 would continue to govern the industrial policy for achieving the objectives of growth, that is social
justice and self-reliance in the industrial sector. The main features of Industrial Policy Statement of 1973
were as follows:
1.
2.
3.
4.

The statement declared that the state would be directly responsible for the future development of industries.
The role of public sector was further stressed in attaining a socialistic pattern of society. Both the public and private sector were assigned specific roles.
As an initiative towards the development of joint sector units, they were supposed to function under the direction of the government.
Foreign investment was allowed only in specific industries. All foreign investment proposals were screened with special reference to technological expertise, export
possibilities, and overall effect on the balance of payment position, subject to Foreign Exchange Regulation Act (FERA) and monopoly-restrictive trade practices (MRTP)
restrictions.

5.

All foreign investment proposals were screened with special reference to technological expertise,
export possibilities, and overall effect on the balance of payment position.
6.
7.
8.

Small-scale and cooperative sectors were assigned a special role to play. Small and medium sectors were given preferential treatment.
In the area of agricultural produce, cooperative enterprises were encouraged.

Box 3.1 Quantitative Restrictions

Ever since 1991, when the economic reforms process started, there has been gradual dismantling of
Quantitative Restrictions (QRs).
At present, QRs have been lifted from more than 95 per cent of the products which were earlier subject to
such restrictions on balance of payments (BoP) grounds. Restrictions on the remaining, less than 5 per
cent products, balance of payments have been maintained on the grounds of health, safety, and moral
conduct. However, no major import surge has taken place as a result of the removal of such restrictions.
Further, the import duty rates have been lowered on a large number of product groups. The average
collection rate, defined as the ratio of realised import revenue, including basic additional and special
custom duties, and countervailing duty as a percentage of the import value of the product for an overall
import, has gradually fallen from 47 per cent in 199091 to 21 per cent in 200001.

Thus, a fresh approach to industrialisation was made in Industrial Policy Statement of 1973 within the
framework of the Industrial Policy Resolution of 1956.
Industrial Policy Statement of 1977

The Janta Party came to power in March 1977. The Janta Party government presented to Parliament an
industrial policy on December 23, 1977. This policy was considered to have made a new approach to the
industrial development in India. The government claimed that they had introduced this dynamic
industrial policy for removing the distortions of the past. The Industrial Policy Statement of 1977 aimed at
utilising ideal resources for enhancing the living conditions of the masses. The major objectives set in the
policy were as follows:
1.
2.
3.

Preventing of monopoly and concentration of economic power,

Maximising production of consumer goods, and
Making industry responsive to social needs.

The Janta governments industrial policy was basically aimed at making use of the available human
resources for the maximum benefit of the masses. It was a consumption-oriented and labour-intensive
industrial policy. It aimed at maintaining the close interaction of the agricultural-and industrial sector.

The industrial policy of the Janta Party government was aimed at making use of the available human
resources for the maximum benefit of the masses.
The thrust area of this policy was the generation of rural employment opportunities. The first priority of
the policy was to develop the small village and cottage industrial sector. The small-scale sector consisting
of 180 items was expanded to accommodate 500 items. An annual industrial review was proposed for
ensuring:
87

1.
2.
3.

That the industrial units could take care of the national requirements,
That the efficiency principle was fulfilled, and
That the production would be maintained economically and was qualitatively acceptable.

The basic elements of the Janta governments industrial policy were as follows:
1.
2.
3.
4.
5.
6.

Development of small-scale industries, cottage industries, tiny sector units, village and household industries,
Encouraging the large-scale industrial units for meeting the minimum needs of the population,
Reversing the process of growth of large industries which grew with the help of funds from public financial institutions,
Public sector was to be used as a producer and supplier of essential consumer goods,
Import of technology only in high-priority areas, and
Restricted foreign collaborationthe ownership and control were to remain in Indian hands.

The Industrial Policy Statement of 1977 was an indirect reflection of the 1956 policy, with minor deviations.
The thrust area of industrial policy was small-scale industry. An important contribution of the 1977 policy
was the setting up of District Industries Centre (DIC) in every district for the development of the
small-scale sector. It continues to function effectively. Speedy action was also planned to issue licences in
time and timely implementation of approved projects.

An important contribution of the 1977 policy was the setting up of District Industries Centre (DIC)in
every district for the development of the small-scale sector.
New Industrial Policy Statement of 1980

After the fall of the Janta Party government, the Congress came to power again in 1980. The Union
Minister of State announced the new industrial policy on July 23, 1980. The Congress government was
committed to rapid and balanced industrialisation for benefitting the common masses. The
socio-economic objectives of the 1980 Industrial Policy were as given below:
1.
2.
3.
4.
5.
6.
7.
8.
9.

Optimum utilisation of the installed capacity,

Higher employment generation,
Achieving higher productivity and maximum production,
Development of industrially backward areas,
Promotion of agro-based industries,
Faster promotion of export-oriented and import-substitution industries,
Consumer protection against high prices and bad quality,
Promoting economic federalism with spread of investment in rural as well as urban areas, and
Revival of the economy by overcoming infrastructural gaps.

The following policy measures were specified to achieve these objectives:

1.
2.
3.
4.
5.
6.
7.

Promoting the process of rural industrialisation,

Removing regional imbalances,
Regulating the excess capacity in the private sector,
Efficient operational management of the public sector,
Developing small-scale sector by increasing the limit of investment,
Automatic expansion in large-scale industrial units, and
Dealing with industrial sickness effectively.

The New Industrial Policy Statement of 1980 was a growth-oriented industrial policy. The factors
considered by this policy were, importexport, labour relations, pollution control, ecological balance,
merger and amalgamation, correcting industrial sickness, pricing policy, takeover of sick units, foreign
collaboration and investment. The Industrial Policy Statement of 1980 was a balanced industrial policy
aimed at developing the industrial sector in India.

The Industrial Policy Statement of 1980 was a balanced industrial policy aimed at developing the
industrial sector in India.
New Industrial Policy of 1991

Despite the impressive growth performance of the New Industrial Policy Statement of 1980, serious
budgetary and fiscal deficits of the government and balance of payment crises led India to a critical
economic and financial situation. The country was almost on the brink of defaulting international
payments. There was no other alternative but to introduce a new regulatory and liberal economic reign.

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Box 3.2 Vanishing Companies / Promoters

An offshoot of the liberalisation measures and capital market reforms has been the problem of vanishing
companies, which has assumed serious proportion in recent years in India.
Although the government and the regulatory agencies have initiated several measures to tackle this
problem, still, sustained and stepped-up efforts are required to ensure that companies do not vanish in the
way they have vanished in recent past.
The criteria defined jointly by SEBI and the Department of Company Affairs on July 2002 to term a
company as vanishing is
1.

Non-compliance with listing requirement with the respective stock exchange and Registrar of Companies
for two years;
2.
3.

4.
5.
6.

Non-submission of required reports to and absence of correspondence with regional exchanges for two
years; and

Non-availability at the registered office for inspection by the stock exchange.

As a part of the liberalisation, a new industrial policy was announced by the Government of India in two
parts, on July 24, 1991 and August 6, 1991, respectively. Some of the major aspects of the industrial policy
were as follows:

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.

Industrial licensing dispensed with exception in 18 items.

Foreign Direct investment (FDI) up to 51 per cent of equity allowed in high-priority industries.
The threshold of the assets of MRTP companies and dominant undertakings removed.
Automatic clearance introduced for import of capital goods, provided foreign-exchange requirement for such import are met through foreign equity.
Automatic permission for foreign technology agreements in high-priority industries up to a sum of Rs 1 crore granted.
Foreign equity proposals need not be accompanied by foreign technology agreement.
Existing and new industrial units provided with broad-banding facility to produce any article so long as no additional investment in plant and machinery is
involved. Exemption from licensing will apply to all substantial expansion of existing units.
Pre-eminent role of public sector in eight core areas including arms and ammunitions, mineral oils, rail transport, and mining of coal and mineral.
Part of governments shareholding in public sector is proposed to be disinvested, which will be offered to mutual funds, financial institutions, general public, and
workers.
Chronic loss-making public sector units to be referred to the Board of Industrial and Financial Reconstruction (BIFR) for formulation of revival schemes.
A simplified procedure for new projects was introduced to manufacture goods not covered by compulsory licensing. Even a substantial expansion of a project
requires submitting a memorandum in the prescribed form to the secretariat for industrial approvals.
Decisive contribution was expected from foreign investment including foreign corporate bodies, foreign individuals, and non-resident Indians.
Industrial policy for the small-scale sector announced on August 6, 1991 provided a four-point scheme to provide financial support to this sector.

As a part of the liberalisation, a new industrial policy was announced by the Government of India in
two parts, on July 24, 1991 and August 6, 1991, respectively.
An analysis of Table 3.1 reveals that the contributions of agriculture and industry to the increase in GDP
were record lows over the period of 199798 to 200304. Growth (increment) has been propelled by the
services sector to the tune of two-thirds. These trends have some important implications.

Table 3.1 Indian Economy: Sectoral Sources of Growth, 19512004

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First, the poor showing of agriculture in regard to its contribution to output increases, needs a bit of
attention. It is a fact of life that in growing and maturing economies, agricultures overall share in GDP and,
hence, its contribution to successive GDP increments will keep falling. Thus, while due attention must be
focused on the performance of the agricultural sector and more so on the welfare of the farming
community (far too many have taken their lives in some states in recent years), one need not be unduly
alarmed by the falling contribution of the sector to GDP increases.
Second, and more alarming, is the dwindling contribution of the industrial sector to GDP increase. The
relatively low contribution of industry in 200304 must be attributed in part to the structural adjustments
now going on in the sector, basically getting rid of it fast and getting set to compete. One hopes that the
industry-declining senerio will not last long and all will be well soon. How can that happen? On the supply
side there is hardly any problem since if not domestic firms, MNCs will set up shop and produce. (One can
see this most visibly in the auto sector.)
If there is demand, industry will produce. That demand could be domestic as well as external. Domestic
demand, in my view, will be most severely constrained by lack of upward mobility of the relatively
low-income families. The demand constraint is with reference to all sorts of consumer durables and
services. Unless income increases reach the bottom and middle of the income ladder, the industrial
demand and output will not pick up at a relatively rapid pace. Put in an oversimplified fashion, whoever
could buy the white goods, bought but there are millions who have the desire but not the demand backed
by purchasing power.

Unless income increases reach the bottom and middle of the income ladder, the industrial demand
and output will not pick up at a relatively rapid pace.
Finally, the growing importance of services in GDP should be taken with due caution. World over,
estimation of services sector output and value added (which is what enters GDP) is at best an
approximation, unlike in the goods-producing sectors, where the material inputs and output are relatively
more clear-cut and distinct. Before concluding, it is worth looking at how the Chinese have moved forward
on the growth front. See Table 3.2. It is industry and not services that has propelled the increase in
Chinese GDP since 1990.

It is industry and not services that has propelled the increase in Chinese GDP since 1990.

Table 3.2 China: Sectoral Sources of Growth, 19802002

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Objectives

The objectives of the 1991 policy included:

1.
2.
3.
4.
5.

Reducing or minimising the bureaucratic control of the industrial economy of India,

Liberalisation of industrial and economic activities for integrating the Indian economy with the world economy,
Removing restrictions on foreign direct investment,
Freeing the domestic entrepreneur from excessive MRTP restrictions, and
Streamlining the role of public sector enterprises.

Among the areas covered, the most important ones are:

1.
2.
3.
4.
5.
6.

Industrial licensing,
Foreign investment,
Technology transfer and import of foreign technology,
Public sector policy,
Policy relating to MRTP Act, and
An exclusive small-sector policy.

Specific policy initiatives were made in respect to all these policy areas. These aspects are briefly examined
here.
Industrial Licensing

In tune with the emerging trends of globalisation of business, the 1991 industrial policy initiated a number
of measures to liberalise the licensing system in India. Industrial licensing was abolished for all industries
except a list of 18 areas (consisting of many items) presented in Schedule II. Compulsory licensing is
necessary in these areas for various reasons like security and strategic factors, social reasons, safety
aspects, environmental issues, production of hazardous goods and elitist consumption goods, and so on.
The basic thrust of the policy was to liberalise the industrial sector so as to minimise the bureaucratic
restrictions.

In tune with the emerging trends of globalisation of business, the 1991 industrial policy initiated a
number of measures to liberalise the licensing system in India.
Foreign Investment

Greater liberalisation was offered for foreign investment from foreign corporate bodies, individuals,
and non-resident Indians. In high-priority areas requiring heavy investment and advanced technology,
direct foreign investment was allowed up to 51 per cent foreign equity. According to a government
notification of October 28, 1991, NRIs and OCBs (Non-resident Indians and Overseas Corporate Bodies)
were allowed to invest upto 100 per cent foreign equity in high-priority industries, tourism-related
industries, hotels, shipping, and hospitals with repatriation benefits. The scheme for up to 100 per cent
foreign investment on export-oriented industries and projects, for the revival of sick units, also
continued.

Greater liberalisation was offered for foreign investment from foreign corporate bodies, individuals,
and non-resident Indians.
Besides all these, NRI equity holding up to 100 per cent was also permitted in export-oriented deep-sea
fishing industry, oil exploration industry, and advanced diagnostic centres with full repatriation benefits.

91

In line with the interest of IMF, the NRI and OCB proposals were allowed automatic clearance and
provided foreign equity covers on the foreign-exchange requirements for import of capital goods. One
condition of such automatic approval was that dividend payment in terms of foreign exchange must be
balanced by export earnings for a period of seven years.

NRI equity holding up to 100 per cent was also permitted in export-oriented deep-sea fishing
industry, oil exploration industry, and advanced diagnostic centres with full repatriation benefits.
No indigenous clearance would be required for import of new capital goods financed by NRIs from their
own resources abroad if they were not covered by Appendix I, Part A of the Exim Policy of 199093. Items
not covered by any of these conditions required prior clearance under the existing procedures.
Foreign Technology

In order to update the technology base and to ensure adequate technological competence, adequate
incentives were provided for technology imports. Automatic approvals were proposed for
technology-import agreements relating to high-priority areas within specified conditions. Facilities were
also made available for other industries for similar agreements, provided they did not involve free foreign
exchange. Indian companies were given the freedom to negotiate the terms of technology transfer with
their foreign collaborators in accordance with their commercial requirements.

In order to update the technology base and to ensure adequate technological competence, adequate
incentives were provided for technology imports.
Foreign technology agreements in high-priority industries (Annexure III) up to Rs 1 crore were given
automatic permission. Royalty on domestic sales was allowed at the rate of 5 per cent and on exports at the
rate of 8 per cent, subject to a total payment of up to 8 per cent of sales over a period of 10 years from the
date of agreement or seven years from the commencement of production. The same principle would be
applicable in other industries also, provided no free foreign exchange is required. No permission was
required for hiring foreign technicians and foreign testing of indigenously developed technologies.
Public Sector Policy

A new approach to the public sector was visualised in the Industrial Policy Statement of 1991. The priority
areas for the growth of public sector in future were identified, viz.:
1.
2.
3.
4.

Essential infrastructure goods and services,

Exploration and exploitation of oil and mineral resources,
Technology development and building of manufacturing capabilities in areas crucial for the long-term development of the economy, and also in the areas where
private sector investment is inadequate, and
Production of items of strategic importance, like defence equipment.

Public sector enterprises in these areas were identified to be strengthened. Such high-priority areas and
areas which generated substantial profits were identified for a greater degree of autonomy, while private
enterprise was welcomed in such areas for providing a competitive structure. Disinvestment of the public
sector equity share capital was also visualised.
A new approach to perennially loss-making public enterprises was made, necessitating a considerable
dilution of the original concept of the public sector. Since almost one-third of the losses accumulated by
the public sector was the contribution of the loss-making private enterprises which were taken over by
government, the government had to make a specific approach for this category of enterprises.
The government realised that the time had now come to evaluate the actual contribution of the public
enterprises, particularly with reference to its viability. In the context of the huge losses to the tune of Rs
8,500 crore made by the public sector, such a revised policy was necessary. Of the loss-making units, 54
units had already been referred to the BIFR. A parliamentary sub-committee was appointed by the
Government of India in 1992 to prepare a comprehensive report on the viability of these sick public sector
units. In this context, the Financial Dimensions and Macro Parameters of the Eighth Plan (199297)
produced by the Planning Commission in 1991 is worth a mention. The Planning Commission called for a
reexamination and reorientation of the governments role in public sector. The paper suggested,

92

A parliamentary sub-committee was appointed by the Government of India in 1992 to prepare a

comprehensive report on the viability of sick public sector units.
Learning from the global experience in development as well as experience of difficulties in our own
country which has ultimately culminated into high inflation and fiscal crisis threatening to halt even
our modest pace of development. It is increasingly realised that the role of the public sector should be
very selective.
Thus, only a selective role was assigned to the public sector. Core areas, such as energy, transport,
communication, irrigation, elementary education and literacy, health and population control, drinking
water, rural roads, specific problems of the poor, unemployed, and underdeveloped regions, and so on
would continue to get the attention of the government.
Another important policy in respect of the public sector was that it was brought under the MRTP
Commission with effect from September 27, 1991. The areas reserved for the public sector were limited to
items like arms and ammunition, and allied items of defence equipment, defence aircraft and warships,
atomic energy, coal and lignite, mineral oils; mining of iron ore, managanese ore, chome ore, gypsum,
sulphur, gold and diamond; mining of copper, lead, zinc, tin, molybdenum and wolfram; minerals
specified in the schedule to the Atomic Energy (Control of Production and Use) Order 1953, railway
transport, and so on.

The public sector was brought under the MRTP Commission with effect from September 27, 1991.
Under the changed conditions, the government decided to go ahead with a gradual disinvestment of
selected public sector units primarily to the tune of up to 20 per cent, first Rs 2,500 crore and, then, Rs
3,500 crore in 199293. In order to rehabilitate the affected workers, a National Renewal Fund was
proposed to be formed with an investment of Rs 1,000 crore.
Policy Relating to MRTP Act

In accordance with the liberalisation process, a number of measures were adopted to liberalise the MRTP
restrictions on large and MRTP companies. In an ordinance promulgated by the Central government,
provisions in both the MRTP Act and the Companies Act for pre-entry restrictions on establishment of new
undertakings and expansion of the existing ones were amended. Provisions relating to acquisition or
transfer of shares of MRTP undertakings was deleted from the MRTP Act and new provisions were
introduced and in the Companies Act as Sections 108-A to 108-I, covering acquisition and transfer of
shares of dominant undertakings.
Similarly, provisions relating to registration under Section 26 to the MRTP Act was deleted. Existing
provisions in the MRTP Act were amended to eliminate the requirement of prior approval for the projects
and proposals for merger, amalgamation, and takeover by MRTP companies. At the same time, the MRTP
Commission was vested with additional powers for taking more effective action in providing better
protection to consumer interests. The government considered the need for bringing in public sector and
cooperative undertakings, having monopoly practices under the provision of the MRTP Act. However,
government-controlled and owned companies dealing in arms and ammunition and allied items of defence
equipment, defence aircraft and warships, atomic energy, minerals specified in the schedule to Atomic
Energy (Control of Production and Use) Order 1953, and industrial units under currency and coinage (a
division of the Ministry of finance, Department of Economic Affairs), and so on were exempted from the
control of the MRTP Act.

The government considered the need for bringing in public sector and cooperative undertakings,
having monopoly practices under the provision of the MRTP Act.
In an ordinance promulgated by the Central government on September 27, 1991, pre-entry restrictions in
connection with the establishment of new undertakings and expansion of existing units were lifted. This,
reportedly, resulted in the entry of a number of large MNCs, on the one hand, and expansion of many large
domestic enterprises to be multinationals themselves, on the other. It would facilitate the expansion and

93

diversification of Indian companies, whereas foreign companies could take it as an incentive to enter the
Indian market in a big way.

In an ordinance promulgated by the Central government on September 27, 1991, pre-entry

restrictions in connection with the establishment of new undertakings and expansion of existing units
were lifted.
Exclusive Small-sector Policy

An important aspect of the industrial policy of 1991 was the introduction of an exclusive small-sector
policy. A small industrial policy was announced by the Government of India vide notification dated April 2,
1991, and the press note dated August 6, 1991, so as to make it a vibrant sector to maximise its
contribution in terms of growth of output, exports, and employment. For this purpose, a considerable
magnitude of deregulation was visualised to minimise the bureaucratic controls. Revised norms have been
fixed to define small-scale, ancillary, and tiny industries in terms of investment limits in plant and
machinery as follows:

An important aspect of the industrial policy of 1991 was the introduction of an exclusive small-sector
policy.

Type of Units in the Small-scale Sector

Investment in Plant and Machinery on Ownership, by Lease or by Hire Purchase up to

Small-scale industry

Rs 60 lakh

Ancillary units/export-oriented units

Rs 75 lakh

Tiny units

Rs 5 lakh

Units which manufacture parts, components, sub-assemblies, tooling, intermediates, rendering services,
and supplying or rendering or proposing to supply or render at least 50 per cent of their production or
total services, as the case may be, to one or more other units for production of other articles are considered
to be ancillary units, provided that no such undertaking shall be a subsidiary or owned or controlled by any
other undertaking. A small-scale unit which undertakes to export at least 30 per cent of the annual
production by the third year is considered to be an export-oriented unit (EOU).

A small-scale unit which undertakes to export at least 30 per cent of the annual production by the
third year is considered to be an export-oriented unit (EOU).
The service sub-sector which includes all industry-related services, irrespective of location, is brought
under the banner of small sector Similarly, the small-scale sector, including tiny enterprises, has been
made eligible for additional support on a continuing basis, including institutional finance, priority in
government purchase programmes, and relaxation from certain provision of labour laws.
Other important measures adopted to help the small-scale sector are also worth mentioning. The
single-window loan scheme has been enlarged to cover projects up to Rs 20 lakh with a working capital
margin up to Rs 10 lakh, while composite loans under the single-window scheme, which were available
only through State Financial Corporations and the State Small Industries Development Corporations
(SSIDCs), would be channelised through commercial banks also in order to facilitate access for a larger
number of entrepreneurs.

The single-window loan scheme has been enlarged to cover projects up to Rs 20 lakh with a working
capital margin up to Rs 10 lakh.

94

Specific financial support measures were also adopted. Adequate flow of credit on normative basis would
be made available to viable operations while quality of delivery would be maintained. An important policy
to provide access to small-scale units to the capital market for encouraging modernisation and
technological upgradation was announced. For this purpose, other industrial undertakings were allowed
equity participation up to 24 per cent in the SSI units, which was an important deviation from the existing
norms. Similarly, in order to expand the employment opportunities, ancillarisation and sub-contracting
were encouraged.
Factoring services were proposed through the Small Industries Development Bank of India (SIDBI) for
solving the problem of delayed payment to small-scale units. Such services have been proposed to be
operated though commercial banks throughout the country. The government had expressed concern to
solve the financial problems of the small-scale sector.
Infrastructural facilities were proposed to be provided extensively. It was proposed to set up a Technology
Development Cell (TDC) in the Small Industries Development Organisation (SIDO), which would provide
technology inputs to improve the competitiveness and productivity of the small-scale sector. The TDC is
expected to coordinate the activities of the tool rooms and Process cum Product Development Centres
(PPDs).

Technology Development Cell (TDC) was proposed to be set up in the Small Industries Development
Organisation (SIDO) to provide technology inputs to improve the competitiveness of the small-scale
sector.
The export potentiality of the small-scale sector was visualised to be streamlined. SIDOs role as a nodal
agency for export promotion of the small-scale sector was stressed, while an Export Development Centre
was proposed to be set up under SIDO to improve the export of small-scale units. While a link between
National Small Industries Corporation (NSIC) and Small-Scale Industries Development Corporation
(SSIDC) was stressed to improve the marketing efforts of the small-scale sector, it was also proposed to
market mass consumption goods under a common brand name.

A link between National Small Industries Corporation (NSIC) and Small-Scale Industries
Development Corporation (SSIDC) was stressed to improve the marketing efforts of the small-scale
sector.
In order to improve productivity, efficiency, and cost effectiveness of the small-scale sector, a programme
of modernisation and technological upgradation was proposed. Industry Associations were assigned the
responsibility of providing facilities for common testing and quality counselling, while institutions like
IITs and selected engineering colleges were expected to serve as Design and Development Centres and
Technological Information Centres. These efforts were proposed to cope with modernisation and
technological upgradation needs and quality specifications.
The Small-Scale Industrial Policy of 1991 emphasised the need for promoting entrepreneur-ship,
particularly for developing the first-generation entrepreneurs. A large number of entrepreneurship
development programme (EDP) trainers and motivators were proposed to be trained for this purpose.
Industry associations were to be encouraged to contribute in this respect. Multi-disciplinary Barefoot
Managers would find additional employment opportunities, while women entrepreneurs would receive
entrepreneurship training.

The Small-Scale Industrial Policy of 1991 emphasised the need for promoting entrepreneurship,
particularly for developing the . first-generation entrepreneurs.
Adequate steps were to be taken to promote the handloom sector. The Janata Cloth Scheme was proposed
to be replaced by an omnibus project package scheme under which adequate funds would be provided for
the modernisation of looms, providing training facilities, providing better designs, better dyes and
chemicals, and providing assistance in marketing. While assistance would be provided for production and
marketing of handicrafts, activities of the Khadi and Village Industries Boards and Khadi and Village
Industries Commission were to be expanded. In order to expand the non-farm employment opportunities

95

in the rural areas, promotion of rural and cottage industries was identified. Similarly, the ongoing
developmental programmes relating to weaker sections like scheduled castes, scheduled tribes, and
women would be extended throughout the country.
Thus, an all-round development of the small industries sector consisting of small, ancillary, tiny, khadi,
and village industries was visualised in the small-sector industrial policy of 1991. In order to supplement
the industrial policy, a major trade policy was also announced by the Government of India on July 4, 1991.

Thus, an all-round development of the small industries sector consisting of small, ancillary, tiny,
khadi, and village industries was visualised in the small-sector industrial policy of 1991.
Indias Foreign Trade Policy of 1991

The trade policy announced by the then Union Commerce Minister P. Chidambaram on July 4, 1991, had
its roots in earlier policies, particularly policies from 1985 onwards. These policies took impetus from the
Abid Hussain Committee recommendations.
The Abid Hussain Committee on Trade Policies (1984) submitted its report in December 1984. The report
contained major recommendations regarding export-promotion policy and strategy, import policy,
technology imports, and so on. In respect of the export-promotion policy and strategy, the committees
recommendations included rationalisation of the duty drawback system, exemption of cash compensatory
support (CCS) and 50 per cent of the exports profit from income tax, reformulation of import
replenishment (REP) system for export production, exemption of export production from
capacity-licensing provision, exchange entitlement scheme for exporters, and so on. With regard to import
policy, the committee felt the need for canalisation of imports to be treated as an exception. As far as
possible, import substitution should be found out and the policy of restricting imports of non-essential
consumer goods should continue. At the same time, essential capital goods for rapid modernisation should
be included under Open General Licence (OGL). As far as technology imports were concerned, the
committee felt that import of technology must be liberalised. Hence, foreign technology imports without
foreign equity participation should be placed under OGL subject to appropriate ceilings on lump-sum
payments and royalties for a specified maximum period, while imports above the ceiling should be
selective. De-escalation of the level of protection was visualised for an efficient import substitution. The
committees recommendations provided background material for the trade policy from 1985 onwards.

The Abid Hussain Committee on Trade Policies (1984) contained major recommendations regarding
export-promotion policy and strategy, import policy, technology imports, and so on.
According to the ExportImport (EXIM) Policy announced by the then Commerce Minister V.P. Singh on
April 12, 1985, a three-year trade policy came into effect which aimed at facilitating production through
easier and quicker access to imported inputs, stability of exportimport policy, strengthening the export
production base, upgrading technological base, and so on. About 201 items of industrial use were
decanalised. The ImportExport Pass-Book Scheme was introduced with effect from October 1, 1985, to
reduce delays in obtaining licences under the duty exemption scheme. Import of computer or
computer-base systems up to Rs 16 lakh was allowed for own use. Imports of 76 items of raw materials and
components was placed under the limited permissible list.
Minor modification was made in the importexport policy announced in March 1988, according to which
745 items, including 200 items of life-saving equipment, 108 items of drugs, and 99 items of machinery
were placed under OGL. While 26 items of import were decanalised, the import REP scheme was
broadened. Certain other administrative liberalisation for export and trading houses, condition of import
by permanent returnees of NRIs, extension of the pass-book scheme to domestic manufactures, and so on
were also introduced.
The ExportImport policy announced on April 30, 1990, terminated the 1988 policy one year ahead of
schedule. The ongoing effort for liberalisation was further stimulated by the 1990 policy. The list of items
imported under OGL was expanded to include 82 capital goods items, expanding the total list from 1,261
to 1,343 items. An important policy decision in the context of modernisation was about the import of
instruments required for modernisation and technological upgradation. Such items could be imported

96

either under supplementary licensing as capital goods, or against REP licences and additional licences.
Automatic licensing, under which 10 per cent of the value of the previous years licence could be imported,
introduced in the 1990 trade policy is worth mentioning. Similarly, REP licensing scheme was expanded
and simplified.

The ExportImport policy announced on April 30, 1990, terminated the 1988 policy one year ahead
of schedule. The ongoing effort for liberalisation was further stimulated by the 1990 policy.
Registered exporters, trading houses, and star trading houses were given place of prominence. For
example, important raw materials, such as petroleum products, fertilisers, oils and oil seeds, feature and
video films, newsprint, cereals, phosphoric acid, ammonia, and so on, which were placed under public
sector agencies, were allowed to be imported by trading houses and star trading houses too. In order to
obtain licences, net foreign exchange (NFE) earnings were introduced as a condition for registered
exporters. Registered manufacturers and exporters who were regularly exporting for a period of three
years were, on the other hand, permitted to import capital goods up to an amount of Rs 10 crore at a
concessional customs duty of 25 per cent, on condition that they take up an export obligation of three
times the value of imports within a period of four years. Moreover, import REPs at the rate of 10 per cent
of NFE earnings were allowed on export of services, such as computer software, overseas management and
consultancy services, contracts, advertising, and so on.

Registered manufacturers and exporters who were regularly exporting for a period of three years
were, on the other hand, permitted to import capital goods up to an amount of Rs 10 crore at a
concessional customs duty of 25 per cent.
An export house having export earnings of not less than Rs 5 crore and a trading house with Rs 20 crore
would be eligible for the above benefits as well as for additional licences for import of raw materials,
components, consumables and tools, and capital goods permissible under OGL. Export houses, which had
an average annual foreign exchange earnings (for the previous three years) of Rs 75 crore were considered
as star trading houses, which were granted special additional licences equivalent to 15 per cent of the NFE
earned in the preceding year. Blanket advance licensing was also introduced for manufacturersexporters
who earned a minimum NFE of not less than Rs 10 crore during the preceding three years. However, the
importexport pass-book scheme introduced in January 1986 was withdrawn in 1990.

Blanket advance licensing was also introduced for manufacturersexporters who earned a minimum
NFE of not less than Rs 10 crore during the preceding three years.
The Foreign Trade Policy of 1991 visualised the suspension of CCS, uniform rate of REP (30 per cent) on
Free-on-board (FOB) value, abolition of supplementary licences except in respect of the small-scale sector
and production of life-saving drugs and equipment, abolition of unlisted OGL, and removal of import
licensing for capital goods and raw materials (barring a small negative list). The government could draw
enthusiastic notes from the average annual growth rate of about 17 per cent during the period from
198687 to 198990, due to the liberalisation policy of the Rajiv Gandhi government, and initiated the
following liberalisation measures:
1.
2.
3.

Exim scrip (REP for export-based imports) was made to be freely traded. A uniform rate of 3 per cent of FOB value of all exports was fixed as REP as against the
variable rates (5 per cent20 per cent) that existed. (Special rates on books and magazines, and certain metal-based handicrafts and gems and jewellery were retained.)
Greater incentive has been provided for exporters with low level of imports.
All supplementary licences have been abolished except those of the small-scale industry SSI sector and production of life-saving drugs and equipment. All
additional licences entitled to export houses have been abolished. However, a REP rate of 30 per cent and an additional REP of 5 per cent have been granted on FOB value to

4.
5.
6.
7.

export houses.
All items in unlisted OGL, and all items earlier listed in limited permissible list (Appendix 3A and 3B), and PMP units (Appendix 6) shall be imported through REP
scheme.
REP rate for advance licence exports has been increased from 10 per cent to 20 per cent of NFE earnings. Advance licensing, which was an alternative to REP for
making imports against exports, was expected to be less attractive to exporters as a result.
It was proposed to review the entire canalisation process and decanalise all items except those which are indispensable.
In the light of liberalisation, CCS was suspended with effect from July 3, 1991.

Foreign Exchange Certificates (FECs) were to be introduced in place of exim scrips in due course (the
rupee was expected to be fully convertible in three to five years).

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A new package of incentives was announced for EOUs and Export-Promotion Zones (EPZs) on August 3,
1991, which included higher rates of exim scrips. Even though the basic rate of exim scrips would be 30 per
cent of the FOB value of export, items like agricultural products, electronics, bulk drugs, marine products,
and certain category of engineering goods were eligible for 40 per cent. EOUs and EPZs would also be
eligible for 30 per cent of the NFE earnings. Administrative procedures were simplified and advance
licences were to be issued within 15 days from the date of application, while exim scrips were to be issued
within 48 hours once the application accompanied by the bank certificate for the realisation of export
proceeds. Sixteen items of exports and 20 items of imports were simultaneously decanalised and placed
under OGL. The government expressed its desire to progressively eliminate licensing and restrictions, so
that capital goods, raw materials, and components could be placed under OGL in due course. Thus, a
liberalised trade policy to suit the liberlisation in industrial policy was announced by the government.

A new package of incentives was announced for EOUs and Export-Promotion Zones (EPZs) on
August 3, 1991, which included higher rates of exim scrips.
EVALUATION OF THE NEW INDUSTRIAL POLICY

The liberalisation process started in 1973 and was carried forward in 1985, 1988, and 1990. It culminated
in a manner of opening up of the economy with the industrial policy of 1991, in consonance with the
globalisation process emerging all over the world. The Licence Raj gave way to an open economy in which
all industrial activities, except a list of 18 items, were freed from the clutches of licensing. Besides all these,
a formidable number of MRTP and FERA restrictions were liberalised in order to cope with the need for
integrating the Indian economy with the world economy. The investment limit of MRTP companies was
removed and many of bureaucratic restrictions done away with.

The Licence Raj gave way to an open economy in which all industrial activities, except a list of 18
items, were freed from the clutches of licensing.
In the face of acute shortage and scarcity of foreign exchange, it was proper on the part of government to
lay down all-out policy measures to strengthen the inflow of foreign capital. Although investments from
non-resident Indians, foreign corporate bodies, and foreign investors were encouraged, foreign equity
participation in Indian companies up to 51 per cent was normalised. Meanwhile, foreign investment up to
100 per cent stood permissible in export-oriented units and sophisticated technology-based industries.
This was a welcome sign for foreign investors. These measures made a dramatic impact on Indias
foreign-exchange reserve, which grew from a level of $425 mn to $1,600 mn. Although critics (political
critics) did not favour the government policy of inducing the inflow of foreign capital indiscriminately, Dr.
Manmohan Singhs foreign capital policy dramatically improved the countrys foreign exchange position
which substantially embellished Indias image before international bodies and foreign governments.
Moreover, India could recoup from financial sickness, in spite of critiques based on factors, such as
dividend payments, repatriation, and intellectual property rights.

In the face of acute shortage and scarcity of foreign exchange, it was proper on the part of
government to lay down all-out policy measures to strengthen the inflow of foreign capital.
The public sector policy, which invited widespread criticism from various political quarters, particularly
from communist and socialist thinkers and their political allies, deserves a special mention here. The
classification of public sector enterprises in the industrial policy of 1991 is worth mentioning in the context
of the government policy adopted:
1.
2.
3.

Public enterprises in the reserved category or in high-priority areas or the units, which make reasonable or substantial profit, should be strengthened.
Public sector units, which may not be successful presently but are potentially viable, must be restructured and placed on a strong footing.
Chronically sick public sector units making heavy losses must either be closed down or its ownership transferred to private hands. The government, thus, strongly
felt the need for keeping viable units. The units, to be retained under the public sector, must be effectively and profitably managed, and chronically loss-making enterprises
disowned.

4.

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Chronically sick public sector units making heavy losses must either be closed down or its ownership
transferred to private hands.
5.

It, therefore, necessitates that the government makes fundamental decisions on whether most of the units
in consumer goods, textiles, contract and construction projects, technical consultancy, and so on, should
continue to function. The most basic question in this respect is about the future of the workforce, since
thousands of workers and executives are involved. They must either be retrained and absorbed in
alternative employments or parted with through golden-handshake schemes. The governments concern
for the workers has been declared by responsible quarters in unequivocal terms. The National Equity Fund
raised by the government may play a role in this respect.
Public sector units, which have been acting as monopoly houses under the direct protection of the
government ever since the introduction of first Industrial Policy Resolution in 1948, are now expected to
face competition. They can grow faster in a competitive atmosphere, with the resources and attention of
the government. This, however, needs waiting and watching, particularly when they are subjected to
MRTP restrictions. However, in the context of globalisation, integration with the global economy, and
competitive marketing environment, the future of the public sector needs to be watched further.

Public sector units, which have been acting as monopoly houses under the direct protection of the
government are now expected to face competition. They can grow faster in a competitive atmosphere,
with the resources and attention of the government.
An exclusive, small industrial policy announced by the government reveals its concern for developing a
vibrant small industrial sector in India to function complementarily to the large industrial sector, free
from hurdles and obstructions. However, bureaucratic restrictions, corruption, and red tapism still stand
on the way of the development of small-scale sector, and mere policy may not be sufficient enough to nurse
and nourish the small-scale sector.
The minority United Front Government which came to power in 1996 ruled for a period of less than 20
months under two Prime Ministers, first under H.D. Deve Gowda and then I.K. Gujral with the help of
Congress. They followed the policies of the Congress government and, hence, no substantial change took
place in the industrial policy.
One policy change took place was the definition of the small-scale industry. After the resignation of the
Gujral government, the Government and its policy have enhanced the investment limit in small-scale
industries from Rs 65 lakh to a massive Rs 3 crore vide their notification of December 15, 1997. Such a
policy decision taken by a caretaker government was criticised by the think-tank of the BJP. That sort of a
decision is bound to have adverse effects since the benefits which are applicable to small entrepreneurs
will be grabbed by powerful individuals or big business houses. A huge investment of Rs 3 crore would be
possible only for a rich investor. This can affect the very development of a small-scale sector itself in a
negative manner.

One policy change took place was the definition of the small-scale industry. After the resignation of
the Gujral government, the Government and its policy have enhanced the investment limit in
small-scale industries from Rs 65 lakh to a massive Rs 3 crore vide their notification of December 15,
1997.
After the mid-term elections in February 1998, a coalition government of 18 political parties under the
leadership of A.B. Vajpayee came to power in March 1998. They followed almost the same liberalisation
policy initiated by Narsimha Rao government. However, the economic sanctions declared by many
countries against India as a result of the Pokhran nuclear blasts considerably affected foreign investment
in India.
NEW TRADE POLICY OF 1991

The Government of India announced its new trade policy in support of its liberalisation policy in 1991,
which stemmed from the announcements of July 4, 1991 and August 13, 1991. The trade regime was
liberalised by streamlining and strengthening advance licensing systems and decanalising 16 export and
99

20 import items. A new package of incentives was also provided for 100 per cent export units and
processing zones. Some important aspects of the trade policy statement made by Union Commerce
Minister P. Chidambaram in the Lok Sabha were as follows:
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.

As a whole, promotion of export, moderation of growth of import, and simplification of procedure are the general objectives of the 1991 trade policy.
Advance licensing system was strengthened. (Provision of substantial manufacturing activity as a basic requirement for advance license was dispensed with.
Procedures have been streamlined and the number of documents have been reduced.)
A transferable advance license scheme for general area has been introduced in the items like textiles, engineering goods, and leather goods.
Exporters are allowed to dispose of the materials imported against advance licenses by way of REP without prior approval in cases where no MODVAT (modified
value, added tax) facility was availed of on the domestic material used in exports.
Considerable reduction in the licensing and in the number and types of licenses has been outlined.
Supplementary licenses for import of items in Appendices 3, 4, and 9 of the Exim Policy (19901993) have been abolished.
Additional licenses issued to export houses and trading firms as an incentive earlier have been abolished with effect from April 1, 1992.
The procedure for obtaining bank guarantee and legal undertaking from different categories of exporters has been liberalised.
It is decided to appoint a high-level committee to outline modalities for eliminating restrictions and licensing.
Sixteen items of exports, including castor oil, coal and coke, polyethylene, (ID) colour, picture tubes and assemblies of colour TV containing colour TV picture
tubes, khansari, molasses, sugar, iron grade bauxite ore exposed cinematographic films, video tape, and cinema film, have been reanalysed.
Sixteen import items have been decanalised and placed under REP so as to import against exempted scrapes; another six import items are decanalised and put
under OGL.
Export houses, trading houses, and star trading houses, are given leeway to import a wide range of items against additional licenses.

A trade policy is an important arm of the liberalisation policy, since trade between various countries is the
crux of global business. Import restrictions practised in India had to be removed for making liberalisation
more meaningful. The government, therefore, acted in this direction also.
THE NEW SMALL-SCALE SECTOR POLICY OF 1991

Small enterprises have emerged as a dynamic and vibrant sector of the economy. At 2004, it accounts for
55 per cent of industrial production, 40 per cent of exports, and over 88 per cent of manufacturing
employment. Although their relative importance tends to vary inversely with the level of development,
their contribution remains significant in the country. The small-scale enterprises have being playing a
significant role in the economics and social development of the country. Over the years, small enterprises
have emerged as leaders in the industrial sector in India. In recognition of their significance and stature,
the new government announced policy measures for promoting and strengthening the small, tiny, and
village enterprises, on August 6, 1991, for the first time in post-independence period. The new policy on
tiny, small, and village enterprises envisages almost a U-turn in policy stimulants and structure of micro
and small enterprises in the country.

Small enterprises have emerged as a dynamic and vibrant sector of the economy, presently
accounting for 55 per cent of industrial production, 40 per cent of exports, and over 88 per cent of
manufacturing employment.
Objectives

The primary objective of the small-scale industrial policy during the 1990s would be to impart more
vitality and growth impetus to the sector, so that the sector can contribute in terms of growth of output,
employment, and export. The other objectives are as follows:
1.
2.
3.
4.
5.
6.
7.
8.
9.

To decentralise and delicense the sector,

To deregulate and debureaucratise the sector,
To review all statutes, regulations, and procedures and effect suitable modifications wherever necessary,
To promote small enterprise, especially industries in the tiny sector,
To motivate small and sound entrepreneurs to set up new green enterprises in the country,
To involve traditional and reputed voluntary organisations in the intensive development of Khadi and Village Industrial Commission (KVIC) through area
approach,
To maintain a sustained growth in productivity and attain competitiveness in the market economy, especially in the international markets,
To industrialise the backward areas of the country,
To accelerate the process of development of modern small enterprises, tiny enterprises, and village industries through appropriate incentives, institutional support,
and infrastructure investments.

Salient Features of New Policy

1.
2.
3.
4.
5.

Equity participation up to 24 per cent by other industrial undertakings (including foreign companies).
Legislation to limit financial liability of new or non-active partner-entrepreneurs to the capital invested.
Hike in investment limit for tiny sector, up from Rs 2 lakh to Rs 5 lakh.
Services sector to be recognised as tiny sector.
Support from National Equity Fund for projects upto Rs 10 lakh.

100

6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.
21.
22.
23.
24.
25.
26.
27.
28.

Single-window loans to cover projects up to Rs 20 lakh. Banks too to be involved.

Relaxation of certain provision of labour laws.
Sub-contracting Exchanges to be set up by industry associations.
Easier access to institutional finance.
Factoring services through SIDBI to overcome the problem-delayed payments. Also, legislation to ensure payment of bills.
Women enterprises redefined.
Marketing of mass consumption items by National Small Industries Corporation under common brand name.
Composite loan under the single-window scheme also to be given by banks.
Tiny sector to be accorded priority in government purchase programme.
Priority to SSIs and tiny units in allocation of indigenous raw materials.
Promises to deregulate and debureacratise small and tiny sectors.
PSUs and NSIC to help market products through consortia approach, both domestically and internationally.
Janata Cloth Scheme to he replaced by a new scheme which will provide fund for loom modernisation.
Compulsory quality control for products that pose rise to health and life.
Legislation to ensure payment of small-scale industries bills.
A special monetary agency to be set up for the small-scale sectors credit needs.
A new scheme of integrated infrastructure development to be implemented.
A TDC to be set up.
Incentive and services package to be delivered at the district level.
An export development centre to be set up.
KVIC and board to be expanded.
Investment limit of ancillary units and EOU raised to Rs 75 lakh.
Traditional village industries to be given greater thrust.

In pursuance of the objectives of the policy statement, the Government of India decided to take a series of
initiative in respect of policies related to the following areas.
Small-scale Industries
1.
2.
3.
4.
5.
6.
7.

Financial support.
Infrastructure facilities.
Marketing and exports.
Modernisation.
Promotion of entrepreneurship.
Simplification of rules and procedures.
Tapping resources.

Tiny Sector
1.
2.
3.
4.

Investment.
Broadening the concept of service sector.
Locational.
Simplification of rules.

Handloom Sector
1.
2.
3.
4.

Project package scheme.

Welfare packages scheme.
Organisation and development scheme.
NHDC as a nodal agency.

Handicraft Sector
1.
2.
3.
4.
5.
6.
7.
8.
9.

Extending services like supply of raw materials and so on.

Market development support and expansion of training facilities.
Other village industries.
Improving quality.
Ensuring better flow of credit from financial institution.
Thrust on traditional village industries.
Setting up of functional industries estates.
Upgrading training programmes.
Coordinating with development programmes.

RECENT POLICIES FOR MICRO AND SMALL ENTERPRISES (MSE) SECTOR

Worldwide, the micro and small enterprises (MSEs) have been accepted as the engine of economic growth
and for promoting equitable development. The MSEs constitute over 90 per cent of the total enterprises in
most of the economies and are credited with generating the highest rates of employment growth and
account for a major share of industrial production and exports. In India too, the MSEs play a pivotal role
in the overall industrial economy of the country. It is estimated that in terms of value, the sector accounts
for about 39 per cent of the manufacturing output and around 33 per cent of the total exports of the
country. Further, in recent years, the MSE sector has consistently registered higher growth rate compared
to the overall industrial sector. The major advantage of the sector is its employment potential at low capital
101

cost. As per available statistics, this sector employs an estimated 31 million persons spread over 12.8
million enterprises and the labour intensity in the MSE sector is estimated to be almost four times higher
than the large enterprises.

The MSEs constitute over 90 per cent of the total enterprises in most of the economies and are
credited with generating the highest rates of employment growth and account for a major share of
industrial production and exports. In India too, the MSEs play a pivotal role in the overall industrial
economy of the country.
To help the MSEs in meeting the challenges of globalisation, the government has taken several initiatives
and measures in the recent years. First and foremost among them is the enactment of the Micro, Small,
and Medium Enterprises Development Act, 2006, which aims to facilitate the promotion and
development and to enhance the competitiveness of MSMEs. (Refer to Box 3.6). The Act came into force
from October 2, 2006. Other major initiatives taken by the government are setting up of the National
Manufacturing Competitiveness Council (NMCC) and the National Commission of Enterprises in the
Unorganised Sector (NCEUS). Further, in recognition of the fact that delivery of credit continues to be a
serious problem for MSEs, a policy package for stepping up credit to small and medium enterprises (SME)
was announced by the government with the objective to double the credit flow to the sector within a period
of five years. The government has also announced a comprehensive package for promotion of micro and
small enterprises, which comprises the proposals/schemes having direct impact on the promotion and
development of the micro and small enterprises, particularly in view of the fast-changing economic
environment, wherein to be competitive is the key to success.

To help the MSEs in meeting the challenges of globalisation, the government has taken several
initiatives and measures in the recent years.

Box 3.3 Major Initiatives in the Petroleum Sector During 200708

The Coal Bed Methane (CBM) Policy was approved in July 1997. Since then, 26 CBM blocks have been
awarded for exploration and production of CBM gas. About 6 TCF reserves have already been established
in four CBM blocks. The First commercial production of CBM commenced from July 2007. The work
relating to the launch of CBM IV has started.
The seventh round of NELP was launched on December 13, 2007, under which bids have been invited for
57 (29 onland, 9 shallow water, and 19 deep-water blocks) exploration blocks.
Reserve replacement ratio has been decided to be maintained at more than one during the Eleventh
Five-Year Plan period. The Assam Gas Cracker Project was formally launched in April 2007.
Initiatives have been taken to meet the demand for gas through intensification in domestic exploration and
production activities, LNG import, CBM, underground coal gasification, gas hydrates, and transnational
gas pipelines, etc.

Box 3.4 Coal: Policy Developments During 200708

During AprilDecember 2007, 45 coal blocks with geological reserves of 11,384.49 MT were allocated to
the government and private companies.
Guidelines have been framed for undertaking detailed exploration by allottees of unexplored coal blocks in
public and private sectors.
To encourage private investment in development of new technologies, a notification specifying coal
gasification and liquefaction as end uses has been published in the Gazette of India on July 12, 2007.
New Coal Distribution Policy has been notified on October 18, 2007.
102

The royalty rates on coal and lignite have been revised in July 2007 on the basis of a formula consisting of
ad valorem plus a fixed component.
The Administrative Staff College of India, Hyderabad, appointed as a consultant for preparing the report
on the appointment of a Coal Regulator, has submitted a draft report.
A proposal to confer Nav Ratna status on Coal India Limited (CIL) has been submitted to the Department
of Public Enterprises. An order has been issued to confer Mini Ratna Category-I status on six coal
companies, including CIL.
To ensure the free play of market forces, a system of e-auction for sale of about 20 per cent of the total
production has been introduced.
For securing metallurgical coal supplies overseas by the PSUs, a proposal for formation of a Special
Purpose Vehicle (SPV) has been approved. The CIL has committed to contribute Rs 1,000 crore in the SPV
as equity out of the total authorised capital of Rs 3,500 crore.
The Expert Committee on the Road Map for Coal Sector Reforms has submitted its report which is being
examined by the government.

The Ministry of Micro, Small, and Medium Enterprises (MSMEs) performs its tasks of formulation of
policies and implementation of programmes mainly through two central organisations. They are as
follows:

The Ministry of Micro, Small, and Medium Enterprises (MSMEs) performs its tasks of formulation of
policies and implementation of programmes mainly through two central organisations.
Micro, Small, and Medium Enterprises Development Organisation

The Micro, Small, and Medium Enterprises Development Organisation (earlier known as Small Industries
Development Organisation) set up in 1954, functions as an apex body for sustained and organised growth
of micro, small, and medium enterprises. As an apex/nodal organ, it provides a comprehensive range of
facilities and services to the MSMEs through its network of 30 Small Industries Service Institutes (SISIs),
28 branch SISIs, four Regional Testing Centres (RTCs), seven Field Testing Stations (FTSs), six
Process-cum-Product Development Centres (PPDCs), 11 Tool Rooms, and two Specialised Institutes, viz.,
Institute for Design of Electrical Measuring Instruments (IDEMI) and Electronics Service and Training
Centre (ESTC).

The Micro, Small, and Medium Enterprises Development Organisation (earlier known as Small
Industries Development Organisation) set up in 1954, functions as an apex body.
National Small Industries Corporation Limited

The National Small Industries Corporation, since its inception in 1955, has been working with its mission
of promoting, aiding, and fostering the growth of micro and small enterprises. It has been working to
promote the interest of micro and small enterprises and to enhance their competitiveness by providing
integrated support services under marketing, technology, finance, and Support services.

The National Small Industries Corporation, since its inception in 1955, has been working with its
mission of promoting, aiding, and fostering the growth of micro and small enterprises.
The corporation has been introducing several new schemes from time to time for meeting the change
aspirations of the micro and small enterprises. The main objective of all these schemes is to promote the
interest of the micro and small enterprises and to put them in competitive and advantageous positions.
The schemes of NSIC have been found to be very useful in stimulating the growth of micro and small
enterprises in the country. The information pertaining to the schemes planned to be
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continued/implemented in the Eleventh Plan period by the corporation with government support is given
as follows.
Performance and Credit Rating

NSIC, in consultation with Rating Agencies and Indian Banks Association, has formulated Performance
and Credit Rating Scheme for small industries. The scheme is aimed at creating awareness amongst small
enterprises, about the strengths and weaknesses of their existing operations, and at providing them with
an opportunity to enhance their organisational strengths and credit worthiness. The rating under the
scheme serves as a trusted third-party opinion on the capabilities and creditworthiness of the small
enterprises. An independent rating by an accredited rating agency has a good acceptance from the
banks/financial institutions, customers/buyers, and vendors. Under this scheme, rating fees to be paid by
the small enterprises is subsidised for the first year only and that is subject to a maximum of 75 per cent of
the fee or Rs 40,000, whichever is less.

NSIC, in consultation with Rating Agencies and Indian Banks Association, has formulated
Performance and Credit Rating Scheme for small industries.
Marketing Assistance Scheme

This is an ongoing old scheme. Marketing, a strategic tool for business development, is critical for the
growth and survival of small enterprises in todays intensely competitive market. One of the major
challenges before the small enterprises is to market their products/services.
NSIC acts as a facilitator to promote marketing efforts and enhance the competency of the small
enterprises for capturing the new market opportunities by way of organising or participating in various
domestic and international exhibitions/trade fairs, buyerseller meets, intensive campaigns, seminars,
and consortia formation. NSIC helps small enterprises to participate in international/national
exhibitions/trade fairs at the subsidised rates to exhibit and market their products. Participation in these
events provides small enterprises an exposure to the national/international markets.

NSIC acts as a facilitator to promote marketing efforts and enhance the competency of the small
enterprises for capturing the new market opportunities.
Buyerseller meets are being organised to bring bulk buyers/government departments and micro and
small enterprises together on one platform. This enables the micro and small enterprises to know the
requirements of bulk buyers, on the one hand, and help the bulk buyers to know the capabilities of micro
and small enterprises for their purchases, on the other hand. Intensive campaigns and seminars are
organised all over the country to disseminate/propagate the various schemes for the benefit of the small
enterprises and to enrich the knowledge of small enterprises regarding latest developments, quality
standards, and so on.
In addition, the Ministry has three national-level entrepreneurship development institutes, viz., Indian
Institute for Entrepreneurship (IIE), Guwahati; National Institute for Entrepreneurship and Small
Business Development (NIESBUD), Noida; and National Institute for Micro, Small, and Medium
Enterprises (NIMSME), Hyderabad.

The Ministry has three national-level entrepreneurship development institutes, viz., Indian Institute
for Entrepreneurship (IIE), Guwahati; National Institute for Entrepreneurship and Small Business
Development (NIESBUD), Noida; and National Institute for Micro, Small, and Medium
Enterprises (NIMSME), Hyderabad.
Definition of Micro, Small, and Medium Enterprises

A. Manufacturing Enterprises
1.
2.
3.

A micro enterprise, where the investment in plant and machinery does not exceed Rs 25 lakh;
A small enterprise, where the investment in plant and machinery is more than Rs 25 lakh but does not exceed Rs 5 crore; and
A medium enterprise, where the investment in plant and machinery is more than Rs 5 crore but does not exceed Rs 10 crore.

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B. Service Enterprises
1.
2.
3.

A micro enterprise, where the investment in equipment does not exceed Rs 10 lakh;
A small enterprise, where the investment in equipment is more than Rs 10 lakh but does not exceed Rs 2 crore; and
A medium enterprise, where the investment in equipment is more than Rs 2 crore but does not exceed Rs 5 crore.

Performance of MSE Sector

As per the third All India Census held for the year 200102, there were 105.21 lakh enterprises (registered
and unregistered) in the country, out of which 13.75 lakh were registered working enterprises and 91.46
lakh, unregistered enterprises. Their contribution to production was Rs 282,270 crore and to employment
was 249.32 lakh persons. It is estimated that during 200607 (provisional), the number of units has
increased to 128.44 lakh 123.42 lakh in the previous year, registering a growth rate of 4.1 per cent. The
value of production at current prices is estimated to have increased by 15.8 per cent to Rs 497,842 crore
from Rs 429,796 crore. The employment is estimated to have increased to 312.52 lakh from 299.85 lakh
persons in the previous year. The MSE sector has been registering a higher growth rate than the overall
industrial sector in the past few years consistently.
Infrastructure Development

For setting up of industrial estates and to develop infrastructure facilities like power distribution network,
water, telecommunication, drainage and pollution-control facilities, roads, banks, raw materials, storage
and marketing outlets, common service facilities and technological back up services, and so on, for MSMEs,
the Integrated Infrastructural Development (IID) Scheme was launched in 1994. The scheme covers
districts, which are not covered under the growth centres Scheme. The scheme covers rural as well as
urban areas with a provision of 50 per cent reservation for rural areas and 50 per cent industrial plots are
to be reserved for the tiny units. The scheme also provides for upgradation/strengthening of the
infrastructural facilities in the existing old industrial estates. The estimated cost to set up an IID Centre is
Rs 5 crore (excluding cost of land). The Central government provides 40 per cent (up to a maximum of Rs
2 crore) in case of general states and up to 80 per cent (up to a maximum of Rs 4 crore) for Northeast
Region (including Sikkim), J&K, Himachal Pradesh, and Uttrakhand, as grant and remaining amount
could be loan from SIDBI/Banks/financial Institutions or the state funds. For the promotion and
development of MSEs in the country, cluster approach is one of the thrust areas of the Ministry in the
Eleventh Plan. The IID Scheme has been subsumed under the Micro and Small Enterprise Cluster
Development Programme (MSECDP). All the features of the IID Scheme have been retained and will be
covered as New Clusters under MSECDP.

For setting up of industrial estates and to develop infrastructure facilities.

The Integrated Infrastructural Development (IID) Scheme was launched in 1994.
Technology Upgradation in MSE Sector

The opening up of the economy has exposed MSE sector to global and domestic competition. With a view
to enhancing the competitiveness of this sector, the government has taken various measures, which
include: (i) Assistance to Industry Associations for setting up of testing centres and to state governments
and their autonomous bodies for modernisation/expansion of their quality marking centres; (ii) Regional
testing centres and field testing stations to provide testing services and services for quality upgradation;
(iii) Implementation of MSECDP, under which 91 clusters have been taken up, including national
programme for the development of toy, stone, machine tools, and hand-tool industry in collaboration with
UNIDO; (iv) A scheme of promoting ISO 9000/14001 Certification under which SSI units are given
financial support by way of reimbursing 75 per cent of their expenditure to obtain certification, subject to a
maximum of Rs 75,000 per unit; and (v) Setting up of a biotechnology cell in SIDO.

With a view to enhancing the competitiveness of this sector, the government has taken various
measures,
Further, a scheme on credit-linked capital subsidy was launched in the year 2000 to facilitate technology
upgradation of small enterprises. Under the scheme, capital subsidy of 12 per cent was provided on
institutional finance availed by the SSI units for induction of well-established and improved technology in

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select sub-sectors/products up to a maximum ceiling of Rs 40 lakh. The scheme has been revised with
effect from September 29, 2005. Under the revised scheme, the rate of upfront capital subsidy has been
enhanced to 15 per cent and ceiling on loan has been raised to Rs 1 crore, the admissible capital subsidy is
calculated with reference to purchase price of plant and machinery, instead of the term loan disbursed to
the beneficiary unit.

A scheme on credit-linked capital subsidy was launched in the year 2000 to facilitate technology
upgradation of small enterprises.
Measures for Export Promotion

Export promotion from the MSE sector has been accorded a high priority. The following schemes have
been formulated to help MSEs in exporting their products:
1.
2.
3.

Products of MSE exporters are displayed in international exhibitions and the expenditure incurred is reimbursed by the government;
To acquaint MSE exporters with latest packaging standards, techniques, and so on, training programme on packaging for exporters are organised in various parts
of the country in association with the Indian Institute of Packaging;
Under the MSE Marketing Development Assistance (MDA) Scheme, assistance is provided to individuals for participation in overseas fairs/exhibitions, overseas
study tours, or tours of individuals as member of a trade delegation going abroad. The scheme also offers assistance for

Sector-specific market study by MSE Associations/Export Promotion Councils/Federation of

Indian Export Organisation;
b.
Initiating/contesting anti-dumping cases by MSE Associations; and
c.
Reimbursement of 75 per cent of the one-time registration fee and annual fee (recurring for
first three years) charged by GS1 India (formerly EAN India) for adoption of bar coding.
a.

Entrepreneurship and Skill Development

The Ministry conducts Entrepreneurship Development Programmes (EDPs) to cultivate the skill in
unemployed youths for setting up MSEs. Further, under the Management Development Programmes
(MDPs), existing MSE entrepreneurs are provided training on various areas to develop skills in
management to improve their decision-making capabilities, resulting in higher productivity and
profitability. To encourage more entrepreneurs from SC/ST, women, and physically challenged groups,
The Ministry of MSME provides a stipend of Rs 500 per capita per month to them during the period of the
training.

The Ministry conducts Entrepreneurship Development Programmes (EDPs) to cultivate the skill in
unemployed youths for setting up MSEs.

Box 3.5 Policy Developments and New Initiatives in Information Technology

The Special Incentive Package Scheme (SIPS) to encourage investments for setting up semiconductor
fabrication and other micro- and nano-technology manufacturing industries was announced in March
2007. The incentives admissible would be 20 per cent of the capital expenditure during the first 10 years
for units located in Special Economic Zones (SEZs) and 25 per cent for units located outside SEZs.
A Task Force has been constituted to promote the growth of electronics in IT hardware manufacturing
industry.
The Department of Information Technology has unveiled various components of the National
e-Governance Plan (NeGP) covering 27 Mission Mode Projects (MMP) and eight support components to
be implemented at Central, State, and local government levels, at an estimated cost of Rs 23,000 crore
over the next five years. The government has approved the approach, strategy, key components, and the
implementation framework for NeGP with the vision: Make all Government services accessible to the
common man in his locality through common service delivery outlets and ensure efficiency, transparency
and reliability of such services at affordable costs to realise the basic needs of the common man.
The government has approved a scheme for facilitating the establishment of one lakh broadband
Internet-enabled common service centres in the rural areas in the publicprivate partnership mode.
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The government has approved a scheme for establishing the State Wide Area Networks (SWANs) across
the country in 29 states/6 UTs (union territories) with a total outlay of Rs 3,334 crore with Central
assistance component of Rs 2,005 crore over a period of five years. The scheme envisages to provide
Central assistance to states/UTs for establishing SWANs for states/UTs headquarters up to the block level
with a minimum bandwidth capacity of 2 Mbps.
The Department of Information Technology is setting up Nano Electronic Centres at the Indian Institute of
Technology, Mumbai and the Indian Institute of Science, Bangalore, with an outlay of about Rs 100 crore
to carry out R&D activities in nano-electronics devices and materials.
The software tools and fonts for 10 Indian languages, viz., Hindi, Tamil, Telugu, Assamese, Kannada,
Malayalam, Marathi, Oriya, Punjabi, and Urdu, have been released in the public domain.
The Information Technology Amendment Bill, introduced in the Parliament in December 2006, was
referred to the Parliament Standing Committee which has presented its report to both the Houses of
Parliament.

Box 3.6 Implementation of the MSME Development Act, 2006

For implementation of the MSMED Act 2006, notifications of rules were to be issued by the Central and
state governments. The Central notifications are as follows:
Principal notification in July 2006 that MSMED Act becomes operational from October 2, 2006.
Notification in September 2006 for the Rules for National Board for Micro, Small, and Medium
Enterprises (NBMSMEs) to be constituted under the Act.
Notification in September 2006 for the constitution of the Advisory Committee. Notification in September
2006 for classifying enterprises.
Notifications in September and November 2006 declaring DICs (District Industries Centres) in the
states/union territories (UTs) as Authority with which the entrepreneurs memorandum could be filed by
the medium enterprises.
Notification in September 2006 for the form of memorandum to be filed by the enterprises, procedure of
its filing and other matters incidental thereto.
Notification in October 2006 for exclusion of items while calculating the investment in plant and
machinery; Notification in May 2007 for constitution of NBMSMEs.
Notification in May 2007 for dividing the country into six regions, and notification in June 2007 for the
amendment of EM format.
About 28 states/UTs have notified the authority for filing of entrepreneurs memorandum, 17 states/UTs
have notified rules for MSEFCs, and 15 states/UTs have notified constitution of MSEFCs.

CASE

The Kerala State Industrial Development Corporation (KSIDC) has mooted an amalgamation arrangement
of a number of troubled seafood processing units to form a single entity, in a bid to help them overcome
their present financial crises.
There are around 90 sick seafood units in India, against many of whom the Debt Recovery, Tribunal has
initiated pr oceedings. Collectively, these units owe around Rs 260 crore to various banks and financial
institutions. More than half of this amount is accumulated interest on loans. KSIDC, which has around 20
units, conducted a study on the seafood industry before coming up with the proposal for amalgamation, an
official said.

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The Seafood Exporters Association of India (SEAI) and the Forum of Revival and Reconstruction of
Seafood Export Industries in India are now supporting the proposal which suggests that 10 or more units
be amalgamated into one company so that it will have a stronger financial base and better economies of
scale.
As a first step towards this plan, six units in Kerala have come together to be amalgamated into a single
firm. However, this unit now requires approvals of their tenders to go ahead with the scheme for
amalgamation, which is an optional scheme for the forum.
According to SEAI, the seafood unit started incurring losses and eventually turned sick because of a
number of reasons that were beyond their control. Incidents, such as blacklisting of cooked shrimp by
the United States and, ban on Indian seafood announced by the European Economic community (EEC)
are factors that contributed to the weakening of the industry. On the other hand, processing units had to
invest in modernising their facilities to remain competitive in the global markets, but they are facing
financial problems. There is not sufficient raw material available and competition in the sector is
unhealthy too.
The SEAI and the Forum are now seeking the help of the Indian Banks Association and the Finance
Ministry to settle their dues to the banks.
According to SEAI, a similar model of amalgamation was tried out successfully in Iceland 20 years ago.
About 100 sick, traditional seafood units in the country were amalgamated into 10 units to achieve a
turnaround.
Case Questions

What are the reasons for sickness of seafood units? Do you support the strategy of SEAI for revival and
reconstruction?
SUMMARY

India started her quest for industrial development after independence in 1947. The Industrial Policy
Resolution of 1948 not only defined the broad contours of development, it also delineated the role of the
state in industrial development both as an entrepreneur and as an authority. The Industrial Policy
Resolution of 1956 categorised industries which could be the exclusive responsibility of the state or would
progressively come under state control and others.
Earmarking the pre-eminent position of the public sector, it envisaged private sector coexisting with the
state, and private sector attempted to give flexibility to the policy framework.
The Industrial Policy Statement of 1973 identified high-priority industries where investments from large
industrial houses and foreign companies would be permitted. The Industrial Policy Statement of 1977 laid
emphasis on decentralisation and on the role of small-scale-, tiny-, and cottage industries.
The Industrial Policy Statement of 1980 focused attention on the need for promoting competition in the
domestic market, technology upgradation, and modernisation. The policy laid the foundation for an
increasingly competitive export base and for encouraging foreign investment in high-technology areas. A
number of policy and procedural changes were introduced in 1985 and 1986 that aimed at increasing
productivity, reducing costs, and improving quality.
The industrial policy initiatives undertaken by the government since July 1991 have been designed to build
on the past industrial achievements and to accelerate the process of making Indian industry
internationally competitive. The process of reform has been continuous.
KEY WORDS

Ancillary Units
Exim Policy (ExportImport policy)
Exim Scrip
Export Development Centre
Export House
Export-Promotion Zones
Foreign Exchange Certificates (FECs)
Foreign Investment

108

Gross Domestic Product (GDP)

Industrial Policy
Open General Licence (OGL)
Public Sector
Registered Exporters
Replenishment (REP)
Sick Unit
Small-Scale Industry (SSI)
Technology Development Cell (TDC)
Technology Transfer
Tiny Units
Trading House

QUESTIONS

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.

Discuss the main features of the Industrial Policy Resolution of 1956.

Review the industrial policies of the Government of India since 1948.
Discuss the main features of the Industrial Policy of 1977.
List the main features of the Industrial Policy Statement of 1980.
The Industrial Policy Resolution of 1956 is recognised and regarded as the Magna Carta of Indian industrialisation. Discuss.
Explain the importance and role of industries in the economic development of the country.
Discuss the role of private sector in the light of New Industrial Policy of 1991.
Analyse the recent slowdown in industrial sector and the factors responsible for the same.
Explain the role played by the public sector undertakings in the industrial development of the country.
Examine critically the new Small-Scale Industrial Policy of 1991.
Explain the role played by the small-scale sector in employment generation in the country.
Explain the role played by the private sector in the industrial development of the country.
Trace the evaluation of industrial policies in India after independence.
Write a note on the Industrial Policy Statement of 1991. Discuss critically the provisions incorporated in the policy to encourage foreign investments.

REFERENCES

Government of India. India 2004: A Reference Annual, Complied and Edited by Research, Reference, and Training Division, Publications Division, Ministry of
Information and Broad Casting, Government of India.

Michale, V. P. (1999). Globalisation, Liberalisation and Strategic Management, 1st ed. New Delhi: Himalaya Publishing House.
Mittal, A. C. and S. P. Sharma (2002). Industrial Economics: Issues and Policies. Jaipur: RBSA Pub.
Nambiar, V. (2003). Liberalisation and Development (Agenda for Economic Reforms). New Delhi: Commonwealth.
Prasad, C. S. (2005). India: Economic Policies and Performance: 194748 to 200405: Year-Wise Economic Review of the Indian Economy Since Independence.
New Delhi: New Century Pub.

Sengupta, D. N. and A. Sen (2004). Economics of Business Policy. New Delhi: Oxford University Press.
Virmani, A. (2004). Accelerating Growth and Poverty Reduction: A Policy Framework for Indias Development. New Delhi: Academic Foundation.

CHAPTER 04

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Industrial Licensing
CHAPTER OUTLINE

Industrial Licensing in India

Objectives of Industrial Licensing
Industrial Licensing Act of 1951
Industrial Licensing Policy
Policy Decisions
Recent Industrial Licensing Policy
Summary
Key Words
Questions
References

INDUSTRIAL LICENSING IN INDIA

The Constitution of India in its Preamble and the Directive Principles of State Policy laid down that a state
has the power to control and regulate economic activities. The Directive Principles of State Policy
specifically require the state to direct its policy towards securing the following:
1.
2.
3.
4.
5.

Equal right of men and women to adequate means of livelihood

Distribution of ownership and control of the material resources of the community to the common good
To ensure that the economic system does not result in concentration of wealth and means of production to the common detriment
Equal pay for equal work for both men and women
To protect the health and strength of workers and tender age of children.

The Constitution of India in its Preamble and the Directive Principles of State Policy laid down that a
state has the power to control and regulate economic activities.
The Constitution of India imposed two important limitations on the powers of the Central government in
the matter of regulation of business, which are as follows:
1.
2.

Division of powers between the states and the Central government

Fundamental rights

The Constitution of India imposed two important limitations on the powers of the Central
government in the matter of regulation of business, which are as follows:

Division of powers between the states and the Central government

Fundamental rights

It is important to note that much of the powers that the Central government in India exercises in the
economic field is not derived from the Constitution of India, but from the system of planning that has been
in operation since 1951. The Planning Commission that was created in 1950, as an executive organ of the
Central government, is charged with the responsibility of determining the size of the five-year plans and
the annual plans of the state, including the pattern of financing and allocating a Central plan assistance to
the states. The Planning Commission also determines the plan size of the Central ministries and approves
all major plans and projects of these ministries. Planning assumes a commanding position in Indias
economic system.

The Planning Commission that was created in 1950, as an executive organ of the Central government,
is charged with the responsibility of determining the size of the five-year plans and the annual plans
of the state, including the pattern of financing and allocating a Central plan assistance to the states.
OBJECTIVES OF INDUSTRIAL LICENSING

The basic objectives of industrial licensing are as follows:

1.
2.
3.
4.
5.
6.

Planned industrial development through appropriate regulations and controls

Balanced industrial growth and development by regulating the, proper location of industrial units and check regional disparities
Directing industrial investment in accordance with plan priorities
Ensuring government control over industrial activities in India
Regulating the industrial capacity as per targets set for planned economy
Preventing concentration of industrial and economic power and monopoly

110

7.
8.
9.
10.
11.
12.
13.

Checking unbalanced growth of industrial establishments and ensuring economic size of industrial units
Encouraging healthy entrepreneurship, while discouraging unhealthy competition, monopoly, and restrictive industrial practices
Broadening the industrial base in India through new entrepreneurship development and ensuring industrial dispersion
Protecting of small-scale industries against undue competition of large-scale industries
Utilising full capacity of large-scale industries
Utilising appropriate technology and
Licence was necessary to carry on an industrial activity. Licensing is mandatory in respect of starting a new unit, change in product, manufacturing a new product,
effecting a substantial expansion by an established unit.

INDUSTRIAL LICENSING ACT OF 1951

Industrial licensing became a part of the industrial economy of India with the passing of Industries
(Development and Regulation [D&R]) Act, 1951. Hence, before we go into the details of industrial licensing,
a brief discussion of the salient features of this Act is relevant.

Industrial licensing became a part of the industrial economy of India with the passing of Industries
(Development and Regulation) Act, 1951.
The Industries (Development and Regulation [D&R]) Act of 1951

This Act came into effect on May 8, 1952. It had three important objectives:
1.
2.
3.

To implement the industrial policy

To ensure regulation and development of important industries and
To ensure planning and future development of new undertakings

An industrial undertaking, according to the Act, pertains to a scheduled industry carried on in one or more
factories by any person or authority, including the government. At the same time, a factory means any
premises, including the precincts, thereof, in any part of which a manufacturing process is being carried on
or so is ordinarily carried on
1.
2.

with the aid of power if 50 or more workers are working or were working, thereon, on any day of the preceding 12 months; or
without the aid of power if 100 or more workers are working or were working, thereon, any day of the preceding 12 months.

Further, in no part of such premises should any manufacturing process be carried on with the aid of power.
The Act defined scheduled industry in Section 3(1) as any of the industries specified in the First Schedule
of the Act, which includes 38 industries engaged in the manufacture or production of any of the articles
mentioned under each of the headings or subheadings given in the schedule.
An owner, according to Section 3(f), in relation to an industrial undertaking, is a person who or the
authority which, has the ultimate control over the affairs of the undertaking. Where the said affairs are
entrusted to a manager or managing director, such manager or managing director shall be deemed to be
the owner of the undertaking. The Act applies to the whole of India, including the State of J&K, and to the
industrial undertakings, manufacturing any of the products mentioned in the First Schedule, that is, where
the manufacturing process is carried on
1.
2.

with the aid of power, and employing or employed on any day of the preceding 12 months 50 or more workers; or
without the aid of power, provided that 100 or more workers are working or worked on any day of the preceding 12 months.

The Act applies to the whole of India, including the State of J&K, and to the industrial undertakings,
manufacturing any of the products mentioned in the First Schedule, that is, where the manufacturing
process is carried on.
The Act is applicable to industrial undertakings.
Provisions of Industries (D&R) Act of 1951

The Act contains 31 sections which can be broadly classified as

1.
2.
3.
4.

Sections dealing with Preventive Provision,

Curative Provision,
Creative Provision, and
Other Provisions.

The Act contains 31 sections which can be broadly classified as

Sections dealing with Preventive Provision,

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Curative Provision,
Creative Provision, and
Other Provisions.

Preventive Provisions

Three types of provisions are included in the preventive provisions, viz., registration and licensing
provisions, investigation provisions, and revocation of licence provisions. Owners of all the existing
undertakings other than the Central government were expected to get their industrial establishments
registered within a stipulated period, according to Section 10 of the Act. Extensive provisions were made in
the Act for industrial licensing, viz.,
1.
2.
3.
4.
5.

Licensing of new undertakings

Production of new products
Licensing for expansion
Shifting location and
Licensing to carry on business itself

Section 11 of the Act stipulates that no person or authority, including a state government (other than the
Central government), shall establish a new industrial establishment without a licence issued by the Central
government, while Section 11A stipulates that no industrial establishment (other than those owned by the
Central government) registered under Section 10 or licensed under Section 11 shall produce or
manufacture a new product without any licence from the Central government. According to the Section 13,
no industrial undertaking (other than the Central government) can make substantial expansion without a
licence issued by the Central government. Generally speaking, any expansion exceeding 25 per cent of the
existing capacity can be considered substantial. This section also provides that the location should not be
changed without a proper licence granted for establishing new undertakings, or manufacturing new
products on finding that the licence failed to establish or take effective steps to implement the licence
within the time allowed, without a reasonable cause.
Curative Provisions

Curative provisions include

1.
2.

Taking over the management or control industrial enterprises, and

Control of supply, price, and distribution of certain commodities.

Section 18A empowers the Central government to authorise any person or body of persons to take over or
control any industrial undertaking if it is confirmed, after investigation, that the concerned undertaking
has failed to comply with the directions issued under Section 16 of the Act, and that an undertaking subject
to investigation, under Section 51, is found being managed in a manner detrimental to the scheduled
industry concerned or detrimental to public interest. In such cases, the period of takeover can be to a
maximum of 12 years, first for five years and then can be extended by further two-year periods. Section
18AA provides for taking over even without an investigation.
According to Section 18FA, the Central government can authorise any person or body of persons to take
over, any industrial undertaking under liquidation, with the permission of the concerned High Court.
Section 18FC, at the same time, empowers the Central government to sell an undertaking as a running
concern or to reconstruct the same in the interest of the general public or in the interest of the
shareholders of the company. In order to ensure equitable distribution and fair prices of any article or
class of articles relating to any scheduled industry, the Central government may, by a notified order,
exercise control of price, supply, or distribution.

In order to ensure equitable distribution and fair prices of any article or class of articles relating to
any scheduled industry, the Central government may, by a notified order, exercise control of price,
supply, or distribution.
Creative Provisions

Creative provisions represent the Central governments concern for cooperation with industry, labour, and
consumers. Development Councils consisting of members capable of representing the interests of the
scheduled industry or group of industries, persons with special knowledge, persons representing the
interest of workers, and people representing the Second Schedule of the Act also laid down the functions of
such councils.
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The Central government has retained the powers to license, take over, permit expansion, or levy and
collect any cess on goods manufactured in any scheduled industry. Section 9 of the Act provides for the
levy and collection of cess on all goods manufactured in any scheduled industry. In contravention of the
provisions of the Act or for a false statement made by any person, a fine up to Rs 5,000 and/or
imprisonment up to six months are provided in the Act. Thus, the Industries (Development and
Regulation) Act, 1951 has made extensive provisions for industrial licensing and regulations.

The Central government has retained the powers to license, take over, permit expansion, or levy and
collect any cess on goods manufactured in any scheduled industry. Section 9 of the Act provides for
the levy and collection of cess on all goods manufactured in any scheduled industry.
Licensing was mandatory in respect of
1.
2.
3.
4.

Starting a new unit,

Manufacturing a new product by an established unit,
Effecting a substantial expansion by an established unit, and
Changing a part or whole of an established undertaking, if the articles manufactured come under the First Schedule of the Industries (D&R) Act. Actually speaking,
in order to carry on business (an industrial activity) licence was necessary.

Letter of Intent

Any industrial activity, beyond the exemption limit, has to obtain a licence from the Secretariat for
Industrial Approvals (SIA), a division of the Ministry of Industrial Development, in advance. An
application that satisfies all the necessary conditions would be approved. If no further clearances like
foreign collaboration, capital goods imports, and so on are involved, no further conditions are to be
fulfilled, and an industrial licence is normally issued. A licence is initially valid for two years. The
commercial production must start within this period. However, this period may be extended twice for one
year each, provided the ministry is convinced by valid reasons.

Any industrial activity, beyond the exemption limit, has to obtain a licence from the Secretariat for
Industrial Approvals (SIA), a division of the Ministry of Industrial Development, in advance.
The Administrative Ministry should be approached for extension of time. Production as per the licensed
capacity must start within the specified period.
However, if some more clarification on important aspects, such as foreign collaboration, capital goods
imports, and so on are to be provided or conditions have to be fulfilled, a Letter of Intent (LOI) would be
granted. An LOI was initially valid for 12 months. Further, two extensions of six months each were also
provided for. Later, in 1988, the period for LOI was extended to three years. In the event of the concerns
inability to convert the LOI to an industrial licence within the stipulated period of three years, the LOI
holder may apply for an extension. Under normal circumstances, no LOI will be extended beyond a
maximum period of five years.

An LOI is granted if clarification on foreign collaboration, capital good imports is provided. It is

issued for three years and cannot be extended beyond a maximum period of five years.
An LOI is converted to an industrial licence by the Government of India for setting up an industrial
undertaking, provided the applicant has made all financial arrangements for the project, and other
arrangements for the movement of raw materials and finished goods. Adequate steps must also be taken
by the applicant for prevention of pollution, effluent disposal, installing pollution-control equipment, and
so on. The holder of an LOI must obtain government permission for import of capital goods, for foreign
collaboration, and foreign tie-ups, if any. The Central government must also be informed of the
manufacturing programme in a phased manner, which should be carried out to its satisfaction.
Thus, industrial licensing has become an essential aspect of the industrial policy of the Government of
India. There are, however, some areas of exception. Certain exemptions are granted for obtaining
industrial licences.
Exemptions from Licensing
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Although licensing is widespread, 27 broad categories of industries are exempted from licensing. These
include automotive ancillaries, agricultural implements, cycles, leather goods, glassware, and so on.
Export-oriented units (EOUs), import-substitution items, latest technology industries, capital goods
industries, which produce mass consumption goods for lower and middle classes, are considered for
exemption if they are not monopolies and restrictive trade practices (MRTP) and Foreign Exchange
Regulation Act (FERA) companies and if the items are not reserved for the small-scale sector. However,
even multinationals are permitted to hold equities up to 49 per cent in selected small-scale industries
according to a government decision taken in 1995. Besides, exemption was granted for 82 bulk drugs and
their formulations. Re-endorsement of licensed capacity and group licensing for 32 groups was
considered.
Exemptions were specifically granted in the following items:
1.
2.
3.
4.
5.
6.

Items relating to an industry which is not included in the First Schedule of the Act
Items to be manufactured in an undertaking which does not come under the definition of a factory under the Industries (D&R) Act, 1951
Items manufactured in the delicensed sector of investment up to Rs 25 crore in fixed assets in non-backward areas and up to Rs 75 crore in backward areas (earlier
limits were Rs 15 crore and Rs 60 crore, respectively)
Expansion which does not come under substantial expansion, that is, up to 25 per cent of the existing capacity
Small-scale units subject to certain conditions and
Items which do not fall under the definition of new article

Spectacular exemptions were announced in July 1991 in a Notification (477-E) by the Government of India.
Except in respect of 18 items, industrial licensing was done away with. Industrial undertakings have been
exempted from the operation of Section 10, 11, 11A, and 13 of the Industries (D&R) Act, 1951 subject to
fulfillment of certain conditions. Section 10 refers to the requirement of registration of existing industrial
units. Section 11 refers to the requirement of licensing of new industrial undertaking. Section 11A deals
with licences for the production of new articles. Section 13 refers inter alia to the requirement of licensing
for effecting substantial expansion.

Spectacular exemptions were announced in July 1991 in a Notification (477-E) by the Government of
India. Except in respect of 18 items, industrial licensing was done away with.
Industrial Licensing: A Critical Approach

Ever since the introduction of industrial licensing policy, it underwent considerable amount of revision,
even though it was subjected to widespread criticism. Some of the grounds under which it has been
criticised may, therefore, be relevant here.

Ever since the introduction of industrial licensing policy, it underwent considerable amount of
revision, even though it was subjected to widespread criticism.
It is argued that most of the objectives of industrial licensing could not be achieved in spite of its operation
for over four decades. It could not considerably regulate industrial location. Although concentration of
industries to given areas and state could not be restricted, concentration of economic power has been
progressively going on. Similarly, industrial investment, particularly private investment, could not be fully
streamlined in accordance with the plan priorities. On the contrary, it stood in the way of unrestricted
industrial growth in the country. Although the government could ensure some control on industrialisation,
it resulted in red-tapism, corruption, and nepotism. At the same time, it could not fully succeed in
preventing concentration of monopoly and economic power. Much control could also not be put on
technology utilisation.
Even though channelising investment in priority areas was one of the most important objectives of
economic planning for which industrial licensing was considered to be a tool, this objective could not be
achieved in the expected manner. Heavy and capital goods industries were encouraged in the initial stages
for which public sector investment was channelised. A balanced industrial development could not be
achieved as expected, though some amount of success could be achieved through public sector policies.
The development of an industrial base which the Indian economy could achieve through planned efforts
cannot be ignored. But this success is not the result of industrial licensing. On the contrary, licensing, it is
widely criticised, stood in the way of unrestricted industrial development.

114

Even though channelising investment in priority areas was one of the most important objectives of
economic planning for which industrial licensing was considered to be a tool, this objective could not
be achieved in the expected manner.
Curbing monopoly, concentration of economic power, and accumulation of resources were the aims of
industrial licensing when it was introduced. The Indian economy is subject to these ills even after more
than four decades of industrial licensing. At the same time, it acted as an obstruction, on the one hand, and
facilitated corruption, red tapism, and bureaucratic pressure, on the other hand. The Dutt Committee
rightly pointed out the fact that licensing helped the large and monopoly houses to grow further. This was,
primarily, because economic factors were seldom taken into consideration while technical considerations
guided the licensing decisions. The Monopolies Inquiry Commission had indicated, as early as 1965, that
large and monopoly houses were well placed and well informed to gain most of the licences issued, since
they had a greater comparative advantage.

Curbing monopoly, concentration of economic power, and accumulation of resources were the aims
of industrial licensing when it was introduced.
Amalgamations, takeovers, and virtual purchases of small houses by large monopoly houses were not rare.
Thereby, large houses became larger and dominant undertakings became monopoly houses. Large and
monopoly business houses, or units associated with them, enjoyed a comparative advantage, while new
entrants and potential entrepreneurs were scared away, particularly because of administrative lapses,
bureaucratic restrictions, corrupt practices, and disenchantment with the restrictive practices in the
administrative ministries. The potential entry of new entrepreneurs was, therefore, minimised.
The Licensing Committee considered the cases under the criteria, which it deemed fit from time to time,
without well-defined policy guidelines. A long list of pending cases existed though cases which received
their attention by hook or by crook could get their clearance. Large and influencial business houses could
influence the officials easily and could get their cases cleared in time. Thus, large business houses grew
larger, defeating the very objective of licensing. Moreover, many unviable projects were approved and
many viable projects were pushed to the background. Actually, the method of choosing the cases itself was
not based on any relevant criterion.

Large and influencial business houses could influence the officials easily and could get their cases
cleared in time. Thus, large business houses grew larger, defeating the very objective of licensing.
Although influential persons and business houses could obtain clearance within the expected time frame
by various ways, it was a time-consuming affair in respect of most of the cases, which affected the
enthusiasm of the entrepreneurs and initiators. Such an inordinate delay on the part of the licensing
mechanism substantially retarded the very industrial growth and killed the initiatives of many
entrepreneurs, which was noted by the Estimates Committee of 196768.
The Licence Raj Period had been a period of restrictions, red-tapism, and corruption. Restrictions on large
houses, items of commodities, the quantity produced, expansions, and everything connected to industry,
characteristised the Licence Raj. The MRTP Act and FERA also stood in the way of industrial development
and industrialisation. At the same time, proliferation of uneconomic units, promoted by influential
business houses and individuals, was the order of the day.
While licensing acted as an obstruction against unrestricted industrial growth, it did not provide any
clear-cut guidelines about industrial location. Hence, there was a concentration of industries in and
around potential urban centres while other areas remained industrially undeveloped, resulting in an
unbalanced industrialisation.
Foreign investment was restricted from time to time, not only with the help of industrial licensing policy,
but with the help of the MRTP Act and FERA. This affected the inflow of foreign capital, technology, and
processes and, thereby, the speedy modernisation of the industrial sector. Some multinationals like Coca
Cola and IBM even had to wind up their direct operations in India. The government later realised the
mistake of this policy and introduced the liberalisation policy.

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Due to the industrial licencing policy along with MRTP Act and FERA, the inflow of foreign capital,
technology, processes, and, thereby, the speedy modernisation of the industrial sector were adversely
affected. In spite of the criticism, licensing had an important role to play in regulating, controlling,
and coordinating the economic activities in the formative stage of the economy of free India.
Inspite of the criticism levelled against the licensing policy, licensing had an important role to play in
regulating, controlling, and coordinating the economic activities in the formative stage of the economy of
free India. However, when the government felt the need for greater liberalisation, economic liberalisation
was introduced without hesitation. Although licensing has been relaxed gradually, it is still in force for
some items.
INDUSTRIAL LICENSING POLICY

The industrial licensing policy was laid down to be complementary to the industrial policy resolution
announced by the Government of India from time to time. Industrial licensing in India can be studied in
the following stages:

1.
2.
3.
4.
5.
6.

The Industries (D&R) Act, 1951

Industrial Licensing Policy, 195160
Industrial Licensing Policy, 196070
Industrial licensing policy, 197077
Industrial Policy Statement, 198090 and
Liberalisation in industrial licensing, 1991 and after

The industrial licensing policy was laid down to be complementary to the industrial policy resolution
announced by the Government of India from time to time.
Following are some of the details of each policy:
The Industries (D&R) Act of 1951

This Act has been described as the single most important piece of economic development legislation in
our legal structure. Along with the Companies Act, 1956, and the MRTP Act, 1969, it can be said to confer
on the government powers of almost total regulation and control over the working of the private industry
and corporate sector in a manner that is almost unique.
Main Provisions

The important provisions of the Act are as follows:

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.

All existing industrial undertakings in the scheduled industries, that is, industries which are listed in the First Schedule of this Act, should be registered with the
government within the prescribed period and issued with a certificate of registration (Section 10).
Section 11 of the Act says that no new industrial undertakings of a major size can be started in the scheduled industry.
It is provided in the Act that an industrial undertaking cannot change the location of unit without the express permission of the Central government.
Section 12 states that the Central government can revoke the registration of licence, in case of any misrepresentation and so on by the party concerned or failure on
the part of the party to take effective steps.
Under Section 15 of the Act, the government can order an investigation into the working of an industrial undertaking.
The government can, under Section 16 of the Act, issue directions to the management in respect of prices, production, quality, and other areas of its performance
for the progress of the industry and countrys economic development if investigation demands so.
Section 18 provides that in the event of the undertaking not carrying out these instructions, the government can take over its management for a specific period and
appoint an authorised controller to manage the company.
Section 18G gives the Central government comprehensive powers to control and regulate the supply, distribution, and prices of any of the articles produced by an
industry listed in Schedule A and no order made for this purpose can be called in question in a court of law.
For the purpose of advising the Central government on matters concerning the D&R of scheduled industries, Section 5 of the Act authorises the establishment of a
Central Advisory Council (CAC) with necessary sub-committees and standing committees.
Development councils are to be constituted in respect of each scheduled industry or group of industries (Section 6).

The development councils along with the CAC for industries represent the more positive side of the Act.
The idea of such councils was borrowed from the development councils of UK and also shows the influence
of the French technique of indicative planning through the modernisation councils.
There was an important amendment to the Act in August 1984, to provide a legal basis for the Central
governmentthe right to issue notifications for reservation of specific products for small-scale industry.
The amended Act asserts the governments right to issue such notification in the larger public interest.

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There was an important amendment to the Act in August 1984, to provide a legal basis for the
Central governmentthe right to issue notifications for reservation of specific products for
small-scale industry.
Industrial Licensing Policy of 195160

Generally speaking, control and planning go hand in hand. Planned economic development has been
accepted as a national objective which obviously brings with it the economic control. Industrial licensing
has been accepted as a tool for economic control.

Planned economic development has been accepted as a national objective which obviously brings
with it the economic control. Industrial licensing has been accepted as a tool for economic control.
Industrial licensing prior to 1960 aimed at achieving the following among other things:
1.
2.
3.
4.
5.
6.

Development of industries and encouraging industrial activity in accordance with the plan priorities
Checking the concentration of economic power
Reduction of regional disparities
Proper allocation of foreign exchange
Development, protection, and encouragement of small-scale industries, and
Modernisation of technology and achievement of industrial growth

In the earlier years of industrial licensing, the licensing policy was generally welcomed by the private
sector industry, as a happy expression of the governments declared policy of a mixed economy. Most
businessmen also welcomed this policy under which the government, through a system of licensing and
through an expanding public sector, would control all the strategic points of industry, but private sector
industry was also to play an important role in future industrial development.

In the earlier years of industrial licensing, the licensing policy was generally welcomed by the private
sector industry, as a happy expression of the governments declared policy of a mixed economy.
The governments policy in the 1950s and early 1960s was also liberal, allowing industrial licences without
much ado. However, with the gradual drift of the countrys economic policy towards the socialist pattern
of society, towards sovereignty and supremacy of the public sector, and towards the goal of avoiding the
concentration of economic power in the larger business houses, more and more restrictions were sought to
be introduced in the policy of industrial licensing in the late 1960s.
A wave of criticism of the licensing policy steadily followed. This policy, in early 1960s, came to be the
object of criticism from two opposite angles. The left-wing politicians and academicians criticised it as
having unduly helped the growth of large business houses and, thus, furthered the concentration of
economic power to common detriment. Leaders of private business and their academic supporters
criticised it as stifling the industrial growth of the country and, thus, creating unemployment and large
production gaps.

The left-wing politicians and academicians criticised it as having unduly helped the growth of large
business houses and, thus, furthered the concentration of economic power to common detriment.
Industrial Licensing Policy of 196070

The licensing policy came in for sharp criticism from S.G. Barve, Member of Planning Commission, in
1966; from R.K. Hazari, who submitted two reports to the Planning Commission in 1967; from the study
team of the Administrative Reforms Commission on Economic Administration, which submitted a report
in 196768; and finally from the Industrial Licensing Policy Enquiry Committee (Dutt Committee) in
1969.
The report of the Dutt Committee, 1969 was extremely critical. Its main conclusions were that the working
of the industrial licensing policy had not been consistent with the Industrial Policy Resolution of 1956.

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That no specific instruction had been given to the licensing authorities, keeping in view the general
objective of preventing concentration of economic power and monopolistic tendencies. That the licensing
policy had, by and large, taken forward the growth of large industrial houses and shut out other
entrepreneurs. The report was also critical of some unethical practices followed by a section of large
business houses, for example, multiple applications in different names for the same items, deliberate
preemption of capacity.

The industrial licensing policy came in for sharp criticism from various committees. The main
criticisms levelled against it were promotion of large industrial houses and usage of some unethical
practices followed by a section of large business houses.
A major finding of the Committee was that the public financial institutions, in their lending policies, had
shown a great deal of preference for companies belonging to large business houses to the exclusion of
other entrepreneurs. Thus, some of these houses had built large private empires with public money. The
Committee recommended that, in such cases, the government should consider converting at least a part of
the low-yielding loan to high-yielding equity and, thus, change the character of the enterprises from
private sector enterprises to joint sector enterprises, in which the government and private parties might
share both equity holding and management. In fact, the Committee recommended the joint sector as a
main policy instrument against concentration of economic power in private hands.
The report of the Dutt Committee ushered in a spell of restrictive licensing policy marked by suspicion on
the part of large business houses and, a generally negative attitude towards proposals coming from them.
For a few years what mattered more in a licence application was not the techno-economic merits of the
projects, but the source of its sponsorship. If it came from a large industrial house or a foreign majority
company, it had little chance of approval unless there were some special reasons in its favour.

The report of the Dutt Committee ushered in a spell of restrictive licensing policy marked by suspicion
on the part of large business houses and, a generally negative attitude towards proposals coming
from them.
Industrial Licensing Policies of 197080

Industrial Licensing Policy of 1970

Following the Dutt Committee Report and also the enactment of the MRTP Act, 1969, the Government of
India announced a new industrial licensing policy in February 1970. It banned the entry of large industrial
houses and foreign companies into any field except core industries, heavy investment projects, and
export-oriented projects. Several other restrictive policies followed:

It banned the entry of large industrial houses and foreign companies into any field except core
industries, heavy investment projects, and export-oriented projects.
1.
a.

The MRTP Act, 1969, that came into force on June 1,1970, introduced control over

above, and
b.

1.

All undertakings or groups of interconnected undertakings with assets of Rs 20 crore and

The dominant undertakings in cases of substantial expansion or establishing new

undertaking.
For such parties, getting an LOI or industrial license was not enough. A separate approval of the project by
the Central government under the new Act was also essential.
Following a recommendation made by the Dutt Committee Report, the government accepted the policy of convertibility of term loans into equity, granted to
industry, by public financial institutions; and it became the standard practice to insert a convertibility clause, as a condition of approval, for all such projects which depended

2.

on substantial term loans.

In a bid to reduce the proportion of foreign shareholding in the foreign-majority companies, the government announced, in 1972, a policy of dilution of the
proportion of foreign holding by issuing fresh equity to the Indian public, whenever such a company would launch a new project. The additional fresh capital to be issued
was to bear a proportion of the project cost, according to a graduated scale. Companies with foreign holding, of 75 per cent and above, had to issue fresh equity equivalent to
40 per cent.

Industrial Licensing Policy of 1973

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Another industrial licensing policy was announced in February 1973, which refined the 1970 policy. The
definition of larger industrial houses, as recommended by the Dutt Committee and accepted by the 1970
policy, viz., assets exceeding Rs 35 crore, was abandoned. In its place, the definition adopted by Section 20
of the MRTP Act, viz., the assets of a company by itself or along with assets of interconnected undertakings
amounting to Rs 20 crore and above, was accepted. This removed the contradiction between the definition
of a large industrial house, for licensing proposes under the 1970 policy, and the conception of a large
house, on the basis of interconnected undertaking, defined in the MRTP Act.

Another industrial licensing policy was announced in February 1973, which refined the 1970 policy.
The definition of larger industrial houses, as recommended by the Dutt Committee and accepted by
the 1970 policy, viz., assets exceeding Rs 35 crore, was abandoned.
The list of the core industries defined by the 1970 policy was also substantially enlarged. A consolidated
list of these industries was attached in Appendix 1 to this policy announcement. These core industries of
importance to the national economy or industries having direct linkage with such core industries or
industries with a long-term export potential, large houses, as now defined, and foreign majority companies
will now be eligible to participate in and contribute to the establishment of industries listed in this
appendix, provided the item of manufacture is not one reserved for the public sector or the small-scale
sector. The concept of heavy investment sector, that is investment of over Rs 5 crore, was altogether
abandoned.
The existing policy of reservation for the small-scale sector and the policy with regard to joint sector as a
promotional instrument were to continue, without allowing the joint sector to be used for the entry of large
houses, dominant undertakings, and foreign companies. There were also some procedural changes in
October 1973, creating a Project Approval Board (PAB) to deal with composite applications, seeking
approval under the four major procedural hurdles, simultaneously, viz., licensing, MRTP, capital goods,
and Foreign Investment Board.
The policy also introduced a common secretariat, viz., the SIA to receive and process all types of
applications concerning an industrial projectindustrial licence applications, capital goods applications,
applications for foreign investment or foreign collaboration, applications under Section 2122 of the
MRTP Act.
Industrial Licensing Policy of 1977

From around 197475, in response to the need for greater productivity and efficiency in the industrial
economy in the wake of the shock of the oil price increases, first in 1973 and again in 1979, the government
initiated a number of measures to relax and liberalise licensing provisions.
Meanwhile the Janta Party government, which came to power after the General Elections of 1977,
announced a New Industrial Policy (NIP)Statement on December 23, 1977. It did not replace the Industrial
Policy Resolution of 1956 or the Industrial Licensing Policy of 1973, but only supplemented them by
redefining some of the priorities.

With the change of government at the Centre, the industrial policies keep getting revised. The new
industrial policy statement, issued in 1977, provided thrust mainly prioritising small-scale village,
and tiny-sector industries in future industralisation and secondly, geographical dispersal of
industries from metropolitan centres to rural and backward areas.
The Licensing Policy of 1977 provided thrust mainly in two aspects:
1.
2.
3.
4.
5.
6.

Priority to small-scale, village, and tiny-sector industries in future industrialisation and

Geographical dispersal of industries from metropolitan centres to rural and backward areas

The other aspects covered in the policy were as follows:

To provide a fillip to the small-scale sector, over 500 items were reserved (subsequently raised to about 800) for the sector
To ensure locational redistribution of industry, licenses were to be issued to new industrial units, within certain limits of large metropolitan cities having
population of more than 10 lakh and in urban area with a population of more than 5 lakh, according to the 1971 census.
A District Industrial Centre (DIC) in each district to help the growth of the small-scale sector. These centres were to have adequate decision-making authority and
expertise.

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The Licensing Policy of 1977 provided thrust mainly in two aspects:

Priority to small-scale, village, and tiny-sector industries in future industrialisation and

Geographical dispersal of industries from metropolitan centres to rural and backward areas.

Industrial Policy Statement of 198090

The General Elections of 1980 and the return to power of the Congress Party brought about the Industrial
Policy Statement of 1980 and 1982. In pursuance of this policy, a new licensing policy was adopted, aiming
at reviving the economic infrastructure inhibited by the infrastructural gaps and inadequacies in
performance. The basic objective of the new licensing policy reflected a desire for the fruit of
industrialisation and economic progress, to be transmitted to a maximum number of people both in rural
and urban areas.

The basic objective of the new licensing policy reflected a desire for the fruit of industrialisation and
economic progress, to be transmitted to a maximum number of people both in rural and urban areas.
Under this policy, licensing was not required for an existing licensed undertaking to substantially increase
production capacity on the existing lines, if the total investment did not exceed Rs 3 crore and if it did not
require foreign exchange in excess of 10 per cent of ex-factory value of output or Rs 25 lakh, whichever was
less.
An existing licensed undertaking did not require a fresh license to manufacture any new item from
Schedule I to the maximum of the licensed capacity. Similarly, any licensed unit could get liberal
permission to expand or to manufacture a new product, making use of its own wastes or effluents on the
recommendation of the Administrative Ministry. No industrial license was required for small-scale units to
produce any of the items reserved for the sector under the following conditions:

1.
2.
3.
4.

The unit should not belong to any dominant undertaking as defined in the MRTP Act.
The unit and other interconnected unit together should not possess assets exceeding Rs 20 crore.
In respect of foreign ownership, there should not be over 40 per cent equity owned by foreign companies or subsidiaries or foreign individuals.
The items produced should not belong to the Schedule A category.

No industrial license was required for small-scale units to produce any of the items reserved for the
sector
In March 1982, the government declared liberal licensing policy for industrial ventures to be started in 87
industrially backward districts of 18 States. Overridding preference was given in the industrial licensing
policy to applicants, who proposed to establish their ventures in the above districts, with a view to correct
regional imbalances, on the one hand, and to ensure rapid industrialisation of the backward areas, on the
other. These districts were to get preferences over all other locations on a priority basis.

In March 1982, the government declared liberal licensing policy for industrial ventures to be started
in 87 industrially backward districts of 18 States.
Various state governments and administrative ministries were also instructed to give pointed attention to
these districts, so that adequate infrastructural developments could be made in different States. A facility
of excess capacity was allowed for a specific list of selected items.
The policy further laid down that the Administrative Secretariat and the concerned Committee had to take
into account a number of factors such as project feasibility, potentiality for economies of scale, production
targets, and competence of entrepreneur prior to granting a licence.

The policy further laid down that the Administrative Secretariat and the concerned Committee had to
take into account a number of factors such as project feasibility, potentiality for economies of scale,
production targets, and competence of entrepreneur prior to granting a licence.
However, in the interest of the rapid industrialisation, automatic registration facilities were also provided
for items listed in Schedule V of the Exemption Notification of the Ministry of Industry (February 16, 1973).
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Out of this list, 66 items were withdrawn in the notification of the Government of India in April 1982. A
number of such measures were adopted by the government from time to time to achieve a balance and
concerted industrial growth.
The new policy would also permit manufacturers to follow market trends more effectively, changing
products in response to shifts in demands. The overall licensed capacity would remain unchanged and
separate clearances would be required for foreign collaboration where necessary.
The process of liberalisation during 198485 culminated in certain policy decisions announced by the new
government on March 15, 1985, at the time of presentation of the 198586 Budget. The most significant
element was the decision to raise the asset limit for large houses from Rs 20 crore to Rs 100 crore.

The process of liberalisation during 198485 culminated in certain policy decisions announced by the
new government on March 15, 1985, at the time of presentation of the 198586 Budget. The most
significant element was the decision to raise the asset limit for large houses from Rs 20 crore to Rs
100 crore.
In May 1985, 22 industries were freed from both MRTP and FERA controls. Besides, 23 other industries
were delicensed for MRTP and FERA companies located in the Centrally declared backward areas on
January 30, 1986.

In May 1985, 22 industries were freed from both MRTP and FERA controls. Besides, 23 other
industries were delicensed for MRTP and FERA companies located in the Centrally declared
backward areas on January 30, 1986.
The Industrial Licensing Policy of 1988 was another advance in the process of liberalisation. According to
government notification of June 3, 1988, industrial undertakings with fixed assets up to Rs 50 crore were
exempted from licensing if they were located in Centrally declared backward areas. In the non-backward
areas, this exemption limit was fixed at Rs 15 crore. Import liberalisation was also enhanced from 15 per
cent to 30 per cent of inputs.
The Janta Dal government, under the leadership of V.P. Singh, announced its new policy on May 31, 1990.
It could be interpreted as an extension of the Janta Party governments policy of 1977 to the extent that it
had considerable bias in favour of small-scale and rural industrialisation.
In order to make Indian industry more competitive internally, the government felt the need for releasing
the industry from bureaucratic obstructions and reducing the number of clearances. All new units with an
investment up to Rs 75 crore in Centrally notified backward areas and Rs 25 crore in other areas were
exempted from licensing. Import of capital goods was allowed to the tune of 30 per cent of the plant and
machinery. The EOUs and units located in Export Processing Zones (EPZs) with an investment up to Rs 75
crore were delicensed. However, units set up by MRTP and FERA companies required clearances under
the provisions of these Acts.

In order to make Indian industry more competitive internally, the government felt the need for
releasing the industry from bureaucratic obstructions and reducing the number of clearances.
Industrial development is now considered as an interdisciplinary concept. It includes all the relevant
aspects of industrial activity in accordance with plan priorities. In a planned economy, adequate control
measures have to be exercised by the government for providing necessary direction to industries,
especially the private sector, to contribute their best towards the socioeconomic objectives of the nation.
Hence, government control measures should be viewed from this angle.

In a planned economy, adequate control measures have to be exercised by the government for
providing necessary direction to industries, especially the private sector, to contribute their best
towards the socio-economic

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The industrial and industrial licensing polices of the Government of India have a regulating and
controlling effect on the industrial activities in India. However, after 1973, it was widely felt that greater
liberalisation was required for achieving adequate growth of industrialisation in India. Hence, the
government initiated a number of measures to provide greater liberalisation.
Liberalisation in Industrial Licensing1991 and After

Industrial licensing is governed by the Industries (D&R) Act, 1951. The Industrial Policy Resolution of
1956 identified the following three categories of industries:
1.
2.
3.

Those that would be reserved for development in the public sector

Those that would be permitted for development through private enterprises, with or without state participation
Those in which investment initiatives would emanate from private entrepreneurs

Over the years, keeping in view the changing industrial scene in the country, the policy has undergone
modifications. Industrial licensing policy and procedures have also been liberalised from time to time. A
full realisation of the industrial potential of the country calls for a continuation of this process of change.

Over the years, keeping in view the changing industrial scene in the country, the policy has
undergone modifications. Industrial licensing policy and procedures have also been liberalised from
time to time. A full realisation of the industrial potential of the country calls for a continuation of this
process of change.
In order to achieve the objectives of the strategy for the industrial sector for 1991 and beyond, it was
necessary to make a number of changes in the system of industrial approvals. Major policy initiatives and
procedural reforms were called for in order to actively encourage and assist the Indian entrepreneur to
exploit and meet the emerging domestic and global opportunities and challenges.
The bedrock of any such package of measures must be to let the entrepreneurs make investment decisions
on the basis of their own commercial judgement. The attainment of technological dynamism and
international competitiveness requires that enterprises must be able to respond swiftly to fast-changing
external conditions that have become the characteristic of todays industrial world.
Government policy and procedures must be geared to assisting entrepreneurs in their efforts. This can be
done only if the role played by the government were to be changed from that only of exercising control to
one of providing help and guidance, by making essential procedures fully transparent and eliminating the
delays.
POLICY DECISIONS

In view of the consideration outlined above, the government decided to take a series of measures to
unshackle the Indian industrial economy from the chains of unnecessary bureaucratic control. These
measures complement the other series of measures being taken by the government in the areas of trade
policy, exchange-rate management, fiscal policy, financial sector reform, and overall macro-economic
management.
Industrial Licensing Policy
1.

Industrial licensing will be abolished for all projects except for a short list of industries related to security and strategic concerns, social reasons, hazardous
chemicals, and overriding environmental reasons, and items of elitist consumption. Industries reserved for the small-scale sector will continue to be so reserved.

2.

The Abid Hussain Committee on Trade Policies (1984) contained major recommendations regarding
export promotion policy and strategy, import policy, technology imports, and so on.
3.
4.
5.
a.
b.

Areas where security and strategic concerns predominate will continue to be reserved for the public sector.
In projects where imported capital goods are required, automatic clearance will be given:

In cases where foreign capital goods availability is ensured through foreign equity.
If the CIF (cost, insurance, and freight) value of imported capital goods required is less than
25 per cent of the total value (net of taxes) of plant and equipment, up to a maximum value of Rs 2 crore.

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In view of the current difficult foreign-exchange situation, this scheme, (that is, 3[b]) will come into force
from April 1992.
In other cases, the imports of capital goods will require clearance from the SIA in the Department of
Industrial Development according to the availability of foreign exchange resources.
1.

In locations other than cities of more than one million population, there will be no requirement of obtaining industrial approvals from the Central government
except for industries subject to compulsory licensing. In respect of cities with population greater than one million, industries other than those of a non-polluting nature such
as electronics, computer software, and printing will be located 25 kms outside the periphery, except in prior-designated areas.

2.

3.
4.
5.
6.
7.

A flexible location policy would be drawn up in respect of such cities (with population greater than one
million) which require industrial registration. Zoning and Land Use Regulation and Environmental
Legislation will continue to regulate industrial locations.
Appropriate incentives and the design of investments in infrastructure development will be used to
promote the dispersal of industry, particularly to rural and backward areas and to reduce congestion in
cities.
The system of phased manufacturing run on an administrative case-by-case basis will not be applicable to new projects. Existing projects with such programmes
will continue to be governed by them.
Existing units will be provided a new broad-banding facility to enable them to produce any article without additional investment.
The exemption from licensing will apply to all substantial expansions of existing units.
The mandatory convertibility clause will no longer be applicable for term loans from financial institutions for new projects.

Procedural Consequences
8.
9.
10.
11.

All existing registration schemes (Delicensed Registration, Exempted Industries Registration, DGTD [Director General of Technical Development]) will be
abolished.
Entrepreneurs will, henceforth, be required only to file an information memorandum on new projects and substantial expansions.
The lists at Annexure II and Annexure III will be notified in the Indian Trade Classification (Harmonised System).

The Abid Hussain Committee on Trade Policies (1984) contained major recommendations regarding
export promotion policy and strategy, import policy, technology imports, and so on.
Foreign Investment
1.

Approval will be given for foreign direct investment (FDI) up to 51 per cent foreign equity in high-priority industries (Annexure III). There shall be no bottlenecks
of any kind in this process. Such clearance will be available if foreign equity covers the foreign exchange requirement for imported capital goods. Consequent amendments to

2.

the Foreign Exchange Regulation Act (1973) shall be carried out.

Although the import components, raw materials, and intermediate goods, and payment of know-how fees and royalties will be governed by the general policy
applicable to other domestic units, the payment of dividends would be made through the Reserve Bank of India to ensure that outflows on account of dividend payments are

3.
4.
5.

balanced by export earnings over a period of time.

Other foreign equity proposals, including proposals involving 51 per cent foreign equity, which do not meet the criteria under first point given before, will continue
to need prior clearance. Foreign equity proposals need not necessarily be accompanied by foreign technology agreements.
To provide access to international markets, majority foreign equity holding up to 51 per cent will be allowed for trading companies, primarily engaged in export
activities. Although the thrust would be on export activities, such trading houses shall be at par with domestic trading and export houses in accordance with the Exim Policy.
A special Empowered Board would be constituted to negotiate with a number of large international firms and approve FDI in select areas. This would be a special
programme to attract substantial investment that would provide access to high technology and world markets. The investment programmes of such firms would be
considered in totality, free from pre-determined parameters or procedures.

Foreign Technology Agreements

1.

Automatic permission will be given for foreign technology agreements in high-priority industries (Annexure III) up to a lump sum payment of Rs 1 crore, with 5 per
cent royalty for domestic sales and 8 per cent for exports, subject to a total payment of 8 per cent of sales over a 10-year period from the date of agreement or seven years

2.
3.
4.

from the commencement of production. The prescribed royalty rates are net of taxes and will be calculated according to the standard procedures.
In respect of industries other than those in Annexure III, automatic permission will be given, subject to the same guidelines as above if no free foreign exchange is
required for any payments.
All other proposals will need specific approval under the general procedure in force.
No permission will be necessary for hiring foreign technicians and foreign testing of indigenously developed technologies. Payments may be made from blanket
permits or free foreign exchange according to RBI (Reserve Bank of India) guidelines.

Public Sector
1.

The portfolio of public sector investments will be reviewed with a view to focus the public sector on strategic, high-tech, and essential infrastructure. Whereas some
reservation for the public sector is being retained, there would be no bar for areas of exclusivity to be opened up to the private sector. Similarly, the public sector will also be
allowed an entry into areas not reserved for it.

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2.

Public sector enterprises which are chronically sick and are unlikely to be turned around will, for the formulation of revival/rehabilitation schemes, be referred to
the Board for Industrial and Financial Reconstruction (BIFR), or other similar high-level institutions created for the purpose. A social security mechanism will be created to

3.
4.
5.

protect the interest of the workers who are likely to be affected by such rehabilitation packages.
In order to raise resources and encourage wider public participation, a part of the governments shareholding in the public sector would be offered to mutual funds,
financial institutions, general public, and workers.
The boards of public sector companies would be made more professional and given greater powers.
There will be a greater thrust on performance improvement through the Memoranda of Understanding (MoU) systems through which management would be
granted greater autonomy and will be held accountable. Technical expertise on the part of the government would be upgraded to make the MoU negotiations and

6.

implementation more effective.

To facilitate a fuller discussion on performance, the MoU signed between government and the public enterprise would be placed in Parliament. While focusing on
major management issue, this would also help to place maters on day-to-day operations of public enterprises in their correct perspective.

MRTP Act
1.

The MRTP Act will be amended to remove the threshold limits of assets in respect of MRTP companies and dominant undertakings. This eliminates the
requirement of prior approval of the Central government for establishment of new undertakings, expansion of undertakings, merger, amalgamation, and takeover and

2.

appointment of directors under certain circumstances.

Emphasis will be placed on controlling and regulating monopolistic, restrictive, and unfair trade practices. Simultaneously, the newly empowered MRTP
Commission will be authorised to initiate investigations Suo moto or on complaints received from individual consumers or classes of consumers in regard monopolistic,

3.

restrictive, and unfair trade practices.

Necessary comprehensive amendments will be made in the MRTP Act in this regard and for enabling the MRTP Commission to exercise punitive and
compensatory powers.

RECENT INDUSTRIAL LICENSING POLICY

With the introduction of the New Industrial Policy (NIP) in 1991, a substantial programme of deregulation
has been undertaken. Industrial licensing has been abolished for most items. Presently, Industrial
licensing is required in the following cases:
1.
2.
3.

for manufacturing an item under compulsory licensing, or

if the project attracts locational restriction applicable to large cities with population of more than 10 lakh (according to 1991 census), or
when an item reserved for small-scale sector is intended to be manufactured by an undertaking other than small-scale industrial. Only the following five industries
are under compulsory licensing on account of security, strategies, and environmental concerns:

i.
ii.
iii.
iv.
v.

distillation and brewing of alcoholic drinks;

cigars and cigarettes of tobacco and manufactured tobacco substitutes;
electronic aerospace and defence equipment of all types;
industrial explosives, including detonating fuses, safety fuses, gun powder, nitrocellulose,
and matches; and
Specifies hazardous chemicals, that is, (i) Hydrocyanic acid and its derivatives, (ii) Phosgene
and its derivatives, and (iii) Isocyanates and disocyanates of hydrocarbon

With the introduction of the New Industrial Policy (NIP) in 1991, a substantial programme of
deregulation has been undertaken. Industrial licensing has been abolished for most items.
Industries not covered under compulsory licensing are required to file an Industrial Entrepreneurs
Memorandum (IEM) to Secretariat for Industrial Assistance (SIA), provided the value of investment on
plant and machinery of such unit is above Rs 10 crore.

Industries not covered under compulsory licensing are required to file an Industrial Entrepreneurs
Memorandum (IEM) to Secretariat for Industrial Assistance (SIA), provided the value of investment
on plant and machinery of such unit is above Rs 10 crore.
A significant number of industries had earlier been reserved for public sector. The policy has been
liberalised progressively and presently, the areas reserved for the public sector are: (a) atomic energy; (b)
the substances specified in the schedule to the notification of the Government of India in the Department
of Atomic Energy number S.O.212(E), dated March 15, 1995; and (c) railway transport.
The government continues to provide protection to the small-scale sector, inter alia, through the policy of
reserving items for exclusive manufacture in the small-scale sector. Recently, Micro, Small and Medium
Enterprises Development (MSMED) Act, 2006 has been enacted by the government. In this Act,
investment limit for micro, small, and medium enterprises have been prescribed as Rs 10 lakh, Rs 5 crore,
and 10 crore, respectively. Industrial undertakings, other than the small-scale industrial undertakings,
engaged in the manufacture of items reserved for exclusive manufacture in the small-scale sector, are
required to obtain an industrial license and have undertaken export obligation of 50 per cent of their
124

annual production. However, the condition of licensing is not applicable to industrial undertakings
operating under 100 per cent Export-Oriented Undertakings Scheme, in the export processing. The list of
items reserved for manufacturing in the SSI Sector is being reviewed from time to time. Presently, 114
items are reserved for manufacture in the small-scale sector.

The government continues to provide protection to the small-scale sector, inter alia, through the
policy of reserving items for exclusive manufacture in the small-scale sector.
The list of items reserved for manufacturing in the SSI sector is being reviewed from time to time.
Presently, 114 items are reserved for manufacture in the small-scale sector.
Foreign Direct Investment (FDI)

Major Changes in the Recent Years

The Government of India embarked upon major economic reforms, since mid-1991, with a view to
integrating with the world economy, and to emerge as a significant player in the globalisation process.
Reforms undertaken include decontrol of industries from the stringent regulatory process, simplification
of investment procedures, promotion of foreign direct investment (FDI), liberalisation of exchange control,
rationalisation of taxes, and public sector divestment.
The FDI policy was liberalised progressively through review of the policy on an ongoing basis and allowing
FDI in more industries under the automatic route. The major changes made in the policy aimed at
rationalisation/simplification of procedures are listed below:

The FDI policy was liberalised progressively through review of the policy on an ongoing basis and
allowing FDI in more industries under the automatic route.
1. Policy Liberalisation/Rationalisation
1.

FDI up to 100 per cent under the automatic route permitted in construction development projects, including housing, built-up infrastructure, commercial
complexes, and so on, subject inter alia, to minimum capitalisation, minimum area condition, and lock-in period of original investment (refer to Press Note 2/2005). These

2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.

conditions are not applicable to hospitals, hotels, SEZs, and non-resident Indians.
FDI caps have been increased to 100 per cent and automatic route extended to coal and lignite mining for captive consumptions setting up of infrastructure
relating to industry marketing in petroleum and natural gasas sector, and exploration and mining of diamonds and precious stones.
FDI has been allowed up to 100 per cent on the automatic route in power trading and processing and warehousing of coffee and rubber.
FDI has been allowed up to 51 per cent for single brand product retailing which requires prior government approval. Specific guidelines have been issued for
governing FDI for single brand product retailing.
FDI up to 49 per cent allowed with prior government approval in air transport services.
FDI up to 100 per cent allowed on the automatic route in greenfield airport projects. FDI up to 100 per cent also allowed in existing airports but FDI beyond 74 per
cent requires-prior government approval.
Mandatory divestment condition for B2B (business-to-business) e-commerce has been dispensed with.
FDI cap in basic and cellular telecom services has been enhanced from 49 per cent to 74 per cent. Detailed guidelines have been notified vide Press Note 5 (2005
series), substituted by Press Note 3 (2007).
FDI is being allowed along with FII and portfolio investing within the ceiling of 20 per cent in the FM radio broadcasting services.
FDI up to 49 per cent allowed with prior government approval for setting up uplinking hub/teleports.
FDI up to 100 per cent allowed with prior government approval for uplinking non-news TV channels.
FDI up to 26 per cent allowed in uplinking news and current affairs TV channels.

2. Procedural Simplification
1.

FDI is permissible under the automatic route wherever the sectoral policy so specifies, except where the foreign investor has an existing joint venture or
technology/trademark agreement in the same field. In such cases, prior approval of the government is required for FDI, irrespective of the sectoral policy permitting FDI on

2.
3.
4.

the automatic route (refer to Press Note 1 [2005]).

Transfer of shares from resident to non-resident (including NRIs) placed on the automatic route where initial investment is allowed on the automatic route and
where Press Note 1 [2005] is not attracted.
Conversion of ECBs and preference shares on the automatic route.
FDI in manufacturing sector, including those where an industrial licence is required, has been allowed on the automatic route without any caps. Exceptions are
manufacture of cigars and cigarettes and defence items, where prior government approval is required for FDI and manufacture of items reserved for the small-scale sector.
In the defence sector, FDI is permitted only up to 26 per cent. (refer to Press Note 4 [2006]).

ANNEXURE I

Proposed List of Industries to be Reserved for the Public Sector

1.

Arms and ammunition and allied items of defence equipment, defence aircraft, and warships

125

2.
3.
4.
5.
6.
7.
8.

Atomic energy
Coal and lignite
Mineral oils
Mining of iron ore, manganese ore, chrome ore, gypsum, sulphur, gold, and diamond
Mining of copper, lead, zinc, tin, molybdenum, and wolfram
Minerals specified in the Schedule to the Atomic Energy (Control of Production and Use) Order, 1953
Railway transport

ANNEXURE II

List of Industries in Respect of Which Industrial Licensing will be Compulsory

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.

Coal and lignite

Petroleum (other than crude) and its distillation products
Distillation and brewing of alcoholic drinks
Sugar
Animal fats and oils
Cigars and cigarettes of tobacco and manufactured tobacco substitutes
Asbestos and asbestos-based products
Plywood, decorative veneers, and other wood-based products such as particle board, medium density fibre board, block board
Tanned or dressed fur skins
Paper and newsprint except bagasse-based units
Electronic aerospace and defence equipment: all types
Industrial explosives, including detonating fuse, safety fuse, gunpowder, nitrocellulose, and matches
Hazardous chemicals
Drugs and pharmaceuticals (according to the Drug Policy)
Entertainment electronics (VCRs, colour TVs, CD players, tape recorders)

Note: The compulsory licensing provisions would not apply in respect of the small-scale units taking up
the manufacture of any of the above items reserved for the exclusive manufacture in the small-scale
sector.
ANNEXURE III

List of Industries for Automatic Approval of Foreign Technology Agreements and for 51 Per
Cent Foreign Equity Approvals
1.
a.
b.
c.
d.
e.
f.
1.
2.
a.
b.
c.
d.
1.
a.
b.
c.
d.
e.
f.
g.
h.
i.
j.
k.
l.
1.
a.

Metallurgical industries

Ferro alloys
Castings and forgings
Non-ferrous metals and their alloys
Sponge iron and pelletisation
Large-diameter steel-welded pipes of over 300 mm diameter and stainless steel pipes
Pig iron
Boilers and steam-generating plants
Prime movers (other than electrical generators)

Industrial turbines
Internal combustion engines
Alternate energy systems like solar, wind, and equipment
Gas/hydro/steam turbines up to 60 MW
Electrical equipment

Equipment for transmission and distribution of electricity, including power and distribution
transformers, power relays, high tension (HT) switch gear, and synchronous condensers
Electric motors
Electrical furnaces, industrial furnaces, and induction heating equipment
X-ray equipment
Electronic equipment, components, including subscribers and telecommunication
equipments
Component wires for manufacture of lead in wires
Hydro/steam/gas generators/generating sets up to 60 MW
Generating sets and pumping sets based on internal combustion engines
Jelly-filled telecommunication cables
Optic fibre
Energy-efficient lamps
Midget carbon electrodes
Transportation

Mechanised sailing vessels up to 10,000 DWT including fishing trawlers

126

b.
c.
a.
b.
c.
a.
b.
1.
a.
1.
a.
b.
c.
1.
a.
b.
c.
1.
2.
3.

4.
5.
6.
7.
8.
a.
b.
c.
d.
e.
f.
g.
h.
i.
j.
a.
b.
c.
d.
e.
f.
g.
h.
i.
j.
k.
l.
m.
n.
o.
1.
2.
3.
a.
b.
1.
a.

Ship ancillaries
Commercial vehicles, public transport vehiclesincluding automotive, commercial,
three-wheeler, jeep-type vehicles, and industrial locomotives
Automotive two wheelers and three wheelers
Automotive components/spares and ancillaries
Shock absorbers for railway equipment
Brake systems for railway stock and locomotives
Industrial machinery

Industrial machinery and equipment

Industrial tools and equipments

Machine tools and industrial robots and their controls and accessories
Jigs, fixtures, tools, and dies of specialised types and cross-land tooling
Engineering production aids, such as cutting and forming tools, patterns and dies and tools
Agricultural machinery

Tractors
Self-propelled harvester combines
Rice transplanters
Earth-moving machinery

Earth-moving machinery and construction machinery and components thereof

Industrial instruments

Indicating, recording, and regulating devices for pressure, temperature, weight rate of flow levels, and the
like
Scientific and electro-medical instruments and laboratory equipment
Nitrogenous and phosphatic fertilisers falling under

Nitrogenous fertilizers under 18 Fertilisers in the First Schedule to IDR Act, 1951
Chemicals (other than fertilisers)

Heavy organic chemicals including petrochemicals

Heavy inorganic chemicals
Organic fine chemicals
Synthetic resins and plastics
Man-made fibres
Synthetic rubber
Industrial explosives
Technical grade insecticides, fungicides, weedicides, and the like
Synthetic detergents
Miscellaneous chemicals (for industrial use only)
Catalysts and catalyst supports
Photographic chemicals
Rubber chemicals
Polyols
Isocynates, urethanes, and so on
Special chemicals for enhanced oil recovery
Heating fluids
Coal tar distillation and products therefrom
Tonnage plants for the manufacture of industrial gases
High-altitude breathing oxygen/medical oxygen
Nitrous oxide
Refrigerant gases like liquid nitrogen, carbon dioxide, and so on in large volumes
Argon and other rare gases
Alkali/acid-resisting cement compound
Leather chemicals and auxiliaries
Drugs and pharmaceuticals

According to the Drug Policy

Paper products

Paper and pulp including paper products

Industrial laminates
Automobile accessories

Automobile tyres and tubes

127

b.
c.
d.
e.
f.
1.
a.
b.
c.
d.
1.
2.
3.
a.
b.
1.
2.
a.
b.
1.
2.
3.
a.

Rubberised heavy-duty industrial beltings of all types

Rubberised conveyor beltings
Rubber-reinforced and rubber-lined fire-fighting hose pipes
High-pressure braided hoses
Engineering and industrial plastic products
Plate glass

Glass shells for television tubes

Float glass and plate glass
HT insulators
Glass fibre of all types
Ceramics

Ceramics for industrial uses,

Cement products

Portland cement
Gypsum boards, wall boards, and the like
High-technology reproductions and multiplication equipment
Carbon and carbon products

Graphite electrodes and anodes

Impervious graphite blocks and sheets
Pretensioned high-pressure re-inforced cement concrete (RCC) pipes
Rubber machinery
Printing machinery

Web-fed high-speed off-set rotary printing machine having output of 30,000 or more
impressions per hour
b.
Photocomposing/type-setting machines
c.
Multi-colour sheet-fed off-set printing machines of sizes of 18 x 25 and above
d.
High-speed rotogravure printing machines having output of 30,000 or more impressions per
hour
1.
2.
3.
a.
b.
c.
d.
1.
2.
3.
a.
b.
c.
d.
e.
1.
a.
b.
1.
2.
3.

Welding electrodes other than those for welding mild steel

Industrial synthetic diamonds
Biological equipments

Photosynthesis improvers
Genetically modified free-living symbiotic nitrogen fixer
Pheromones
Bio-insecticides
Extraction and upgrading of mineral oils
Pre-fabricated building material
Soya products

Soya texture proteins

Soya protein isolates
Soya protein concentrates
Other specialised products of soyabean
Winterised and deodourised refined soyabean oil
Certified high-yielding hybrid seeds and synthetic seeds
Certified high-yielding plantlets developed through plant tissue culture
All food-processing industries other than milk food, malted foods, and flour, but excluding the items reserved for small-scale sector
All items of packaging for food-processing industries excluding the items reserved for small-scale sector
Hotels and tourism-related industry

SUMMARY

Industrial licensing constituted the key element in Government of Indias industrial policy from 1951 to
1991. This meant a tight investment licensing system was administered primarily through the Industries
(D&R) Act, 1951 and was supplemented by a host of other regulatory laws and administrative practices.
Most of these regulations arose from the system of planning in India and from the provision in the
Constitution preaching a socialist pattern of society, equality of wealth, and opportunities in general.
Until 1991, the inner core of policy and legal instruments consisted of the Industrial Policy Regulation of
1956, the Industries (D&R) Act 1951, and Industrial Licensing Policy of 1973. Since 1978, it has become the
practice to supplement the two policy documents mentioned above with yet another documentIndustrial
Policy Statement of 1978, 1980, and 1982.

128

There were also several indirect but important controls. The most important among them was the MRTP
Act, Capital Goods Import Control, and government policy with regard to foreign investment and foreign
collaborations.
With the introduction of the NIP in 1991, a substantial programme of deregulation began to be undertaken.
Industrial licensing was abolished for all items except for six industries related to security, strategic, or
environmental concern. They are:
1.
2.
3.
4.
5.
6.

Distillation and brewing of alcoholic drinks,

Cigars and cigarettes of tobacco and manufactured tobacco substitutes,
Electronic, aerospace, and defence equipment,
Industrial explosives including detonating fuses, safety fuses, gunpowder, nitrocellulose, and matches,
Hazardous chemicals, and
Drugs and pharmaceuticals (according to the modified Drug Policy, 1994; as amended in 1999).

A significant number of industries had earlier been reserved for the public sector. In 2004, a decision was
taken to open the defence industry sector to the private sector with FDI permissible up to 26 per cent. Now,
the areas reserved for the public sector are:
1.
2.
3.

Atomic energy,
Substances specified in the schedule to the notification of the Government of India in the Department of Atomic Energy number S.O. 212 (E), dated March 15, 1995,
and
Railway transport.

The government continues to provide protection to the small-scale sector, inter-alia, through the policy of
reserving items for exclusive manufacture in the small-scale sector. Industrial undertakings, other than the
small-scale industrial undertakings, engaged in the manufacture of items that are reserved for exclusive
manufacture in the small-scale sector, are required to obtain an industrial licence and undertake an export
obligation of 50 per cent of the annual production. However, the condition licensing is not applicable to
industrial undertaking operating under 100 per cent EOUs Schemes, the EPZ and the Special Economic
Zone (SEZ) Schemes. Industrial undertakings with investments in plant and machinery up to Rs 1 crore
qualify for the status of small-scale or ancillary industrial undertaking from December 24, 1999. The
investment limit for tiny units is Rs 25 lakh.
KEY WORDS

Licensing
Licence Raj
Curative Provisions
Creative Provisions
Letter of Intent (LOI)
Exemption
Preventive Provisions
Public Sector
MoU System
Delicensing
Scheduled Industries
Liberalisation
Exchange Rate

QUESTIONS

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.

Describe the importance and objective of industrial licensing systems in India.

Assess the rationale of the industrial licensing policy and comment on the changes incorporated therein.
Explain the industrial licensing policy and liberalisation.
Explain the changes incorporated in the industrial licensing policies to attract foreign investment.
Explain the major changes in the policy directions of the government towards public sector enterprises in India.
Critically examine the performance of the public sector enterprises in India. Discuss their problems.
List the various support and control measures of the government on the private sector of the country.
Explain the measures to be followed for the revival of public sector enterprises in India.
What do you mean by privatisation? Critically examine the issues involved in privatisation.
Explain the reform process initiated by the government for the industrial development of the country.
Make a comparative study on the performance of the public and private sectors in India.
Examine the impact of the reform process on the industrial development of the nation.
Briefly analyse the provisions and objectives of the Industries (D&R) Act, 1951.
Discuss the effectiveness of the licensing systems in India.
The Government of India has been reviewing its industrial licensing from time to time. Is this a necessary step? Discuss.

REFERENCES

129

Datt, R. and K. M. P. Sundaram (2005). Indian Economy. Delhi: Sultan Chand.

Mankar, V. G. (1999). Business Economics. Delhi: Macmillan.
Sengupta, A. K. (2004). Government and Business, 4th ed. New Delhi: Vikas Publishers.

CHAPTER 05
Indias Monetary and Fiscal Policy
CHAPTER OUTLINE

Monetary Policy of India

Concept and Meaning of Monetary Policy

Objectives of the Monetary Policy
Differences Between Monetary Policy and Fiscal Policy
Meaning of CRR and SLR
Impact of the Monetary Policy
Measures to Regulate Money Supply
Meaning of Some Monetary Policy Terms
The Monetary Policy and IMF
RBIs Monetary Policy Measures
RBIs Monetary Policy, 200809

Fiscal Policy of India

Concept and Meaning of Fiscal Policy

Objectives of the Fiscal Policy
Fiscal Policy and Economic Development
Techniques of Fiscal Policy
Merits or Advantages of Fiscal Policy of India
The Shortcomings of the Fiscal Policy of India
Suggestions for Necessary Reforms in Fiscal Policy
Fiscal Policy Reforms
Fiscal Policy Statement, 200809
Fiscal PolicyAn Assessment

130

Conclusions
Case
Summary
Key Words
Questions
References

I. MONETARY POLICY OF INDIA

CONCEPT AND MEANING OF MONETARY POLICY

Monetary policy is primarily concerned with the management of supply of money in a growing economy
and managing the rate of growth of money supply per period. In a growing economy, the optimal conduit
of monetary policy requires that the supply of money is grown to sub-order certain well-defined social
goals. Talking in terms of the annual rate of growth of money supply, the optimal monetary policy requires
that this rate of growth, on an average, is such as to be consistent with the attunement of the desired social
goals.

Monetary policy is primarily concerned with the management of supply of money in a growing
economy and managing the rate of growth of money supply per period.
It is universally admitted that the best combination of these social goals is growth with stability and equity.
Stability here means severe economic stability but, for all practical purposes, is generally equated with the
general price stability. It has been argued that, in the Indian context, the pursuit of the above set of goals
will mean a maximum feasible output and employment in every short run and also promotion of a healthy
balance-of-payment position in the medium run. The monetary and credit policy is the policy statement,
traditionally announced twice a year, through which the Reserve Bank of India (RBI) seeks to ensure a
price stability for the economy.

The monetary and credit policy is the policy statement, traditionally announced twice a year,
through which the Reserve Bank of India (RBI) seeks to ensure a price stability for the economy.
These factors includemoney supply, interest rates, and the inflation. In banking and economic terms,
money supply is referred to as M3, which indicates the level (stock) of legal currency in the economy.
Besides, the RBI also announces norms for the banking and financial sector and the institutions which are
governed by it. Those norms would be banks, financial institutions, non-banking financial institutions,
Nidhis and primary dealers (money markets), and dealers in the foreign exchange (forex) market.
Historically, the monetary policy was announced twice a yeara slack-season policy (AprilSeptember)
and a busy-season policy (OctoberMarch) in accordance with agricultural cycles. These cycles also
coincide with the halves of the financial year.

Historically, the monetary policy was announced twice a yeara slack-season policy
(AprilSeptember) and a busy-season policy (OctoberMarch) in accordance with agricultural cycles.
These cycles also coincide with the halves of the financial year.
Initially, the RBI used to announce all its monetary measures twice a year in the monetary and credit
policy. The monetary policy has now become dynamic in nature as RBI reserves its right to alter it from
time to time, depending on the state of the economy. However, with the share of credit to agriculture
coming down and credit towards the industry being granted the whole year around, the RBI, since
199899, has moved in for just one policy in April-end. However, a review of the policy does take place
later in the year.
OBJECTIVES OF THE MONETARY POLICY

The objectives are to maintain price stability and to ensure an adequate flow of credit to the productive
sectors of the economy. The stability for the national currency (after looking at prevailing economic
conditions), growth in employment, and income are also looked into. The monetary policy affects the real
sector through long and variable periods, while the financial markets are also impacted through
short-term implications.
131

The objectives are to maintain price stability and to ensure an adequate flow of credit to the
productive sectors of the economy.
There are four main channels which the RBI looks at. They are
1.
2.
3.
4.

Quantum channel: money supply and credit (affects real output and price level through changes in reserves money, money supply, and credit aggregates).
Interest-rate channel.
Exchange-rate channel (linked to the currency).
Asset price.

DIFFERENCES BETWEEN MONETARY POLICY AND FISCAL POLICY

Two important tools of macro-economic policy are monetary policy and fiscal policy.
The monetary policy regulates the supply of money and the cost and availability of credit in the economy.
It deals with both the lending and borrowing rates of interest for commercial banks. The monetary policy
aims to maintain price stability, full employment, and economic growth. The RBI is responsible for
formulating and implementing monetary policy. It can increase or decrease the supply of currency, as well
as interest rate, carry out open-market operations (OMO), control credit, and vary the reserve
requirements. The monetary policy is different from fiscal policy as the former brings about a change in
the economy by changing money supply and interest rate, whereas fiscal policy is a broader tool of the
government.

The monetary policy aims to maintain price stability, full employment, and economic growth.
The fiscal policy can be used to overcome recession and control inflation. It may be defined as a deliberate
change in the government revenue and expenditure to influence the level of national output and prices.
For instance, at the time of recession the government can increase expenditures or cut taxes in order to
generate demand. On the other hand, the government can reduce its expenditures or raise taxes during
inflationary times. Fiscal policy aims at changing aggregate demand by suitable changes in government
expenditure and taxes.

The fiscal policy can be used to overcome recession and control inflation. It may be defined as a
deliberate change in the government revenue and expenditure to influence the level of national output
and prices.
The annual Union Budget showcases the governments fiscal policy.
MEANING OF CRR AND SLR

CRR, or cash reserve ratio, refers to a portion of the deposit (as cash) which banks have to keep/ maintain
with the RBI. This serves two purposes. It ensures that a portion of bank deposit is totally risk-free and
secondly, it enables that RBI controls liquidity in the system, and, thereby, inflation. Besides the CRR,
banks are required to invest a portion of their deposit in government securities as a part of their statutory
liquidity ratio (SLR) requirements.

CRR, or cash reserve ratio, refers to a portion of the deposit (as cash) which banks have to keep/
maintain with the RBI.
The government securities (also known as gilt-edged securities or gilts) are bonds issued by the Central
government to meet its revenue requirements. Although the bonds are long-term in nature, they are liquid
as they can be traded in the secondary market. Since 1991, as the economy has recovered and sector
reforms increased, the CRR has fallen from 15 per cent in March 1991 to 5.5 per cent in December 2005.
The SLR has fallen from 38.5 per cent to 25 per cent over the past decade.
IMPACT OF THE MONETARY POLICY

Impact of Cut in CRR on Interest Rates

132

From time to time, RBI prescribes a CRR or the minimum amount of cash that banks have to maintain
with it. The CRR is fixed as a percentage of total deposit. As more money chases the same number of
borrowers, interest rates come down.

From time to time, RBI prescribes a CRR or the minimum amount of cash that banks have to
maintain with it. The CRR is fixed as a percentage of total deposit. As more money chases the same
number of borrowers, interest rates come down.
Impact of Change in SLR and Gilt Products on Interest Rates

SLR reduction is not so relevant in the present context for two reasons: First, as part of the reform process,
the government has begun borrowing at market-related rates. Therefore, banks get better interest rates
compared to what they used to get earlier for their statutory investments in government securities.
Second, banks are still the main source of funds for the government. This means that despite a lower SLR
requirement, banks investment in government securities will go up as government borrowing rises. As a
result, bank investment in gilts continues to be high despite the RBI bringing down the minimum SLR to
25 per cent a couple of years ago. Therefore, for the purpose of determining the interest rates, it is not the
SLR requirement that is important but the size of the governments borrowing programme. As government
borrowing increases, interest rates, too, rise.

For the purpose of determining the interest rates, it is not the SLR requirement that is important but
the size of the governments borrowing programme. As government borrowing increases, interest
rates, too, rise.
Besides, the gilts also provide another tool for the RBI to manage interest rates. The RBI conducts OMO by
offering to buy or sell gilts. If it feels that interest rates are too high, it may bring them down by offering to
buy securities at a lower yield than what is available in the market.
Impact on Domestic Industry and Exporters

The exporters look forward to the monetary policy since the Central Bank always makes an announcement
on export refinance, or the rate at which the RBI will lend to banks which have advanced preshipment
credit to exporters. A lowering of these rates would mean lower borrowing costs for the exporter.
Impact on Stock Markets and Money Supply

Most people attribute the link between the amount of money in the economy and movements in stock
markets to the amount of liquidity in the system. This is not entirely true. The factor connecting money
and stocks is interest rates. People save to get returns on their savings. A hike in interest rates would tend
to suck money out of shares into bonds or deposit; a fall would have the opposite effect. This argument has
survived econometric tests and practical experience.

A hike in interest rates would tend to suck money out of shares into bonds or deposit; a fall would
have the opposite effect. This argument has survived econometric tests and practical experience.
Impact of Money Supply on Jobs, Wages, and Output

At any point of time, the price level in the economy is determined by the amount of money floating around.
An increment in the money supplycurrency with the public demand deposit, and time depositincreases
prices all around because there is more currency moving towards the same goods and services.
Typically, the RBI follows a least-inflation policy, which means that its money market operations as well as
changes in the bank rate are generally designed to minimise the inflationary impact of money supply
changes. Since most people can generally see through this strategy, it limits the impact of the RBIs
monetary moves on jobs or production. The markets, however, move to the RBIs tune because of the link
between interest rates and capital market yields. The RBIs policies have maximum impact on volatile
forex and stock markets. The jobs, wages, and output are affected over the long run, if the trends of high
inflation or low liquidity persist for a very long period. If the wages move slower than other prices, higher
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inflation will drive real wages lower and encourage employers to hire more people. This, in turn, ramps up
production and employment. This was the theoretical justification of a long-term trend that showed that
higher inflation and employment went together; whereas, when inflation fell, unemployment increased.

The jobs, wages, and output are affected over the long run, if the trends of high inflation or low
liquidity persist for a very long period.
MEASURES TO REGULATE MONEY SUPPLY

The RBI uses the interest rate, OMO, changes in banks CRR, and primary placements of government debt
to control the money supply. OMO, primary placements, and changes in the CRR are the most popular
instruments used. Under the OMO, the RBI buys or sells government bonds in the secondary market. By
absorbing bonds, it drives up bond yields and injects money into the market. When it sells bonds, it does
so to suck money out of the system.
The changes in CRR affect the amount of free cash that banks can use to lendreducing the amount of
money for lending cuts into overall liquidity, driving interest rates up, lowering inflation, and sucking
money out of markets. Primary deals in government bonds are a method to intervene directly in markets,
followed by the RBI. By directly buying new bonds from the government at lower than market rates, the
RBI tries to limit the rise in interest rates that higher government borrowings would lead to.

The changes in CRR affect the amount of free cash that banks can use to lendreducing the amount
of money for lending cuts into overall liquidity, driving interest rates up, lowering inflation, and
sucking money out of markets.
MEANING OF SOME MONETARY POLICY TERMS

Bank Rate

Bank rate is the minimum rate at which the Central Bank provides loans to the commercial banks. It is also
called the discount rate. Usually, an increment in bank rate results in commercial banks increasing their
lending rates. Changes in bank rate affect credit creation by banks through altering the cost of credit.
Cash Reserve Ratio

All commercial banks are required to keep a certain amount of its deposit in cash with RBI. This
percentage is called the cash reserve ratio or CRR. The current CRR requirement is 8 per cent.

All commercial banks are required to keep a certain amount of its deposit in cash with RBI. This
percentage is called the cash reserve ratio or CRR. The current CRR requirement is 8 per cent.
Inflation

Inflation refers to a persistent rise in prices. Simply put, it is a situation of too many buyers and too few
goods. Thus, due to scarcity of goods and the presence of many buyers, the prices are pushed up. The
converse of inflation, that is, deflation, is the persistent fall in prices. RBI can reduce the supply of money
or can increase can interest rates to reduce inflation.

Inflation refers to a persistent rise in prices. Simply put, it is a situation of too many buyers and too
few goods.
Money Supply (M3)

This refers to the total volume of money circulating in the economy, and, conventionally, comprises
currency with the public and demand deposit (current account + savings account) with the public. The RBI
has adopted three concepts of measuring money supply. The first one is M1, which equals the sum of
currency with the public, demand deposit with the public, and other deposit with the public. Simply put,
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M1 includes all coins and notes in circulation and personal current accounts too. The second, M2 is a
measure of money supply, including M1, personal deposit accounts government deposit, and deposit in
currencies other than rupee. The third concept, M3 or the broad money concept, as it is also known, is
quite popular. M3 includes net time deposit (fixed deposit), savings deposit with post office saving banks,
and all the components of M1.

This refers to the total volume of money circulating in the economy, and, conventionally, comprises
currency with the public and demand deposit (current account + savings account) with the public.
Statutory Liquidity Ratio (SLR)

Banks in India are required to maintain 25 per cent of their demand and time liabilities in government
securities and certain approved securities. These are collectively known as SLR securities. The buying and
selling of these securities laid the foundations of the 1992 Harshad Mehta scam.
Repo

A repurchase agreement or ready forward deal is a secured short-term (usually 15 days) loan given by one
bank to another against government securities. Legally, the borrower sells the securities to the lending
bank for cash, with the stipulation that at the end of the borrowing term, it will buy back the securities at a
slightly higher price, the difference in price representing the interest.
Open Market Operations (OMO)

The RBI, an important instrument of credit control, purchases and sells securities in OMO. In times of
inflation, RBI sells securities to mop up the excess money in the market. Similarly, to increase the supply
of money, RBI purchases securities.

In times of inflation, RBI sells securities to mop up the excess money in the market. Similarly, to
increase the supply of money, RBI purchases securities.
THE MONETARY POLICY AND IMF

One of the important conditionalities of the loan assistance granted by the International Monetary Fund
(IMF) to India since 199192, has been to lower its fiscal deficit as a proportion of the gross domestic
product (GDP) over the next three years. Fiscal deficit is defined as the excess of total (government)
expenditure over revenue receipts, grants, and non-debt capital receipts. This deficit is met by loans of all
kinds and from all sourcesdomestic and foreign (and is inclusive of all landings by the Centre to the
states and others). These loan funds were raised from the open-market loans, subscribed by banks and
other financial institutions under the pressure of statutory requirement (such as the SLR for banks), small
savings and, most of all, the net RBI credit to the government, which led to automatic monetisation of the
government debt and, thereby, to increase in money supply and in prices. Moreover, the government debt
was raised at relatively low administered rates, which induced high-fiscal profligacy. The commercial
sector was starved of ample bank credit and this credit was too costly. The monetary policy was reduced to
the status of a handmaid, confined to financing fiscal deficits at administered rates, so as to minimise the
interest cost to the government. Thus, high and growing fiscal deficits lay at the root of several of Indian
economic ills, including its serious balance-of-payment problems. Therefore, it was imperative to lower
significantly, as soon as possible, the fiscal deficitGDP ratio, without which all loan assistance by the IMF
would have gone down the drain. It is ironical that the same advice had been tendered several times by the
RBI in its annual reports. But the government did not pay any heed to it. However, coming from the IMF,
it was a dictate; that is, an essential condition for loan assistance, and the Government of India fell in line
readily.

High and growing fiscal deficits lay at the root of several of Indian economic ills, including its serious
balance-of-payment problems. Therefore, it was imper a tive to lower significantly, as soon as
possible, the fiscal deficitGDP ratio, without which all loan assistance by the IMF would have gone
down the drain.

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Over the following two years, using a combination of revenue raising and expenditure- control measures,
the government has been able to bring down significantly the fiscal deficitGDP ratio. Thus, this ratio (at
current market prices and in percentage terms) had the value of 8.4 for 199091 and had been brought
down to the value of 6.2 for 199192 and the value of 5.0 for 199293.
RBIS MONETARY POLICY MEASURES

Till recently, the RBI was greatly handicapped by the governments fiscal policy in its role of regulating the
rate of growth of money supply. As pointed out in the previous section and at several places in the book,
excess deficit financing by the government has been a major source of increase in H, which, in turn, has
been largely responsible, for excessive increases in money supply year after year. The RBI, in its annual
reports, had been pleading unsuccessfully, for several years, that the government must exercise checks on
its very large budget deficits in the interest of monetary stability. But to no avail. Unfortunately, as
explained in the previous section, the Chakravarty Committee (1985) had recommended a high annual rate
of growth (of 14 per cent) of money supply. The external IMFWorld Bank pressure on the government
since June 1991, to cut down its deficit and carry through other structural reforms, has opened the gate for
monetary policy reforms as well.

The RBI, in its annual reports, had been pleading unsuccessfully, for several years, that the
government must exercise checks on its very large budget deficits in the interest of monetary stability.
But to no avail.
The RBI has been authorised to formulate the monetary policy of the country, with the objective to
accelerate the pace of economic development, for raising national income and the standard of living as well
as to control and minimise the inflationary spiral in prices in the country. Thus, the monetary policy of the
country aims to attain higher level of output and employment, price stability, exchange stability, and
balance of payment equilibrium.
Since the First Plan onwards, the RBI followed the monetary policy to attain economic growth with
reasonable price stability. Accordingly, the monetary policy pursued by the RBI wanted to enhance the
flow of currency and credit for meeting the increasing demand for investment funds for attaining rapid
economic development. Simultaneously, the monetary policy has also made a serious attempt to control
the inflationary trend in prices since 1973.

The monetary policy pursued by the RBI wanted to enhance the flow of currency and credit for
meeting the increasing demand for investment funds for attaining rapid economic development.
In recent years, the monetary policy of the country has been following two sets of objectives. Firstly, the
policy is trying to enhance the flow of bank credit in adequate quantity to industry, agriculture and trade to
meet the requirement, and also to provide special assistance for neglected sectors and weaker sections of
the community. Secondly, monetary policy of the RBI is also trying to maintain internal price stability by
controlling the flow of credit to the optimum level.
Credit Control

As per the RBI Act, 1934 and the Banking Regulation Act, 1949, the RBI has been empowered to adopt
credit control measures for proper regulation of the volume of credit. The credit control measures are of
two types, that is, quantitative controls and qualitative controls. While the quantitative controls are trying
to control the volume of credit in general the qualitative controls are trying to control the volume of credit
in a selective manner. The following are some of the measures adopted by RBI to control credit.

The credit control measures are of two types, that is, quantitative controls and qualitative controls.
Bank Rate: By adopting a variation in the bank rate, the RBI is trying to influence the interest rate
charged by the commercial banks on its lending. Initially, the bank rate was fixed by the RBI at 2 per cent
till November 1951. After the bank rate was gradually raised to 12 per cent in October 1991 and, then,
reduced again gradually to 6 per cent in January 2009.

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Open Market Operations (OMO): The RBI has also been empowered to buy and sell short-term
commercial bills and securities so as to control the volume of credit.
Cash Reserve Ratio (CRR): The variation in the CRR is another method of credit control pursued by
the RBI. As per RBI Act, 1934. The commercial have to keep certain minimum cash reserve with the RBI.
Accordingly, the CRR has been raised from 3 per cent in 1962 to 15 per cent in July 1989 and then it,
subsequently, declined to 5 per cent in January 2009.
Selective Credit Control (SCC): As per Banking Regulation, 1949, the RBI is empowered to control
credit on qualitative basis, that is, in a selective manner. Accordingly, the SCC was first introduced in 1956.
The SCC wanted to check speculation activities in the market and, thereby, controls the flow of credit
selectively. Since 199394, the RBI adopted stricter SCC. Accordingly, stricter controls have been imposed
on six broad groups of commodities, which includefood grains, sugar, oilseeds, cotton, vegetable oil, and
cotton textiles.
Regarding the effectiveness of SCC, the RBI quotes:
The efficacy of the selective credit controls should not be assessed mainly in terms of their positive
influence on prices since the latter primarily depends on the availability of supply of the relevant
commodities relative to demand. The success of these controls is to be judged in a limited sphere, viz.,
their impact on the pressure of demand originating from bank creditin this sense, the measures
should be deemed successful, but for their operation it is likely that the price situation might have been
somewhere worse.

The efficacy of the selective credit controls should not be assessed mainly in terms of their positive
influence on prices since the latter primarily depends on the availability of supply of the relevant
commodities relative to demand. The success of these controls is to be judged in a limited sphere, viz.,
their impact on the pressure of demand originating from bank creditin this sense, the measures
should be deemed successful, but for their operation it is likely that the price situation might have
been somewhere worse.
Box 5.1 defines the differences between the restrictive and the accouning monetary policy.
RBIS MONETARY POLICY, 200809

The annual policy statement of the RBI is a laudable attempt to achieve the objective of growth with
stability. The underpinnings of the proposals are designed to ensure that while they tackle the current
problem of inflation, they do not, at the same time, derail the economy from the path of
growthexperienced in the recent period.
The objectives are clearly stated in terms of priorities which are price stability, well-anchored price
expectations, orderly conditions in financial markets, and the sustenance of the growth momentum. The
policy has been formulated in the background of certain important developments in the economy. Thus,
the annual inflation rate, which was subdued for the best part of last year, has flared up recently above 7
per cent. This is, primarily, the result of a general shortage of basic necessities of life such as foodgrains
and edible oils.

The objectives are clearly stated in terms of priorities which are price stability, well-anchored price
expectations, orderly conditions in financial markets, and the sustenance of the growth momentum.
The cost-push to prices of industrial products flows from the increase in input prices due partly to
imported inflation. As a result of the preemptive measures taken by the RBI in the earlier quarters, the
expansion in non-food credit has come down to a manageable growth rate of 22.3 per cent in 200708
from 28.5 per cent in the previous year. Money supply, as measured by M3, rose by 20.7 per cent.
Although it was lower than the 21.5 per cent recorded earlier, it was still above the targeted 17.5 per cent.
However, Reserve Money increased by 30.9 per cent from 23.7 per cent in 200607. It was primarily
attributable to the inflow of foreign funds, the bulk of which was sterilised by the Central Bank. Thus,
during AprilDecember 2007, the net capital inflows amounted to $81.9 bn from $30.1 bn in the
corresponding period of the previous year. It amounted to a growth of 172 per cent. The accretion to forex
reserves, excluding valuation changes, amounted to $67.2 bn during AprilDecember 2007 ($16.2 bn).
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The overhang of liquidity of balances under the liquidity adjustment facility, market stabilisation scheme
and the government added up to a record of Rs 273,694 on March 27, 2008. It came down, subsequently,
to Rs 243,879 crore on April 25, 2008.

The overhang of liquidity of balances under the liquidity adjustment facility, market stabilisation
scheme and the government added up to a record of Rs 273,694 on March 27, 2008. It came down,
subsequently, to Rs 243,879 crore on April 25, 2008.
Policy Measures

Thus, in the light of the foregoing developments, the foremost concern of the bank has been to deal with
the surplus liquidity, which can push the inflation rate higher. It is in this connection that the Central Bank
has chosen to raise the CRR by an additional 25 basis points from May 24. This is in addition to the hikes
announced only a few days ago.

Box 5.1 Restrictive vs Accounting Monetary Policy

Restrictive Monetary Policy

A restrictive monetary policy seeks to raise the rate of interest, reduce money supply growth rate and
restrict the flow of credit, and in, generally, aimed to fight inflation.
Liberal or Accommodating Monetary Policy
It is generally mean to ght recession and stimulate demand through credit liberalisation, monetary
expansion, and fall in rate of interest.

There is a clear warning that there could be a further increment in the CRR in the future, in addition to
other measures, if warranted. In doing so, the RBI has set a target of growth in money supply at the rate of
16.5 per cent to 17 per cent in 200809 and an increment in non-food credit by 20 per cent. The rate for
M3 has been decided in the expectation of GDP growth rate of 8 per cent to 8.5 per cent.
Given the income elasticity of demand for money at 1.4, a statistic obtained from the bank under the Right
to Information Act (RIA), the real demand for money is around 12 per cent (at the higher growth rate). The
additional 5 per cent is intended to accommodate (generate, according to this writer), inflation of 5 per
cent. Repo and reverse-repo rates have been left unchanged for tactical reasons. At first sight, it gives the
impression that rates in the system will not be raised. But, depending on the relative position of banks,
there could be changes in deposit and lending rates since they are no longer eligible to get interest from the
RBI on the cash balances impounded.
For the first time in the recent years, the RBI has sought to undertake a review of loans to the years, the
RBI has sought to agricultural commodity sector by banks. It has been said that, in view of the current
public policy concern in regard to trading in food items, banks are required to review their advances to
traders in agricultural commodities, including rice, wheat, oilseed and pulses, as also advances against
warehouse receipts. They are further advised to exercise caution while extending such advances to ensure
that bank finance is not used for hoarding. The first such review should be completed by May 15, 2008 and
forwarded to the RBI for carrying out a further supervisory review of the banks exposure to the
commodity sector.

For the first time in the recent years, the RBI has sought to undertake a review of loans to the years,
the RBI has sought to agricultural commodity sector by banks.
II. FISCAL POLICY OF INDIA

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CONCEPT AND MEANING OF FISCAL POLICY

The fiscal policy plays an important role on the economic and social front of a country. Traditionally, fiscal
policy is concerned with the determination of state income and expenditure policy. But with the passage of
time, the importance of fiscal policy has been increasing continuously given the need to attain rapid
economic growth. Accordingly, it has included public borrowing and deficit financing as a part of fiscal
policy of the country. An effective fiscal policy is composed of policy decisions relating to entire financial
structure of the government, including tax revenue, public expenditures, loans, transfers, debt
management, budgetary deficit, and so on. The policy also tries to attain a proper balance between these
aforesaid units so as to achieve the best possible results in terms of economic goals. Harvey and Johnson,
M. defined fiscal policy as changes in government expenditure and taxation designed to influence the
pattern and level of activity. According to G. K.Shaw, We define fiscal policy to include any design to
change the price level, composition or timing of government expenditure or to vary the burden, structure
of frequency of the tax payment. Otto Eckstein defines fiscal policy as changes in taxes and expenditure
which aim at short run goals of full employment price level and stability.

The fiscal policy plays an important role on the economic and social front of a country. Traditionally,
fiscal policy is concerned with the determination of state income and expenditure policy.
OBJECTIVES OF THE FISCAL POLICY

In India, the fiscal policy is gaining its importance in recent years with the growing involvement of the
government in developmental activities of the country. The following are some of the important objectives
of fiscal policy adopted by the Government of India:
1.
2.
3.
4.
5.
6.
7.
8.
9.

To mobilise adequate resources for financing various programmes and projects adopted for economic development;
To raise the rate of savings and investment for increasing the rate of capital formation;
To promote necessary development in the private sector through fiscal incentive;
To arrange an optimum utilisation of resources;
To control the inflationary pressures in economy in order to attain economic stability;
To remove poverty and unemployment;
To attain the growth of public sector for attaining the objective of socialistic pattern of society;
To reduce regional disparities; and
To reduce the degree of inequality in the distribution of income and wealth.

In India, the fiscal policy is gaining its importance in recent years with the growing involvement of
the government in developmental activities of the country.
In order to attain all these aforesaid objectives, the Government of India has been formulating its fiscal
policy by incorporating the revenue, expenditure, and public debt components in a comprehensive
manner.
FISCAL POLICY AND ECONOMIC DEVELOPMENT

One of the important goals of fiscal policy formulated by the Government of India is to attain rapid
economic development of the country. To attain sucheconomic development in the country, the fiscal
policy of the country has adopted the following two objectives:
1.
2.

To raise the rate of productive investment of both public and private sector of the country.
To enhance the marginal and average rates of savings for mobilising adequate financial resources, for making investment in public and private sectors of the
economy.

One of the important goals of fiscal policy formulated by the Government of India is to attain rapid
economic development of the country.
The fiscal policy of the country is trying to attain both these two objectives during the plan periods.
TECHNIQUES OF FISCAL POLICY

The following are the four important techniques of fiscal policy of India:
1.
2.
3.
4.

Taxation Policy
Public Expenditure Policy
Public Debt Policy
Deficit Financing Policy

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The following are the four important techniques of fiscal policy of India:

Taxation Policy
Public Expenditure Policy
Public Debt Policy
Deficit Financing Policy

Policy of Taxation of the Government of India

One of the important sources of revenue for the Government of India is the tax revenue. Both the direct
and indirect taxes are being levied by the Government of India. Direct taxes are progressive by nature and
most of the indirect taxes are regressive in nature. Taxation plays an important role in mobilising the
resources for a plan. During the First, Second, and Third Plan, additional taxation alone contributed nearly
12.7 per cent, 22.8 per cent, and 34 per cent of public sector plan expenditure, respectively. The same
shares during the Fourth, Fifth, Sixth, and Seventh Plan were 27 per cent, 37 per cent, 22 per cent, and 15
per cent, respectively.

One of the important sources of revenue for the Government of India is the tax revenue. Both the
direct and indirect taxes are being levied by the Government of India.
The total tax revenue collected by the Government of India stands at 72.13 per cent of the total revenue of
the government. Mobilisation of taxes by the government stands around 15 per cent to 16 per cent of the
national income of the country during the recent years. The main objectives of taxation policy in India
include
1.
2.
3.
4.

mobilisation of resources for financing economic development;

formation of capital by promoting saving and investment through time deposit, investment in government bonds, in units, insurance, and so on;
Attainment of quality in the distribution of income and wealth through the imposition of progressive direct taxes; and
Attainment of price stability by adopting anti-inflationary taxation policy.

Public Expenditure Policy of the Government of India

The public expenditure is playing an important role in the economic development of a country like India.
With the increase in the responsibilities of the government and with the increasing participation of
government in economic activities of the country, the volume of public expenditure in a highly populated
country like India is increasing at a galloping rate. In 199293, the public expenditure as percentage of
GDP was around 30 per cent. Public expenditure is an expenditure of the government and is mostly
related to the developmental activities, viz., development of infra-structure, industry, health facilities,
educational institutions, and so on. The non-developmental expenditure is mostly a maintenance type of
expenditure and is related to maintenance of law and order, defence administrative services, and so on.
The public expenditure incurred by the Government of India has been creating a serious impact on the
production and distribution pattern of the economy.

With the increase in the responsibilities of the government and with the increasing participation of
government in economic activities of the country, the volume of public expenditure in a highly
populated country like India is increasing at a galloping rate.
The following are some of the important features of the policy of public expenditure formulated by the
Government of India.
Development of Infrastructure: The development of infrastructural facilities, including development
of power projects, railways, roads, transportation system, bridges, dams, irrigation projects, hospitals,
educational institutions, and so on, involves huge expenditure by the government as private investors are
very much reluctant to invest in these areas, considering the low rate of profitability and high risk involved
in it.
Development of Public Enterprises: The development of heavy and basic industries is very important
for the development of an underdeveloped country. But the establishment of these industries involves
huge investment and a considerable proportion of risk. Naturally, private sector cannot take the
responsibility to develop these industries. Therefore, the development of these industries has become a
responsibility of the Government of India, particularly since the introduction of the Industrial Policy, 1956.

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A significant portion of public expenditure has been utilised for the establishment and improvement of
these public enterprises.

The development of heavy and basic industries is very important for the development of an
underdeveloped country.
Support to Private Sector: Providing the necessary support to the private sector for the establishment
of industry and other projects is another important objective of public expenditure policy formulated by
the Government of India.
Social Welfare and Employment Programmes: Another important feature of public expenditure
policy pursued by the Government of India is its growing involvement in attaining various social welfare
programmes and also on employment-generation programmes.
Policy of Deficit Financing of the Government of India

Following the policy of deficit financing as introduced by J.M. Keynes, the Government of India has been
adopting the policy for financing its developmental plans since its inception. The deficit financing in India
indicates loan taking by the government from the RBI in the form of issuing fresh dose of currency.
Considering the low level of income, low rate of savings, and capital formation, the government is taking
recourse to deficit financing in increasing proportion. Deficit financing is a kind of forced savings.
Accordingly, Dr. V.K.R.V. Rao observed,

The deficit financing in India indicates loan taking by the government from the RBI in the form of
issuing fresh dose of currency.
Deficit financing is the name of volume of those forced savings which are the result of increase in prices
during the period of the Government investment. Thus deficit financing helps the country by providing
necessary funds for meeting the requirements of economic growth but, at the same time, it also create
the problem of inflationary rise in prices. Thus the deficit financing must be kept within the
manageable limit.
During the First, Second, Third, and Fourth Plan, deficit financing as percentage of total plan resources
was to be to the extent of 17 per cent, 20 per cent, 13 per cent, and 13.5 per cent, respectively. But due to
the adverse consequence of deficit financing through inflationary rise in price level, the extent of deficit
financing was reduced to only 3 per cent during the Fifth Plan.
But due to resource constraint, the extent of deficit financing again rose to 14 per cent and 16 per cent of
total plan resources, respectively. Thus, knowing fully well the evils of deficit financing, planners are still
maintaining a high rate of deficit financing in the absence of increased tax revenue due to a large-scale tax
evasion and negative contribution of public enterprises. But considering the present inflationary trend in
prices, the government should give lesser stress on deficit financing.

Knowing fully well the evils of deficit financing, planners are still maintaining a high rate of deficit
financing in the absence of increased tax revenue due to a large-scale tax evasion and negative
contribution of public enterprises.
Public Debt Policy of the Government of India

As the taxation has got its own limit in a poor country like India due to poor taxable capacity of the people,
the government is taking a recourse to public debt for financing its developmental expenditure. In the
post-independence period, the Central government has been raising a good amount of public debt
regularly, in order to mobilise a huge amount of resources for meeting its developmental expenditure. The
total public debt of the Central government includes internal and external debt.
Internal Debt: The Internal debt indicates the amount of loan raised by the government from within the
country. The government raises internal public debt from the open market by issuing bonds and cash
certificates and 15 years annuity certificates. The government also borrows for a temporary period from
RBI (treasury bills issued by RBI) and also from commercial banks.
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The Internal debt indicates the amount of loan raised by the government from within the country.
External Debt: As the internal debt is insufficient, the government is also collecting loan from external
sources, that is, from abroad, in the form of foreign capital technical know-how and capital goods.
Accordingly, the Central government is also borrowing from international financing agencies for financing
various developmental projects. These agencies include World Bank, IMF, IDA, IFC (Integrated Finance
Corporation), and so on. Moreover, the government is also collecting inter-governmental loans from
various developed countries of the world for financing its various infrastructural projects.

The Central government is also borrowing from international financing agencies for financing
various developmental projects.
The volume of public debt in India has been increasing at a considerable rate, that is, from Rs 204 crore
during the First Plan to Rs 2,135 crore during the Fourth Plan and, then, to Rs 103,226 crore during the
Seventh Plan. During the Eighth Plan, the volume of internal debt of the Central government was
amounted to Rs 159,972 crore and that of external debt was to the extent of Rs 2,454 crore at the end of
the second year of the Ninth plan, that is, in 199899 (BE), with the total outstanding loan (liabilities) of
the Central government at Rs 868,206 crore.
MERITS OR ADVANTAGES OF FISCAL POLICY OF INDIA

The following are some of the important merits or advantages of fiscal policy of Government of India.
Capital Formation

The fiscal policy of the country has been playing an important role in raising the rate of capital formation
in the country, both in its public and private sectors. The gross domestic capital formation as per cent of
GDP in India has increased from 10.2 per cent in 195051 to 22.9 per cent in 198081 and, then, to 24.8
per cent in 199798. Therefore, it has created a favourable impact on the public and private sector
investment of the country.
Mobilisation of Resources

The fiscal policy of the country has been helping to mobilise considerable amount of resources through
taxation, public debt, and so on, for financing its various developmental projects. The extent of internal
resource mobilisation for financing plan has increased considerably from 70 per cent in 196566 to
around 90 per cent in 199798. Box 5.2 defines the termsmonetary policy and fiscal policy.

The fiscal policy of the country has been helping to mobilise considerable amount of resources
through taxation, public debt, and so on, for financing its various developmental projects.

Box 5.2 Monetary Policy and Fiscal Policy

Monetary Policy
It refers to all actions of the government or the Central government of a country which affect, directly or
indirectly, the supply of money, credits, rate of interest, and the banking system. Basically it affects the
cost and availability of credit in the economy.
Fiscal Policy
Fiscal policy is basically concerned with the use of taxes and government expenditure, through the issues
relating to non-tax revenue, government borrowing, and scal federalism are closely associated with these
factors for achieving predetermined objectives.

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Incentives to Savings

The fiscal policy of the country has been providing various incentives to raise the savings rate, both in
household and corporate sector, through various budgetary policy changes, viz., tax exemption, tax
concession, and so on. Accordingly, the savings rate has increased from a mere 10.4 per cent in 195051 to
23.1 per cent in 199798.
Inducement to Private Sector

The private sector of the country has been getting necessary inducements from the fiscal policy of the
country to expand its activities. Tax concessions, tax exemptions, subsidies, and so on, incorporated in the
budgets have been providing adequate incentives to the private sector units engaged in industry,
infrastructure, and export sector of the country.

The private sector of the country has been getting necessary inducements from the fiscal policy of the
country to expand its activities.
Reduction of Inequality

The fiscal policy of the country has been making constant endeavour to reduce the inequality in the
distribution of income and wealth. Progressive taxes on income and wealth tax exemption, subsidies, grant,
and so on, are making a consolidated effort to reduce such inequality. Moreover, the fiscal policy is also
trying to reduce the regional disparities through its various budgetary policies.

The fiscal policy of the country has been making constant endeavour to reduce the inequality in the
distribution of income and wealth.
Export Promotion

The fiscal policy of the government has been making constant endeavours to promote export through its
various budgetary policies in the form of concessions, subsidies, and so on. As a result, the growth rate of
export has increased from a mere 4.6 per cent in 196061 to 10.4 per cent in 199697.

The fiscal policy of the government has been making constant endeavours to promote export through
its various budgetary policies in the form of concessions, subsidies, and so on.
Alleviation of Poverty and Unemployment

Another important merit of the Indian fiscal policy is that it is making constant effort to alleviate poverty
and unemployment problem through its various poverty eradication and employment generation
programmes, like, IRDP (Integrated Rural Development Programme), JRY (Jawahar Rozgar Yojana),
PMRY (Pradhan Mantri Rozgar Yojana), SJSRY (Swarna Jayanti Shahari Rozgar Yojana), EAS
(Employment Assurance Scheme), and so on.

Another important merit of the Indian fiscal policy is that it is making constant effort to alleviate
poverty and unemployment problem through
THE SHORTCOMINGS OF THE FISCAL POLICY OF INDIA

The following are the main shortcomings of the fiscal policy of the country.
Instability

The fiscal policy of the country has failed to attain stability in various fronts. The growing volume of deficit
financing has created the problem of inflationary rise in the price level. The Disequilibria in its balance of
payments has also affected the external stability of the country.

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The Disequilibria in its balance of payments has also affected the external stability of the country.
Defective Tax Structure

The fiscal policy has also failed to provide a suitable tax structure for the country. The tax structure has
failed to raise the productivity of direct taxes and the country has been relying much on indirect taxes.
Therefore, the tax structure has become burdensome to the poor.

The fiscal policy has also failed to provide a suitable tax structure for the country.
Inflation

The fiscal policy of the country has failed to contain the inflationary rise in price level. The increasing
volume of public expenditure on non-developmental heads and deficit financing has resulted in
demand-pull inflation. The higher rate of indirect taxation has also resulted in cost-push inflation.
Moreover, the direct taxes has failed to check the growth of black money, which is again aggravating the
inflationary spiral in the level of prices.

The direct taxes has failed to check the growth of black money, which is again aggravating the
inflationary spiral in the level of prices.
Negative Return of the Public Sector

The negative return on capital invested in the public sector units (PSUs) has become a serious problem for
the Government of India. In spite of having a huge total investment to the extent of Rs 204,054 crore in
1998 on PSUs, the return on investment has remained mostly negative. In order to maintain those PSUs,
the government has to keep huge amount of budgetary provisions, thereby, creating a huge drainage of
scarce resources of the country.
Growing Inequality

The fiscal policy of the country has failed to contain the growing inequality in the distribution of income
and wealth throughout the country. The growing trend of tax evasion has made the tax machinery
ineffective for the purpose. Again, the growing reliance on indirect taxes has made the tax structure
regressive.

The fiscal policy of the country has failed to contain the growing inequality in the distribution of
income and wealth throughout the country.
SUGGESTIONS FOR NECESSARY REFORMS IN FISCAL POLICY

The following are some of the important measures suggested for necessary reforms of the fiscal policy of
the country.
Progressive Taxes

The tax structure of the country should try to infuse more progressive elements so that it can put a heavy
burden on the rich and less burden on the poor. Necessary amendments have to be made in respect of
irrigation tax, sales tax, excise duty, land revenue, property taxes, and so on.

The tax structure of the country should try to infuse more progressive elements so that it can put a
heavy burden on the rich and less burden on the poor.
Agricultural Taxation

The tax net of the country should be extended to the agricultural sector for tapping a huge amount of
revenue from the rich agriculturists.

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Broad-based Tax Net

Tax net of the country should be broad-based so that it can cover an increasing number of population
having the taxable capacity.
Checking Tax Evasion

Adequate measures must be taken to check the problem of tax evasion in the country. Tax laws should be
made stricter for prosecuting the tax evaders. Tax machinery should be made more efficient and honest to
gear up its operations. Tax rate should be reduced to encourage the growing trend of tax compliance.

Adequate measures must be taken to check the problem of tax evasion in the country.
Increasing Reliance on Direct Taxes

The tax machinery of the country should attach much more reliance on direct taxes instead of indirect
taxes. Accordingly, the tax machinery should try to introduce wealth tax, estate duty, gift tax, expenditure
tax, and so on.
Simplified Tax Structure

The tax structure and rules of the country should be simplified so that it can encourage tax compliance
among the people and can also remove the unnecessary harassment of the tax payers.

The tax structure and rules of the country should be simplified so that it can encourage tax
compliance among the people and can also remove the unnecessary harassment of the tax payers.
Reduction of Non-development Expenditure

The fiscal policy of the country should try to reduce the non-developmental expenditure of the country.
This would reduce the volume of unproductive expenditure and can reduce the inflationary impact of such
expenditure.
Checking Black Money

The fiscal policy of the country should try to check the problem of black money. In this direction, schemes
like VDIs should be repeated and tax rates should be reduced. Corruption and political interference should
be abolished. Smuggling and other nefarious activities should be checked.

The fiscal policy of the country should try to check the problem of black money.
Raising the Profitability of PSUs

The government should try to restructure its policy on public sector enterprises, so that its efficiency and
rate of return on capital invested can be raised effectively. PSUs should be managed in a rational manner
with least government interference and in commercial lines. Accordingly, the policy of budgetary
provisions for maintaining the PSUs should be, gradually, eliminated. Box 5.3 lists the major areas of
second wave of economic reform.

PSUs should be managed in a rational manner with least government interference and in commercial
lines.
FISCAL POLICY REFORMS

In the meantime, the Government of India has introduced various fiscal policy reforms, which constitute
the main basis of the stabilisation policy of the country. In the recent years, the Government of India has
adopted some important measures of fiscal policy reforms as follows:

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Reduction of Rates of Direct Taxes

The peak rate of income tax was reduced in 30 per cent in 199798 budget. This has resulted in an
increment in the share of direct taxes in total revenue of the country from 19 per cent in 199091 to
around 30 per cent in 199697.

Box 5.3 Second Wave of Economic Reform

Major areas of second wave of economic reform are as follows:

1.

Fiscal Policy Reform

2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.

Monetary Policy Reform

Pricing Policy Reform
External Policy Reform
Industrial Policy Reform
Foreign Investment Policy Reform
Trade Policy Reform

Public Sector Policy Reform

Simplification of Tax Procedure

In recent years, as per the recommendation of Raja Chelliah or Taxation Reform Committee, several steps
have been taken to simplify that tax procedure in the successive budget. The 199899 budget has
introduced a series of tax simplification measures, viz., Saral, Samsdhan, and Samman, which it
considered as an important step in right directions.
Reform in Indirect Taxes

Which induced introduction of ad-valorem rates, MODVAT scheme, and so on.

Fall in the Volume of Government Expenditure

The government undertook several measures recently. Accordingly, total expenditure of the government
under various heads had been reduced. As a result, total public expenditure as per cent of GDP has
declined from 19.7 per cent of GDP in 199091 to 16.4 per cent in 199697.
Reduction in the Volume of Subsidies

The Central government has been making a huge payment in the form of subsidies, that is, food subsidies,
fertiliser subsidies, export subsidies, and so on. Steps have been taken to reduce these subsidies
phase-wise.
Reduction in Fiscal Deficit

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The Central government has been trying seriously to contain the fiscal deficit in its annual budget.
Accordingly, it has reduced the extent of fiscal deficit from 7.7 per cent of GDP in 199091 to 5.1 per cent
in 199899. But fiscal stabilisation necessitates containing the fiscal deficit to at least 3 per cent of GDP.
Reduction of Public Debt

Recently, the Central government has been trying to reduce the burden of public debt. Accordingly, the
external debt as per cent of GDP which was 5.4 per cent in 199091 gradually declined to 3.2 per cent in
199899 (BE). The internal debt as per cent of GDP has declined from 48.6 per cent in 199091 to 49.8
per cent in 199899. Similarly, the total outstanding loan or liabilities as per cent of GDP has also declined
from 54.0 per cent to 49.1 per cent during the same period.
Disinvestments in Public Sector

Another important fiscal policy reforms introduced by the Government of India is to disinvest the shares
of the public sector enterprises. The government has disinvested, as part of its stake, in 39 selected PSUs
since the disinvestments process began in 1992. Till 199899, it has raised around Rs 18,700 crore
through disinvestments of share of PSUs. In the mean time, the government has constituted a
Disinvestments Commission to advise it on how to go about disinvesting the share of PSUs out of 50
referred to it. The Commission has submitted eight reports covering 43 PSUs and has undertaken
diagnostic studies in 199899, in respect of these undertakings for giving recommendations.
FISCAL POLICY STATEMENT, 200809

Fiscal Policy Overview

The growth trends for the last four years indicate a continuous upswing in the economy. Increasing
productivity, growth of service sector, and buoyancy in tax receipts associated with the growth and, to
some extent, improvement in tax compliance and enforcement, as a result of a more rational, liberal, and
efficient tax system, have contributed towards achieving quantitative goals set under the Fiscal
Responsibility and Budget Management (FRBM) Act. Reduction of fiscal deficit has been achieved from
4.5 per cent of GDP in 200304 to 3.1 per cent of GDP in RE 200708. During the same period, revenue
deficit has declined from 3.6 per cent of GDP to 1.4 per cent. The advance estimate for growth of GDP at
factor cost at constant (19992000) prices in 200708 is pegged a 8.7 per cent, which is the average
growth of the last four years, albeit lower by 0.9 percentage points as compared to 200607 (Quick
Estimates 9.6 per cent ). The slowdown is triggered by lower than expected growth in manufacturing
sector, although services sector continued to record double-digit growth in the first half of 200708.
Improvement in deficit indicators has been achieved through growth in tax receipts, which exceeded
growth of revenue expenditure, notwithstanding an increment in non-plan revenue expenditure, fuelled
largely by a high-subsidy bill and interest payments. The process of fiscal consolidation would continue to
be sustained through improvement in taxGDP ratio, moderate growth in non-tax revenue,
re-prioritisation, and improving the quality of expenditureincluding promotion of capital expenditure to
boost infrastructure development while ensuring adequate resources for social sectors like health and
education.

Increasing productivity, growth of service sector, and buoyancy in tax receipts associated with the
growth and, to some extent, improvement in tax compliance and enforcement, as a result of a more
rational, liberal, and efficient tax system, have contributed towards achieving quantitative goals set
under the Fiscal Responsibility and Budget Management (FRBM) Act.
Fiscal Policy for the Ensuing Financial Year

Budget 200809 is being presented against the backdrop of the fiscal consolidation achieved during the
Tenth Plan period, which has provided a good foundation for making available, the resources required to
implement the objective of faster and more inclusive growth of Eleventh Plan. The governments
commitment to ensure faster and more inclusive growth as also the need to address the supply constraints
on growth are intertwined in the fiscal policy objectives for the year. The achievement on the inflation
front has been significant but downside risks arising inter alia, from rising energy prices, foodgrains and
commodity prices, and continuing capital flows, which have inflationary potential, are challenges that will
need to be addressed through a mix of fiscal, administrative, and monetary policy measures. Uncertainty
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associated with significant changes in global macro-economic and financial environment also continue to
be key concerns in fiscal policy management.

The governments commitment to ensure faster and more inclusive growth as also the need to
address the supply constraints on growth are intertwined in the fiscal policy objectives for the year.
Despite pressure from committed and non-discretionary expenditures on items like interest payments,
defence, pensions, salaries, subsidies, and so on, the fiscal policy for 200809 remains committed to the
overarching objectives of achieving faster and more inclusive growth by increasing allocation for social
sectors, including rural employment, education, and health; while, at the same time, ensuring adequate
resources for improving infrastructure to boost employment, investment, and consumption levels.
With direct taxes as a percentage of total tax receipts exceeding the 50 per cent mark and the service tax
emerging as a promising source of revenue, the composition of receipts is changing. Buyoyancy in tax
revenues witnessed over the last three years is expected to continue through 200708. The state
governments will also benefit through higher devolution which register a growth of 17.7 per cent in BE
200809 over RE 200708. The adoption of VAT by states/union territories (Uts)was a path-breaking
development in the area of tax reforms. The initial trend in revenue collection in the VAT-implementing
states has been quite impressive with the growth in the first seven months in states put together, exceeding
the compounded annual rate of growth achieved over the last five years in these states.

The adoption of VAT by states/union territories (Uts)was a path-breaking development in the area of
tax reforms.
Governments Strategy to Pursue Fiscal Consolidation

Tax Policy

In recent years, tax policy has been governed by the overarching objective of increasing the taxGDP ratio
for achieving a fiscal consolidation. This is sought to be achieved both through appropriate policy
interventions and a steadfast improvement in the quality and effectiveness of tax administration. On the
policy side, a strategy of moderate and few rates, removal of exemptions, and broadening of the tax base
has yielded good results. As for tax administration, the extensive adoption of information technology
solutions has enabled a less-intrusive tax system that fosters voluntary compliance. In a broad sense, the
relatively high buoyancy exhibited by direct taxes indicates that the tax system is maturing. On the
indirect-tax side, the objective is to integrate the taxes on goods (central excise) and services and finally
move to a comprehensive Goods and Services Tax (GST). It is also the aim to improve the revenue yield
from service tax in keeping with the contribution of the service sector to GDP.

In recent years, tax policy has been governed by the overarching objective of increasing the taxGDP
ratio for achieving a fiscal consolidation.
The relatively high buoyancy exhibited by direct taxes indicates that the tax system is maturing.
Indirect Taxes
Customs Duty

In the wake of the sharp appreciation of the rupee against the US dollar, the peak rate of customs duty on non-agricultural goods has been maintained at 10 per
cent.

Continuing the pace of reforms, the rate of customs duty on project imports has been reduced from 7.5 per cent to 5 per cent. This will serve as an incentive for
setting up of large projects and also encourage capacity expansion and modernisation of existing industries.

For promotion of exports, customs duty reduction has been effected on specified machinery and raw materials for producing sports goods, and also on cubic
zirconia (rough and polished) and rough corals, used in the gems and jewellery sector.

To improve the availability of base metals in the country, import duty on melting scrap of iron or steel and aluminium scrapraw materials for the ferrous and
non-ferrous sector, has been exempted.

To help conserve the countrys natural resource of chromium ores, and increased domestic availability of this scarce raw material, export duty on chromium ores
and concentrates has been increased.

For the Electronics and Information technology hardware sector, problem of inversion, arising on account of various FTAs and PTAs, has been sought to be
addressed by providing customs duty exemptions on specified raw materials on an end-use basis.

As a part of continued review of existing exemptions, customs duty on naphtha imported for manufacture of specified polymers has been withdrawn.

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Excise Duty

The general Cenvat rate has been reduced from 16 per cent to 14 per cent, that is, a reduction of 12.5 per cent in central excise duty. This is likely to boost growth of
the domestic manufacturing sector, which has suffered a slowdown.

Several sector-specific interventions have also been made to provide a fillip to growth through lower excise duties. The important sectors are automobiles, paper,
drugs, and pharmaceuticals, and food processing.

To provide clean drinking water, excise duty on water filtering and purifying devices has been reduced.
For replenishment of the National Calamity Contingency Fund, 1 per cent National Calamity Contingent Duty has been imposed on mobile phones.
Specific rates of duty on cement clinker and non-filter cigarettes have been rationalised.

Service Tax

Widening of service tax base, simplification of law and procedure, improved tax administration, and an increment in tax compliance continue to show higher
buoyancy in service tax revenue collection during 200708 also. Service tax revenue during the period April December 2007, has grown by about 37 per cent when
compared to the corresponding period of the previous year.

Widening of service tax base, simplification of law and procedure, improved tax administration, and
an increment in tax compliance continue to show higher buoyancy in service tax revenue collection
during 200708 also.

In order to facilitate small service providers and to ensure optimum utilisation of the administrative resources, threshold limit of annual turnover to small service
providers for full-service tax exemption has been increased from Rs 8 lakh to Rs 10 lakh witheffect from April 1, 2008. This exemption would benefit about 65,000 small
service providers.

In line with the governments declared policy of broadening the tax base, the scope and coverage of services liable to service tax is being further widened by adding
more services and expanding the scope of some of the existing services.

Direct Taxes

Over the last four years, widespread reforms have been ushered into the direct-tax arena. The touchstones
of such reforms have been the following:

Distortions within the tax structure have been minimised by expanding the tax base and maintaining moderate tax rates.
Tax administration has been geared up to provide taxpayer services and also enhance deterrence levels. Both these objectives reinforce each other and have
promoted voluntary compliance.

Business processes have been re-engineered in the income-tax department throughextensive use of information technology, viz., e-filing of returns, issue of refunds
througheCS and refund banks, selection of returns for scrutiny through computers, and so on. These measures have modernised the department and enhanced its functional
efciency.

The Union Budgets of 200607 and 200708 managed to consolidate the landmark achievements of the
200506 Budget in the field of direct-tax reforms. In the Union Budget of 200708, some major tax
concessions provided in the income-tax statute were either eliminated or curtailed to broaden the tax base.
For example, the MAT base was expanded by bringing the profits of STPI units and export-oriented units
(EOUs) within its ambit, the rate of dividend distribution tax (DDT) for domestic companies on
distribution of profits to share holders was increased; new rates of DDT were specified for money market
mutual funds (MMMF) and liquid funds (LF) on distribution of income to unit holders; and the
non-chargeability of capital-gain tax on sale of a long-term capital asset, by investing the same in certain
bonds, was restricted to a maximum amount of Rs 50 lakh in a year.
The policy proposals in the Union Budget 200809 are intended to further consolidate the achievements
made in the last four years. Some of the major proposals are as follows:
1.
2.
3.
4.
5.
6.
7.
8.

Rationalisation of the personal income tax (PIT) rate structure for individuals, Hindu undivided families (HUFs), and so on, by enhancing the threshold limit and
revising the income slabs.
Introducing a transaction-based tax (Commodities Transactions Tax [CTT]), on the lines of securities transaction tax (STT), in respect of commodities traded on
recognised commodity exchanges.
Allowing STT, paid as a deduction from income, in case of assessees deriving business income from sale of securities, as against the existing provisions of allowing a
rebate from taxes.
Restricting the scope of the term charitable purpose by amending its definition and, thereby, bringing many non-charitable activities into the tax net.
Enhancing the existing tax rate of 10 per cent to 15 per cent in respect of short-term capital gains, arising from the transfer of short-term capital asset, being an
equity share in a company or a unit of an equity-oriented fund, and where such transactions are chargeable to STT.
Exempting interest income on bonds issued by companies listed on recognised stock exchanges, from the purview of TDS provisions, so as to facilitate development
and deepening of the bond market.
Introduction of a scheme for centralised processing of returns to provide better taxpayer services, in sync with the best international practices, by harnessing
Indias inherent advantage in the sphere of information technology.
Streamlining of certain procedural matters to offer improved taxpayer services.

The policy proposals in the Union Budget 200809 are intended to further consolidate the
achievements made in the last four years. Some of the major proposals are as follows:
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The modernisation of tax administration for providing quality taxpayer services has been a constant
endeavour of the government. In this regard, the compulsory electronic filing of returns for companies
(introduced last year) was extended in the current year, to firms liable to audit under the provisions of the
Income-tax Act. While the response has been very positive from this segment of assessees, what is most
encouraging is that about 7 lakh taxpayers have voluntarily e-filed their returns till January 31, 2008. It
would not be out of place to mention here that the income-tax departments initiatives in this regard have
been appreciated and recognised, and it has been conferred with the National E-governance Silver Award
for Outstanding Performance in Citizen-centric Services. Further, the introduction of annexure-less
returns for all categories of taxpayers (other than non-profit organisations) is a noteworthy taxpayer
service.

The modernisation of tax administration for providing quality taxpayer services has been a constant
endeavour of the government.
A key feature of all efficient tax administrations is an effective taxpayers information system. Over the
past few years, the income-tax department has gradually migrated to non-intrusive methods of collecting
and collating information about financial transactions of taxpayers. While the Annual Information Return
(AIR) system is already in place and has strengthened the departments database, the electronic filing of
returns by different categories of assesseesas mentioned abovehas added an entirely new dimension to
the departments information bank. As more information about taxpayers becomes available, the
department would be able to hand out better taxpayers services while simultaneously targeting tax
evaders.

A key feature of all efficient tax administrations is an effective taxpayers information system.
Contingent and Other Liabilities

FRBM Rules envisage a cap of 0.5 per cent of GDP on the quantum of guarantees that the Central
government can assume annually. The present policy on government guarantees limits these guarantees
only to non-private sector entities. Within the ceiling prescribed under the rules, Central government
extends guarantees to loans from multilateral agencies, loans raised by public sector entities, for example,
FCI for cash credit limits, India Infrastructure Finance Company borrowings, and so on. The stock of
contingent liabilities in the form of guarantees given by the government has slightly reduced from Rs
110,626 crore at the end of 200506 to Rs 109,826 crore at the end of 200607. The number of
guarantees during the same period has also gone down from 492 to 466. There was no net accretion to the
outstanding guarantees during the year 200607. In BE 200809, drawdown from the governments cash
surplus is also envisaged as a source of financing the fiscal deficit. As regards borrowings, the emphasis is
on
1.
2.
3.
4.

Greater reliance on domestic borrowings over external debt,

Preference for market borrowings over higher cost instruments carrying administered interest rates,
Elongation of maturity profile of its debt portfolio and consolidation of the same and
Development of a deeper and wider market for government securities to improve secondary-market tradability.

FRBM Rules envisage a cap of 0.5 per cent of GDP on the quantum of guarantees that the Central
government can assume annually. The present policy on government guarantees limits these
guarantees only to non-private sector entities.
As part of policy to elongate maturity profile, Central government has been issuing securities with a
maximum 30-year maturity for quite some time. With a view to passively consolidating its securities
portfolio, re-issues are favoured rather than the fresh issues. Government does not envisage any difficulty
in raising the necessary resources to finance the estimated market borrowings during FY 200809.
The window of market stabilisation scheme to assist RBI in its monetary policy objectives will continue to
be resorted to during 200809 in terms of the memorandum of understanding (MoU) between the Central
government and RBI. The MSS ceilings for 200809 has been retained at Rs 250,000 crore. The interest
cost of operating MSS is estimated to be Rs 13,958 crore in BE 200809.
The role of Central government as a financial intermediary for state governments/UTs, CPSUs, and so on,
has been declining over a period of time. The decline is consistent with the development of financial

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market in the country and spirit of economic reforms that envisages greater market scrutiny and discipline,
on the one hand, and desirability of affording the freedom to states to choose as to how and from whom to
borrow, on the other. Enhanced devolution through the states shares of taxes has also contributed to the
improved fiscal position of the states.

The role of Central government as a financial intermediary for state governments/UTs, CPSUs, and
so on, has been declining over a period of time.
Initiatives in Public Expenditure Administration

Improving quality of expenditure is the key to sustain fiscal reforms. Under the FRBMA, obligations
containing revenue expenditure and encouraging capital expenditure for productive assets are critical to
ensure fiscal correction. Approach to allocation is based on the plan and the non-plan criteria. Plan
expenditure is seen as a proxy to development expenditure. Therefore, containing non-plan expenditure to
free additional resources for meeting the objectives of priority schemes is central to various expenditure
management measures introduced from time to time. Further, the need for efficient tracking of
expenditure, improving the quality of expenditure, and enhancing the efficiency and accountability of the
delivery mechanism have been recognised as critical for better tracking of the funds and to obtain value for
money.

Improving quality of expenditure is the key to sustain fiscal reforms. Under the FRBMA, obligations
containing revenue expenditure and encouraging capital expenditure for productive assets are
critical to ensure fiscal correction.

There is a shift in the focus from outlays to outcomes. Such a shift is expected to ensure that the budgetary provisions are spent to achieve actual intended
outcomes. The government presented an Outcome Budget in respect of its Plan Expenditure in August 2005 for the first time as a step to identify, monitor, and assess the
actual outcomes. Outcome Budgets for 200809 are being shortly presented by various individual ministries/departments.

There is a shift in the focus from outlays to outcomes.

There is emphasis on utilising money on time. Since, mere releasing of funds to implement entities does not ensure actual expenditure; emphasis is placed on the
timely utilisation of the released funds. Release of funds in the fourth quarter, particularly in the month of March, is aligned with spending capacity during the remaining
part of the year. Thus, excess funds/unutilised funds in the hands of releasing entities are discouraged. Strict enforcement and discipline in this regard will continue.

There is emphasis on utilising money on time.

A revised and updated General Financial Rules has been implemented. The thrust of revised rules is on simplification of rules and greater delegation of authority
to administrative ministries in managing their financial affairs. This measure is intended to speed up decisions while also ensuring accountability.

A revised and updated General Financial Rules has been implemented.

In a significant move towards sound cash management system, and to reduce rush of expenditure during the last quarter, a quarterly, exchequer control-based
expenditure management system is being implemented in respect of 23 Demands for Grants, viz.,

A quarterly, exchequer controlbased expenditure management system is being implemented in

respect of 23 Demands for Grants, viz.,

1.
2.
3.
4.
5.
6.
7.

Department of Agriculture and Cooperation.

Department of Agricultural Research and Education.
Department of Fertilisers.
Department of Commerce.
Department of Telecommunications.
Department of Food and Public Distribution.
Department of External Affairs.

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8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.
21.
22.
23.

Department of Economic Affairs.

Indian Audit and Accounts Department.
Department of Revenue.
Direct Taxes.
Department of Health and Family Welfare.
Department of School Education and Literacy.
Department of Higher Education.
Ministry of Panchayati Raj.
Ministry of Petroleum and Natural Gas.
Ministry of Power.
Department of Rural Development.
Indirect Taxes.
Department of Road Transport and Highways.
Ministry of Textiles.
Department of Urban Development and
Department of Women & Child Development.
In a bid to improve transparency and accountability, ministries are being encouraged to release a summary of their monthly receipts and expenditure to general
public (through their website, etc.) and, in particular, disclose scheme-wise funds released to different states. The consolidated monthly position of receipts and payments is
put in public domain every month.

The consolidated monthly position of receipts and payments is put in public domain every month.

In order to ensure better expenditure discipline, the accounting department is expanding E-lekha programme to provide online tracking of status on government
receipt and expenditure, through various Central government ministries/departments, and also to capture the online release status on the various Central/State schemes.
The initiative has already been piloted through tracking of release status on 27 flagship schemes, and is expected to cover all the Central schemes in a short period. In
200809, the Controller General of Accounts through a plan scheme of the Planning Commission is set to undertake a programme for online tracking and reporting on the
expenditure under the various schemes of Government of India, through a robust online reporting mechanism captured from the district/block levels. This initiative is
expected to bridge the gaps that exist on reporting on an outcome against outlays.

In order to ensure better expenditure discipline, the accounting department is expanding E-lekha
programme to provide online tracking of status on government receipt and expenditure, through
various Central government ministries/departments, and also to capture the online release status on
the various Central/State schemes.

Ministries are advised to pay greater emphasis on explicit recognition of revenue constraints and should make only a realistic projection of budgetary provisions
required for various projects/schemes. Emphasis is placed for schemes proposed by ministries and departments to be financially viable, and carry an internal rate of return
of not less than the rate prescribed. And where such quantification is not possible, the overall socioeconomic cost-benefit analysis of schemes to be indicated explicitly.

Emphasis is placed for schemes proposed by ministries and departments to be nancially viable, and
carry an internal rate of return of not less than the rate prescribed.

Review and rationalisation of user charges will continue with a view to increase non-tax revenue and reduce the operational losses of commercial undertakings.
Besides all these, further improvements are expected as return on investment improves and temporary fiscal concessions are phased out as a result of improved performance
of public sector enterprises.

Review and rationalisation of user charges will continue with a view to increase non-tax revenue and
reduce the operational losses of commercial undertakings.

Policy Evaluation

The past four years have been marked by an impressive revenue-led fiscal consolidation. The performance
in RE 200708 shows an improvement over BE 200708 achieved by revenue receipts, exceeding the
budgeted amount and non-plan expenditure getting moderated. Budget 200809 marks the path of fiscal
correction with an emphasis on quality in expenditure in accordance with the FRBM goals. Continuation
of the policy measures already implemented in the domain of tax policies, expenditure management, and
so on, and fresh initiatives being launched in these areas form the basis of projections included in the
FRBM statements.

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Continuation of the policy measures already implemented in the domain of tax policies, expenditure
management, and so on, and fresh initiatives being launched in these areas form the basis of
projections included in the FRBM statements.
FISCAL POLICYAN ASSESSMENT

Economic Crisis

India faced a severe macro-economic crisis in 1991. A series of economic reforms, implemented in
response, have, arguably, supported higher growth and a more secure external payments situation.
Removal of controls and trade barriers, along with modernisation of regulatory institutions, characterised
reforms in industry, trade, and finance. However, growth marginally accelerated only in the 1990s
compared to the previous decade. At times, structural reforms seemed to have stalled, and little progress
has been made in areas such as labour market and bankruptcy reforms.

Growth marginally accelerated only in the 1990s compared to the previous decade. At times,
structural reforms seemed to have stalled, and little progress has been made in areas such as labour
market and bankruptcy reforms.
Perhaps, the most striking aspect of reform is the lack of progress in restoring fiscal balance. A high fiscal
deficit of around 9.5 per cent of GDP, widely perceived as unsustainable, contributed to the crisis of 1991.
Containing this deficit was one of the key structural adjustments undertaken by the Indian government at
the time. This effort met with some success: the fiscal deficit came down to 6.4 per cent of GDP and growth
accelerated to a peak of 7.5 per cent in 199697. From 199798 onwards, however, growth has slowed and
the deficit has widened, returning attention to Indias fiscal policy and prospects. Indias current fiscal
situation is potentially grave, and could lead to an economic crisis (fiscal, monetary, and/or external) with
severe short-term losses of output and even political turmoil, or, alternatively and more subtly, many years
of continued underperformance of the economy.

Most striking aspect of reform is the lack of progress in restoring scal balance.
Indias current scal situation is potentially grave, and could lead to an economic crisis (scal,
monetary, and/or external) with severe short-term losses of output and even political turmoil, or,
alternatively and more subtly, many years of continued underperformance of the economy.
The prima facie solution to the looming problem is obvious: control fiscal deficits. The deeper question is
how is this to be achieved, and to what extent? One complicating factor is the existence of off-budget items
that are not accurately measured or monitored. The uncertainty associated with these items makes
formulating budgetary policies more challenging. Besides, fiscal policy obviously cannot be analysed in
isolation. Monetary and exchange-rate policies have to be considered in conjunction with it, for achieving
desired combinations of growth and stability under realistic assumptions about sustainable capital inflows
from abroad. Even on the fiscal side alone, this perspective shifts the focus to considering optimal paths of
public consumption, investment, taxes and borrowing, rather than an emphasis on primary balances alone.
Ultimately this broader framework poses technical and empirical questions that would benefit from an
explicit theoretical analysis as a foundation for econometric modelling and estimation.
The Indian Fiscal Situation

Even before independence, there was a broad consensus, across the political spectrum, that once
independence was achieved, Indian economic development should be planned, with the State playing a
dominant role in the economy and achieving self-sufficiency across the board as a major objective
(Srinivasan 1996). Within three years of independence, a National Planning Commission was established
in 1950, charged with the task of drawing up national development plans. The adoption of a federal
constitution with strong unitary features, also in 1950, facilitated planning by the Central government.
Several Central government-owned enterprises were established and a plethora of administrative controls
(the so-called license-quota-permit raj) was adopted to steer the economy towards its planned path. At
the same time, fiscal and monetary policy remained quite conservative, and inflation relatively lowthe
latter reflecting the sensitivity of the electorate to rising prices.

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During 195080, Indias economic growth averaged a very modest 3.75 per cent per year, reasonable by
pre-independence standards, but far short of what was needed to significantly diminish the number of
poor people. The license-permit raj not only did not deliver rapid growth, but worse, unleashed rapacious
rent-seeking and administrative as well as political corruption (Srinivasan 1996). In the 1980s, Indias
national economic policymakers began some piecemeal reforms, introducing some liberalisation in the
trade and exchange-rate regime, loosening domestic industrial controls, and promoting investment in
modern technologies, for areas such as telecommunications. Most significantly, they abandoned fiscal
conservatism and adopted an expansionary policy, financed by borrowing at home and abroad at
increasing cost. The growth accelerated to 5.8 per cent during the 1980s, but the cost of this debt-led
growth was growing macro-economic imbalances (fiscal and current account deficits), which worsened at
the beginning of the 1990s, as a result of external shocks, and led to the macro-economic crisis of 1991.

The growth accelerated to 5.8 per cent during the 1980s, but the cost of this debt-led growth was
growing macro-economic imbalances (fiscal and current account deficits), which worsened at the
beginning of the 1990s, as a result of external shocks, and led to the macroeconomic crisis of 1991.
The crisis led to systemic reforms, going beyond the piecemeal economic reforms of the 1980s. An IMF aid
package and adjustment programme supported these changes. The major reforms included trade
liberalisation, through large reductions in tariffs and conversion of quantitative restrictions to tariffs, and
a sweeping away of a large segment of restrictions on domestic industrial investment. Attempts were made
to control a burgeoning domestic fiscal deficit, but these attempts were only partially successful, and came
to be reversed by the mid-1990s.

Attempts were made to control a burgeoning domestic fiscal deficit, but these attempts were only
partially successful, and came to be reversed by the mid 1990s.
Financial Repression

India has been a financially repressed economy, since at least the 1960s, and, especially since 1969, when
all major banks were nationalised. The links of financial repression to fiscal policy come about through its
implicit tax on the financial system, as well as through its growth consequences, which, in turn, have
implications for government finances. Repressionist policies include various interest rate controls,
directed credit programmes, and required liquidity and reserve ratios. An index based on these measures
(Demetriades and Luintel 1997) shows an increase in financial repression from 1961 through 1984. The
index fell in 1985, reflecting a partial deregulation of deposit rate controls. However, controls were
re-introduced after a couple of years, and it was only in 1990 that financial liberalisation appeared to take
a firm hold.

Repressionist policies include various interest rate controls, directed credit programmes, and
required liquidity and reserve ratios.
The financial repression policies force the non-government sector, including publicly owned commercial
banks, to lend to the government at an interest rate below what would have prevailed in the absence of
such policies. The government is, therefore, able to reduce the borrowing cost of financing its expenditures,
as well as the need to monatise as an alternative financing mechanism, which would instead constitute a
politically unpopular inflation tax. One potential consequence of this system is lower growth through
negative impacts on the financial system. Further, borrowing at a rate below that which would have
cleared markets induces the government to borrow more than what it would have at higher,
market-clearing rates, besides reducing the interest cost of what it can borrow.
Fiscal Adjustment

A crisis resolution is almost always contentious as well as painful. For example, crises in Argentina and
Indonesia have had very higheconomic and social costs. India, at least for the moment, does not appear to
face an imminent crisis, especially on the external front. Since crises very often arise from adverse shifts in
expectations or confidence than from deterioration in fundamentals, this favourable situation could
change rapidly if there is a negative shock that affects confidence. The financial sector is extremely fragile,

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and some public sector enterprises, particularly in the case of electric power and irrigation, are bankrupt.
Under these circumstances, one cannot rule out the occurrence of a crisis in the future, which may begin in
the banking sector, spill over to the rest of the financial sector, and ultimately affect all parts of the
economy. The fact that, until now, fiscal looseness has manifested itself in foregone growth should not,
therefore, lead to any complacency about its seriousness.

The financial sector is extremely fragile, and some public sector enterprises, particularly in the case
of electric power and irrigation, are bankrupt. Under these circumstances, one cannot rule out the
occurrence of a crisis in the future, which may begin in the banking sector, spill over to the rest of the
financial sector, and ultimately affect all parts of the economy.
The World Bank (2003) projections of current trends, based on non-stochastic accounting identities, and
plausible assumptions about interest rates and growth, but without factoring in any unanticipated shocks,
suggest that by 2007, the general government fiscal deficit (excluding contingent liabilities and public
sector enterprise (PSE) losses) will cross 13 per cent of GDP, and the debtGDP ratio will increase from
about 85 per cent to 103 per cent. Interest payments will absorb almost 55 per cent of revenue in this case.
Adding on contingent liabilities and PSE losses only strengthens the case that current trends are
unsustainable, that is, India cannot postpone fiscal adjustment much longer by sacrificing growth. The
projections of Roubini and Hemming (2004) tell a similar story. On the positive side, precisely because a
crisis is not imminent, India, currently, has the opportunity to shape fiscal policy in an orderly manner.
The real challenges in achieving this are political rather than technical.
Financing Development Priorities

A major concern with any fiscal adjustment is its potential cost in slowing economic development, and, in
particular, its possible adverse effects on the poor, whose dependence on public services and income
support is larger than of the non-poor. There are two factors that suggest that such cost may not be high.
First, India is, at least for now, in a position to implement some fiscal adjustment before a crisis possibly
hits. This allows Indian government the opportunity to choose carefully how to go about getting its fiscal
house in order, without any constraints that would be imposed in a crisis situation. There appears to be a
reasonable technical consensus on needed reforms, and on how sufficient political support can be
mobilised to implement these reforms. These factors, in principle, would moderate the cost of adjustment.

A major concern with any fiscal adjustment is its potential cost in slowing economic development,
and, in particular, its possible adverse effects on the poor, whose dependence on public services and
income support is larger than of the non-poor.
The second advantageif it can be termed is, that in India, delivery of public services is very inefficient in
terms of cost-effectiveness. Improvements in efficiency can allow fewer rupees to achieve the same or even
greater benefits than is currently the case. Examples of such X- inefficiency include the core
administrative service at the Centre and the states, programmes such as the Public Distribution System
(PDS) for food, and PSEs, such as the SEBs. In many of these cases, there will be losers, since public sector
employees may currently be enjoying monetary rents or leisure that will be lost. However, one can hazard
that at least some of the leisure in inefficient organisations is involuntary, and results in frustration rather
than any utility gain. As for the impacts on the poor, the World Bank (2003) is quite clear in its
conclusions: The burden of weak administration falls particularly on the poor, who suffer from skewed
government spending, limited access to services, and employee indifference. Thus, it seems that there is
room for fiscal adjustment that benefits rather than hurts the poor. In this context, it has also been noted
in the past that a system of explicit user charges often allows for more efficient as well as more equitable
delivery of services.

The burden of weak administration falls particularly on the poor, who suffer from skewed
government spending, limited access to services, and employee indifference.
The efficiency of delivery of health and education in rural areas can be improved substantially, either
through restructuring government efforts, or bringing in private participants such as non-governmental
organisations or community groups. There is substantial evidence that institutional innovations can

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improve efficiency. In either case, the gains come from improved incentives and reduced transaction costs.
Of course, there are many areas where more cannot be simply squeezed out of the existing expenditures
just by improving incentives for those responsible for the service delivery. In particular, India still suffers
from major bottlenecks in roads, ports, electric power, and urban infrastructure.
In any case, if India is to achieve a fiscal adjustment that protects growth and development, it needs to
create conditions in its financial sector that will allow for the reduction of the risks associated with
imperfect information, as well as allow for mechanisms that allow participants to manage such risks better.
In addition to regulatory reforms in the financial sector, mechanisms for approval of foreign direct
investment (FDI) need to be streamlined further, and FDI to be opened up more. For example, only if
protecting small, but inefficient retailers, is deemed an appropriate social objective (even though it may
raise costs for the poor) and there is no other socially cost-effective means of protection, does banning FDI
in retailing make sense. On the other hand, new entrants, including foreigners, can be required to provide
urban infrastructure that is essential for efficient retailing. While in some cases, attracting foreign
investors requires the government to increase its investment in infrastructure, if the opportunity is
attractive enough (as is likely to be the case for retailing in Indias large market), entrants will be willing to
provide needed infrastructure. Alternatively, requiring entrants to obtain a government license and
auctioning of such licenses could generate resources for the government to undertake investment in the
needed infrastructure.

In any case, if India is to achieve a fiscal adjustment that protects growth and development, it needs
to create conditions in its financial sector that will allow for the reduction of the risks associated with
imperfect information, as well as allow for mechanisms that allow participants to manage such risks
better.
In conclusion, fiscal adjustment does not have to imply a reduction in public services. There is ample scope
in India for improvements in the efficiency of delivery of services through internal restructuring or private
participation. Indeed, cost cutting may be necessary (though not sufficient) for increased government
productivity. Reasonable user charges can also lead to improved budgetary positions without hurting the
poor. For large-scale infrastructure projects, improvements in the workings of the financial sector are the
key to allowing for private participation in ways that allow government budgets to be stretched further. All
of these reforms involve political economy challenges, and it is these challenges that are most difficult to
overcome.

In conclusion, fiscal adjustment does not have to imply a reduction in public services. There is ample
scope in India for improvements in the efficiency of delivery of services through internal
restructuring or private participation.
Long-term Fiscal Policy Challenges

We have argued that for various reasons, Indias loose fiscal policy has reduced growth below potential
without showing any discernible signs of an imminent crisis. However, if the fiscal imbalances are not
addressed and growth continues to fall short of potential, the risks of a conventional crisisfiscal,
monetary, or externalwill increase. According to some scenarios, in which real interest rates stay
relatively high and greater efficiencies in investment are only partially realised, even fiscal reform that cuts
the primary deficit substantially over the next three years will just succeed in maintaining something like
the current deficitGDP ratio of about 10 per cent, and debt will continue to accumulate, though less
rapidly than in the last few years. This is a minimal objective to aim for over the next few years. Critical
elements of any scenario that does not lead to almost certain crisis down the road are an increase in the
taxGDP ratio, and a reorientation of public expenditure towards an efficient investment in physical
infrastructure and human development, and away from distortionary and in efficient subsidies.

If the fiscal imbalances are not addressed and growth continues to fall short of potential, the risks of
a conventional crisisfiscal, monetary, or externalwill increase.
The most serious, medium and long-term issue that must be anticipated is the future cost of the pension
system. Many of the conference papers emphasise this relatively recent addition to the causes for concern

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with respect to Indias fiscal future. Although some demographic trends will help, by increasing the
proportion of the population that is of working age, the increase in life expectancy will increase the
number of years for which pensions are paid, relative to the number of working years. Managing this
problem by increasing the retirement age can be politically difficult if it reduces the employment chances
of young entrants. However, with sufficiently rapid growth of GDP and employment, this difficulty will
ease. Be that, as it may, Hellers paper quotes World Bank estimates that the cash-flow deficit of the
Employees Pension Scheme (EPS), which is a defined benefit scheme, will grow to almost 1 per cent of
GDP over the next few decades, even without increases in coverage. If more employees are covered by the
EPS as growth increases the relative size of the formal sector, then the potential problem will grow
accordingly.
The overall picture of the future of government pay and pensions, and social insurance schemes is gloomy.
However, attention to these factors not only allows the government to plan, but can also increase the
awareness of the need for an immediate fiscal adjustment on other fronts, if not this one. One hopeful area,
again, is tax reform. Heller (2004) points out that the tax treatment of pension contributions is unduly
generous, and also creates some perverse incentives. This is one area where short-term remedies, such as
phased reductions of tax preferences, ought to be politically feasible and relatively easy to implement, once
they are on the policy agenda.

The overall picture of the future of government pay and pensions, and social insurance schemes is
gloomy. However, attention to these factors not only allows the government to plan, but can also
increase the awareness of the need for an immediate fiscal adjustment on other fronts, if not this one.
In general, therefore, looking at the longer term and at broader public welfare concerns, can have three
benefits. First, it allows for better intertemporal planning of public expenditures within and across
categories. Second, it improves the pattern of near-term public expenditures towards spending that
reduces the chances of larger expenditures in the future. Third, it emphasises the need for a fiscal cushion
or self-insurance to meet unavoidable expenditures should they occur in the future.
CONCLUSIONS

What are the final lessons of the conference papers, and our own analysis? In this section, we provide our
summary answers, including some thoughts on priorities for action, then discuss some remaining issues,
with respect to the underlying theoretical framework, as well as policymaking and institutional reform.
Our long list of summary lessons goes as follows:

Indias fiscal situation requires immediate attention: high growth and low interest rates will not take care of the problem of long-run sustainability of the debt, nor
the risks of a crisis in the short or medium run.

In fact, the growth in recent years may have been significantly lower than earlier, if the fiscal deficits had not been so high.
A focus only on budget deficits can be misleading, because the problem of off budget and contingent liabilities is serious, and shifting liabilities off budget without
reducing systemic risk does not improve matters.

Indias external position is relatively strong, in terms of trade flows, forex reserves, and level and maturity structure of external debt: to some extent, monetary and
exchange-rate policies are biased by attempts to compensate for fiscal looseness.

However, high reserves and a conservative monetary policy may not be sufficient insurance against a crisis of confidence. There are theoretical reasons and
previous empirical evidence of high domestic debt and deficits being associated with such a crisis. Furthermore, there are numerous potential sources of risk, including
interest rate volatility as well as exogenous shocks.

Many of the risks facing the public sector are intertwined with the fragility of the banking sector, in generalthere is, probably, a two-way causality here that must
be recognised explicitly in planning any adjustment. There are structural aspects of the financial system, as well as the high availability of government bonds, that may be
crowding out productive investment.

Neither comfort in Indias external position nor concerns about destabilising the financial sector should be an argument against fiscal and financial reform: in fact,
the good external situation gives India a window of opportunity to move forward with structural reforms.

Financial sector reform needs to be broader and deeper than it has been so far, and reduction in the direct and indirect influence of the government in this sector
must continue.

A narrow focus on deficits or debts, even including off-budget liabilities, can lead to a neglect of long-run growth implications: it is essential to examine public
consumption, investment, taxation, and deficits in a framework that recognises these, which are endogenously determined, along with the growth rate.

Available theoretical models surely leave a lot to be desired, but they have the ingredients of what is needed to make a headway in empirically examining the
optimal path of fiscal adjustment, as well as long run targets: current policy making in India may still not fully appreciate the endogeneity of behavioural factors.

The coordination of fiscal policy with monetary and exchange-rate policies would be better than letting the latter adjust to fiscal looseness, as seems to have been
happening recently.

Indias democratic system and federal structures present challenges to fiscal policy that are common across all federal democracies (including developed one), and
are well recognised in theoretical terms.

However, given the potential improvements that can be made in policy, one has to search for institutional changes that will provide the right incentives to
policymakers: this applies to all reforms, not just fiscal reforms.

In order for this process to work, policymakers must have an incentive to act: one obvious idea is that reforms may need to be bundled in ways that garner
sufficient political support. This may be especially relevant where there are potential CentreState conflicts.

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While the consequences of the Fifth Pay Commission Award and the states worsening fiscal positions are obvious and related points of concern, both may be
overstated. For example, the states budgetary position in the aggregate may have stabilised. Furthermore, there is sufficient variation across the states (not all states
implemented the award in full)to indicate that policy matters, and the right incentive structures may lead to beneficialcompetition among the states in fiscal management.

However, the quality of expenditures at the Centre and the states overall has deteriorated, and the solution to this has to be a rationalisation of government, both
internally and through privatisation. Thus, expenditure restructuring must accompany expenditure control.

Privatisation, when combined with increased competition, thus has a role that goes beyond any immediate contribution to reducing fiscal deficits, viz., promoting
efficiency in public service delivery, and merely changing ownership, without removing government control, may not fulfill this second role. In the long run, however, the
second role may be a more important contribution to fiscal health.

The revenue-enhancing tax reform is critical at all levels, including Centre, states, and local governments. Although there is ample room for improving the structure
of indirect taxes, in particular (including moving away from inefficient internal border taxes), improved tax administration and enforcement remains one of the most critical
areas for internal government reform. Tax reform is an essential step towards increasing government revenue, as well as reducing micro-economic distortions.

Institutional reforms such as improvements in the intergovernmental transfer system, borrowing mechanisms for state governments, and budgeting practices and
norms are all technically possible and may well be politically feasible.

Although fiscal adjustment requires some immediate attention, Indian governments have the opportunity to plan it intelligently, rather than being straitjacketed by
a crisis.

Therefore, measures such as hiking tariffs to raise revenue, or cutting productive expenditures, as ways of achieving a better fiscal balance, are to be avoided.

CASE

The problem of India is not a lack of resource; it is the inability and/or unwillingness to mobilise resources
into the public sector. Indian economy is not facing a resource crisis, but it is confronting the fiscal crisis.
The reasons are that the share of direct taxes had steadily declined over the years inspite of the fact that
both incomes and savings of the top 10 per cent of the households in the country had been steadily
increasing. The government is not showing any commitment towards placing greater reliance on the direct
taxes to mobilise resources. The government is unwilling to tax the rich and, therefore, it has no other
option except to fall back on indirect taxes and rely more than ever on borrowing from those who expect
interest and tax concessions, from temporarily parting with their resources, to enable the government to
continue its development programmes. Grave instersectoral imbalances also exist in Indias tax structure
because agricultural incomes are virtually tax free. The Raj Committee had recommended introduction of
an agricultural tax to remove this inequity, but the state governments did nothing to implement the
recommendations of this Committee. The long-term fiscal policy also did nothing to eliminate this
intersectoral inequity.
Failure of public sector enterprises to generate the contemplated re-investible surplus and small surplus,
which became available from these enterprises, was not attributable to improved efficiency.
The fiscal deficit reflects the total resource gap, whichequals the excess of total government expenditure
over government revenue and grants. The fiscal deficit, thus, fully indicates the indebtedness of the
government.
Case Question

Suggest some remedies for the new fiscal policy to face the fiscal crisis.
SUMMARY

Monetary policy in India has been formulated in the context of economic planning, whose main objective
has been to accelerate the growth process in the country. Economic planning in a country like ours leads to
an expansionary fiscal policy, under the compulsions of increasing demand to expand both the plan and
the non-plan expenditure. Monetary policy under those circumstances is asked to play a difficult role, on
the one hand, it is required to facilitate the role of a countervailing force.
According to C. Rangarajan, over the years, the following factors have essentially guided the conduct of the
monetary policy. First, the monetary policy measures have generally been a response to the fiscal policy.
Secondly, monetary policy has been primarily acting through availability of credit, and thirdly, the areas of
operation of monetary policy did not remain confined to the factors related to the regulation of money
supply and keeping the prices in check.
Since the introduction of the economic reforms in 1991, the lowering of the CRR and the SLR and the
reduction in the bank rate clearly suggest that the entire concern of the monetary policy in the 1990s has
been to ensure an adequate expansion in the credit to assist the industrial growth.
The fiscal policy formulated by the Government of India has been creating a considerable impact on the
economy of the country. Taxation, public expenditure, and public debt have been increasing at a
considerable pace. The public sector of the country has also been expanded considerably. The country has
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been able to attain a significant development of this industrial infrastructurial sector, but the burden of
taxation in our country is comparatively heavily and, thereby, it has been affecting the saving capacity of
the people. Moreover, with the failure of the fiscal policy of the country to check the extent of the
inadequacy in the distribution of income and wealth, and also the failure to solve the problem of
unemployment and poverty even after 50 years of planning, is highly alarming. The fiscal policy has always
failed to maintain the stability in the price level of the country. It would now be better to study advantages
and shortcomings of the fiscal policy of the country in a brief manner.
KEY WORDS

Monetary Policy
Credit Control
Fiscal Policy
Public Expenditure
Deficit Finanacing
Inflation
Public Debt
Economic Crises
Cash Reserve Ratio (CRR)
Bank Rate
Open-Market Operations (OMOs)
External Debt
Internal Debt
Tax
EPS
X-inefficiency
Fiscal Adjustment
Subsidies
Tax Evasion

QUESTIONS

1.
2.
3.
4.
5.
6.

Discuss the monetary policy measures announced by RBI recently.

What do you mean by monetary policy? Discuss its objectives and importance.
Define the fiscal policy of India. Analyse its objectives and techniques.
Analyse the merits and shortcomings of fiscal policy of India. Suggest necessary reforms in the fiscal policy of the country.
Evaluate fiscal policy of India and give suggestion for its reforms.
Discuss the recent fiscal policy announced by the Government of India.

REFERENCES

Dewett, K. K. (2002). Modern Economic Theory. New Delhi: Sultan Chand.

Fiscal Policy Statement, Government of India.
http://www.rediff.com/money/2002/apr/25tut.htm
Misra, S. K. and Puri V. K. (2000). Indian Economy. Mumbai: Himalaya Publishing House.
Paul, H. (2003). The Economic Way of Thinking, 10th ed. New Delhi: Pearson Education.
The Hindu Businessline. April 30, 2008.

CHAPTER 06
Economic Trends
CHAPTER OUTLINE

The Indian Financial Systems

Indian Money Market

Indian Capital Market
Call Money Market
Bill Market
Financial System

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Structure of the Financial System

Functions of the Indian Financial System: Promotion of Capital Formation

The Price Policy

Price Movement Since Independence

Objectives of Price Policy
Prices of Industrial Products
Control of Expenditure
Key Words
Questions
References

I. THE INDIAN FINANCIAL SYSTEMS

INDIAN MONEY MARKET

Concept and Meaning of Money Market

A well-organised money market is the basis for an effective monetary policy. A money market may be
defined as the market for lending and borrowing of short-term funds. It is the market where the
short-term surplus investible funds of bank and other financial institutions are demanded by borrowers
comprising individuals, companies, and the government. Commercial banks are both suppliers of funds in
the money market and borrowers.

A money market may be defined as the market for lending and borrowing of short-term funds.
The Indian money market consists of two parts: the unorganised and the organised sectors. The
unorganised sector consists of an indigenous banker who pursues the banking business on traditional lines
and non-banking financial companies (NBFCs). The organised sector comprises the Reserve Bank of India
(RBI), the State Bank of India (SBI) and its associate banks, the 20 nationalised banks, and other private
sector banks, both Indian and foreign. The organised money market in India has a number of sub-markets,
such as the treasury bills market, the commercial bills market, and the inter-bank call money market. The
Indian money market is not a single homogeneous market but is composed of several sub-markets, each
one of which deals in a particular type of short-term credit.

The Indian money market consists of two parts: the unorganised and the organised sectors.
The Indian money market is not a single homogeneous market but is composed of several
sub-markets, each one of which deals in a particular type of short-term credit.
The Composition of the Indian Financial System

The Indian financial system which refers to the borrowing and lending of funds or to the demand for and
supply of funds, consists of two parts, viz., the Indian Money Market and the Indian Capital Market. The
Indian money market is the market in which short-term funds are borrowed and lent. The capital market
in India, on the other hand, is the market for medium and long-term funds.
Usually, we classify the Indian money market into organised sector and the unorganised sector. The
organised sector of the money market consists of commercial banks in India, which includes private sector
and public sector banks, and also foreign banks. The unorganised sector consists of indigenous bankers,
including the NBFCs. Besides these two, there are many sub-markets in the Indian money market.
The Composition of the Indian Banking System

The organised banking system in India can be broadly divided into three categories, viz., the central bank
of the country known as the Reserve Bank of India (RBI), the commercial banks, and the cooperative
banks. Another and more common classification of banks in India is between scheduled and
non-scheduled banks. The Reserve Bank of India is the supreme, monetary and banking authority in the
country and has the responsibility to control the banking system in the country. It keeps the reserves of all
scheduled banks and, hence is known as the Reserve Bank.
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The organised sector of the money market consists of commercial banks in India, which includes
private sector and public sector banks, and also foreign banks. The unorganised sector consists of
indigenous bankers, including the NBFCs. Besides these two, there are many sub-markets in the
Indian money market.
Under the Reserve Bank of India (RBI) Act, 1934, banks were classified as scheduled banks and
non-scheduled banks. The scheduled banks are those which had been entered in the Second Schedule of
RBI Act, 1934. Such banks are those which have a paid-up capital and reserves of an aggregate value, of
not less than Rs 5 lakh, and which satisfy RBI that their affairs are carried out in the interests of their
depositors. All commercial banksIndian and foreign, regional rural banks, and state cooperative
banksare scheduled banks. Non-scheduled banks are those which have not been included in the Second
Schedule of the RBI Act, 1934. At present, there are only three non-scheduled banks in the country. The
scheduled banks are divided into commercial banks and cooperative banks. The commercial banks are
based on profit, while cooperative banks are based on cooperative principle. A comparative analysis of
global finance markets has been given in Box 6.1.

All commercial banksIndian and foreign, regional rural banks, and state cooperative banksare
scheduled banks. Non-scheduled banks are those which have not been included in the Second Schedule
of the RBI Act, 1934.

Box 6.1 Comparative Analysis of Global Finance Markets

INDIAN CAPITAL MARKET

Capital market is the market for long-term funds, just as the money is the market for short-term funds. It
refers to all the facilities and the institutional arrangements for borrowing and lending term (medium and
long-term funds). It does not deal in capital goods but is concerned with the raising of capital for the
purpose of investment.

Capital market is the market for long-term funds, just as the money is the market for short-term
funds.
The demand for long-term capital comes predominantly from private sector manufacturing industries and
agriculture, and from the government, not only for the purpose of economic overheads like transport,
irrigation, and power development but also on basic industries and, sometimes, even consumer goods
industries, as they require substantial sums from the capital market. The supply of funds for the capital
market comes largely from individual savers, corporate savings, banks, insurance companies, specialised
financing agencies, and the government. Among institutions we may refer to the following:
1.

Commercial banks are important investors, but are largely interested in government securities and, to small extent, debentures of companies.

161

2.
3.
4.

LIC (Life Insurance Corporation) and GIC (General Insurance Corporation) are gaining importance in the Indian capital market, though their major interest is still
in government securities;
Provident funds constitute a major medium of saving but their investment too are mostly in government securities; and
Special institutions set up since independence, viz., IFCI (Industrial Finance Corporation of India), ICICI (Industrial Credit and Investment Corporation of India),
IDBI (Industrial Development Bank of India), UTI (Unit Trust of India), and so ongenerally called Development Financial Institutionsaim at supplying long-term capital
to the private sector.

The supply of funds for the capital market comes largely from individual savers, corporate savings,
banks, insurance companies, specialised financing agencies, and the government.
There are financial intermediaries in the capital market, such as merchant bankers, mutual funds, leasing
companies, and so on, which help on mobilising, saving and supplying fund to the capital market. Like all
markets, the capital market is also composed of those who demand funds (borrowers) and those who
supply funds (leaders). An ideal capital market attempts to provide adequate capital at a reasonable rate of
return for any business or individual proposition, which offers a perspective yield high enough to make
borrowing worthwhile. The rapid expansion of the corporate and public enterprises since 1951 has
necessitated the development of the capital market in India. The Indian capital market is broadly divided
as the gilt-edged market and the industrial securities market. The gilt-edged market refers to the market
for government and semi-government securities, backed by the RBI. The securities traded in this market
are stable in value and are much sought after by banks and other institutions.

There are financial intermediaries in the capital market, such as merchant bankers, mutual funds,
leasing companies, and so on, which help on mobilising, saving and supplying fund to the capital
market.
The Indian capital market is broadly divided as the gilt-edged market and the industrial securities
market. The gilt-edged market refers to the market for government and semigovernment securities,
backed by the RBI. The securities traded in this market are stable in value and are much sought after
by banks and other institutions.
The industrial securities market refers to the market for shares and debentures of old and new companies.
This market is further divided as the new-issue market and the old capital market meaning the stock
exchange. The new-issue marketoften referred to primary market, denotes the raising of new capital in
the form of shares and debenture, whereas the old-issue market deals with securities already issued by
companies. The old-issue market or the stock market exchange is also known as the secondary market.
Both markets are equally important, but often, the new-issue market is much more important from the
point of economic growth. However, the functioning of the new-issue market will be facilitated only when
there are abundant facilities for transfer of existing securities. Besides the gilt-edged market and
variable-yield industrial securities, the Indian capital market includes development financial institutions
and financial intermediaries.
CALL MONEY MARKET

One important sub-market of the Indian money market is the Call Money Market, which is the market for
short-term funds. This market is also known as money at call and short notice. The locations of call
money centres in India are given in Box 6.2. This market has actually two segments, viz., (a) the call
market or overnight market and (b) short notice market. The rate at which funds are borrowed and lent in
this market is called the call money rate.

One important sub-market of the Indian money market is the Call Money Market, which is the
market for short-term funds. This market is also known as money at call and short notice.
Box 6.2 Call Money Centres in India

Call money centres are mainly located in

1.

Mumbai
2.
3.

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4.
5.
6.
7.
8.
9.
10.
11.
12.

Kolkata
Delhi
Chennai
Ahmedabad

Mangalore
Call money rates are market determined, that is, by demand for and supply of short-term funds. The public
sector banks account for about 80 per cent for the demand (i.e., borrowings), and foreign banks and
Indian private sector banks account for the balance of 20 per cent of borrowings. Non-banking financial
institutions, such as IDBI, LIC, GIC, and so on, enter the call money market as lenders and supply up to 80
per cent of the short-term funds. The balance of 20 per cent of the funds is supplied by the banking system.
Although some banks operate both as lender and borrowers, others are either only borrowers or only
lenders in the call money market.

The public sector banks account for about 80 per cent for the demand (i.e., borrowings), and foreign
banks and Indian private sector banks account for the balance of 20 per cent of borrowings.
BILL MARKET

The bill market or the discount market is the most important part of the money market where short-term
bills normally up to 90 days are bought and sold. The bill market is further subdivided into commercial bill
market and treasury bill market. The 91-day treasury bills are the most common way the Government of
India raises funds for the short period. Some years ago, the government had introduced the 182-day
treasury bills which were later converted into 364-day treasury bills. In 1997, the government introduced
the 14-day intermediate treasury bills.

The bill market or the discount market is the most important part of the money market where
short-term bills normally up to 90 days are bought and sold.
FINANCIAL SYSTEM

In a broad sense, finance refers to funds of monetary resources needed by individuals, business houses,
and the government. Individuals and households require funds essentially for meeting their current
requirements or day-to-day expenses or for buying capital goods (commonly known as investment). A list
of some investments in international money market is given in Box 6.3. A business unit, a factory, or a
workshop needs funds for paying wages and salaries, for buying raw materials, for purchasing new
machinery, or for replacing an old one, and so on. Traders require finance for buying and stocking goods in
their shops and godowns; whereas farmers for different periods and for different purposes.

In a broad sense, finance refers to funds of monetary resources needed by individuals, business
houses, and the government.

Box 6.3 Global Instruments

The more common instruments which are available for investment and some investments in international
money market are:
163

1.

International bank deposits (FD)

2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.

14.
15.
16.
17.
18.
19.
20.

Certificates of deposits (CD)

Euro currency deposits
Euro commercial paper
Bankers acceptance
Bills of exchange
Treasury bills and treasury bonds of major international markets, say New York, London, Frankfurt, and
so on
Corporate bonds and junk bonds of short maturities
Floating-rate notes

Notes-issuance facility.

STRUCTURE OF THE FINANCIAL SYSTEM

The Financial System of India refers to the system of borrowing and lending of funds or the demand for
and the supply of funds to all individuals, institutions, companies, and of the government, commonly. The
financial system is classified into
1.
2.
3.
4.

Industrial Finance: Funds required for the conduct of industry and trade;
Agricultural Finance: Funds needed and supplied for the conduct of agriculture and allied activity;
Development Finance: Funds needed for development; actually, it includes both industrial finance and agricultural finance; and
Government Finance: Relates to the demand for and supply of funds to meet government expenditure.

The Financial System of India refers to the system of borrowing and lending of funds or the demand
for and the supply of funds to all individuals, institutions, companies, and of the government,
commonly.
Indian financial system includes the many institutions and the mechanism that affects the generation of
savings by the community, the mobilisation of savings, and the effective distribution of the savings among
all those who demand the funds for investment purposes. Broadly, therefore, the Indian financial system is
composed of
1.
2.

The banking system, the insurance companies, mutual funds, investment funds, and other institutions that promote savings among the public, collect their savings,
and transfer them to the actual investors; and
The investors in the country are composed of individual investors, industrial and trading companies, and the governmentthese investors enter the financial
system as borrowers.

Indian financial system includes the many institutions and the mechanism that affects the generation
of savings by the community, the mobilisation of savings, and the effective distribution of the savings
among all those who demand the funds for investment purposes.
The stock exchanges in India facilitate the buying and selling of shares and debentures of existing
companies and, thus, help savers to shift from one type of investment to another.

164

The stock exchanges in India facilitate the buying and selling of shares and debentures of existing
companies and, thus, help savers to shift from one type of investment to another.
FUNCTIONS OF THE INDIAN FINANCIAL SYSTEM: PROMOTION OF CAPITAL FORMATION

The Indian financial system performs a crucial role in the economic development of India through savings
investment process, also known as capital formation. It is for this reason that the financial system is
sometimes called the financial market. The purpose of the financial market is to mobilise savings
effectively and allocate the same efficiently among the ultimate users of funds, via investors. A high rate of
capital formation is an essential condition for rapid economic development. The process of capital
formation depends upon
1.
2.
3.

Increase in savings, that is, the resources that would have been normally used for consumption purposes can be released for other purposes;
Mobilisation of savings, that is domestic savings collected by banking and financial institutions and placed at the disposal of actual investors; and
Investment proper, which is the production of capital goods.

The Indian financial system performs a crucial role in the economic development of India through
savings investment process, also known as capital formation. It is for this reason that the financial
system is sometimes called the financial market.
The third stage or process is the real capital formation, but this stage cannot arise or exist without the first
two processes. Thus, the general public should save and be prepared to release real resources from
consumption goods to capital goods. The savings of the people should be mobilised by banking and
financial institutions. Finally, the savings of the people should be made available to investors to produce
capital goods. All these three steps or processes, though independent of each other, are necessary for
accumulation of capital. The importance of banking and financial institutions in the capital formation
process arises because those who save and those who invest in India are generally not the same persons or
institutions. The financial institutions and the banks act as intermediaries to bring the savers and
investors together.

The importance of banking and financial institutions in the capital formation process arises because
those who save and those who invest in India are generally not the same persons or institutions. The
financial institutions and the banks act as intermediaries to bring the savers and investors together.
Recent Trends in Money Market

The capital and commodity markets remained buoyant during 2007. Relatively, stable macroeconomic
conditions as reflected in the moderate rate of inflation, growth-conducive interest-rate situation,
improved fiscal conditions, and larger investor participation augured well for capital and commodity
markets, as measured in terms of volume and value of transactions.
Capital Market

The Indian capital market attained further depth and width in the business that was transacted during
2007. The Bombay Stock Exchange (BSE) Sensex, which had been witnessing an upswing since the latter
part of 2003, scaled a high of 20,000 mark at the close of calendar year 2007. The National Stock
Exchange (NSE) Index rose in tandem to close above the 6,100 mark at the end of 2007. Both the indices
more than tripled between 2003 and 2007, giving handsome yearly returns. Alongside the growth of
business in the Indian capital market, the regulatory and oversight norms have improved over the years,
ensuring a sound and stable market.

The Bombay Stock Exchange (BSE) Sensex, which had been witnessing an upswing since the latter
part of 2003, scaled a high of 20,000 mark at the close of calendar year 2007.
Primary Market

The primary capital market grew in 2006 and 2007 after the set back of 2005. The amounts raised and the
number of new issues which entered the market increased in 2007. The total amount of capital raised
through different market instruments during 2007 was 31.5 per cent higher than during 2006, which itself
had seen a rebound of 30.6 per cent over the lows of 2005 (refer to Table 6.1).

165

Component-wise, the private placement at Rs 111,838 crore (up to November 2007) accounted for the
major share during 2007. The total equity issues mobilised was Rs 58,722 crore, of which Rs 33,912 crore
was accounted for by the initial public offerings (IPOs). During 2007, the total number of IPOs issued was
100 when compared to 75 in the previous year.
In line with the rising trend in resources raised in the primary market, the net inflow of savings into
mutual funds increased by over 30 per cent in 2007 to Rs 138,270 crore (refer to Table 6.2). The sharp
increase in funds flowing into the mutual funds during 2007 was partly due to buoyant equity markets and
also due to the efforts made by the Indian mutual funds to introduce innovative schemes.
Income/debt-oriented schemes fared relatively better during the year compared to other schemes. The
private sector mutual funds outperformed the public sector mutual funds in terms of resource mobilisation
in 2007. The share of UTI and other public sector mutual funds in total amount, that mobilised gradually,
declined over the years to 17.8 per cent in 2006 and further to 12.7 per cent in 2007.

The sharp increase in funds flowing into the mutual funds during 2007 was partly due to buoyant
equity markets and also due to the efforts made by the Indian mutual funds to introduce innovative
schemes.

Table 6.1 Resource Mobilisation Through Primary Market

Source: SEBI and RBI (for euro issues).

*Till November 2007.

Table 6.2 Trends in Resource Mobilisation (Net) by Mutual Funds

Source: SEBI.

Secondary Market

In the secondary market segment, the market activity expanded further during 200708 with BSE and
NSE indices scaling new peaks of 21,000 and 6,300, respectively, in January 2008. Although the indices
showed some intermittent fluctuations, reflecting change in the market sentiments, the indices maintained
their north-bound trend during the year. This could be attributed to the larger inflows from foreign

166

institutional investors (FIIs) and wider participation of domestic investors, particularly the institutional
investors. During 2007, on a point-to-point basis, Sensex and Nifty indices rose by 47.1 per cent and 54.8
per cent, respectively. The buoyant conditions in the Indian bourses were aided by, among other things,
like a relatively higher GDP growth among the emerging economies, continued uptrend in the profitability
of the Indian corporates, persistence of difference in domestic and international levels of interest rates,
impressive returns on equities, and a strong Indian rupee on the back of larger capital inflows.

The buoyant conditions in the Indian bourses were aided by, among other things, like a relatively
higher GDP growth among the emerging economies, continued uptrend in the profitability of the
Indian corporates, persistence of difference in domestic and international levels of interest rates,
impressive returns on equities, and a strong Indian rupee on the back of larger capital inflows.
Among the NSE indices, both Nifty and Nifty Junior delivered annual equity returns making a record
(current year-end index divided by previous year-end index multiplied by 100) of 54.8 per cent and 75.7
per cent, respectively, during the calendar year 2007 (refer to Table 6.3 and Figure 6.1). While Nifty gave
compounded returns of 34.4 per cent, Nifty Junior recorded compounded returns of 38.4 per cent per year
between 2003 and 2007.

Table 6.3 Closing Values of NSE Indices (Nifty 50 and Nifty Junior at Month End)

Source: National Stock Exchange.

Figure 6.1 Movement of Indices of NSE and BSE

In terms of month-to-month movement, the NSE indices (Nifty and Nifty Junior) were subdued during
February and August 2007, while they showed a rising trend during the rest of the year. The BSE Sensex
(top 30 stocks) too echoed a similar trend (refer to Table 6.4). The sell-offin Indian bourses in August
2007 could partly be attributed to the concerns on the possible fallout of the sub-prime crisis in the West.

167

Although the climb of BSE Sensex during 200708 so far, was the fastest ever, the journey of BSE Sensex
from 18,000 to 19,000 mark was achieved in just four trading sessions during October 2007. It further
crossed the 20,000 mark in December 2007 and 21,000 in an intra-day trading in January 2008. However,
BSE and NSE indices declined subsequently, reflecting concerns on global developments. BSE Sensex
yielded a compounded return of 36.5 per cent per year between 2003 and 2007. In terms of simple average,
BSE Sensex has given an annual return of more than 40 per cent during the last eight years. BSE-500
recorded a compounded annual return of 38 per cent between 2003 and 2007.

BSE Sensex yielded a compounded return of 36.5 per cent per year between 2003 and 2007. In terms
of simple average, BSE Sensex has given an annual return of more than 40 per cent during the last
eight years.
Among the Asian stock markets, Chinese and Indonesian markets outperformed the Indian markets in
terms of cumulative performance over 2003 levels (refer to Table 6.5). While the BSE Sensex rose by 47.1
per cent during 2007, SSE Composite Index (Shanghai, China) rose by 96.7 per cent, and the Jakarta
Composite Index (Indonesia) increased by around 52 per cent.Other international indices that rose
appreciably in 2007 were Hang Seng (Hong Kong) by 39.3 per cent, Kospi (South Korea) by 32.3 per cent,
and Kuala Lumpur Comp Index (Malaysia) by 31.8 per cent (refer to Table 6.5). As the stock indices scaled
new heights, investors wealth as reflected in market capitalisation also rose correspondingly. The market
capitalisation in India nearly doubled in 2007. The markets were more stable in 2007, as measured by the
standard deviation of daily volatility of the Indian indices when compared to the previous year (refer
to Table 6.6). The priceto-earnings (P/E) ratio, which partly discounts future corporate earnings, reflecting
investors expectations of corporate profit, was higher at around 27 by end-December 2007 when
compared to around 21 at end-December 2006.

Table 6.4 Closing Value of BSE Indices (Sensex and BSE-500) at Month End

Source: Bombay Stock Exchange.

Table 6.5 Cumulative Change in the Movement of Global Indices

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Source: Derived from various country sources.

*End-month closing.

Table 6.6 Equity Returns, Volatility, Market Capitalisation, and P/E Ratio

Source: National Stock Exchange and Bombay Stock Exchange.

*Standard deviation values.

It is, however, noted that in the period January 2006 to December 2007, the volatility of weekly returns of
Indian indices was higher when compared to indices outside India such as S&P 500 of the United States
and Kospi of South Korea (refer to Table 6.7). The valuation of Indian stocks as reflected in P/E, multiples
of around 27 times at end-December 2007, was the highest among the select emerging market economies,
such as South Korea, Thailand, Malaysia, and Taiwan (refer to Table 6.8).

The valuation of Indian stocks as reflected in P/E, multiples of around 27 times at end-December
2007, was the highest among the select emerging market economies, such as South Korea, Thailand,
Malaysia, and Taiwan.
One of the important indicators to assess the size of the capital market is the ratio of market capitalisation
to GDP. In India as on December 30, 2007, market capitalisation (BSE-500) at US$1,638 bn was 150 per

169

cent of GDP, which compares well with the other emerging economies as well as select matured markets
(refer to Table 6.9).

Table 6.7 Volatility of Weekly Returns on the Equity Markets (standard deviation)
Class of stocks

Period
Jan 2005 Dec 2006

Jan 2006 Dec 2007

India
Top 50 (Nifty)

2.01

2.45

Next 50 (Nifty Junior)

2.41

2.85

Sensex

2.96

3.17

BSE 500

3.23

3.30

US (S&P 500)

0.95

1.28

Korea (Kospi)

1.84

2.17

Outside India

Source: National Stock Exchange and Bombay Stock Exchange.

Table 6.8 P/E Ratios in Select Emerging Markets

Index/Market

Mar 2007

Dec 2007

South Korea, KOSPI

11.36

15.04

Thailand, SET

10.59

19.92

Indonesia, JCI

19.54

18.43

Malaysia, KLCI

16.97

16.07

Taiwan, TWSE

17.92

20.14

BSE Sensex

20.50

27.67

S&P CNX Nifty

18.38

27.62

Source: SEBI and Bloomberg Financial Services.

Table 6.9 Market Capitalisation in Select Countries

Country

Market Capitalisation (US$ bn) as on December 30, 2007

Market Capitalisation as % of GDP

China

4,459.48

137.3

India

1,638.20*

150.0

Japan

4,535.08

104.4

South Korea

1,103.34

116.2

United States

17,773.05

128.8

Source: Derived from various country sources.

*Market capitalisation of BSE 500.

The price of a security depends largely on demand and supply conditions and is influenced by the impact
of cost and liquidity. The liquidity and the impact cost are inversely related. While the impact cost for
purchase or sale of Rs 25 lakh for Nifty Junior portfolio improved marginally over the years to 0.14 per
cent during 2007, for the Nifty portfolio, it remained stable at 0.08 per cent during the last few years (refer

170

to Table 6.10). Both NSE and BSE continued to show an upward trend. During 2007, both NSE and BSE
spot market turnover showed a rise of over 60 per cent and 47 per cent, respectively, over the previous
year. In respect of NSE and BSE derivatives, the increase was around 70 per cent and 200 per cent,
respectively (refer to Table 6.11).

The price of a security depends largely on demand and supply conditions and is influenced by the
impact of cost and liquidity. The liquidity and the impact cost are inversely related.
The spot market turnover (one-way) for NSE and BSE (together) amounted to Rs 4508,709 crore. In the
derivatives market, the NSE and BSE turnover added up to Rs 12,160,701 crore during 2007, showing a
quantum growth over the previous year. During 2007, as a proportion of market capitalisation of Nifty, the
turnover in NSE spot and derivative market was 87.8 per cent and 339 per cent, respectively. The turnover
in BSE spot and derivative market accounted for 22 per cent and 3 per cent, respectively, of market
capitalisation of BSE-500.
In terms of institutional players, both FIIs and mutual funds leveraged their activity in the equity market
during the year. While the net investment by FIIs in both spot and derivative markets witnessed quantum
increases during 2007, the corresponding gross buy/sell by FIIs too increased significantly. In 2007, FIIs
net activity (gross buy/gross sell) constituted 17.3 per cent of the spot market and 9 per cent of the
derivative market (refer to Table 6.11). The number of registered FIIs rose to 1,219 at the end of 2007 from
1,044 in the corresponding period of last year; the number of sub-accounts also increased to 3,644 from
3,045 over the same period. The assets under the management of mutual funds grew by 1.7 times from Rs
3.23 lakh crore during 2006 to Rs 5.50 lakh crore in 2007.

In terms of institutional players, both FIIs and mutual funds leveraged their activity in the equity
market during the year.

Table 6.10 Equity Spot Market Liquidity: Impact Cost (%)

Source: National Stock Exchange.

Table 6.11 Market Turnover

Source: National Stock Exchange and Bombay Stock Exchange.

II. THE PRICE POLICY
PRICE MOVEMENT SINCE INDEPENDENCE

A proper study of price movements and the value of rupee since 195051 requires the existence of
wholesale price index (WPI) of all commodities with 195051 as the base year. The Government of India
started with such a price index. Unfortunately, the government gave up the series in the middle of the
171

1960s and started a new series with 196061 as the base year. In fact, in its anxiety to prevent people from
making a real comparison of the continually rising price level and rapidly declining purchasing power of
the rupee since 195051, the government has been changing the base year every decadefrom 195051 to
196061, later to 197071, and finally to 19811982. The usual plea taken by the government is that the
new series has a considerably larger coverage of items, grades, and markets, and that it is also based on a
larger number of quotations. Whatever be the reasons, with the change in the base every decade, however,
we are not able to make any valid and broad comparison of price movements since the economic planning
was introduced in 195051.
Price Situation During 195171

One of the declared objectives of the First Plan was to combat inflationary pressures. Aided by bumper
crops, the First Plan largely succeeded in achieving this objective. At the end of the First Plan period, the
general price index number stood at 99 (with 195253=100) but the index number of food articles had
declined to about 95 and cereals and pulses stood lower at 88 and 77, respectively. Thus, during the First
Plan the price situation was very favourable.
The success of the First Plan and the favourable movement of prices encouraged the Government of India
to launch still more elaborate plans and undertake still greater degree of deficit financing. Throughout the
Second Plan period, there was a gradual and steady rise in prices; the price level rose by 20 per cent by
196065. The price position during the Third Five-Year Plan deteriorated badly. The Chinese invasion of
India towards the end of 1962, the Indo-Pakistan conflict in 1965, and the consequent increase in defence
expenditure and, above all, the serious famine conditions of 196566 were responsible for rapid rise in
prices. The price position became really difficult because of extensive hoarding and black marketing in
food grains and other essential goods. Between 1961 and 1966, the rise in the prices of foodstuffs was over
40 per cent, in cereals it was over 45 per cent, and in pulses it was 70 per cent. The next two years were
years of acute inflation when the index number of wholesale prices shot up by 14 per cent and 11 per cent,
respectively. The country was on the brink of a galloping inflation. Fortunately, the bumper harvest of
196768 saved the situation and the inflationary rise in prices was completely arrested.

The success of the First Plan and the favourable movement of prices encouraged the Government of
India to launch still more elaborate plans and undertake still greater degree of deficit financing.
Price Situation During the 1970s

The upward movement of prices during the Fourth Plan (196974) was extremely significant. The rise in
the general price level was rather slow in the beginning of the Fourth Plan but it gathered momentum later.
For instance, the rise in the price level during the first three years of the Fourth Plan ranged between 7
points and 9 points. In the fourth and the final years, however, the price level rose by 19 points and 47
points, respectively. Large influx of refugees from Bangladesh, heavy expenditure of the government on
the refugees, the widespread failure of Kharif crops in 197273, and the complete failure of the takeover of
wholesale trade in wheat resulted in an unprecedented rise in price level during 197374, with all the
characteristics of a galloping inflation. This was aggravated by a per cent rise in crude oil prices towards
the end of 1973 (refer to Box 6.4). The worldwide inflation of this period and the depreciation in the
external value of the rupee vis-a-vis many currencies of the world, pushed up the costs of imports and
aggravated the domestic price inflation. Reflecting the cumulative impact of these factors, the WPI of all
commodities stood at an all-time high of 331 in September 1974 (with 196162=100).

The rise in the general price level was rather slow in the beginning of the Fourth Plan but it gathered
momentum later.
The worldwide inflation of this period and the depreciation in the external value of the rupee vis-a-vis
many currencies of the world, pushed up the costs of imports and aggravated the domestic price
inflation.

Box 6.4 Impact of Crude Oil Price Increase on Global Commodity Prices
172

Crude oil prices affect the prices of other commodities in the following ways:

Affect the prices of inputs which the primary commodities use, such as fertilizers and fuel.
Affect the transport cost of commodities over long distances.
Prices of commodities, which have energy-intensive production process, particularly metals, get affected because of an increase in energy prices.
Affect the prices of the products which could become substitutes for crude or could be used as bio-fuels (like maize and sugar for ethanol production or rapeseed
and other oils for bio-diesel production).

Affect the prices of primary commodities which compete with the synthetic products made from crude (like cotton with man-made fibres and natural rubber with
synthetic rubber).

Affect the prices of commodities which can be substituted for crude as sources of energy (like coal, electricity, and gas).
Based on the annual data from 1960 to 2005 and a simple econometric model, the Working Paper of the World Bank (Policy Research Working Paper No.
4333Oil Spills on Other Commodities by John BaffesAugust 2007) estimated the degree of pass due to crude oil price changes to the prices of 35 other internationally
traded primary commodities. The elasticity for the non-energy commodity index was estimated at 0.16 indicating that 1 per cent pass through may impact the commodity
prices by 16 basis points. No estimates are available for India.

Source: Working Paper No. 4333, World Bank, August 2007.

This order of inflation created a veritable crisis in the country and an extreme lack of public confidence in
the ability of the government to manage the price situation. To check the rise in prices, the government
took a number of fiscal and monetary measures like the use of compulsory deposit scheme (CDS) to
impound part of the income of people, imposition of limits on declaration of dividends and credit squeeze
by the RBI. At the same time, the use of MISA (Maintenance of Internal Security Act) against smugglers,
hoarders, and black-marketers also had a favourable impact on the situation. There was a dramatic change
in the price front since September 1974 when the prices started falling. The fall in the price level during
this period was as follows:

To check the rise in prices, the government took a number of fiscal and monetary measures like the
use of compulsory deposit scheme (CDS) to impound part of the income of people, imposition of limits
on declaration of dividends and credit squeeze by the RBI.
The steep decline in prices during this period was of considerable significance to the economy in that it
created an environment of stability and confidence, gave relief to the public that had been squeezed by
inflation in the preceding two years, and helped greatly to dampen the psychology of scarcity. The credit
for checking the rise in the price level was given to the declaration of emergency in June 1975. The trend of
declining prices was unfortunately reversed by the third week of March 1976. Table 6.12shows the price
trend during 197576. The rise in prices since March 1976 till March 1977 completely wiped out the
decline in the prices of the previous two years. The level of prices in April 1977, for example, was the same
as that of in September 1974. The propaganda that Emergency was a major factor for controlling prices
was thus exploded.
Price Movement During Janata Rule (197779)

A review of price movement during 197778 and 197879 brings out the fact that the Janata Party
government was indeed successful in holding the price line and in fact, the maintenance of price stability
has been a positive achievement of the governments short-term demand and supply management
policies (refer to Table 6.13).

Table 6.12 Price Trend During 197576 (196162=100)

Period

WPI of all commodities

September 1974

331

March 1975

309

March 1976

283

Source: RBI Bulletin (various issues).

Table 6.13 Price Situation During the Janata Rule (197071=100)

173

Period

WPI of all commodities 197071=100

March 1977

183

January 1978

184

January 1979

185

Source: Economic Survey 198182 and RBI Bulletin (various issues).

The conditions in the beginning of 1979 were highly suitable for the continuance of price stability. The
buffer stock of food grains had crossed over 20 million tonnes. The production of food grains was a record
131 million tonnes. Industrial production had recorded a rise of 9.5 points in 1978 over the previous year.
Availability of critical industrial raw materials like cement, steel and other metals, and coal, the lack of
which restrained industrial growth in the past, was extremely satisfactory. At the same time, the country
had over Rs 5,000 crore worth of foreign exchange reserves, which could be used effectively to import
goods that were in short supply within the country. Despite these favourable factors, the stability in price
level which was managed with such a great effort was upset callously by an inflationary budget introduced
in February 1979 by the then Finance Minister, Mr. Charan Singh. Besides the heavy dose of indirect
taxation, the budget provided for an overall deficit of Rs 1,365 crore, a record again at that time which
exerted pressure on prices. Prices started rising almost the day after the budget was presented in the
Parliament. In February 1979 the index number of wholesale prices stood at 185 (197071=100), but by
January 1980 it had risen to 224.

Despite these favourable factors, the stability in price level which was managed with such a great
effort was upset callously by an inflationary budget introduced in February 1979 by the then Finance
Minister, Mr. Charan Singh.
Price Movement During the 1980s

The Congress Party which returned to power in January 1980 regarded inflation as its number one
problem. Initially, the price situation appeared to be hopeless. The poor agricultural crop of 197980 and
the consequent adverse effect on industrial production and the hike in oil prices by 130 per cent in 1980
alone were responsible for boosting the price level still further (refer to Table 6.14).
The WPI rose by 38 points in 198081an increase of 17.4 per cent over the previous year. A vigorous
anti-inflationary policy kept the rise in prices to moderate levels. The price level was remarkably steady
during 198283, though at a slightly higher level. This price stability was achieved partly through credit
restraint and also through an increase in the supply of essential goods via the public distribution system.
Unfortunately, this price stability was only short-lived as the price level began to rise from the middle of
January 1983. The re-emergence of inflationary pressure since January 1983 was the result of the increase
in the prices of certain items, such as pulses, oilseeds, and other foodstuffs and an increase in the
administered prices of a number of goods like coal, electricity, cement, iron, steel and ferro-alloys, and so
on.

The WPI rose by 38 points in 198081an increase of 17.4 per cent over the previous year.
The government was prompt in taking anti-inflationary measures during 198384 on both demand and
supply side. On the demand side, the government made a series of adjustments in the cash reserve ratio
(CRR) of the commercial banks to check the growth of liquidity in the banking system. The commercial
banks were also asked to confine their lending operations within certain limits. In January 1984, the
government announced its decision to curtail the public expenditure by 3 per cent to 5 per cent, imposed a
temporary ban on fresh government recruitment, and so on. The objective of these monetary and fiscal
measures was to check the increase in the volume of money supply in the country and also to check
effective demand.

174

The government was prompt in taking anti-inflationary measures during 198384 on both demand
and supply side.
On the supply side, the government attempted to increase the supply of goods and services through both
short and long-term measures. Short-term measures included larger releases of wheat, rice, sugar, and
edible oils through the public distribution system and imports of food grains and edible oils to augment
the domestic availability. Long-term measures included steps taken to increase production in critical areas.
To some extent, the demand and supply management of the government during the Sixth Plan (198085)
was largely successful in containing the prices. The annual rate of increase in prices during this period
ranked around 7 per cent to 8 per cent.

To some extent, the demand and supply management of the gov-ernment during the Sixth Plan
(198085) was largely success-ful in containing the prices.

Table 6.14 Price Movement During the Sixth Plan (1970 71=100)
Year

WPI of all commodities

% Variation over the previous year

197980

218

198081

256

17.8

198182

281

9.8

198283

289

2.9

198384

316

9.4

198485

338

7.0

Source: Compiled from Economic Survey 198889, the Government of India.

During the Seventh Plan period (198590), the wholesale prices moved upward rather steadily. The
annual rate of inflation during this period ranged between 4.7 per cent (198586) and 9.4 per cent
(198788) and averaged 7 per cent. The pressure on prices was due to the shortfall in production of
essential agricultural commodities in order to control inflationary rise of prices, during the Seventh Plan
period. RBI tightened the selective credit controls and took certain measures to mop up excess liquidity.
The availability of large stocks of rice and wheat, built over many years, was effectively used to combat
drought and inflation. The food reserves were used to supply food grains through public distribution
system, to special employment programmes, relief programmes, and so on. The government took recourse
to large imports of edible oils, pulses, rice, and sugar to maintain adequate supplies. For some essential
commodities, appropriate price bands were determined and suitable market intervention operations were
undertaken to maintain stability of prices. By and large, the inflationary situation was under control
during the 1980s.

During the Seventh Plan period (198590), the wholesale prices moved upward rather steadily.
Price Situation During the 1990s

The price rise since the beginning of 1990 was almost engineered by the government itself through
rise-administered prices and rise in indirect taxes. The increase in the prices of food grains on mere
political considerations and the Gulf surcharge, which raised the prices of petroleum products to an
unprecedented level in one single jump, were the other factors behind the recent rise in prices (refer
toTable 6.15). The inflationary pressure was concentrated on primary commodities such as food grains,
vegetables, sugar, and edible oils. The prices rose rapidly during 199091 and 199192 and the average
annual rates of inflation were 10.3 per cent and 13.7 per cent, respectively. The inflation rate was
controlled since then because of a better performance by the agricultural sector as also because of the
macro-economic corrections adopted by the government, including reduction in the fiscal deficit and the
resultant control in the expansion of money supply. The improvement in the price situation was,
175

particularly welcome to the poorer sections of the society, as some items of mass consumption like cereals,
pulses, and edible oils actually registered a drop in their prices during 199293 and 199394.

The prices rose rapidly during 199091 and 199192 and the average annual rates of inflation were
10.3 per cent and 13.7 per cent, respectively.
The price situation, however, took a severe turn from August 1993. The annual rate of inflation started
rising mainly because of heavy fiscal deficit resulting in the expansion of money supply with the people. To
this was added the rise in administered prices of inflationsensitive goods. The double-digit inflation
continued for the better part of 199495. Since then, the inflationary situation came under control with a
noticeable decline in the prices of primary food articles as well as manufactured food products. During
19992000, the average annual rate of inflation was the lowest of about 3.3 per cent (with 199394=100).
It may be observed from the previous table that the Government of India has changed the base period of
the WPI from 198182 to 199394, thus making it difficult to compare the movement of prices over the
years.

The price situation, however, took a severe turn from August 1993. The annual rate of inflation
started rising mainly because of heavy fiscal deficit resulting in the expansion of money supply with
the people.

Table 6.15 Price Movement During the 1990s

Source: RBI Handbook of Statistics on Indian Economy,

Table 29, Chapter 5, Economic Survey 200001, the Government of India.

OBJECTIVES OF PRICE POLICY

We may set out the important objectives of price policy suitable for India during the Tenth Plan period:
1.
2.
3.
4.
5.

The price policy should attain and maintain price stability primarily in respect of food articles, but, to the extent possible, in all prices.
Aggregate demand should be made equal to aggregate supply; monetary and fiscal measures have an important role to play in this sphere.
The price policy should provide necessary incentives to stimulate production of all essential consumer goods.
It should protect the vulnerable section of the community, by effectively checking the rate of increase of food grain prices (but this should not reduce incentives to
greater production in agriculture).
Price policies should be such as to establish some consistent relationship between agricultural prices, prices of manufactures, and the prices of various services.

PRICES OF INDUSTRIAL PRODUCTS

Till now, the policy framework for determining the prices of industrial products was not fully prepared. In
the case of fertilizers, prices were fixed separately for each producer but in the case of sugar and cement,
prices were product-specific and varied between regions. The general approach was to fix prices on a
cost-plus basis but the details of the procedure varied. In the case of coal, the price was fixed on the basis
176

of actual costs. In many cases, certain standards of efficiency and capacity utilisation were taken into
account while fixing standard costs. The basis on which a return to capital was allowed also varied. In the
case of energy sector, there could be substitution between different products and, hence, prices of such
products as kerosene, soft coke, electricity, and LPG were fixed after paying due regard to the impact on
the demand for related goods and their consistency with development strategy. Likewise, the pricing of
different metals and other materials took into account the substitution possibilities, which need to be
encouraged or discouraged.
Finally, the prices of the most industrial products did not contain an element of subsidy. But in the case of
fertilizers, the final prices paid by the farmers were very much below the average cost of production and a
huge budgetary provision had to be made year after year (between Rs 5,000 crore and Rs 6,000 crore a
year). Even though fertilizer subsidy was justified from the point of view of agricultural growth, the burden
of subsidy had grown with the increase in the domestic production of fertilizers. In the recent years, every
government which assumed power at the Centre has announced its intention to phase out fertilizer subsidy
but none had the guts to implement it because of the opposition of the farmers lobby.
CONTROL OF EXPENDITURE

The price policy designed to promote economic growth includes measures for controlling the volume of
public and private expenditures. The aim is to reduce any undue pressure in the limited supply of
consumption goods. Besides, the consumer goods should be available at prices regarded reasonable from
the point of view of the low-income groups. Non-essential and nonproductive expenditure in both the
public and private sectors must be reduced and, if possible, eliminated.

The price policy designed to promote economic growth includes measures for controlling the volume
of public and private expenditures. The aim is to reduce any undue pressure in the limited supply of
consump-tion goods.
In this connection, particular emphasis should be laid on the reduction of non-plan expenditure or the
government. Ultimately, without government cutting down its expenditure it is impossible to control
inflation. The maximum economy in the Central government non-plan expenditure can be effected
through (a) cutting down subsidies of all types, (b) making government enterprises to earn profits, (c)
closing down all or most of the economic ministries, and (d) reducing the size of bureaucracy. The state
governments are also guilty of wasting precious resources by way of heavy losses of their enterprises and
undertakings. In practice, however, the governments both at the Centre and at the State level are not
serious about reducing the public expenditure.
The problem of a suitable price policy in a developing economy arises largely owing to the existence of
persistent pressure of inflation. Price stability need not mean freezing the price at a given level. The slow
and steady rise in the price level has all the virtues of a constant price level and has, in addition, the power
to infuse some amount of momentum to the economy. This has been the position in India in the first three
years of the Tenth Plan. A cumulative but a very slow rise in general price level is, therefore, not only
permissible but also, indeed, desirable. But the prices should not be allowed to go out of control, as was
our experience during 1973 and 1974, between 1980 and 1981, and between 1990 and 1992.

The problem of a suitable price policy in a developing economy arises largely owing to the exis-tence
of persistent pressure of inflation.
International Prices of Select Commodities

In an open economy, the movement in the domestic prices of commodities depends on the behaviour of
their world prices. The pass through, however, is often incomplete and may be influenced by
administrative and fiscal interventions. International and domestic trends of inflation in respect of 12
commodity groups indicate that domestic inflation for comparable groups has been significantly lower
than the increase in the global commodity group indices (refer to Table 6.16 and Figures 6.2 and 6.3).

177

In an open economy, the movement in the domestic prices of commodities depends on the behaviour
of their world prices.
Overall, four factors contributed to a global increase in the prices of commodities. Firstly demand for food
crops and edible oils increased because of a rapid rise in income in the developing countries. A strong
demand from the oil-exporting countries and increased use of these crops/commodities in bio-fuels also
pushed up their demand. The World Bank in its Global Economic Prospects 2008 has indicated that, in
2006, bio-fuels accounted for 5 per cent to 10 per cent of the global production of primary bio-fuel feed
stocks. The United States used 20 per cent of its maize production for bio-fuels, Brazil used 50 per cent of
sugarcane for bio-fuels, and the European Union used 68 per cent of its vegetable oil production for
bio-fuels. Such large uses, by reducing the availability of these products for food and feed, exerted pressure
on prices.

Table 6.16 International and Domestic Trend of Inflation (%)

Note: Composition of World Price Index (WPI) items/groups as compared to World Price Commodities
(WPC) as used in Table 4.20: Energy (Fuel Group); Non-energy Commodities (all commodities excluding
energy); Agriculture (Food Articles and Non-food Articles); Beverages (Beverages Tobacco and Tobacco
products); Food (Food Articles and Food products); Fats and oil (Edible Oils, Butter, and Ghee); Grains
(Cereals and Pulses); Other Food (Other Food Articles); Raw Materials (Non-food Articles and Minerals);
Timber (Wood and Wood Products); Other Raw Materials (Naphtha and Basis Metals Alloys and Metals
Products); Fertilizers (Fertilizers); Metals and Minerals (Basis Metals Alloys and Metals Products and
Minerals).

178

Figure 6.2 Annual Inflation for Grains (Cereals and Pulses)

Figure 6.3 Annual Inflation for Edible Oils

Secondly, food prices also increased because of low output stocks. The global output of grains declined
from 2,016 million tonnes in 200506 to an estimated 1,993 million tonnes in 200607. Global stocks as
of January 2008 were estimated at 309 million tonnes when compared to 389 million tonnes at the end of
200506 (US Department of Agriculture estimates).
Thirdly, the higher cost of cultivation due to an increase in the prices of fertilizers and fuels also raised the
price expectations. For the food grain-importing countries, an increase in the shipping costs also raised the
landed cost of the imported grains and edible oils. The current increase has both a temporary component,
low stock, and drought, and also a structural component, high energy prices; and, therefore, is expected to
persist longer.
Fourthly, the increase in the prices of metals was largely because of an increase in the demand from the
emerging economies, particularly China. The slower growth of the supplies due, in part, to lower
investment and delays in bringing new capacities contributed to the sustained increase. An overall price
increase in December 2007 when compared to the prices during 2005 (JanuaryDecember) was relatively
higher for lead (165.9 per cent), tin (120.4per cent), copper (79.1 per cent), zinc (70.4 per cent), and
aluminium (25.5 per cent). Prices of steel, except steel rebar, were either flat or declined.
The major reasons for an increase in the domestic prices during the year, albeit moderate when compared
to the previous year, were a build-up of inflationary pressure in the preceding months and a mismatch in
the demand and supply conditions. On the demand side, large capital inflows exerted pressure on liquidity
conditions. On the supply side, shortfalls in the domestic availability of wheat, pulses, and edible oils in
200607 aggravated mismatches. The production of wheat averaged 69 million tonnes during 200406.
The lower production led to lower procurement and decline in the carry over stocks, which together
resulted in a build-up of inflationary expectations.
This got compounded by a global decline in output and stocks, which was reflected in wheat prices of US
SRW wheat averaging US$345 per tonne in December 2007 when compared to an average of US$136 per
tonne during JanuaryDecember 2005, US$159 in JanuaryDecember 2006, and US$239 in
JanuaryDecember 2007. Similarly, in the case of pulses, the production during 200406 averaged 13.2
million tonnes, relative to a demand estimated at around 15 million tonnes. The production of oilseeds also

179

witnessed a decline of about 3.8 million tonnes in 200607. A shortfall in domestic availability increased
the vulnerability of the domestic prices to international price shocks.
Challenges and Outlook

Overall, inflation is likely to remain moderate in the coming months, as the policy measures taken during
the course of the year, work their own way through the system. The behaviour of agricultural prices,
including essential consumption items, will be critical, given falling poverty and rapidly rising per capita
income. Global prices are having a more pronounced impact on domestic prices as the ability to meet
shortfalls at affordable prices is being eroded by global shortages and rising prices. Thus, we will continue
to depend on enhancement of supplies through higher productivity and efficient supply management to
eliminate wastage. Domestic supply management is, therefore, critical to stabilising inflation expectations,
moderating pressures for upward revision of wages and prices, and containing pressures for cost-push
inflation through monetary and fiscal accommodation.

Domestic supply management is, therefore, critical to stabilising inflation expectations, moderating
pressures for upward revision of wages and prices, and containing pressures for costpush inflation
through monetary and fiscal accommodation.
The parts of the economy characterised by market competition, such as manufacturing, have responded to
the increase in demand through higher investment and capacity creation. The supply-side pressures are
likely to be in sectors like agriculture that suffer from structural problems, infrastructure sectors still
characterised by a monopoly core that are heavily dependent on government investment, and relatively
slow, decision-making sectors such as urban land. Monetary policy needs to address the inflationary
expectations triggered by sub-sectoral price flare-ups arising from mismatches in the demand and supply.
The monetary policy also has to manage the stress arising from a continued increase in capital flows and
the consequential changes in the exchange rate, exchange reserves, and liquidity. This is particularly
challenging in a period of stagnancy or decline in the production of durable consumer goods and
deceleration in the global demand for our exports.

Monetary policy needs to address the inflationary expectations triggered by sub-sectoral price
flare-ups arising from mismatches in the demand and supply.
KEY WORDS

Capital Market
Money Market
Call Money Market
Bill Market
Financial System
Indian Banking System

QUESTIONS

1.
2.
3.
4.
5.
6.
7.
8.
i.
ii.
iii.
iv.

Analyse the performance of commercial banks in India.

Analyse the progress of the regional rural banks in India. Evaluate the achievements of RRBs.
What do you mean by the Indian Money Market? Analyse the various constituents of the unorganised and organised money market in India.
Discuss the recent trends in the capital market in India.
What do you mean by price policy? Discuss the price movements since independence.
Discuss the objectives of price policy in India and how the prices of industrial products are determined.
Discuss the recent price policy trends in an open economy.
Write short notes on:

Call Money Market

Bill Market
Structure of Financial System
Expenditure Control
REFERENCES

Dewett, K. K. (2002). Modern Economic Theory. New Delhi: Sultan Chand.

Misra, S. K. and V. K. Puri (2000). Indian Economy. Mumbai: Himalaya Publishing House.
Paul, H. (2003). The Economic Way of Thinking, 10th ed. New Delhi: Pearson Education.

180

Travedi, I. V. and R. Jatana (2004). Economic Environment in India. Jaipur: University Book House.

CHAPTER 07
Stock Exchanges in India
CHAPTER OUTLINE

Concept and Meaning of Stock Exchange

Types of Financial Markets
SEBI and Its Role in the Secondary Market
Products Available in the Secondary Market
Regulatory Requirements Specified by SEBI for Corporate Debt Securities
Broker and Sub-broker in the Secondary Market
SEBI Risk Management System
Investor Protection Fund (IPF)/Customer Protection Fund (CPF) at Stock Exchanges
Foreign Institutional Investors (FIIs)
Functions of Security Exchange Board of India
Powers of Security Exchange Board of India
Growth of Stock Market in India
Key Words
Questions
References

CONCEPT AND MEANING OF STOCK EXCHANGE

181

Stock exchange is an organised marketplace, either corporation or mutual organisation, where members of
the organisation gather to trade company stocks or other securities. The members may act either as agents
for their customers, or as principals for their own accounts. It is a place where securities are featured by
the centralisation of supply and demand for the transaction of orders by member brokers for institutional
and individual investors. It is established to facilitate the buying and selling of stocks.

Stock exchange is an organised marketplace, either corporation or mutual organisation, where

members of the organisation gather to trade company stocks or other securities.
Stock exchanges also facilitate the issue and redemption of securities and other financial instruments,
including the payment of income and dividends. The record-keeping is central but trade is linked to such a
physical place because modern markets are computerised. The trade on an exchange is only by members
and stockbrokers do have a seat on the exchange.
List of Stock Exchanges in India

Bombay Stock Exchange

Regional Stock Exchanges
National Stock Exchange

Ahmedabad Stock Exchange

Bangalore Stock Exchange
Bhubaneshwar Stock Exchange
Calcutta Stock Exchange
Cochin Stock Exchange
Coimbatore Stock Exchange
Delhi Stock Exchange
Guwahati Stock Exchange
Hyderabad Stock Exchange
Jaipur Stock Exchange
Ludhiana Stock Exchange
Madhya Pradesh Stock Exchange
Madras Stock Exchange
Magadh Stock Exchange
Mangalore Stock Exchange
Meerut Stock Exchange
OTC Exchange Of India
Pune Stock Exchange
Saurashtra Kutch Stock Exchange
Uttar Pradesh Stock Exchange
Vadodara Stock Exchange
TYPES OF FINANCIAL MARKETS

The financial markets can be broadly divided into money market and capital market.
Money Market

Money market is a market for debt securities that pay off in the short term usually less than one year, for
example, the market for 90-day treasury bills. This market encompasses the trading and issuance of
short-term non-equity debt instruments, including treasury bills, commercial papers, bankers acceptance,
certificates of deposits, and so on.

Money market is a market for debt securities that pay off in the short term usually less than one year.
Capital Market

Capital market is a market for long-term debt and equity shares. In this market, the capital funds
comprising of both equity and debt are issued and traded. This also includes private placement sources of

182

debt and equity as well as organised markets like stock exchanges. Capital market can be further divided
into primary and secondary markets.

Capital market is a market for long-term debt and equity shares. In this market, the capital funds
comprising of both equity and debt are issued and traded.
Secondary Market

Secondary market refers to a market where securities are traded after being initially offered to the public
in the primary market, and/or listed on the stock exchange. Majority of the trading is done in the
secondary market. Secondary market comprises of equity markets and the debt markets. For the general
investor, the secondary market provides an efficient platform for trading of his securities. For the
management of the company, secondary equity markets serve as a monitoring and control conduitby
facilitating value-enhancing control activities, enabling implementation of incentive-based management
contracts, and aggregating information (via price discovery) that guides management decisions.

Secondary market refers to a market where securities are traded after being initially offered to the
public in the primary market, and/or listed on the stock exchange.
The Difference Between Primary Market and Secondary Market

In the primary market, securities are offered to public for subscription, for the purpose of raising capital or
fund. Whereas, the secondary market is an equity-trading avenue in which the already existing/pre-issued
securities are traded among investors. The secondary market could be either auction or dealer market.
While stock exchange is the part of an auction market, over-the-counter (OTC) is a part of the dealer
market.
SEBI AND ITS ROLE IN THE SECONDARY MARKET

Security Exchange Board of India (SEBI)

The SEBI is the regulatory authority established under Section 3 of SEBI Act, 1992, to protect the interests
of the investors in securities and to promote the development of, and to regulate, the securities market and
for matters connected, therewith, and incidental, thereto.

The SEBI is the regulatory authority established under Section 3 of SEBI Act, 1992, to protect the
interests of the investors in securities and to promote the development of, and to regulate, the
securities market and for matters connected, therewith, and incidental, thereto.
Role of SEBI in Regulating Trading in the Secondary Market

The following departments of SEBI take care of the activities in the secondary market:

Table 7.1
S.
No.
1.

Name of the Department

Major Activities

Market Intermediaries Registration

Registration, supervision, compliance monitoring, and inspections of all market intermediaries in respect of all segments

and Supervision Department (MIRSD)

of the markets, viz., equity, equity derivatives, debt, and debt-related derivatives

Market Regulation Department (MRD)

Formulating new policies and supervising the functioning and operations (except relating to derivatives) of securities
exchanges, their subsidiaries, and market institutions, such as clearing and settlement organisations and depositories
(collectively referred to as Market SROs)

3.

Derivatives and New Products

Supervising trading at derivatives segments of stock exchanges, introducing new products to be traded, and consequent

Departments (DNPD)

policy changes

183

PRODUCTS AVAILABLE IN THE SECONDARY MARKET

Following are the main financial products/instruments dealt in the secondary market:
Equity

The ownership interest in a company of holders of its common and preferred stock.
Equity Shares

An equity share, commonly referred to as an ordinary share, also represents the form of fractional
ownership in which a shareholder, as a fractional owner, undertakes the maximum entrepreneurial risk
associated with a business venture. The holders of such shares are members of the company and have
voting rights. A company may issue such shares with differential rights as to voting, payment of dividend,
and so on. The various kinds of equity shares are as follows:

An equity share, commonly referred to as an ordinary share, also represents the form of fractional
ownership in which a shareholder, as a fractional owner, undertakes the maximum entrepreneurial
risk associated with a business venture.

Rights Issue/Rights Shares: The issue of new securities to the existing shareholders at a ratio to those securities already held.
Bonus Shares: The shares issued by the companies to their shareholders, free of cost, by capitalisation of accumulated reserves from the profits earned in the earlier
years.

Preferred Stock/Preference Shares: The owners of these kinds of shares are entitled to a fixed dividend or a dividend calculated at a fixed rate to be paid regularly
before a dividend can be paid in respect of an equity share. They also enjoy priority over the equity shareholders in payment of a surplus. But in the event of liquidation, their
claims rank below the claims of the companys creditors, bondholders, or debenture holders.

Cumulative Preference Shares: A type of preference shares on which dividend accumulates, if remains unpaid. All arrears of preference dividend have to be paid
out before paying dividend on the equity shares.

Cumulative Convertible Preference Shares: A type of preference shares where the dividend payable on the same accumulates, if not paid. After a specified date,
these shares will be converted as the equity capital of the company.

Participating Preference Share: The right of certain preference shareholders to participate in profits after a specified fixed dividend that was contracted for is paid.
Participation right is linked with the quantum of dividend paid on the equity shares, over and above a particular specified level.

Security Receipts: Security receipt means a receipt or other security, issued by a securi-tisation or a reconstruction company to any qualified institutional buyer
pursuant to a scheme, evidencing the purchase or acquisition by the holder thereof, of an undivided right, title, or interest in the financial asset involved in securitisation.

Government Securities (G-Secs): These are sovereign (credit risk-free) coupon-bearing instruments, which are issued by the Reserve Bank of India (RBI) on behalf
of Government of India, in lieu of the Central governments market-borrowing programme. These securities have a fixed coupon that is paid on specific dates on half-yearly
basis. These securities are available in a wide range of maturity dates, from short dated (less than one year) to long dated (up to 20 years).

Debentures: Bonds issued by a company, bearing a fixed rate of interest, usually payable half-yearly on specific dates, and principal amount repayable on a
particular date on redemption of the debentures. Debentures are normally secured/charged against the asset of the company in favour of a debenture holder.

Bond: A negotiable certificate evidencing indebtedness. It is normally unsecured. A debt security is generally issued by a company, a municipality, or a government
agency. A bond investor lends money to the issuer and, in exchange, the issuer promises to repay the loan amount on a specified maturity date. The issuer usually pays the
bond holder, periodic interest payments over the life of the loan. The various types of bonds are as follows:

Zero Coupon Bond: Bond issued at a discount and repaid at a face value. No periodic interest
is paid. The difference between the issue price and redemption price represents the return to the holder.
The buyer of these bonds receives only one payment, at the maturity of the bond.
Convertible Bond: A bond giving the investor the option to convert the bond into equity at a
fixed conversion price.
Commercial Paper: A short-term promise to repay a fixed amount that is placed on the market, either directly or through a specialised intermediary. It is usually
issued by companies with a high credit, standing in the form of a promissory note, redeemable at par to the holder on maturity and, therefore, does not require any
guarantee. Commercial paper is a money market instrument issued normally for a tenure of 90 days.

Treasury Bills: Short-term (up to 91 days) bearer discount security issued by the government as a means of financing its cash requirements.

REGULATORY REQUIREMENTS SPECIFIED BY SEBI FOR CORPORATE DEBT SECURITIES

The issue of debt securities having a maturity period of more than 365 days by listed companies (i.e.,
which have any of their securities, either equity or debt, offered through an offer document, and listed on a
recognised stock exchange; and also includes public sector undertakings, whose securities are listed on a
recognised stock exchange), on a private placement basis, must comply with the conditions prescribed by
SEBI, from time to time, for getting them listed on the stock exchanges. Further, unlisted
companies/statutory corporations/ other entities, if they desire so, may get their privately placed debt
securities listed on the stock exchanges, by complying with the relevant conditions. Briefly, these
conditions are as follows:

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1.
2.
3.
4.
5.
6.
7.

Compliance with the disclosure requirements under Chapter VI of the SEBI (Disclosure and Investor Protection) Guidelines, 2000, and listing agreements with the
exchanges and provisions of the Companies Act, 1956.
Such disclosures may be made through the web site of the stock exchanges where the debt securities are sought to be listed, if the privately placed debt securities
are issued in the standard denomination of Rs 10 lakh.
The company shall sign a separate listing agreement with the exchange in respect of debt securities.
The debt securities shall carry a credit rating from a credit rating agency registered with SEBI.
The company shall appoint a debenture trustee, who is registered with SEBI, in respect of the issue of the debt securities.
The debt securities shall be issued and traded in demat form.
All trades with the exception of spot transactions, in a listed debt security, shall be executed only on the trading platform of a stock exchange.

BROKER AND SUB-BROKER IN THE SECONDARY MARKET

Broker

A broker is a member of a recognised stock exchange, who is permitted to do trades on the screen-based
trading system of different stock exchanges. He is enrolled as a member with the concerned exchange and
is registered with SEBI.

A broker is a member of a recognised stock exchange, who is permitted to do trades on the

screen-based trading system of different stock exchanges.
Sub-broker

A sub-broker is a person who is registered with SEBI as such and is affiliated to a member of a recognised
stock exchange. You can contact a broker or a sub-broker registered with SEBI for carrying out your
transactions pertaining to the capital market.

A sub-broker is a person who is registered with SEBI as such and is affiliated to a member of a
recognised stock exchange.
Agreement with the Broker or Sub-broker

For the purpose of engaging a broker to execute trades on your behalf, from time to time, and furnish
details relating to yourself, for enabling the broker to maintain a client registration form, you have to sign
the memberclient agreement, if you are dealing directly with a broker. In case you are dealing through
a sub-broker, then you have to sign a brokersubbrokerclient a tripartite agreement. The model
tripartite agreement between broker-sub-broker-client and know-your-client form can be viewed from
SEBI website at www.sebi.gov.in. The model tripartite agreement between broker-sub-broker and clients
is applicable only for the cash segment. The model agreement has to be executed on a non-judicial stamp
paper. The agreement contains clauses defining the rights and responsibilities of client vis--vis
broker/sub-broker. The documents prescribed are model formats. The stock exchanges/stockbroker may
incorporate any additional clauses in these documents, provided the clauses are not in conflict with any of
the clauses in the model document, as also the rules, regulations, articles, byelaws, circulars, directives,
and guidelines.
Risk Disclosure Document

In order to acquaint the investors in the markets of the various risks involved in trading in the stock
market, the members of the exchange have been required to sign a risk disclosure document with their
clients, informing them of the various risks like risks of volatility, risks of lower liquidity, risks of higher
spreads, risks of new announcements, risks of rumours, and so on.
Placing Orders with the Broker or Sub-broker

You can either go to the brokers/sub-brokers office or place an order over the phone/Internet or as
defined in the model agreement given above. The stock exchanges assign a unique order code number to
each transaction, which is intimated by the broker to his/her client and once the order is executed, this
order code number is printed on the contract note. The broker member has also to maintain the record of
time when the client has placed order and should reflect the same in the contract note, along with the time
of execution of the order.
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Brokerage that a Broker or Sub-broker Can Charge

The maximum brokerage that can be charged by a broker has been specified in the stock exchange
regulations and, hence, it may differ from across various exchanges. As per the BSE and NSE byelaws, a
broker cannot charge more than 2.5 per cent brokerage from his clients. This maximum brokerage is
inclusive of the brokerage charged by the sub-broker. Further, SEBI (stockbrokers and sub-brokers)
Regulations, 1992 stipulates that a sub-broker cannot charge from his/her clients, a commission which is
more than 1.5 per cent of the value mentioned in the respective purchase or sale note.

The maximum brokerage that can be charged by a broker has been specified in the stock exchange
regulations and, hence, it may differ from across various exchanges.
Charges Levied on the Investor by a Stockbroker/Sub-broker

The trading member can charge as follows:

1.
2.
3.
4.

Brokerage charged by a member broker.

Penalties arising on a specific default on behalf of a client (investor).
Service tax as stipulated.
Securities Transaction Tax (STT) as applicable.

The brokerage, service tax, and STT are indicated separately in the contract note.
Securities Transaction Tax (STT)

Securities Transaction Tax (STT) is a tax being levied on all transactions done on the stock exchanges, at
rates prescribed by the Central government from time to time. Pursuant to the enactment of the Finance
(No. 2) Act, 2004, the Government of India notified the STT Rules, 2004, and, thus, STT came into effect
from October 1, 2004.

Securities Transaction Tax (STT) is a tax being levied on all transactions done on the stock exchanges,
at rates prescribed by the Central government from time to time.
Rolling Settlement

In a rolling settlement, the trades executed during the day are settled based on the net obligations for the
day. Presently, the trades pertaining to the rolling settlement are settled on a T+2-day basis where T
stands for the trade day. Hence, trades executed on a Monday are typically settled on the following
Wednesday (considering two working days from the trade day).

In a rolling settlement, the trades executed during the day are settled based on the net obligations for
the day.
The pay-in and pay-out of funds and securities are carried out on T+2 day.

Table 7.2
Heads

Activity

Day

Trading

Rolling settlement trading

Clearing

Custodial confirmation

T+1 working days

Delivery generation

T+1 working days

Securities and funds pay-in

T+2 working days

Securities and funds pay-out

T+2 working days

Valuation debit

T+2 working days

Settlement

Post settlement

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Heads

Activity

Day

Auction

T+3 working days

Bad delivery reporting

T+4 working days

Auction settlement

T+5 working days

Close out

T+5 working days

Rectified bad delivery pay-in and pay-out

T+6 working days

Re-bad delivery reporting and pickup

T+8 working days

Close out of re-bad delivery

T+9 working days

Note: The above is a typical settlement cycle for normal (regular) market segment. The days prescribed for
the above activities may change in case of factors like holidays, bank closing, and so on. You may refer to
scheduled dates of pay-in/pay-out, notified by the exchange for each settlement from time-to-time.

SEBI RISK MANAGEMENT SYSTEM

SEBIs primary focus is always to address the market risks, operational risks, and systematic risk. SEBI is
regularly and continuously reviewing its policies and drafting risk management policies to control the
above risks, to enhance the level of investors protection and to cater to the need of market development.
The key risk management measures initiated by SEBI includes the following:
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.

VAR-based margining system.

Specification of mark-to-market margins
Specification of intra-day trading limits and gross exposure limits
Real-time monitoring of the intra-day trading limits and gross exposure limits by the stock exchanges
Specification of time limits for payment of marginsv
Collection of margins on T+1 basis
Index-based market-wide circuit breakers
Automatic de-activation of trading terminals, in case of breach of exposure limits
VAR-based margining system has been put in place, based on the categorisation of stocks, which, in turn, based on the liquidity of stocks, depending on its impact
on cost and volatility. It addresses 99 per cent of the risks in the market.
Additional margins have also been specified to address the balance 1 per cent cases.

From time to time, SEBI has issued circulars modifying the present risk management framework to move
to upfront a collection of value at risk (VAR) margins (instead of margin collection on T+1 basis). As per
SEBIs revised framework (SEBI circular MRD/DOP/SE/Cir-07/2005), the liquid assets deposited by the
broker with the exchange should be sufficient to cover upfront VAR margins, extreme loss margin, and
MTM (mark to market losses). It has also been stated clearly by SEBI that the exchanges would monitor
the position of the brokers online on real-time basis, and there would be an automatic de-activation of
terminal on any shortfall of margin.
Redressing Investor Grievances

Office of Investor Assistance and Education (OIAE): You can lodge a complaint with OIAE department of
SEBI against companies for delay, non-receipt of shares, refund orders, and so on, and with stock
exchanges against brokers on certain trade disputes or non-receipt of payment/securities.

1.
2.

Arbitration: If no amicable settlement could be reached, then you can make an application for reference to arbitration under the byelaws of the concerned stock
exchange.
Court of Law.

You can lodge a complaint with OIAE department of SEBI against companies for delay, non-receipt
of shares, refund orders, and so on, and with stock exchanges against brokers on certain trade
disputes or non-receipt of payment/ securities.
Arbitration

Arbitration is an alternative, dispute resolution mechanism provided by a stock exchange for resolving
disputes between the trading members and their clients, in respect of trades done on the exchange.

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Process for Preferring Arbitration

The byelaws of the exchange provide the procedure for arbitration. You can procure a form for filing
arbitration from the concerned stock exchange. The arbitral tribunal has to make the arbitral award within
three months from the date of entering upon the reference. The time taken to make an award cannot be
extended beyond a maximum period of six months from the date of entering upon the reference.
Appointment of the Arbitrators

Every exchange maintains a panel of arbitrators. Investors may choose the arbitrator of their choice from
the panel. The broker also has an option to choose an arbitrator. The name(s) would be forwarded to the
member for acceptance. In case of disagreement, the exchange shall decide upon the name of arbitrators.
INVESTOR PROTECTION FUND (IPF)/CUSTOMER PROTECTION FUND (CPF) AT STOCK EXCHANGES

Investor Protection Fund (IPF) is the fund set up by the stock exchanges, to meet the legitimate
investment claims of the clients, of the defaulting members who are not of speculative nature. SEBI has
prescribed guidelines for the utilisation of IPF at the stock exchanges. The stock exchanges have been
permitted to fix suitable compensation limits, in consultation with the IPF/CPF Trust. It has been
provided that the amount of compensation available against a single claim of an investor, arising out of a
default by a member broker of a stock exchange, shall not be less than Rs 1 lakh in case of major stock
exchanges, viz., BSE and NSE, and Rs 50,000/in case of other stock exchanges.

Investor Protection Fund (IPF) is the fund set up by the stock exchanges, to meet the legitimate
investment claims of the clients, of the defaulting members who are not of speculative nature.
Acts Governing Securities Transactions in India

In India, two Acts mainly govern securities transactions at present. They are as follows:
1.
2.

The Securities Contracts (Regulation) Act, 1956 and

The Securities & Exchange Board of India Act, 1992.

The paper-based ownership and transfer of securities have been a major drawback of the Indian Securities
Markets, since it often results in delay in settlement and transfers of securities and also leads to bad
delivery, theft, forgery, and so on. The Depositories Act, 1996 was, therefore, enacted to pave the way for
smooth and free transfer of securities.
The other relevant laws, which affect the capital market, are:
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.

The Depositories Act, 1996

The Foreign Exchange Regulations Act, 1973
Arbitration and Conciliation Act, 1996
Companies Act, 1956
Debt Recovery Act (Bank and Financial Institutions Recovery of Dues Act, 1993)
Banking Regulation Act
Benami Prohibition Act
Indian Penal Code
Indian Evidence Act, 1872, and
Indian Telegraph Act, 1885.

The Securities Contracts (Regulation) Act of 1956

The Securities Contracts (Regulation) Act, 1956 (hereinafter referred to as the Act), containing a mere 31
sections, keeps a tight vigil over all the stock exchanges of India since February 20, 1957. The provisions of
the Act were formerly administered by the Central government. However, since the enactment of The
Securities and Exchange Board of India Act, 1992, the Board established under it (SEBI), concurrently, has
powers to administer almost all the provisions of the Act.
By virtue of the provisions of the Act, the business of dealing in securities cannot be carried out without a
license from SEBI. Any stock exchange, which is desirous of being recognised, has to make an application
under Section 3 of the Act to SEBI, which is empowered to grant recognition and prescribe conditions,
including that of having SEBIs representation (maximum three persons) on the stock exchange and
prohibiting the stock exchange from amending its rules without SEBIs prior approval. This recognition

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can be withdrawn in the interest of the trade or the public. SEBI is authorised to call for periodical returns
from the recognised stock exchanges and make enquiries in relation to their affairs. Every stock exchange
is obliged to furnish annual reports to SEBI. Stock exchanges are allowed to make rules only with the prior
approval of SEBI. The Central government and SEBI can direct stock exchanges to frame rules. The
recognised stock exchanges are allowed to make bylaws for the regulation and control of contracts, subject
to the previous approval of SEBI, and SEBI has the power to amend the aforesaid bylaws. The Central
government and SEBI have the power to supersede the governing body of any recognised stock exchange
and to suspend its business.

By virtue of the provisions of the Act, the business of dealing in securities cannot be carried out
without a license from SEBI.
A public limited company has no obligation to have its shares listed on a recognised stock exchange. But if
a company intends to offer its shares or debentures to the public for subscription by issue of a prospectus,
it must, before issuing such prospectus, apply to one or more recognised stock exchanges for
permissionto have the shares or debentures, intended to be so, offered to the public, to be dealt with in
each of such stock exchange in terms of Section 73 of the Companies Act, 1956. SEBI can, however, under
the provisions of Section 21 of the Securities Contracts (Regulation) Act, 1956 compel the listing of
securities by public companies, if it is of the opinion that it is necessary or expedient in the interest of the
trade or the public. In the event of the stock exchange refusing to list the securities of any public company,
an appeal to SEBI is provided under the Act. A company as per the present provisions of law is obliged to
get listed on the regional exchange, in addition to other exchanges. (There has been a recommendation
that this restriction be removed.)

A public limited company has no obligation to have its shares listed on a recognised stock exchange.
A company as per the present provisions of law is obliged to get listed on the regional exchange, in
addition to other exchanges.
The Securities and Exchange Board of India Act of 1992

The Securities and Exchange Board of India Act, 1992 (hereinafter referred as The SEBI Act) is having
retrospective effect, and is deemed to have come into force on January 30, 1992. Relatively, a brief Act
containing only 35 sections, the SEBI Act governs all the stock exchanges and the securities transactions in
India.

The Securities and Exchange Board of India Act, 1992 (hereinafter referred as The SEBI Act) is
having retrospective effect, and is deemed to have come into force on January 30, 1992.
A Board by the name of the Securities and Exchange Board of India (SEBI) consisting of one Chairman
and five members, one each from the Department of Finance and Law of the Central Government, one
from the RBI, and two other persons; and having its head office in Bombay and regional offices in Delhi,
Calcutta, and Chennai, has been constituted under the SEBI Act to administer its provisions. The Central
government has the right to terminate the services of the Chairman or any member of the Board. The
Board decides all questions in its meeting by a majority vote, with the Chairman having a second or a
casting vote.
Section 11 of the SEBI Act provides that it shall be the duty of the Board to protect the interest of investors
in securities, to promote the development of, and to regulate, the securities market by such measures, as it
thinks fit. It empowers the Board to regulate the business in stock exchanges, to register and regulate the
working of stockbrokers, sub-brokers, share-transfer agents, bankers to an issue, trustees of trust deeds,
registrars to an issue, merchant bankers, underwriters, portfolio managers, investment advisors, and so on,
to register and regulate the working of collective investment schemes, including mutual funds, to prohibit
fraudulent and unfair trade practices and insider trading, to regulate takeovers, to conduct enquiries and
audits of the stock exchanges, and so on.

189

Section 11 of the SEBI Act provides that it shall be the duty of the Board to protect the interest of
investors in securities, to promote the development of, and to regulate, the securities market by such
measures, as it thinks fit.
As all stock exchanges are required to be registered with SEBI under the provisions of the Act, under
Section 12 of the SEBI Act, all the stockbrokers, sub-brokers, share-transfer agents, bankers to an issue,
trustees of trust deed, registrars to an issue, merchant bankers, underwriters, portfolio managers,
investment advisors, and such other intermediary, who may be associated with the securities markets, are
obliged to register with the Board, and the Board has the power to suspend or cancel such registration. The
Board is bound by the directions given by the Central government, from time to time, on questions of
policy, and the Central government has the right to supersede the Board. The Board is also obliged to
submit a report to the Central government every year, giving true and full account of its activities, policies,
and programmes. Any one aggrieved by the Boards decision is entitled to appeal to the Central
government.

As all stock exchanges are required to be registered with SEBI under the provisions of the Act.
FOREIGN INSTITUTIONAL INVESTORS (FIIS)

Foreign Institutional Investors (FIIs) including institutions such as pension funds, mutual funds,
investment trusts, asset management, or their power of attorney holders (providing discretionary and
non-discretionary portfolio management services), are invited to invest in all the securities traded on the
primary and secondary markets, including the equity and other securities/instruments of companies,
which are listed/to be listed on the stock exchanges in Indiaincluding the OTC Exchange of India. These
would include shares, debentures, warrants, and the schemes floated by domestic mutual funds. To be
eligible to do so, the FIIs would be required to obtain registration with Securities and Exchange Board of
India (SEBI). FIIs are also required to file with SEBI and another application addressed to RBI, for seeking
various permissions under FERA.
SEBI shall be granting registration to the FII, taking into account the track record of the FII, its
professional competence, financial soundness, experience, and such other relevant criteria. FIIs seeking
registration with SEBI should hold a registration from the Securities Commission, or the regulatory
organisation for the stock market, in its own country of domicile/incorporation.

SEBI shall be granting registration to the FII, taking into account the track record of the FII, its
professional competence, financial soundness, experience, and such other relevant criteria.
SEBIs registration and RBIs general permission under FERA to an FII will be for five years, renewable for
similar five-year periods later on. RBIs general permission under FERA would enable the registered FII to
buy, sell, and realise capital gains on investments, made through initial corpus remitted to India,
subscribe/renounce rights offerings of shares, invest on all recognised stock exchanges through a
designated bank branch, and to appoint a domestic custodian for the custody of investments held.

SEBIs registration and RBIs general permission under FERA to an FII will be for five years,
renewable for similar five-year periods later on.
The general permission from RBI shall also enable the FII to
1.
2.
3.
4.
5.
6.

Open foreign currency denominated account(s) in a designated bank. (These can even be more than one account in the same bank branch, each designated in
different foreign currencies, if it is required so by FII for its operational purposes.)
Open a special non-resident rupee account to which could be credited all receipts from the capital inflows, sale proceeds of shares, dividends, and interests.
Transfer sums from the foreign currency accounts to the rupee account and vice versa, at the market rates of exchange.
Make investments in the securities in India out of the balances in the rupee account.
Transfer repatriatable (after tax) proceeds from the rupee account to the foreign currency accounts.
Repatriate the capital, capital gains, dividends, incomes received by way of interest, and so on, and any compensation received towards sale/renouncement of
rights offerings of shares, subject to the designated branch of a bank/the custodian being authorised to deduct withholding tax on capital gains, and arranging to pay such

7.

tax and remitting the net proceeds at market rates of exchange.

Register FIIs holdings without any further clearance under FERA.

190

There is no restriction on the volume of investment, either minimum or maximum, for the purpose of
entry of FIIs, in the primary/secondary market. Also, there is no lock-in period for the purpose of such
investments made by FIIs.

There is no restriction on the volume of investment, either minimum or maximum, for the purpose of
entry of FIIs, in the primary/secondary market.
The portfolio investments in primary or secondary markets will be subject to a ceiling of 24 per cent of
issued share capital, for the total holdings of all registered FIIs, in any one company. The ceiling would
apply to all holdings, taking into account the conversions, out of the fully and partly convertible
debentures issued by the company. The holding of a single FII in any company would also be subject to a
ceiling of 5 per cent of the total issued capital. For this purpose, the holdings of a FII ground will be
counted as holdings of a single FII.

The portfolio investments in primary or secondary markets will be subject to a ceiling of 24 per cent
of issued share capital, for the total holdings of all registered FIIs, in any one company.
The maximum holding of 24 per cent for all non-resident portfolio investments, including those of the
registered FIIs, will also include NRI corporate and non-corporate investments, but will not include the
following:
1.
2.
i.
ii.
iii.

Foreign investments under financial collaborations (direct foreign investments), which are permitted up to 51 per cent in all priority areas and
Investments by FIIs through the following alternative routes:

Offshore single/regional funds,

Global depository receipts, and
Euroconvertibles.
The disinvestment will be allowed only through stock exchanges in India, including the OTC Exchange. In
exceptional cases, SEBI may permit sales, other than through stock exchanges, provided the sale price is
not significantly different from the stock market quotations, where available. All secondary market
operations would be only through the recognised intermediaries on the Indian Stock Exchange, including
the OTC Exchange of India. A registered FII will not engage in any short-selling in securities but will take a
delivery of the purchased and give a delivery of the sold securities.

A registered FII will not engage in any short-selling in securities but will take a delivery of the
purchased and give a delivery of the sold securities.
A registered FII can appoint an agency approved by SEBI, to act as a custodian of securities and for
confirmation of transactions in securities, settlement of purchase and sale, and for reporting information.
Such custodian shall establish separate accounts for detailing on a daily basis the investment capital
utilisation and securities held by each FII for which it is acting as a custodian. The custodian will report to
the RBI and SEBI, semi-annually, as part of its disclosure and reporting guidelines.
The RBI shall make available to the designated bank branches, a list of companies where no investment
will be allowed on the basis of the upper-prescribed ceiling of 24 per cent, having been reached under the
portfolio investment scheme. The RBI may, at any time, request by an order a registered FII, to submit
information regarding the records of utilisation of the inward remittances of investment capital and the
statement of securities transactions. RBI and/or SEBI may also, at any time, conduct a direct inspection of
the records and accounting books of a registered FII. FIIs investing under this scheme will benefit from a
concessional tax regime of a flat rate tax of 20 per cent on dividend and interest income and a tax rate of
10 per cent on long term (one year of more) capital gains.

FIIs investing under this scheme will benefit from a concessional tax regime of a flat rate tax of 20
per cent on dividend and interest income and a tax rate of 10 per cent on long term (one year of more)
capital gains.

191

FUNCTIONS OF SECURITY EXCHANGE BOARD OF INDIA

1.

Subject to the provisions of this Act, it shall be the duty of the Board to protect the interests of the investors in securities and to promote the development of, and to
regulate, the securities market, by such measures as it thinks fit;

2.

Subject to the provisions of this Act, it shall be the duty of the Board to protect the interests of the
investors in securities and to promote the development of, and to regulate, the securities market, by
such measures as it thinks fit.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.

Regulating the business in stock exchanges and any other securities markets;
Registering and regulating the working of stockbrokers, sub-brokers, share-transfer agents, bankers to an issue, trustees of trust deeds, registrars to an issue,
merchant bankers, underwriters, portfolio managers, investment advisors, and such other intermediaries who may be associated with securities markets, in any manner;
Registering and regulating the working of the depositories, participants, custodians of securities, FIIs, credit-rating agencies, and such other intermediaries as the
Board may, by notification, specify in this behalf;
Registering and regulating the working of venture capital funds and collective investment schemes, including mutual funds;
Promoting and regulating self-regulatory organisations;
Prohibiting fraudulent and unfair trade practices relating to securities markets;
Promoting investors education and training of intermediaries of securities markets;
Prohibiting insider trading in securities;
Regulating substantial acquisition of shares and takeover of companies;
Can call for any information from, undertaking inspection, conducting enquiries and audits of the stock exchanges, mutual funds, other persons associated with the
securities market, intermediaries, and self-regulatory organisations in the securities market;
Can call for any information and any record from any bank or any other authority or board or corporation, established or constituted by, or under any Central,
State, or provincial act, in respect of any transaction in securities, which is under investigation or enquiry by the Board;
Performing such functions and exercising such powers under the provisions of the Securities Contracts (Regulation) Act, 1956 (42 of 1956), as may be delegated to
it by the Central government;
Levying fees or other charges for carrying out the purposes of this Section;
Calling from or furnishing to any such agencies, as may be specified by the Board, such information, as may be considered necessary by it for the efficient discharge
of its functions; and
Performing such other functions as may be prescribed.

POWERS OF SECURITY EXCHANGE BOARD OF INDIA

Save as, otherwise, provided in Section 11, if after making or causing to be made an enquiry, the Board is
satisfied that it is necessary
1.
2.
3.

in the interest of investors or orderly development of securities market; or

to prevent the affairs of any intermediary or other persons referred to in Section 12, being conducted in a manner detrimental to the interest of investors or
securities market; or
to secure the proper management of any such intermediary or person, it may issue such directions:

i.

market; or

to any person or class of persons referred to in Section 12, or associated with the securities

to any company in respect of matters specified in Section 11A, as may be appropriate in the
interests of investors in securities and the securities market.

ii.

Investigation
1.
i.
ii.

1.

Where the Board has a reasonable ground to believe that

the transactions in securities are being dealt with in a manner detrimental to the investors or
the securities market; or
any intermediary or a person associated with the securities market has violated any of the
provisions of this Act or the rules or the regulations made or directions issued by the Board there under,
It may, at any time, by an order in writing, direct any person (hereafter in this section referred to as the
Investigating Authority) specified in the order, to investigate the affairs of such intermediaries or persons
associated with the securities market and to report, thereon, to the Board.
Without prejudice to the provisions of Sections 235-241 of the Companies Act, 1956 (1 of 1956), it shall be the duty of every manager, managing director, officer,
and other employee of the company, and every intermediary referred to in Section 12, or every person associated with the securities market to preserve and to produce to the
Investigating Authority or any person authorised by it in this behalf, all the books, registers, other documents, and record of, or relating to, the company or, as the case may

2.

be, of or relating to, the intermediary or such person, which are in their custody or power.
The Investigating Authority may require any intermediary or person associated with securities market, in any manner, to furnish such information to, or produce
such books, or registers, or other documents, or record before it, or any person authorised by it in this behalf, as it may consider necessary, if the furnishing of such

3.

information or the production of such books, or registers, or other documents, or record is relevant or necessary for the purposes of its investigation.
The Investigating Authority may keep in his custody any books, registers, other documents, and record produced under sub-section (2) or sub-section (3) for six
months and, thereafter, shall return the same to any intermediary or person, who is associated with securities market by whom or on whose behalf the books, the registers,
the other documents, and the record are produced,

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i.
ii.

1.

provided that the Investigating Authority may call for any book, register, other document,
and record, if they are needed again; and
provided further that if the person on whose behalf the books, registers, other documents,
and record are produced requires certified copies of the books, registers, other documents, and record
produced before the Investigating Authority. It shall give certified copies of such books, registers, other
documents, and record to such person or on whose behalf the books, the registers, the other documents,
and the record were produced.
Any person, directed to make an investigation under sub-section (1) may examine on oath, any manager, managing director, officer, and other employee of any
intermediary or a person associated with securities market, in any manner, in relation to the affairs of his/her business and may administer an oath accordingly and, for that

2.
i.

ii.
iii.

iv.

1.
2.

purpose, may require any of those persons to appear before it personally.

If any person fails without a reasonable cause, or refuses

to produce to the Investigating Authority or any person authorised by it in this behalf any
book, register, other document, and record, which it is his/her duty under sub-section (2) or sub-section
(3) to produce; or
to furnish any information which is his/her duty under sub-section (3) to furnish; or
to appear before the Investigating Authority personally when required to do so under
sub-section (5), or to answer any question which is put to him/her by the Investigating Authority in
pursuance of that sub-section; or
to sign the notes of any examination referred to in the sub-section (7).
He/she shall be punishable with an imprisonment for a term, which may extend to one year, or with fine,
which may extend to Rs 1 crore, or with both, and also with a further fine, which may extend to Rs 5 lakh,
for every day after the first year during which the failure or refusal continues.
The notes of any examination under sub-section (5) shall be taken down in writing and shall be read over to, or by, and signed by, the person examined, and may,
thereafter, be used as an evidence against him.
In the course of investigation, the Investigating Authority has a reasonable ground to believe that the books, the registers, the other documents, and the record of,
or relating to, any intermediary or any person associated with securities market, in any manner, may be destroyed, mutilated, altered, falsified, or secreted. In that case, The
Investigating Authority may make an application to the Judicial Magistrate of the first class, having jurisdiction for an order for the seizure of such books, registers, other

3.

documents, and record.

After considering the application and hearing the Investigating Authoritys appeal, if necessary, the Magistrate may, by order, authorise the Investigating Authority

to enter, with such assistance, as may be required, the place or places where such books,
registers, other documents, and the record are kept;
ii.
to search that place or those places in the manner specified in the order; and
iii.
to seize books, registers, other documents, and the record, it considers necessary for the
purposes of the investigation,
a.
provided that the Magistrate shall not authorise seizure of books, registers, other
documents, and record, of any listed public company or a public company (not being the intermediaries
specified under Section 12), which intends to get its securities listed on any recognised stock exchange,
unless such company indulges in an insider trading or market manipulation.
i.

1.

The Investigating Authority shall keep in its custody the books, the registers, the other documents, and the record seized under this Section, for such period not
later than the conclusion of the investigation it considers necessary and, thereafter, shall return the same to the company or the other body corporate, or, as the case may be,
to the managing director or the manager or any other person, from whose custody or power they were seized, and inform the Magistrate of such return:

i.
1.

provided that the Investigating Authority may, before returning such books, registers, other
documents, and record, as aforesaid, place identification marks on them or any part, thereof.
Save as, otherwise, provided in this Section, every search or seizure made under this Section shall be carried out in accordance with the provisions of the Code of
Criminal Procedure, 1973 (2 of 1974), relating to searches or seizures made under that Code.

Cease and Desist Proceedings

If the Board finds, after causing an enquiry to be made, that any person has violated, or is likely to violate,
any provisions of this Act, or any rules or regulations made there under, it may pass an order requiring
such person to cease and desist from committing or causing such violation:
1.

provided that the Board shall not pass such order in respect of any listed public company or a public company (other than the intermediaries specified under
Section 12), which intends to get its securities listed on any recognised stock exchange, unless the Board has reasonable grounds to believe that such company has indulged
in an insider trading or market manipulation.

Consolidate Market Regulation Under SEBI

The Committee on Financial Sector Reforms has recommended consolidation of all market regulation and
supervision under SEBI and consolidation of all deposit-taking entities under the banking supervisor. At
present, the regulation of organised financial trading is handled by three agencies: the RBI (government
bonds and currencies), SEBI (equities and corporate bonds), and FMC (commodities, futures). The
committee, appointed by the Planning Commission and headed by Dr. Raghuram Rajan, former Chief
Economist of IMF, has observed that this separation of regulatory responsibility among three agencies is a

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key defect of the Indian financial markets. The Committee has recommended the merger of regulatory and
supervisory functions for all organised financial trading into SEBI.
Reduce Costs

In its report released today, the Committee said that the fragmentation of market supervision between
multiple regulatory authorities increases transaction costs, creates frictions, and reduces liquidity in all
markets. The consolidation of regulators will make it easier to deal with problems, arising out of blurring
of boundaries between different types of products.
It will also make it easier to get specialised professionals who can detect insider trading, manipulation, and
other abuses. Merger of all market regulation into SEBI will reduce transaction costs and improve
liquidity in financial markets, the report said.
Regulatory Overlaps

The report listed some examples of regulatory overlaps, such as an overlap between SEBI and the Ministry
of Corporate Affairs in the regulation of issuer companies, between SEBI and the RBI in the regulation of
FIIs, and exchange-traded currency and interest rate products, and between the RBI and the state
governments in the regulation of cooperative banks.
The overlapping regulatory structure also becomes a barrier to innovation, as any new product might need
approval from more than one regulator. The report said that, eventually, all cooperative banks that are
under the State Registrar of Cooperative Societies should be treated like commercial banks and brought
under the banking supervisor. There is also a need to streamline Tier 2 regulators, such as NABARD
(National Bank for Agriculture and Rural Development), SIDBI (Small Industries Development Bank of
India), and NHB (National Housing Bank). The Committee also said that there is a need for a Financial
Sector Oversight Agency, which will monitor the functioning of large, systemically important, financial
conglomerates as well as large, systemically important, financial institutions that would otherwise be
unregulated. The Committee has also called for an Office of the Financial Ombudsman, which will monitor
the selling of different products and the degree of transparency about their pricing, risks, and deal with
consumer grievances.
GROWTH OF STOCK MARKET IN INDIA

Stock Market in India and China Underperforms

The Indian stock market has emerged as one of the worst performers globally in the first three months this
calendar year, with concerns of a possible slowdown in the US economy and a surge in commodity prices,
impacting sentiments of emerging and developed equity markets, a report says.

The Indian stock market has emerged as one of the worst performers globally in the first three
months this calendar year, with concerns of a possible slowdown in the US economy and a surge in
commodity prices, impacting sentiments of emerging and developed equity markets, a report says.
According to a monthly review by global index provider Standard and Poor, or S&P, the worlds emerging
and developed equity markets were hit hard during the first quarter of 2008, losing 10.56 per cent and
8.95 per cent, respectively, during the period. Near-record commodity prices, 10-year US treasury rates
approaching their lowest level, a struggling dollar and the potential global impact of a perceived US
recession all fuelled market volatility and uncertainty during the first quarter, S&Ps senior index analyst
Howard Silverblatt said.
Among the emerging world equity markets, 15 of the 26 countries lost ground during the January-March
quarter this year, with India, China, and Turkey emerging as the worst performers. During the first three
months in 2008, Indian equity market lost 28.55 per cent, while China and Turkey witnessed a fall of
24.65 per cent and 36.62 per cent, respectively. Emerging markets (EMs) that managed to give positive
returns despite the global concerns include Pakistan, Morocco, and Chile, which emerged as some of the
best performers during the first quarter.

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Pakistans stock market has provided a return of 10.25 per cent in the period, Morocco performed robustly
giving gains of 23.81 per cent, and Chile gave 8.5 per cent positive returns, the S&P monthly Global Stock
Market Review said. In March, 10 of the 26 EMs gained, producing a weighted decline of 5.11 per cent and
an average increase of 3.44 per cent. The variance is due to the BRIC countries (Brazil, Russia, India, and
China) that represent 50.6 per cent of the value.
Brazil, which accounts for 15.3 per cent of the EM value, witnessed a loss of 7.99 per cent in March. Both
India (commanding 8.4 per cent of the market value) and China (cornering 14.8 per cent) lost 12.4 per cent,
respectively, in the month. Russia witnessed a marginal drop of 1.60 per cent for the same period.
For the quarter as well, the BRIC countries showed notable losses. India reported a 28.6 per cent loss,
against a gain of more than 80 per cent in 2007. China was down by 24.7 per cent for the quarter when
compared with 69.8 per cent in 2007, and Brazil, which was up by 79.6 per cent last year, fell by 5.5 per
cent for the quarter. Russia dropped by 11 per cent in the first quarter of 2008, the report added. While
monthly and quarterly performances were mixed for the EMs, 12-month returns remain strongly positive,
with 13 of the 26 markets still boasting an annual return in excess of 25 per cent with only South Africa
(down by 6.98 per cent) and Turkey (down by 3.11 per cent) in negative territory.
In the 12-month period that ended on March 31, the Indian market has gained 31.56 per cent and China
29.57 per cent. The Brazilian market returned more than 57 per cent and Russian 13 per cent in the
one-year period. In terms of the various sectors, eight of the 10 posted losses in March, with only the
industrial (0.19 per cent) and consumer staples (2.65 per cent) sectors posting gains. Among others,
telecommunications declined by 4.30 per cent, followed by materials at 3.77 per cent and health care at
3.21 per cent.
Indias Premium over Other EMs Plunges

As expected, the numbers show that the next one years price-earnings (P-E) estimates for the Indian
market has declined from a high of 25.62 at the end of last December to 18.53 at the end of March 2008.
The fall in the Indian stock market in the past months has obviously led to lower valuations. But what are
our valuations now when compared with other markets? We take a look here at the P-E estimates for the
S&P/Citigroup broad market indices.

The fall in the Indian stock market in the past months has obviously led to lower valuations.
The data estimates the next one years P-E multiples of various countries and regions on the basis of
consensus or the average of analysts earnings estimates computed by the Institutional Brokers Estimate
System or IBES, an internationally recognised guide to consensus earnings forecasts. As expected, the
numbers show that the next one years P-E estimates for the Indian market has declined from a high of
25.62 at the end of last December to 18.53 at the end of March 2008. What is interesting, however, is that
the premium, that the Indian market commanded when compared with other EMs, has been squeezed
sharply between December and March.
According to the S&P/Citigroup indices, the premium for the Indian market over other EMs has come
down from 64 per cent at end-December to 38 per cent by March-end. That is slightly higher than the
premium at the end of June last year. In other words, the rise in valuation as a result of the flood of money
hitting Indian shores late last year has been corrected, though India continues to be the most expensive
market in terms of the S&P/Citigroup indices.
Interestingly, the S&P/Citigroup EM index used to trade at a discount to the World index till last
September until the emergence of the credit crisis in the West depressed the valuations in the developed
markets. At the end of March, however, the EM index was trading at a small premium of 6 per cent to the
World index. But the US market had a forward P-E of 13.76 at the end of March, slightly higher than the
EM P-E of 13.42, though the premium for the US market has declined substantially, since last June.
It can be argued that the P-E numbers do not mean much, as earnings will be revised downward as the
global slowdown takes hold. But if we assume that the revisions will affect all markets, we can still draw
conclusions on the basis of the relative P-Es. Clearly, valuations in the developed markets have fallen more
than those in the EMs, given that the credit crisis hurts them the most. Indias premium over other EMs is

195

now even lower than before when the credit crisis hit, implying that much of the froth has been wiped off
and the rise, and fall in our markets may, henceforth, be in tandem with other EMs.

Clearly, valuations in the developed markets have fallen more than those in the EMs, given that the
credit crisis hurts them the most.
Where to Invest Now

Whether it is a bull run or a bear hug, the market throws up opportunities for those who look out for them,
and for those who invest wisely. Here are three broad scenarios for you to mull over, depending on your
outlook on the market. The first is the worst-case scenario: the period of great returns is over, and it is now
time for the bears to call the shots. At the other end of the spectrum is a highly optimistic view of the
Indias Growth Story going strong. Then, there is the perspective of the realistthat it is impossible to
predict which way the market is going to go. We leave it to you to decide which category you belong to. But,
while it is great to have your own beliefs and views, it is worth if only you act upon them.

Whether it is a bull run or a bear hug, the market throws up opportunities for those who look out for
them, and for those who invest wisely.
The Pessimist

All the talk about the Indias Growth Story is simply, politically correct mumbo-jumbo. And the spiel is
being dished out by those who are too scared to face the truth. From now on, the market has only one way
to go, that is, downhill. Weak company results and the slowdown in the gross domestic product (GDP) give
the impression of a fatigued swimmer flailing for the shore.

All the talk about the Indias Growth Story is simply, politically correct mumbo-jumbo. And the spiel
is being dished out by those who are too scared to face the truth. From now on, the market has only
one way to go, that is, downhill.
Inflation keeps raising its ugly head. Then there is the political gridlock over the Indo-US nuclear deal.
Elections are looming, bringing with them uncertaintywhich the market hates. And that is only on the
local front. Globally, the threat of a US recession has turned into a reality. Ever heard how capitalists talk
about privatising profits and socialising losses? Well, the United States is certainly socialising in a big way.
The fall of the Wall Street firm Bear Stearns Companies Inc., was probably only the start. Anyone will
realise that the worlds biggest economy has entered a full-blown bailout mode, which goes beyond the
usual strategy of cutting short-term interest rates that its central bank has done several times.

Globally, the threat of a US recession has turned into a reality. Ever heard how capitalists talk about
privatising profits and socialising losses?
Globalisation is a double-edged sword. If India can benefit from an increasingly globalised environment,
can it be immune to a global weakness? And, to add fuel to the fire, the price of oil remains alarmingly high.
All right, the world may not have come to an end, but the bull run certainly has. The bulls had a great time
from 2003 to end-2007, and it is time for the bears to come out of hibernation. The year 2008 is the year
of the Great Indian Meltdown. We are facing it.

Globalisation is a double-edged sword. If India can benefit from an increasingly globalised

environment, can it be immune to a global weakness?
The Realist

It is amazing how opinionated people get at every turn of the market. A downturn, however temporary, has
the prophets of doom crawling out of the woodwork. And the moment the market gains a bit, those

196

perennial optimists start echoing each others opinions. The fact is that no one knows where the market is
headed: up, down, or rangebound.
On the one hand, we do have the Indias Growth Story firmly rooted in domestic consumption. But, on the
other, the US recession is a reality, and it is foolish to presume that India will be insulated from it.
GDP growth has slowed from the 9 per cent levels, but will continue to clock between 6 per cent and 8 per
cent. Not bad at all. But the battle with inflation and political uncertainty will continue.
But then, who knows if the market will ever rally substantially to give a good return on investment? Do not
believe anyone who predicts what is going to happen. Would anyone have predicted the sub-prime crisis,
which was barely a cloud on the horizon a year ago? In July 2007, Charles Prince, the then chief executive
of US financial firm, Citigroup Inc., said: When the music stops, in terms of liquidity, things will get
complicated. As long as the music is playing, you have got to get up and dance. We are still dancing. Could
anyone envisage then that his dancing days would end abruptly?
And then, at the start of this bull run, did anyone predict the Sensex, the BSEs benchmark index, would
touch 20,000? That is the reality. No one knows what to expect.
The Optimist

One downturn, and everyone is convinced that the sky has fallen. It may have fallen elsewhere, but not in
India. Sure, living in an era of globalisation, we are bound to get hit. But, there is ample activity within the
Indian economy to soften the blow. Domestic demand, increasing employment numbers, rising incomes,
and a growing middle class, coupled with mounting customer credit and increased infrastructure spending,
will keep the economy on a roll. The demographics are strong enough to ensure that consumption growth
will be a key driver. Intra-regional trade will also reduce the impact of a slowdown in the developed world.
In terms of exposure to US consumption, India is the least affected among the major Asian markets. There
has been integration in Asian economies, and India no longer exports only to the West.
The Economist recently reported that the four biggest emerging economies, which accounted for two-fifths
of global GDP growth last year, are the least dependent on the United States: Exports to the United States
accounted for just 4 per cent of Indias economy, while the figures for China, Brazil, and Russia were 8 per
cent, 3 per cent, and 1 per cent, respectively.

The Economist recently reported that the four biggest emerging economies, which accounted for
two-fifths of global GDP growth last year, are the least dependent on the United States: Exports to
the United States accounted for just 4 per cent of Indias economy, while the figures for China, Brazil,
and Russia were 8 per cent, 3 per cent, and 1 per cent, respectively.
It is only natural that the Indian market reacts to the global turmoil. The capital market is sensitive to
global dips and short-term volatility, and it is something we must get accustomed to. The factors driving
the market are long term and structural in nature. Within this structural run, there will be shorter-term
cycles. And within different cycles, the sector leadership may differ. But the fundamentals of the economy
remain strong, and the prospects upbeat.
KEY WORDS

Stock Exchange
Corporatisation of Stock Exchanges
Demutualisation of Stock Exchanges
Money Market
Capital Market
Secondary Market
Security Exchange Board of India (SEBI)

QUESTIONS

1.
2.
3.
4.
5.
6.

How does the traditional structure of stock exchanges in India differ from modern structure?
Explain the role of SEBI in regulating Financial Markets in India?
Describe the process of demutualisation of stock exchanges?
List down the names of stock exchanges in India?
Discuss the growth of stock market in India?
Enumerate the various functions of stock exchange?

197

7.
8.

Explain the reasons of stock market volatality? Suggest measures you will adopt for protection of interest of investors?
Write short notes on

Powers of Security Exchange

Security Contract Act

a.
b.

REFERENCES

Agarwal, S. and H. Mohtadi (2004). Financial Markets and the Financing Choice of Firms: Evidence from Developing Countries, Global Finance Journal, 15(1):
5770.

Bombay Stock Exchange, Annual Reports, 199192.

Darrat, A. F. and T. K. Mukherjee (1986). The Behavior of the Stock Market in a Developing Economy, Economics Letters, 22(23): 273278.
Daveri, F. (1995). Costs of Entry and Exit from Financial Markets and Capital Flows to Developing Countries, World Development, 23(8): 13751385.
Friedmann, E. (1976). Financing Energy in Developing Countries, Energy Policy, 4(1): 3749.
Hale, D. D. (1994). Stock Markets in the New World Order, The Columbia Journal of World Business, 29(2): 1428.
Henry, P. B. (2000). Do Stock Market Liberalizations Cause Investment Booms?, Journal of Financial Economics, 58(12): 301334.
Kenny, C. J. and T. J. Moss (1998). Stock Markets in Africa: Emerging Lions or White Elephants?,World Development, 26(5): 829843.
Kim, Y. (2000). Causes of Capital Flows in Developing Countries, Journal of International Money and Finance, 19(2): 235253.
Lall, S. (1982). The Emergence of Third World Multinationals: Indian Joint Ventures Overseas,World Development, 10(2): 127146.
Levine, R. and S. Zervos (1998). Capital Control Liberalization and Stock Market Development,World Development, 26(7): 11691183.
Machiraju, H. R. (2005). The Working of Stock Exchanges in India, 2nd ed. New Delhi: New Age International.
Narsimham, M. (1992). Financial Sector Reform and the Capital Markets, The fourth phirozze, Jeejeebhoys Lecture.
Raghunathan, V. (1992). Stock Exchanges in Investments. New Delhi: Tata McGraw Hill.
Securities and Exchange Board of India, www.sebi.com.
Teweles, R. J., E. Bradley, and T. Teweles (1992). The Stock Market, 6th ed. New York: Wiley.
Mody, A. and A. P. Murshid (2005). Growing up with Capital Flows, Journal of International Economics, 65(1): 249266.
Alfaro, L. and E. Hammel (2007). Capital Flows and Capital Goods, Journal of International Economics, 72(1): 128 150.

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CHAPTER 08
National Income
CHAPTER OUTLINE

Meaning and Definition of National Income

Concepts of National Income
National Income Estimates in India
Methodology of National Income Estimation in India
Savings and Investments
Trends in National Income Growth and Structure
Causes for the Slow Growth of National Income in India
Suggestions to Raise the Level and Growth Rate of National Income in India
Major Features of National Income in India
Difficulties or Limitations in the Estimation of National Income in India
Key Words
Questions
References

MEANING AND DEFINITION OF NATIONAL INCOME

Keynes concept of national income is somewhere between gross national product (GNP) and net
national product (NNP) (as discussed below). From GNP he subtracts only the user cost, that is,
reduction in the value of capital equipment actually used and not full depreciation. According to present
ideas, national income may be defined as the aggregate factor income (i.e., earning of labour and property),
which arises from the current production of goods and services (G&S) by the nations economy. The
nations economy refers to the factors of production (i.e., labour and property) supplied by the normal
residents of the national territory.

According to present ideas, national income may be defined as the aggregate factor income (i.e.,
earning of labour and property), which arises from the current production of goods and services
(G&S) by the nations economy.
To explain the above idea let us take an economy, where there are only two sectors: households and firms.
Firms are required to produce goods. To produce them, they require services of the factors of production.
Thus, the incomes of these factors arise in the course of production. The sales value of net production must
equal the sum total of payments made by the firms to the factors of production, in the form of wages, rents,
interest, and profits. These incomes in turn become the sources of expenditure. Therefore, income flows
from firms to households in exchange for productive services, while products flow in return when
expenditure by the households takes place.
Thus, there are three measures of national income of a country which are as follows:
1.
2.
3.

As the sum of all incomes, in cash and kind, accruing to factors of production in a given time period, that is, the total of income flows;
As the sum of net outputs arising in several sectors of the nations production; and
As the sum of consumers expenditure, government expenditure on G&S, and net expenditure on capital goods.

The total of income flows, net outputs, and final expenditures will be the same, but the significance of each
of them arises from the fact that they reflect the total operations of the nations economy, at the level of
three basic economic functions, such as, production, distribution, and expenditure. The discussion of the
various concepts of national income will make the meaning of national income clear (refer to Figure 8.1).

The total of income flows, net outputs, and final expenditures will be the same, but the significance of
each of them arises from the fact that they reflect the total operations of the nations economy, at the
level of three basic economic functions, such as, production, distribution, and expenditure.

199

Figure 8.1 Selected Economic Indicators

November 2007 (provisional).

b
First advance estimates (kharit only).
cProvisional.
d
Provisional average, AprilDecember, 2007.
a

CONCEPTS OF NATIONAL INCOME

We study below the five important concepts of national income, viz., the gross national product (GNP), net
national product (NNP), national income, personal income (PI), and disposable income (DI). This is the
basic, social accounting measure of the total output or aggregate supply of G&S. GNP is defined as the total
market value of all final G&S produced in a year. It is a measure of the current output of economic activity
in the country.

GNP is defined as the total market value of all final G&S produced in a year. It is a measure of the
current output of economic activity in the country.
Two things must be noted in regard to GNP. They are as follows:
1.

It measures the market value of the annual output. In other words, GNP is a monetary measure. There is no other way of adding up the different sorts of G&S
produced in a year, except with their money prices. But in order to know accurately the changes in physical output, the figure for GNP is adjusted for price changes by
comparing to a base year as we do when we prepare index numbers.

200

2.

For calculating GNP accurately, all G&S produced in any given year must be counted once, but not more than once. Most of the goods go through a series of
production stages before reaching a market. As a result, parts or components of many goods are bought and sold many times. Hence, to avoid counting several times the
parts of goods that are sold and resold, GNP only includes the market value of final goods and ignores transactions involving intermediate goods.

What do we mean by final goods? Final goods are those goods, which are being purchased for final use
and not for resale or further processing. Intermediate goods, on the other hand, are those goods, which are
purchased for further processing or for resale. The sale of final goods is included in GNP, while the sale of
intermediate goods is excluded from GNP, why? Because the value of final goods includes the value of all
intermediate goods used in their production. For instance, the value of cloth includes the value of cotton
used in the making of cloth. The inclusion of intermediate goods would involve double counting and will,
therefore, give an exaggerated estimate of GNP.

Final goods are those goods, which are being purchased for final use and not for resale or further
processing. Intermediate goods, on the other hand, are those goods, which are purchased for further
processing or for resale.
Another important thing to be borne in mind while calculating the GNP is that nonproductive transactions
should be excluded. These are purely financial transactions or transfer payments like old-age pensions or
unemployment doles which are merely grants or gifts or transactions relating to existing shares or
second-hand shares.
Net National Product (NNP)

The second important concept of national income is that of NNP. In the production of GNP of a year, we
consume or use up some capital, that is, equipment, machinery, and so on. The capital goods, like
machinery, wear out or depreciate in value, as a result of its consumption or use in the production process.
This consumption of fixed capital or fall in value of capital due to wear and tear is called depreciation.
When charges for depreciation are deducted from the GNP, we get NNP, which means the market value of
all final G&S after providing for depreciation. Therefore, it is called national income at market prices.
Thus, Net National Product (NNP) or National Income at Market Prices = Gross National
ProductDepreciation.

NNP, means the market value of all final G&S after providing for depreciation. Net National Product
(NNP) or National Income at Market Prices = Gross National ProductDepreciation.
National Income or National Income at Factor Cost (NI)

The difference between national income at market prices and national income at factor cost may be
clearly understood. National income at factor cost means the sum of all incomes earned by resource
suppliers for their contribution of labour, capital, and entrepreneurial ability, which go into the years net
production. In other words, national income (or national income at factor cost) shows how much it costs
society, in terms of economic resources, to produce the net output. It is really the national income at factor
cost for which we use the term National Income. The difference between national income (or national
income at factor cost) and NNP (national income at market prices) arises from the fact that indirect taxes
and subsidies cause market prices of output to be different from the factor incomes that are resulting from
it.

National income at factor cost means the sum of all incomes earned by resource suppliers for their
contribution of labour, capital, and entrepreneurial ability, which go into the years net production.
Suppose a metre of mill cloth sold for Rs 5 includes 25p on account of the excise and sales tax. In this case,
while the market price of the cloth is Rs 5 per metre, the factors engaged in its production and distribution
would receive only Rs 4.75p a metre. The value of cloth at factor cost would thus be equal to its value at
market price less the indirect taxes on it. On the other hand, a subsidy causes the market price to be less
than the factor cost. Suppose a handloom cloth is subsidised at the rate of 20p a metre and it is sold at Rs
2.80. Then, while the consumer pays Rs 2.80 per metre, the factors engaged in the production and
distribution of such cloth receive Rs 3 per metre. The value of the handloom cloth at factor cost would thus
be equal to its market price plus the subsidies paid on it. Thus, national income (or national income at
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factor cost) is equal to NNP minus indirect taxes plus subsidies. National Income or National Income at
Factor Cost = Net National Product (NNP) (National Income at Market prices) - Indirect Taxes +
Subsidies.

National Income or National Income at Factor Cost = Net National Product (NNP) (National Income
at Market prices) Indirect Taxes + Subsidies.
Personal Income (PI)

Personal Income (PI) is the sum of all incomes actually received by all individuals or households during
a given year. National income, that is income received, must be different for the simple reason that some
income which is earned through social security contributions, corporate income taxes, and undistributed
corporate profits is not actually received by households and, conversely, some income which is received
through transfer payments is not currently earned. (Transfer payments are old-age pensions,
unemployment doles, relief payments, interest payment on the public debt, etc.)

Personal Income (PI) is the sum of all incomes actually received by all individuals or households
during a given year.
Obviously, in moving from national income, as an indicator of income earned, to PI, as an indicator of
income actually received, we must subtract from national income these three types of incomes which are
earned but not received, and add incomes received but not currently earned. Therefore, Personal Income =
National Income, Social Security Contributions, Corporate Income Taxes, Undistributed Corporate Profits
+ Transfer Payments.

Personal Income = National Income, Social Security Contributions, Corporate Income Taxes,
Undistributed Corporate Profits + Transfer Payments.
Disposable Income (DI)

After a good part of PI is paid to government in the form of personal taxes like income tax, personal
property taxes, and so on, what remains of PI is called the disposable income.

After a good part of PI is paid to government in the form of personal taxes like income tax, personal
property taxes, and so on, what remains of PI is called the disposable income.
NATIONAL INCOME ESTIMATES IN INDIA

The National Income Committee (NIC) in its first report wrote,

A national income estimate measures the volume of commodities and services turned out during a
given period, without duplication. The estimates of national income depict a clear picture about the
standard of living of the community. The national income statistics diagnose the economic ills of the
country and at the same 1 time suggest remedies. The rate of savings and investment in an economy
also depend on the national income of the country. Moreover, the national income measures the flow of
all commodities and services produced in as economy. Thus the national income is not a stock bat a
flow. It measures the total productive power of the community during given period.

A national income estimate measures the volume of commodities and services turned out during a
given period, without duplication.
Further, the NIC has rightly observed, National income statistics enable an overall view to be taken of the
whole economy and of the relative positions and inter-relations among its $ various parts. Thus, the
computation of national income and its analysis has been considered as an important exercise in economic
literature.
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National Income After Independence

After independence, the Government of India appointed the NIC in August 1949, with Prof. P.C.
Mahalanobis as its Chairman and Prof. D.R. Gadgil and Dr. V.K.R.V. Rao as its two members, so as to
compile national income estimates, rationally, on a scientific basis. The first report of this Committee was
prepared in 1951. In its first report, the total national income of the year 194849 was estimated at Rs
8,830 crore and the per capita income of the year was calculated at Rs 265 per annum.

In its first report, the total national income of the year 194849 was estimated at Rs 8,830 crore and
the per capita income of the year was calculated at Rs 265 per annum.
The Committee continued its estimation works for another three years and the final report was published
in 1954. The report of this NIC provided complete statistics on the national income of the whole country.
The following were the main features of the NIC report.
1.
2.
3.
4.
5.
6.
7.

Agriculture including forestry, animal husbandry, and fishery contributed about one-half of the national income of the country during 195051.
Mining, manufacturing, and hand trades contributed nearly one-sixth of the national income of India.
Commerce, transport, and communication also contributed a little more than one-sixth of the total national income of the country.
Income earned from other services, such as professions and liberal arts, house property, and administrative and domestic services contributed nearly 15 per cent of
the total national income of the country.
Commodity production constituted nearly two-thirds share of the national income, whereas it contributed to the remaining one-third of the national income of
India.
In 195051, the share of the government sector contributed about 7.6 per cent of the net domestic.
In the computation of national income estimates, the margin of error was estimated at about 10 per cent.

NIC and CSO Estimates

During the post-independence period, the estimate of national income was primarily conducted by the
NIC. Later on, it was carried over by the Central Statistical Organisation (CSO). For the estimation of
national income in India, the NIC applied a mixture of product method and income method. This
Committee divided the entire economy into 13 sectors, from the six sectors, viz., agriculture, animal
husbandry, forestry, fishery, mining, and factory establishments, estimated by the output method. But the
income from the remaining seven sectors consisting of small enterprises, commerce, transport and
communications, banking and insurance, professions, liberal arts, domestic services, house property,
public authorities, and the rest of the world is estimated by the income methods.

During the post-independence period, the estimate of national income was primarily conducted by
the NIC. Later on, it was carried over by the Central Statistical Organisation (CSO).
The National Income Unit (NIU) of the CSO is nowadays entrusted with the measurement of national
income. This unit of CSO estimated the major part of national income from the various sectors like
agriculture, forestry, animal husbandry, fishing, mining, and factory establishments with the help of
product method. It is also applying the income method for the estimation of the remaining part of national
income raised from the other sectors. Till now, we have three different series in the national income
estimates of India. They include conventional series, revised series, and new series.

Till now, we have three different series in the national income estimates of India. They include
conventional series, revised series, and new series.
Conventional Series

The conventional series revealed national income data both at current prices and at 194849 prices,
covering the period from 194849 to 196465. Here, the contribution of all the 13 sectors were added for
obtaining an estimate of the net domestic product at factor cost, through the application of both
net-output method and net-income method. To arrive at the estimate of net national income, the net
income, from abroad, and net indirect taxes are added to the estimate of net domestic product at factor
cost. Moreover, for obtaining a series of national income at constant prices, this estimate is deflated at the
prices of the base year chosen.

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The conventional series revealed national income data both at current prices and at 194849 prices,
covering the period from 194849 to 196465.
The Revised Series

The revised series show the national income data both at current prices and at 196061 prices, for the
period from 196061 to 197576. Later on, a new series was also started with 197071 as the base year.
Due to this difference in the base year and differences in weights used for the two series, the estimates of
national income revealed differences in its magnitudes.

The revised series show the national income data both at current prices and at 196061 prices, for the
period from 196061 to 197576.
CSOs New Series

The NIU of CSO has prepared a new series on national income with 198081 as the base year, as against
the existing series with 197071 as the base year. This national income estimates have also been projected
backwards to prepare a total series of national income from 195051 onwards for the sake of comparison.
Taking this new series into consideration, the estimates of national income aggregates have registered an
increase in the new series as against 197071 series. Again the CSO has prepared another new series on
national income with 199394 as the base year, as against the existing series with 198081 as the base
year. Although the total national income has registered an increase in the new series, the estimates of gross
domestic savings (GDS) have revised downwards.

The NIU of CSO has prepared a new series on national income with 198081 as the base year, as
against the existing series with 197071 as the base year.
METHODOLOGY OF NATIONAL INCOME ESTIMATION IN INDIA

In India, the estimation of national income is being done by two methods, that is, product method and
income method.

In India, the estimation of national income is being done by two methods, that is, product method and
income method.
Net-product Method

While estimating the gross domestic product (GDP) of the country, the contribution to GDP from various
sectors, like agriculture, livestock, fishery, forestry and logging, and mining and quarrying is estimated
with the adoption of product method. In this method, it is important to estimate the gross value of product,
bi-products, and ancillary activities and, then, steps are taken to deduct the value of inputs, raw materials,
and services from such gross value as follows:
1.

In respect of other sub-sectors like animal husbandry, fishery, forestry, mining, and factory establishments, the gross value of their output is obtained by
multiplying the estimated output with their market price. From such gross value of output, deductions are made, for the cost of materials used and depreciation charges are

2.
3.

levied, so as to obtain net value added in each sector.

In respect of secondary activities, the computation of GDP is done by the production approach only for the manufacturing industrials units (both registered and
unregistered).
In respect of constructions activity, the estimates of the value of pucca construction are made by the commodity-flow approach and that of the Kachcha
construction are made by the expenditure method.

While estimating the gross domestic product (GDP) of the country, the contribution to GDP from
various sectors, like agriculture, livestock, fishery, forestry and logging, and mining and quarrying is
estimated with the adoption of product method.
Net-income Method

In India, the income from rest of the sectors, that is, small enterprises, commerce, transport and
communications, banking and insurance, professions, liberal arts, domestic activities, house property,
public authorities, and the rest of the world is estimated by the income method. Here, the income
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approach is adopted to estimate the value added from these aforesaid remaining sectors. Here, the process
involves the measurement of aggregate factor incomes in the shape of compensation of employees (wages
and salaries) and operating surpluses in the form of rent, interest, profits, and dividends. Following are the
processes:
1.

In order to measure the contribution of small enterprises, it is essential to make an estimation of the total number of workers, employed in different occupations
under small enterprises, through sample surveys and also to estimate the per capita average earnings of such workers. After multiplying the total number of such workers

2.
3.
4.
5.
6.

employed by their average earning, the contribution of small enterprises to national product is estimated.
In order to obtain the contribution of banking and insurance sector, necessary information is collected from their balance sheets, so as to add the wages, salaries,
directors fees, and dividends.
In order to derive the contributions of transport and communication, trade and commerce, professions, and liberal arts, the same procedure as adopted by the
small enterprises is followed.
Regarding the contribution of the public sector, the amounts related to wages, salaries, pensions, other benefits, dividend or surpluses, and so on, are all added up
to derive the same.
Again the contribution of house property to the national income is obtained by estimating the imputed value of net rental of all houses, situated in both urban and
rural areas.
Finally, by adding up the contribution of all different sectors to national income of the country, it is necessary to obtain the net domestic product at factor cost. In
order to derive the net national income at the current prices, it is necessary to add the net income from abroad and net indirect taxes with the net domestic product at factor
cost. This same estimate is then deflated at the prices of the base year selected, to derive a series of national income at constant prices.

In order to derive the net national income at the current prices, it is necessary to add the net income
from abroad and net indirect taxes with the net domestic product at factor cost.

In India, the income from rest of the sectors, that is, small enterprises, commerce, transport and
communications, banking and insurance, professions, liberal arts, domestic activities, house property,
public authorities, and the rest of the world is estimated by the income method.
State of the Economy

The economy has moved decisively to a higher growth phase. Till a few years ago, there was still a debate
among informed observers that whether the economy had moved above the 5 per cent to 6 per cent
average growth, seen since the 1980s. There is no doubt that the economy has moved to a higher growth
plane, with growth in GDP at market prices (GDPmp) exceeding 8 per cent in every year since 200304.
The projected economic growth of 8.7 per cent for 200708 is fully in line with this trend. There was an
acceleration in domestic investment and saving rates to drive growth and provide the resources for
meeting the 9 per cent (average) growth target of the Eleventh Five-Year Plan. Macro-economic
fundamentals continue to inspire confidence and the investment climate is full of optimism. Buoyant
growth of government revenues made it possible to maintain fiscal consolidation as mandated under the
Fiscal Responsibility and Budget Management Act (FRBMA). The decisive change in growth trend also
means that the economy was, perhaps, not fully prepared for the different set of challenges that
accompany fast growth. Inflation flared up in the last half of 200607 and was successfully contained
during the current year, despite a global hardening of commodity prices and an upsurge in capital inflows.
An appreciation of the rupee, a slowdown in the consumer goods segment of industry, and infrastructure
(both physical and social) constraints, remained of concern. Raising growth to double digit will, therefore,
require additional reforms.

There was an acceleration in domestic investment and saving rates to drive growth and provide the
resources for meeting the 9 per cent (average) growth target of the Eleventh Five-Year Plan.
Per Capita Income and Consumption

Growth is of interest, not for its own sake, but for the improvement in public welfare that it brings about.
Economic growth, and, in particular, the growth in per capita income, is a broad quantitative indicator of
the progress made in improving the public welfare. Per capita consumption is another quantitative
indicator that is useful for judging welfare improvement. It is, therefore, appropriate to start looking at the
changes in real (i.e., at constant prices) per capita income and consumption.

Economic growth, and, in particular, the growth in per capita income, is a broad quantitative
indicator of the progress made in improving the public welfare.

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The pace of economic improvement has moved up considerably during the last five years (including
200708). The rate of growth of per capita income as measured by per capita GDPmp (at constant
19992000 prices) grew by an annual average rate of 3.1 per cent, during the 12-year period from 198081
to 199192. It accelerated marginally to 3.7 per cent per annum, during the next 11 years from 199293 to
200203. Since then, there has been a sharp acceleration in the growth of per capita income, almost
doubling to an average of 7.2 per cent per annum (from 200304 to 200708). This means that the
average income would now double in a decade, well within one generation, instead of after a generation
(two decades). The growth rate of per capita income in 200708 is projected to be 7.2 per cent, the same
as the average of the five years to the current year.
The per capita, private, final consumption expenditure has increased in line with the per capita income
(refer to Figure 8.2). The growth of per capita consumption accelerated from an average of 2.2 per cent per
year, during the 12 years from 198081 to 199192 to 2.6 per cent per year during the next 11 years
following the reforms of the 1990s. The growth rate has almost doubled to 5.1 per cent per year, during the
subsequent five years from 200304 to 200708, with the current years growth expected to be 5.3 per
cent, marginally higher than the five-year average (refer to Table 8.1).

Figure 8.2 Growth in Per Capita Income

Table 8.1 Per Capita Income and Consumption (in 19992000 prices)

Notes:
Income is taken as GDP at market prices;
consumption is PFCE; and
per capita is obtained by dividing these by population.

The average growth of consumption is slower than the average growth of income, primarily because of
rising saving rates, though rising tax collection rates can also widen the gap (during some periods).
Year-to-year (y-t-y) changes in consumption also suggest that the rise in consumption is a more gradual
and steady process, as any sharp changes in income tend to get adjusted in the saving rate.

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The average growth of consumption is slower than the average growth of income, primarily because
of rising saving rates, though rising tax collection rates can also widen the gap (during some
periods).
Economic Growth

The GDP at current market prices is projected at Rs 4,693,602 crore in 200708 by the CSO in its advance
estimates (AE) of GDP. Thus, in the current fiscal year, the size of the Indian economy at market exchange
rate will cross US$1 tn. At the nominal exchange rate (average of AprilDecember 2007), the GDP is
projected to be US$1.16 tn in 200708. The per capita income at nominal exchange rate is estimated at
US$1,021. According to the World Bank system of classification of countries as low, middle, and
high-income ones, India is still in the category of low-income countries.

According to the World Bank system of classification of countries as low, middle, and high-income
ones, India is still in the category of low-income countries.
The (per capita) GDP at purchasing power parity (PPP) is, conceptually, a better indicator of the relative
size of the economy than the (per capita) GDP at market exchange rates. There are, however, practical
difficulties in deriving GDP at PPP, and now we have two different estimates of the PPP conversion factor
for 2005. Indias GDP at PPP is estimated at US$5.16 tn or US$3.19 tn depending on whether the old or
the new conversion factor is used. In the former case, India is the third-largest economy in the world after
the United States and China, while in the latter it is the fifth largest (behind Japan and Germany).
The GDP at factor cost at constant 19992000 prices is projected by the CSO to grow at 8.7 per cent in
200708. This represents a deceleration from the unexpectedly high growth of 9.4 per cent and 9.6 per
cent, respectively, in the previous two years. With the economy modernising, globalising, and growing
rapidly, some degree of cyclical fluctuation is to be expected. This was taken into account while setting the
Eleventh Five-Year Plan (from 200708 to 201112) growth target of 9 per cent (both in the approach
paper and in the NDC-approved plan). Given over the 9 per cent growth in the last two years of the Tenth
Five-Year Plan, it was argued that the Eleventh Five-Year Plan target could be set at 10 per cent to 11 per
cent, as 9 per cent had already been achieved. Maintaining the growth rate at 9 per cent will be a challenge
and raising it to two digits will be an even greater one.

Given over the 9 per cent growth in the last two years of the Tenth Five-Year Plan, it was argued that
the Eleventh Five-Year Plan target could be set at 10 per cent to 11 per cent, as 9 per cent had already
been achieved.
Sectoral Contribution

The deceleration of growth in 200708 is generally spread across most of the sectors except electricity,
community services, and the composite category of trade, hotels, and transport and communications.
The deceleration in the growth of the agriculture sector is attributed to the slackening in the growth
ofrabi crops. Manufacturing and construction, which grew at 12 per cent in 200607, decelerated by about
2.5 percentage points in 200708. The slower growth of consumer durables (as reflected in the IIP) was
the most important factor in the slowdown of manufacturing. Cement and steel, the key inputs into
construction, grew by 7.4 per cent and 6.5 per cent, respectively, during AprilNovember of 200708,
down from 10.8 per cent and 11.2 per cent, respectively, in the previous year, dampening the growth in the
construction sector. There was also a deceleration in the growth of revenue-earning freight traffic by
railways, passengers handled at airports, and bank credit in AprilNovember of 200708, which formed
the basis for the full-year assessment.

The slower growth of consumer durables (as reflected in the IIP) was the most important factor in the
slowdown of manufacturing.
The growth in 200607 initially estimated at 9.2 per cent in February 2007 was revised upwards to 9.4 per
cent in May 2007 and further to 9.6 per cent in the Quick Estimates released by the CSO on January 31,
2008. This suggests that upward adjustments in the 200708 projections are possible.
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The observed growth of 7.8 per cent in the Tenth Five-Year Plan (200207), the highest so far for any plan
period, is only marginally short of the target of 8 per cent. The dismal growth rate of 3.8 per cent during
the first year of the plan was made up by an upsurge in growth in the next four years to an average of 8.8
per cent. A notable feature of growth during the Tenth Five-Year Plan was the resurgence of
manufacturing. There was a sharp acceleration in the growth of manufacturing from 3.3 per cent during
the Ninth Five-Year Plan to 8.6 per cent during the Tenth Five-Year Plan. The average growth of
manufacturing during the five years ending 200708 is expected to be about 9.1 per cent. The contribution
of manufacturing to overall growth increased from about 9.6 per cent during the Ninth Five-Year Plan to
about 17.7 per cent during the Tenth Five-Year Plan.

The contribution of manufacturing to overall growth increased from about 9.6 per cent during the
Ninth Five-Year Plan to about 17.7 per cent during the Tenth Five-Year Plan.
The growth in the services sector continued to be broad based. Among the sub-sectors of services,
transport and communication has been the fastest growing, with growth averaging 15.3 per cent per
annum during the Tenth Five-Year Plan period followed by construction. The impressive progress in the
telecommunication sector and higher growth in rail, road, and port traffic played an important role in the
growth of this sector. Besides manufacturing, the two other sectors whose contribution to growth has
increased over the two plans are construction and communications. The contribution of the construction
sector increased to 10.8 per cent during the Tenth Five-Year Plan from 7.5 per cent during the Ninth
Five-Year Plan, while that of telecom increased to 11.4 per cent from 6 per cent over the two plans. The
growth of financial services comprising banking, insurance, and business services, after declining to 5.6
per cent in 200304, bounced back to 8.7 per cent in 200405, 11.4 per cent in 200506, and 13.9 per
cent in 200607. Manufacturing, construction, and communication were the leading sectors in the
acceleration of growth during the Tenth Five-Year Plan, judged by their increased contribution to growth.

Manufacturing, construction, and communication were the leading sectors in the acceleration of
growth during the Tenth Five-Year Plan, judged by their increased contribution to growth.
Agricultural growth, dependent as it is on the monsoon, continued to fluctuate, though the five-year period
ending 200708 had the second-lowest coefficient of variation (CV), since the five years ending 195657.
The CV for the Tenth Five-Year Plan was, however, higher than the 60-year average. The overall growth
during the Tenth Five-Year Plan was 2.5 per cent, the same as was in the Ninth Five-Year Plan. The
weather-induced fluctuations considerably influenced the GDP growth for agriculture (refer to Table 8.2).
In 200203, the cumulative rainfalls of north-east and south-west monsoon were 33 per cent and 19
per cent, respectively, of the long-period averages (LPA). Similarly, in 200405, the cumulative rainfall
was 13 per cent and 11 per cent, respectively from LPA for south-west and north-east monsoon. The
secular decline in the share of agriculture sector in GDP continued, with a decline from 24 per cent in
200102 to 17.5 per cent in 200708.

The secular decline in the share of agriculture sector in GDP continued, with a decline from 24 per
cent in 200102 to 17.5 per cent in 200708.

Table 8.2 Rate of Growth of GDP at Factor Cost at 19992000 Prices (%)

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Note: Plan period is simple average.

Aggregate Demand

The most important contribution to demand growth has come from investment, while the external trade
made a negligible or negative contribution. The growth of GDPmp accelerated from 3.8 per cent in
200203 to 9.7 per cent in 200607, giving an average annual growth of 7.9 per cent for the Tenth
Five-Year Plan. The average rate of growth of gross capital formation (GCF), during the Tenth Five-Year
Plan, has more than tripled to 17.3 per cent per year from an average growth of 5.3 per cent per annum in
the Ninth Five-Year Plan. Consequently, its contribution to overall demand, as measured by the increase in
GDPmp, tripled from 19 per cent in the Ninth Five-Year Plan to 65 per cent in the Tenth Five-Year Plan.
The most important component of investment, viz., gross fixed investment (GFI), grew by an average of
14.3 per cent per annum, during the Tenth Five-Year Plan period.

The most important contribution to demand growth has come from investment, while the external
trade made a negligible or negative contribution.
The most important component of investment, viz., gross fixed investment (GFI), grew by an average
of 14.3 per cent per annum, during the Tenth Five- Year Plan period.
The relative share of private consumption in GDP was 60.9 per cent while the gross fixed capital formation
(GFCF) had a share of 27 per cent (refer to Table 8.3). Although the average growth of private final
consumption expenditure (PFCE) accelerated somewhat to 5.9 per cent per annum from 5 per cent, its
contribution to growth of demand declined from 59 per cent to 46 per cent between the two plans. The
contribution of net exports of G&S to overall demand also declined between the two plans to a negative 5
per cent. Thus, the external trade has had a dampening effect on aggregate demand during the just
completed plan. Export growth, because of its spillover effects on productivity and efficiency, can, however,
still act as a driver of growth.
NAS (National Air Services) projections for 200708 show a deceleration in the GDPmp in line with its
growth at factor cost. They also show a deceleration in the growth of consumption, both public and private,
and an acceleration in the rate of growth of GFCF. The higher growth in the GCF is projected to improve
its share in GDPmp to 32.6 per cent in 200708, when compared to a share of 23.6 per cent in 200203.
GDCF is projected to grow by 20 per cent and PFCE at 6.8 per cent in 200708, both of them above the
average of the just completed plan.

The external trade has had a dampening effect on aggregate demand during the just completed plan.
Export growth, because of its spill-over effects on productivity and efficiency, can, however, still act
as a driver of growth.

Table 8.3 Growth of GDP at 19992000 Market Prices (%) Annual and Plan Average
209

Change in stocks was negative during 200102. Hence, growth rate has not been calculated.

SAVINGS AND INVESTMENTS

A notable feature of the recent GDP growth has been a sharply rising trend in gross domestic investment
(GDI) and saving, with the former rising by 13.1 per cent of GDP and the latter by 11.3 per cent of GDP over
a period of five years till 200607. The average investment ratio for the Tenth Five-Year Plan at 31.4 per
cent was higher than that for the Ninth Five-Year Plan, while the average saving rate was also 31.4 per cent
of GDP higher than the average ratio of 23.6 per cent during the Ninth Five-Year Plan.

A notable feature of the recent GDP growth has been a sharply rising trend in gross domestic
investment (GDI) and saving, with the former rising by 13.1 per cent of GDP and the latter by 11.3 per
cent of GDP over a period of five years till 200607.
The reforms of 1990s transformed the investment climate, improved the business confidence, and
generated a wave of entrepreneurial optimism. This has led to a gradual improvement in the
competitiveness of the entire corporate sector, a resurgence in the manufacturing sector, and an
acceleration in the rate of investment. The FRBMA-mandated fiscal correction path was also helpful in
raising the credibility of the government with respect to fiscal deficits, in which India was at the bottom of
global rankings. This has improved perceptions about the long-term macro-economic stability of the
economy. Moderate tax rates, coupled with buoyant sales growth, increased the internal accruals of the
corporate sector. The improved investment climate and strong macro-fundamentals also led to an upsurge
in foreign direct investment (FDI). The combined effect of these factors was reflected in an increase in the
investment rate from 25.2 per cent of GDP in the first year of the Tenth Five-Year Plan to 35.9 per cent of
GDP in the last year. The higher investment was able to absorb the domestic savings and also generated an
appetite for absorption of capital inflows from abroad.
GDS, as a proportion of GDP, continued to improve, rising from 26.4 per cent in 200203 to 34.8 per cent
in 200607, with an average of 31.4 per cent during the Tenth Five-Year Plan. The savings-investment gap
which remained positive during 200104 became negative, thereafter. In modern economy, the excess of
domestic savings over domestic investment suggests a deflationary situation in which the demand has not
kept pace with the increased capacity. Thus, the reversal of the savings-investment balance should be
viewed as a correction of the domestic, supply-demand balance, occurring through an above-normal (and
welcome) increase in the demand during 200506 and 200607.

210

The reversal of the savings investment balance should be viewed as a correction of the domestic,
supplydemand balance, occurring through an above-normal (and welcome) increase in the demand
during 200506 and 200607.
Savings

Both private and public savings have contributed to higher overall savings. Private savings have risen by
6.1 per cent points of GDP over the Tenth Five-Year Plan period, while public sector savings increased by
5.2 per cent of GDP. Both have increased steadily over this period, though private savings appear to have
reached a plateau in 200506 (refer to Table 8.4). The savings from the private corporate sector were
particularly buoyant, while the turnaround in public sector savings, from negative to positive from
200304 onwards is heartening. The increase in private savings is due to a (more than) doubling of the
rate of corporate saving over the plan period. Savings of the household sector were stable at 23 per cent to
24 per cent of GDP, averaging 23.7 per cent during the Tenth Five-Year Plan. The physical and financial
components of the household savings also remained stable. With the upsurge in private corporate and
public sector savings, the share of the household sector in GDS declined from 94.3 per cent in 200102 to
68.4 per cent in 200607.

Both private and public savings have contributed to higher overall savings. Private savings have
risen by 6.1 per cent points of GDP over the Tenth Five-Year Plan period, while public sector savings
increased by 5.2 per cent of GDP.

Table 8.4 Ratio of Savings and Investment to GDP (% at current market prices)

Note: Totals may not tally due to adjustment for errors and omissions.

Investments

In contrast to the increase in savings the increase in investment has been driven by the private investment,
which went up by 10.3 per cent of GDP over the five years of the Tenth Five-Year Plan. This improvement
was, in turn, driven by a private corporate investment, which increased by 9.1 per cent of GDP over these
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five years. The private corporate sector investment improved from 5.4 per cent of GDP in 200102 to 14.5
per cent in 200607. The upsurge in private corporate investment has been visible even to the public as a
Capex boom, and that is still continuing. The household investment remained close to the plan average
of 12.7 per cent of GDP throughout the period, while the public sector investment increased by less than 1
per cent of GDP over the plan period.

In contrast to the increase in savings the increase in investment has been driven by the private
investment, which went up by 10.3 per cent of GDP over the five years of the Tenth Five- Year Plan.
The National Accounts provide the data of the GDCF at constant 19992000 prices also. In terms of
constant prices, the ratio of gross investment to GDP is estimated to have increased from 25 per cent in
200203 to 33.8 per cent in 200607. The GFCF accounted for more than 90 per cent of the investment
(refer to Table 8.4). The ratio of fixed capital formation to GDP is estimated to have increased to 30.6 per
cent in 200607.
TRENDS IN NATIONAL INCOME GROWTH AND STRUCTURE

Sectoral Investment and ICOR

It is useful to examine the growth of GCF (investment) by sectors, to see how much of the sectors growth
has been associated with the expansion of capacity. GCF in manufacturing grew at a phenomenal 33.6 per
cent per annum, during the Tenth Five-Year Plan period, the highest growth rate of any sector. This
confirms that the boom in the manufacturing growth rate is higher than for total GDP, which is backed by
a solid build-up of capacity. The fact that the calculated incremental capital output ratio (ICOR) for this
period at 8.9 is the second highest, after electricity sectors suggestion that there may be some build-up of
capacity ahead of and in anticipation of demand.

GCF in manufacturing grew at a phenomenal 33.6 per cent per annum, during the Tenth Five- Year
Plan period, the highest growth rate of any sector.
The 29.7 per cent per annum growth of investment in mining seems at first sight inconsistent with the
relatively low growth of GDP from this sector. However, given the long-gestation lags in many types of
mining projects, the increased investment could be a precursor of faster growth in the Eleventh Five-Year
Plan, though the first-year growth is not encouraging. Trade and hotels, with an annual growth of 26.4 per
cent during the five years of the Tenth Five-Year Plan, was the third-fastest investor. With its very low
ICOR of 0.7, it can play a vital role in generating higher employment with a relatively low investment along
with the construction sector (with the third-lowest ICOR). Communication, a very fast-growing sector in
terms of value added, had the lowest ICOR of 0.6, confirming that the competition-induced productivity
growth has played a key role in this reasonably well, regulated sector (refer to Table 8.5).
The traditionally high ICOR of 16.7 for the electricity sector, re-emphasises the critical importance of
efficient planning and implementation of capacity-building, as well as the efficient use of this capacity and
of the electricity produced from it. Railways and other transport and services were the remaining sectors in
which the GCF growth exceeded 15 per cent (refer to Table 8.6). Finance and business services,
communication, and agriculture and allied sectors recorded significantly lower growth. The ratio of GCF to
GDP averaged 31 per cent during the Tenth Five-Year Plan. It, however, was 94.1 per cent for electricity
sector followed by manufacturing at 76.5 per cent. Trade and hotels had the lowest GCF to GDP ratio of 6.2
per cent.

Finance and business services, communication, and agriculture and allied sectors recorded
significantly lower growth. The ratio of GCF to GDP averaged 31 per cent during the Tenth Five-Year
Plan.
Consumption Basket

The National Accounts also provide data on disaggregated consumption expenditure of households in
eight broad categories. With rising per capita consumption, simple Engel curve analysis would predict a
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decline in the share of consumption on food and an increase in luxuries, which in our context include
entertainment and durable goods. Food and beverages had the lowest average growth of 3.2 per cent,
during the Tenth Five-Year Plan, and its share declined from 48.1 per cent in 200102 to 42.1 per cent in
200607 (refer to Table 8.7). The growth of transport and communication, education and recreation, and
miscellaneous services by more than 10 per cent and the rising share of furniture, appliances, and services
are also consistent with the Engel curve analysis.

Food and beverages had the lowest average growth of 3.2 per cent, during the Tenth Five- Year Plan,
and its share declined from 48.1 per cent in 200102 to 42.1 per cent in 200607.

Table 8.5 Components of Domestic Investment (% to GDP at 19992000 market prices)

Adjusted for errors and omissions.

Table 8.6 Sector Investment (19992000 prices) and ICOR

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The erratic pattern of change in the consumption of clothing and footwear may be because the
middle-class households treat them as falling within a residual expenditure category. The high share of
expenditure on health care, despite a large and nominally free, public health care system stretching into
the villages, has been of concern, as the pattern is found even among the less well-off. The decline in share
to 4.4 per cent in 200607 after a peak of 5.2 in 200203 could be a positive indicator.
Inclusive Growth

Faster economic growth is also translating into more inclusive growth, both in terms of employment
generation and poverty reduction. The Tenth Five-Year Plan was formulated in the backdrop of the
concerns over jobless growth. Employment growth slowed to 1.25 per cent per annum during the period
from 199394 to 19992000, with 24 million work opportunities created during this period (annual
average of four million). The Tenth Five-Year Plan, therefore, set a target of creation of 50 million new
opportunities on current daily status (CDS) basis.
The 61st Round of National Sample Survey Organisation (NSSO) Survey found that 47 million work
opportunities were created during the period from 19992000 to 200405, at an annual average of 9.4
million. The employment growth accelerated to 2.6 per cent during this period. The labour force, however,
grew at 2.8 per cent per year, 0.2 per cent point faster than the workforce, resulting in an increase in the
unemployment rate to 8.3 per cent in 200405 from 7.3 per cent in 19992000. These rates based on the
CDS approach are higher than those obtained by the usual status and weekly status approaches, indicating
a high degree of intermittent unemployment. Unemployment rate measured in terms of number of
persons, as per the usual, principal and subsidiary status basis, was only 2.5 per cent in 200405.

The 61st Round of National Sample Survey Organisation (NSSO) Survey found that 47 million work
opportunities were created during the period from 19992000 to 200405, at an annual average of
9.4 million.

Table 8.7 Private Final ConsumptionAnnual Growth and Share (%)

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The proportion of persons, below the poverty line, declined from around 36 per cent of the population in
199394 to 28 per cent in 200405, as per the uniform recall period. Based on the mixed recall period, the
number of persons below the poverty line has declined to 22 per cent in 200405 from 26 per cent in
19992000. Further, the growth of average monthly per capita expenditure at constant prices between
199394 and 200405 (61st Round of NSSO) also indicates, broadly, a similar growth across different rural
and urban income classes, though it may have been less uniform for urban than for rural population.
Inflation

GDP Deflators

The implicit deflator for GDPmp and its demand components is the most comprehensive measure of
inflation on an annual basis. The overall inflation, as measured by the aggregate deflator for GDPmp, is
projected to decline from 5.6 per cent in 200607 to 4.1 per cent in 200708 (refer to Table 8.8). Thus,
the inflation rate is projected to be identical to that of which in 200506. The counterpart of the consumer
price index (CPI), the most commonly used inflation rate for monetary purposes, is the deflator for PFCE.
Inflation, according to the PFCE deflator, jumped from 3 per cent in 200506 to 5.1 per cent in 200607
and is projected to be 5.5 per cent in 200708. The projected decline in the overall inflation is, therefore,
due to the deceleration in investment goods prices from 5.5 per cent growth in 200607 to 4.3 per cent
growth in 200708. This should have a positive effect on investment.

The overall inflation, as measured by the aggregate deflator for GDPmp, is projected to decline from
5.6 per cent in 200607 to 4.1 per cent in 200708.
The projected decline in the overall inflation is, therefore, due to the deceleration in investment goods
prices from 5.5 per cent growth in 200607 to 4.3 per cent growth in 200708.
Prices

Inflation, as measured by the wholesale price index (WPI), rose from 4.4 per cent in 200506 to 5.4 per
cent in 200607 and is expected to return to around the 200506 rate for the full year 200708, based on
the 10 months that were completed. The composition will, however, be different, with a much higher,
primary-goods inflation, mainly because of primary non-food prices and a lower fuel-price inflation,
because of low pass-through of global oil prices. The latest flare-up in prices started from a trough of
around 4 per cent in FebruaryMarch 2006 and (except for a short respite in July) continued to accelerate
till it peaked in March 2007. Since then, there is a declining trend till December 2007. The annual
headline inflation was 4.1 per cent on February 2, 2008. On February 15, 2008, a hike in fuel prices was
announced, which is expected to add 19 basis points to the inflation rate, as per preliminary estimates.
The increase in the prices of primary articles and mineral oils in June 2006, substantially contributed to
this firming-up. It started moderating from June 2007 onwards because of a number of reasons: (1) a
rollback in the increase in the prices of petrol and diesel at end-November 2006 and mid-February 2007
to the pre-June 2006 levels, (2) improved availability of primary articles, and (3) fiscal and monetary
measures. The year-on-year (y-o-y) rate of inflation declined to less than 4 per cent in mid-August 2007
after a gap of 67 weeks. The overall inflation has remained below 4 per cent since then for 23 consecutive
weeks, before inching up to 4.1 per cent in the last 2 weeks. Primary articles, which had contributed to a
substantial increase in the inflation in 200607 and in the first five months of the current year, were also
the major contributors to the deceleration in the rate of inflation. The inflation of primary articles declined
from 12.2 per cent on April 7, 2007, to 3.8 per cent on January 19, 2008, the lowest level since early
November 2005. There was also a deceleration in the prices of manufactured products from over 6 per
cent in April 2007 to less than 4.5 per cent in the last 17 weeks (up to February 2, 2008).

The increase in the prices of primary articles and mineral oils in June 2006, substantially contributed
to this firming-up.

Table 8.8 Implicit Deflators (%)

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PFCEdm: Private final consumption expenditure in domestic market.

The group fuel and power has, however, witnessed an increase in inflation in the recent months. An
increase in the prices of coal and domestic pass-through of international price increase in crude oil to
petroleum products (POLpetroleum, oil, and lubricants), other than petrol and diesel, contributed to this
firming-up of inflation. At a disaggregated level, on January 19, 2008, the prices of 132 manufactured
products with a weight of 29.7 per cent, 10 items of fuel and power with a weight of 10.1 per cent, and 41
primary articles with a weight of 6.8 per cent were the same or lower than a year ago. The combined
weight of these 183 commodities was 46.6 per cent. These commodities substantially contributed to
moderation in the inflation in the current year. The close monitoring of prices and appropriate policy
interventions initiated in the last year and a half helped in maintaining the price stability and reducing the
impact of increase in the global prices on domestic consumers.

The close monitoring of prices and appropriate policy interventions initiated in the last year and a
half helped in maintaining the price stability and reducing the impact of increase in the global prices
on domestic consumers.
Money Supply

The Reserve Bank of Indias (RBI) monetary policy stance is to serve the twin objectives of managing the
transition to a higher growth path and containing the inflationary pressures. For policy purposes for the
year 200708, the RBI assumed a real GDP growth of 8.5 per cent with an inflation close to 5 per cent,
and targeted the monetary expansion in the range of 17 per cent to 17.5 per cent and the credit expansion
in the range of 20 per cent to 24 per cent, as consistent with envisaged growth and inflation. In its
mid-term review, the RBI reiterated the continuation of the policy stance that was announced in April
2007, with an additional resolve to be in readiness to take recourse to all possible options for maintaining
stability and the growth momentum in the economy in view of the unusual heightened global uncertainties,
and the unconventional policy responses to the developments in financial markets.

The Reserve Bank of Indias (RBI) monetary policy stance is to serve the twin objectives of managing
the transition to a higher growth path and containing the inflationary pressures.
The annual average growth of Money (M3) reached a trough of 13 per cent in 200304 and has been on an
accelerating trend since then, reaching 19.5 per cent in 200607. The cumulative (FY to date) increase in
the stock of M3 in 200708 has also remained above the cumulative growth in 200607 and was 13.3 per
cent on January 4, 2008, when compared to 12.2 per cent on January 5, 2006. Thus, it is difficult to relate
either the annual or the trend rate of growth of M3 to inflation, which has been on a downtrend during this
period, with two cycles peaking in August 2004 and March 2007. This is, perhaps, because of the parallel
process of monetary deepening of the informal economy that is under way. The ratio of average M3 to GDP
has increased from 44 per cent in 199091 to 71 per cent in 200607. This could be attributed to the
spread of banking services and the saving habit, resulting in deposits, over a period of time. The
monetisation of the economy, as measured by the ratio of average M1 to GDP, has increased from 15 per
cent in 199091 to 21 per cent in 200607.

The monetisation of the economy, as measured by the ratio of average M1 to GDP, has increased from
15 per cent in 199091 to 21 per cent in 200607.
The average growth of bank credit to commercial sector (BCCS) also reached a low of 11.8 per cent in
200304 and rose in the next two years to 28 per cent in 200506. However, in contrast to money supply,
the average credit growth slowed marginally to 26.8 per cent in 200607 and has decelerated further in
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200708. The cumulative (FY to date) increase in the credit extended by the banking sector to the
commercial sector during 200708 is less than that which was in 200607. The cumulative increase in the
non-food credit was 11.8 per cent by January 4, 2008, much slower than the 17.5 per cent increase till the
corresponding date of 2007. This deceleration could be related to the deceleration in growth of
manufacturing and construction sectors and the consequent, slowdown in demand for credit.
Nominal interest rates, as measured by the cut-off yield, at the auction on 91-day- and 364-day treasury
bills have followed a pattern similar to that of the money growth. The average cut-off yield on 364-day
(91-day) treasury bills reached a trough of 4.7 (4.6) per cent in 200304 and has been rising since then.
The yields averaged 7 (6.6) per cent during 200607. The yields have risen further to an average of 7.5 (7)
per cent in AprilDecember 2007 from 6.8 (6.3) per cent in AprilDecember 2006. The real cut-off yields,
as measured using the trailing 12-month increase in the WPI, have lagged this increase, by reaching a
trough of 1.2 (1.5) per cent in 200405 and rising, there after, to 1.6 (1.2) per cent in 200607. The
latter were marginally higher than the average yield in 200506. The real cut-off yields on 364-day (91)
treasury bills have (more than) doubled to an average of 3.2 (2.7) per cent in AprilDecember 2007 from
1.7 (1.2) per cent in AprilDecember 2006. The doubling of the real interest rate may have had a
moderating effect on credit demand and consequently, on both inflation and growth. It has also led to a
widening of the interest differential between domestic and global rates.

The doubling of the real interest rate may have had a moderating effect on credit demand and
consequently, on both inflation and growth. It has also led to a widening of the interest differential
between domestic and global rates.
During 200607, the yield on 10-year Gsec hardened by 45-basis points over the level observed on March
31, 2006, to reach 7.97 per cent on March 31, 2007. The yields moved to 8.32 per cent at end-June 2007
but softened, subsequently, to reach 7.77 per cent as on January 4, 2008, which were 20 basis points over
the end-March 2007 level. The acceleration in reserve money growth continued in 200708. The
expansion in M0 (up to January 4, 2008) was 13.6 per cent when compared to 9.1 per cent during the
corresponding period of the previous year. The main driver of growth of M0 on financial year as well as on
an annual basis continued to be net foreign assets (NFA) of the RBI. The NFA of the RBI expanded by 25.2
per cent in the current year (39.1 per cent on annual basis) when compared to an expansion of 15.9 per
cent (26.1 per cent on an annual basis), during the same period of the previous year. The share of NFA in
the aggregate reserve money increased to 122.2 per cent as on March 31, 2007, as against 117.4 per cent on
March 31, 2006. This ratio further increased to 134.7 per cent on January 4, 2008. With the continuing
surge in capital flows during 200708 and the need to regulate domestic liquidity, the MSS (market
stabilisation scheme) limits were revised upward four times to a level of Rs 250,000 crore during the year.
During AprilDecember 28, 2007, the liquidity absorbed under MSS was Rs 96,742 crore with
outstanding balances at Rs 159,717 crore. The higher growth of the monetary variables (M0 and M3),
despite the MSS operations, generated higher liquidity in the system. The short-term liquidity variations
were addressed by RBI through the liquidity adjustment facility (LAF).

The higher growth of the monetary variables (M0 and M3), despite the MSS operations, generated
higher liquidity in the system. The short-term liquidity variations were addressed by RBI through the
liquidity adjustment facility (LAF).
Balance of Payments (BoP)

The World Economic Outlook (WEO of IMF, October 2007) observed that the recent expansionary phase
in the global economy, with an average growth of 5 per cent, was the longest since the early 1970s.
The WEO update on January 2008 has, however, revised these estimates based on the new PPP exchange
rates from the 2005 international comparison programme (ICP). There is considerable uncertainty in
quantifying the downside risk to global growth, arising from the downturn in housing market and the
sub-prime mortgage market crisis in the United States. The monetary policy actions by the United States
and other developed countries seem to have contained its immediate impact, though more surprises in the
next six months cannot be ruled out.

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There is considerable uncertainty in quantifying the downside risk to global growth, arising from the
downturn in housing market and the sub-prime mortgage market crisis in the United States.
The Indian economy has been progressively globalising since the initiation of reforms. Trade, an important
dimension of global integration, has risen steadily as a proportion of GDP. Inward FDI has taken off and
there is a surge in the outward investment from a very low base, with net FDI continuing to grow at a good
pace. The surge of capital flows in 200708 is a third indicator that testifies to the growing influence of
global developments on the Indian economy. Capital flows, as a proportion of GDP, have been on a clear
uptrend during this decade. They reached a high of 5.1 per cent of GDP in 200607 after a below-trend
attainment of 3.1 per cent in 200506. This is a natural outcome of the improved investment climate and
recognition of robust macro-economic fundamentals like high growth, relative price stability, healthy
financial sector, and high returns on investment. Even as the external environment remained conducive,
the problem of managing a more open capital account with increasing inflows and exchange rate
appreciation surfaced.
The current account has followed an inverted V-shaped pattern during the decade, rising to a surplus of
over 2 per cent of GDP in 200304. Thereafter, it had returned close to its post-1990s reform average,
with a current account deficit of 1.2 per cent in 200506 and 1.1 per cent of GDP in 200607. The net
result of these two trends had been a gradual rise in reserve accumulation to over 5 per cent of GDP in
200607. With capital inflows exceeding financing requirements, foreign exchange reserve (FER)
accumulation was of the order of US$15.1 bn in 200506 and US$36.6 bn in 200607. Thus, the rupee
faced an upward pressure in the second half of 200607. Despite this, the rupee depreciated by 2.2 per
cent on an overall, yearly average basis. The excess of capital inflows has risen to 7.7 per cent of GDP in the
first half of 200708. FER increased by US$91.6 bn to US$290.8 bn on February 8, 2008.

The current account has followed an inverted V-shaped pattern during the decade, rising to a surplus
of over 2 per cent of GDP in 200304. Thereafter, it had returned close to its post- 1990s reform
average, with a current account deficit of 1.2 per cent in 200506 and 1.1 per cent of GDP in
200607.
Components of Capital Account Deficit

The composition of capital flows is also changing. Among the components of capital inflows, foreign
investment has been a relatively stable component, fluctuating broadly between 1 per cent and 2 per cent
of GDP during this decade. However, it seems to have shifted to a higher plane from 200304, with the
average for the period from 200304 to 200607 roughly double than that was during the period from
200001 to 200203. The relative stability of investment flows is primarily due to steadily rising FDI. In
contrast, debt flows have fluctuated much more, with net outflows in the three years to 200304. The
variations in debt flows have been primarily due to lumpy repayments on government-guaranteed or
government-related external commercial borrowings (ECBs). The ratio of debt flows to GDP was on a
downtrend till 200304 and a rising trend from 200405. Debt flows, primarily ECBs, shot up on a net
basis in 200607 to a level of US$16.2 bn. The trend in net capital flows since 200304, therefore, seems
to be broadly driven by the rising ratio of debt flows.

The ratio of debt flows to GDP was on a downtrend till 200304 and a rising trend from 200405.
The most welcome feature of increased capital flows is the 150 per cent increase in net FDI inflows in
200607 to US$23 bn. The trend has continued in the current financial year with gross FDI inflows
reaching US$11.2 bn in the first six months. The FDI inflows were broad based and spread across a range
of economic activities like financial services, manufacturing, banking services, information technology (IT)
services, and construction. With FDI outflows also increasing steadily over the last five years, the overall
net flows (FDI balance in BoP [balance of payments]) have grown at a slower rate.

With FDI outflows also increasing steadily over the last five years, the overall net flows (FDI balance
in BoP [balance of payments]) have grown at a slower rate.
The globalisation of Indian enterprises and planting of the seeds for the creation of Indian multinationals
have taken place in the last few years. An outward investment from India shot up to US$14.4 bn in
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200607 from less than US$2 bn in the period 200304. The trend continued in the current year with an
outward investment of US$7.3 bn in AprilSeptember 2007. The net FDI flows were, therefore, a modest
US$3.9 bn during this period. The proportion of payments to receipts under FDI into India was in the
range of 0.7 per cent to 0.4 per cent in 200506 and 200607, respectively. This indicates the lasting and
stable nature of FDI flows to India.

The proportion of payments to receipts under FDI into India was in the range of 0.7 per cent to 0.4
per cent in 200506 and 200607, respectively. This indicates the lasting and stable nature of FDI
flows to India.
The increased volatility in Asian and global financial markets in 200607 affected the flow of portfolio
investment. The net portfolio flows became negative in MayJuly 2006 (reflecting the slump in equity
markets), picked up momentum in AugustNovember 2006, only to slow again in March 2007. They were,
therefore, only US$7.1 bn in 200607 when compared to US$12.1 bn in 200506. Euro equities, which
were relatively a minor component of portfolio flows (less than a billion US dollars in the period from
199798 to 200405), rose to US$3.8 bn in 200607, constituting 54.3 per cent of the total net portfolio
flows. The inflow was US$18.3 bn in AprilSeptember 2007, more than double the inflow during 200607.
Underlying these were gross inflows of US$83.4 bn and outflows of US$65.0 bn.
The rapid accretion of reserves and increased pressure on the rupee, necessitated raising the limit on the
MSSs fund. The annualised return on the multi-currency, multi-asset portfolio of the RBI was 4.6 per cent
in 200607, indicating that the effective fiscal cost of sterilisation may be 3.2 per cent. The fiscal costs of
sterilisation in 200708 are placed at Rs 8,200 crore. The search for an appropriate policy mix for
balancing a relatively open capital account, monetary policy independence, and flexible exchange rate
continues.

The search for an appropriate policy mix for balancing a relatively open capital account, monetary
policy independence, and flexible exchange rate continues.
Components of Current Account Deficit

The current account deficit (CAD) mirrors the savinginvestment gap in the national income accounts and,
thus, constitutes the net-utilised foreign savings. The challenge is to leverage foreign inflows (i.e., foreign
savings and investment) to promote growth without having the long-term consequences of external
payment imbalances. The distinction between gross capital inflows and net inflows is useful. As the latter
must equal the CAD, there is no way in which the net uses of foreign saving can increase without an
increase in the CAD. The gross inflow can, however, increase to the extent that it is offset by gross outflows
in the form of build-up of FER, reduction in government external debt, or outward investment by
entrepreneurs. Higher gross inflows have value even if net flows do not increase to the same extent, as they
can improve competition in the real and financial sectors, improve the quality of intermediation, and the
average productivity of investment, and, thus, raise the growth rate of the economy. The challenge for
policy is to maximise these benefits while minimising the costs of exchange rate management.

The rise and fall of the current account balance (as a ratio to GDP) during this decade has been
driven largely by the G&S trade balance, with the two having virtually the same pattern.
The rise and fall of the current account balance (as a ratio to GDP) during this decade has been driven
largely by the G&S trade balance, with the two having virtually the same pattern. The surplus from factor
income including remittances, which fluctuated between 2 per cent and 3 per cent of GDP, has helped to
moderate the substantial the deficit on the trade account. Both the trade (G&S) balance and the factor
surplus improved between 200001 and 200304 leading to an improvement of the current account.
Both reversed the direction, thereafter, resulting in a declining trend in the current account. The peak
values of the three as a proportion of GDP were 0.6 per cent, 2.9 per cent, and 2.3 per cent. In the past
two years, the current account deficit, trade (G&S) deficit, and factor surplus have averaged 1.15 per cent,
3.5 per cent, and 2.35 per cent of GDP, respectively.

219

The trends in the G&S trade deficit have, in turn, been largely driven by the merchandise trade deficit since
200405. Between 200001 and 200304, the merchandise trade deficit was around 2 per cent of GDP,
and the rising services surplus resulted in an improving trend in the overall G&S trade balance. From
200405, the merchandise trade balance has been deteriorating and despite the continued rise in the
services surplus, the overall G&S balance had followed the deteriorating trend of the former.

From 200405, the merchandise trade balance has been deteriorating and despite the continued rise
in the services surplus, the overall G&S balance had followed the deteriorating trend of the former.
Private transfer receipts (mainly remittances) shot up by 49.2 per cent in 200708 (AprilSeptember)
over the first half of 200607 when they had increased by 19.2 per cent. Investment income (net), which
reflects the servicing costs on the payments side and return on foreign currency assets (FCA) on the
receipts side, grew by 60 per cent in 200708 (AprilSeptember) reflecting the burgeoning FER. Net
invisible surplus grew by 35.2 per cent to reach US$31.7 bn in 200708 (AprilSeptember), equivalent of
6.1 per cent of GDP. Thus, higher invisible surplus was able to moderate, partly, the higher and rising
deficits on trade account. CAD was, therefore, placed at US$10.7 bn in 200708 (AprilSeptember),
equivalent of 2 per cent of GDP for the half-year.
External Trade

Indias greater integration with the world economy was reflected by the trade openness indicator, that is,
the trade to GDP ratio, which increased from 22.5 per cent of GDP in 200001 to 34.8 per cent of GDP in
200607. If services trade is included, the increase is higher at 48 per cent of GDP in 200607 from 29.2
per cent of GDP in 200001, reflecting a greater degree of openness.

Indias greater integration with the world economy was reflected by the trade openness indicator,
that is, the trade to GDP ratio, which increased from 22.5 per cent of GDP in 200001 to 34.8 per
cent of GDP in 200607. If services trade is included, the increase is higher at 48 per cent of GDP in
200607 from 29.2 per cent of GDP in 200001, reflecting a greater degree of openness.
Indias merchandise exports and imports (in US$, on customs basis) grew by 22.6 per cent and 24.5 per
cent, respectively, in 200607, recording the lowest gap between growth rates after 200203. Petroleum
products (59.3 per cent) and engineering goods (38.1 per cent) were the fastest growing exports. The
perceptible increase in the share of petroleum products in total exports reflected Indias enhanced refining
capacity and higher POL (petroleum, oil, and lubricants) prices. The rising share of engineering goods
reflected improved competitiveness. The value of POL imports increased by 30 per cent, with the volume
increasing by 13.8 per cent and prices by 12.1 per cent in 200607. Non-POL import growth at 22.2 per
cent was due to the 29.4 per cent growth of gold and silver and 21.4 per cent growth of non-POL
non-bullion imports, which were needed to meet the industrial demand.
In the first nine months of the current year, exports reached US$111 bn, nearly 70 per cent of the years
export target. During AprilSeptember 2007, the major drivers of export growth were petroleum products,
engineering goods, and gems and jewellery. Machinery and instruments, transport equipment, and
manufactures of metals have sustained the growth of engineering exports. There was a revival of the gems
and jewellery sector, with export growth at 20.4 per cent for AprilSeptember 2007, after a deceleration in
200607.
Imports grew by 25.9 per cent during AprilDecember 2007 due to non-POL imports growth of 31.9 per
cent, implying a strong industrial demand by the manufacturing sector and for export activity. The
merchandise trade deficit in AprilDecember 2007 at US$57.8 bn was very close to the trade deficit of
US$59.4 bn for 200607 (full year). Despite the large overall trade deficit, there was a large (but declining)
trade surplus with the United States and UAE and a small surplus with the United Kingdom and Singapore
(till 200607). The surplus with the first three has continued in 200708. The largest trade deficits are
with Saudi Arabia, China, and Switzerland. The trade deficit with China has increased further in
AprilSeptember 2007.
A comparison of the commodity-wise growth of major exports to the United States, European Union (EU),
and the rest of the world provides a better idea of the impact of economic slowdown and rupee
appreciation. The manufactured exports to the United States decelerated sharply in 200607 because of
220

demand slowdown while dollar depreciation was an additional factor in 200708. The slowdown of
exports to the EU was marginal because both factors were absent. In contrast, there was a marginal
acceleration in the manufactured exports to the rest of the world in the first half of 200708. Indias
exports of textiles, leather and manufactures, and handicrafts to United States performed poorly in
200607, even though the rupee depreciated marginally. However, exports of all sub-categories, including
engineering goods and chemicals, have decelerated in the first half of 200708. In the case of EU, the
sharp deceleration in textiles and poor performance in handicrafts were substantially offset by a
reasonable growth in the other manufactures in 200607 and the first half of 200708. Leather and
leather manufactures exports have performed well overall to EU and other countries, while showing a
decline in the case of the United States. Thus, there seems to be a greater correlation between the demand
in a partner country and the bilateral exchange rate, on the one hand, and Indias bilateral exports at a
disaggregated level, on the other, than is visible for the total Indian exports to the world.

A comparison of the commodity-wise growth of major exports to the United States, European Union
(EU), and the rest of the world provides a better idea of the impact of economic slowdown and rupee
appreciation.
The trade with the top 12 trading partners increased by over 11.2 percentage points since 200102 to reach
53.8 per cent of total in 200607. The share of the United States, the largest trading partner, declined by
2.5 percentage points to 9.8 per cent in 200607, while China became the second-largest partner in
200607 with its share increasing by 5.2 percentage points over the decade. Chinas trade share during
AprilOctober 2007 is even higher than that of the United States by Rs 600 crore.
Indias export of services grew by 32.1 per cent to US$76.2 bn in 200607. The software services, business
services, financial services, and communication services were the main drivers of growth. The commercial
services exports were almost 60 per cent of merchandise exports in 200607. However, services exports
grew by a disappointing 8.6 per cent in AprilSeptember 2007, due to a decline in the value of
non-software services, particularly, business and communication services. India has continued to favour
multilateral trading arrangements, which are both transparent and fair to the developing economies. After
the suspension of negotiations in July 2006, due to differences in perceptions, safeguarding the interests
of low-income and resources-poor agricultural producers, along with making real gains in services
negotiations and addressing growth and development, concerns in industrial tariff negotiations.

India has continued to favour multilateral trading arrangements, which are both transparent and
fair to the developing economies.
Rupee Appreciation

With the demand for foreign exchange (debit side of BoP) not keeping pace with the supply side of foreign
exchange (credit side of BoP), the rupee appreciated by 8.9 per cent against the US dollar during the
current financial year between April 3, 2007 and February 6, 2008. The rupee appreciation against the US
dollar over the past 12 months on y-o-y basis (December 2007 over December 2006) at 13.2 per cent was
even higher. While the rupee appreciated against other major currencies as well for most parts of the year,
it was modest when compared to the rise against the US dollar. It even depreciated marginally against the
euro during the financial year (till February 6, 2008).

With the demand for foreign exchange (debit side of BoP) not keeping pace with the supply side of
foreign exchange (credit side of BoP), the rupee appreciated by 8.9 per cent against the US dollar
during the current financial year between April 3, 2007 and February 6, 2008.
The appreciation of the rupee against the US dollar could be attributed to the effect of depreciation of the
US dollar against all the major currencies and the surge in capital flows. The REER (real-effective
exchange rate) (six currency, trade-based weights) that indicates the real competitiveness by factoring the
relative price levels, after depreciating in 200607, appreciated by 7.8 per cent in AprilJanuary 200708.
The appreciation of the rupee vis--vis the dollar, the main invoicing currency of exports, compared to the
lower appreciation of competing countries, coupled with the slow growth in imports of major trading

221

partners like the United States, affected the exports of some sectors with low-import intensity. To mitigate
the effect and facilitate an adjustment, the government announced relief measures to selected sectors.
Stock Markets

Stock markets are an important instrument of financial intermediation. They saw an increased activity in
200708. The primary market issue of debt and equity increased along with private placement. The
secondary market too showed a rising trend, notwithstanding the intermittent ups and downs in the stock
prices, responding mainly to global developments. The Bombay Stock Exchange (BSE) Sensex rose from
13,072 at end-March 2007 to 18,048 as on February 18, 2008, while the National Stock Exchange (NSE)
index Nifty 50 rose from 3,822 to 5,277 during the same period. Both the indices gave a return of around
38 per cent during this period. The higher net mobilisation of resources by mutual funds showed that the
investors were realising the importance of using intermediaries in risky markets. All the other indicators of
capital market, such as market capitalisation, turnover, and price-earning ratio remained strong. The
commodity market also showed signs of expansion in terms of turnover and number of transactions
during the year.

Stock markets are an important instrument of financial intermediation. They saw an increased
activity in 200708.
Agriculture Production

The Directorate of Economics & Statistics in its second AE of agricultural production (February 7, 2007)
has placed total food-grains production at 219.3 million tonnes, marginally higher than the 217.3 million
tonnes in 200607 (final estimate). While the production of kharif foodgrains is expected to be 5.3 million
tonnes (4.8 per cent) higher than the production in 200607, rabi production is expected to be lower by
3.3 million tonnes. The production of cereals is expected to be 205 million tonnes as against 203.1 million
tonnes in 200607 (final estimate). The production of pulses, however, is expected to remain almost at the
last years level. The production of oilseeds is also expected to increase from 24.3 million tonnes in
200607 to 27.2 million tonnes in 200708. Similarly, the production of cash crops, particularly cotton, is
likely to remain buoyant.
There has been a loss of dynamism in the agriculture and the allied sectors in recent years. A gradual
degradation of natural resources through overuse and inappropriate use of chemical fertilizers has affected
the soil quality, resulting in a stagnation in the yield levels. Public investment in agriculture has declined,
and this sector has not been able to attract private investment because of lower/unattractive returns. New
initiatives for extending irrigation potential have had a limited success during the Tenth Five-Year Plan
and only a little over eight million ha could be brought under irrigation and only three-fourths of that
could be utilised. The agricultural extension system has generally not succeeded in reducing the gap
between crop yields that could have been obtained through improved practices. The Government of India
has launched the National Food Security Mission and the Rashtriya Krishi Vikas Yojana to rejuvenate
agriculture and improve farm income. Since these programmes have only been launched in the current
year, it is not possible to assess their impact. A second green revolution, particularly in the areas which are
rain-fed, may be necessary to improve the income of the persons dependent on the agriculture sector.

There has been a loss of dynamism in the agriculture and the allied sectors in recent years. A gradual
degradation of natural resources through overuse and inappropriate use of chemical fertilizers has
affected the soil quality, resulting in a stagnation in the yield levels.
Industry and Infrastructure

The industrial sector witnessed a slowdown in the first nine months of the current financial year. The
growth of 9 per cent during AprilDecember 2007, when viewed against the backdrop of the robust
growth witnessed in the preceding four years, suggests that there is a certain degree of moderation in the
momentum of the industrial sector. The consumer-durable goods sector, in particular, has shown a
distinct slowdown. This is linked to the hardening of interest rates and, therefore, to the conditions
prevailing in the domestic credit sector. In contrast, the capital goods industry has sustained a strong
growth performance during 200708 (AprilDecember).

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The industrial sector witnessed a slowdown in the first nine months of the current financial year. The
growth of 9 per cent during AprilDecember 2007, when viewed against the backdrop of the robust
growth witnessed in the preceding four years, suggests that there is a certain degree of moderation in
the momentum of the industrial sector.
At the product-group level, the moderation in growth has been selective. Industries like chemicals, food
products, leather, jute textiles, wood products, and miscellaneous manufacturing products witnessed an
acceleration in growth, while basic metals, machinery and equipments, rubber, plastic, and petroleum
products, and beverages and tobacco recorded lower but strong growth during AprilDecember 2007.
Other industries including textiles (except jute textiles), automotives, paper, non-metallic mineral
products, and metal products slowed down visibly during the period. The slowdown in the case of less,
import-intensive sectors like textiles, is coincident with the decline in the growth of exports arising from
the sharp appreciation in the rupee vis--vis the dollar. Within automobiles, while passenger cars, scooters,
and mopeds witnessed a buoyant growth, the production of motor cycles and three-wheelers slackened. In
a nutshell, the industrial sector has produced mixed results in the current fiscal.
The picture with regard to forward-looking variables such as investment, particularly in the corporate
sector, has been encouraging. The corporate profitability during the first half of 200708, on the whole,
increased in the manufacturing sector except for certain groups like textiles, food products, and beverages.
Higher profits backed by sound balance sheets were also reflected in an increase in the planned corporate
investment. The outstanding gross bank credit to the industrial sector, which had increased (from
end-March) very slowly during AprilAugust 2007 picked up in later months to touch 8.3 per cent during
AprilNovember 2007. These developments are also reflected in the robust growth of the capital goods
sector. The continued buoyancy in industrial and corporate investment, thus, reflects the confidence in the
growth prospects of the industrial sector.

The corporate profitability during the first half of 200708, on the whole, increased in the
manufacturing sector except for certain groups like textiles, food products, and beverages.
Accompanying the recent moderation in the industrial growth, the growth performance of some segments
of the infrastructure sector during AprilDecember 200708, such as power generation and movement of
railway freight, as also the production of universal intermediates like steel, cement, and petroleum, has
shown a subdued performance. In the power sector, though the planned capacity addition is unlikely to be
achieved, the growth in capacity seen in the current year is distinctly higher than in the previous years. The
movement of cargo, handled by major ports and air cargo (exports and imports), has showed an improved
performance when compared to the corresponding period last year. With an increased rural penetration of
mobile telephony, the telecom sector has continued its strong growth.
The recent moderation in the growth of the industrial sector has raised concerns in some quarters about
the sustainability of the high growth of the sector. To deal with the situation emerging from the slowdown
of some export-oriented sectors of relatively low, import intensity, including textiles, handicrafts, leather,
and so on, the government took certain measures to tide over the situation in the short run. But it needs to
be emphasised that, over the medium term, there is little choice but to improve productivity, even if there
are issues pertaining to the exchange rate of currencies of competing countries.
Social Sectors

As per the UNDPs Human Development Report (HDR) 2007, in spite of the absolute value of the human
development index (HDI) for India, improving from 0.577 in 2000 to 0.611 in 2004 and further to 0.619 in
2005, the relative ranking of India has not changed much. In consonance with the commitment to faster,
social sector development under the National Common Minimum Programme (NCMP), the Central
government has launched new initiatives for the social sector development during 200708. Substantial
progress was also made on the major initiatives launched in earlier years. The new initiatives include Aam
Admi Bima Yojana and Rastriya Swasthya Bima Yojana.

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As per the UNDPs Human Development Report (HDR) 2007, in spite of the absolute value of the
human development index (HDI) for India, improving from 0.577 in 2000 to 0.611 in 2004 and
further to 0.619 in 2005, the relative ranking of India has not changed much.
The share of the Central government expenditure on social services, including rural development, in total
expenditure (plan and non-plan), has increased from 10.97 per cent in 200102 to 16.42 per cent in
200708. The National Rural Health Mission has successfully provided a platform for community health
action at all levels. Besides the merger of the Departments of Health and Family Welfare in all the states,
NRHM has successfully moved towards a single State- and District-Level Health Society for effective
integration and convergence. The concerted efforts at a decentralised planning through preparation of
District Health Action Plans under NRHM has helped in bringing about intra-health sector and
inter-sectoral convergence for effectiveness and efficiency. In all the states, specific health needs of the
people have been articulated for local action.
As universalisation of elementary education has become an important goal, it is also essential to push this
vision forward to move towards the universalisation of secondary education. It has, therefore, been
decided to launch a centrally sponsored scheme, viz., Scheme for Universalisation of Access to Secondary
Education (SUCCESS) and improvement of quality at the secondary stage during the Eleventh Five-Year
Plan. The main objective of the programme is to make secondary education of good quality available,
accessible, and affordable, to all young students in the age group of 1516 years (classes IX and X). The
demographic dividend will manifest itself as a rise in the working age population, aged 1564 years, from
62.9 per cent in 2006 to 68.4 per cent in 2026. To tap this dividend, the Eleventh Five-Year Plan focuses
on ensuring a better delivery of healthcare, skill development, and encouragement of labour-intensive
industries.

As universalisation of elementary education has become an important goal, it is also essential to push
this vision forward to move towards the universalisation of secondary education.
Global Warming and Climate Change

Issues like global warming and the resultant climate change have gained importance in international
discussions. Globally, carbon trading, has grown rapidly in the recent years. There is, however, a need to
balance the harmful effects of human activity on global warming, against the need for poverty reduction
and economic growth in the developing and least-developed countries (LDC). The issue of global social
justice cannot be delinked from the issue of global public goods like the atmosphere. The costs and
benefits to the people living in different countries, and their respective contributions, must be dealt with,
in an integrated way.

Issues like global warming and the resultant climate change have gained importance in international
discussions. Globally, carbon trading, has grown rapidly in the recent years.
India is a party to the United Nations Framework Convention on Climate Change (UNFCCC) and its Kyoto
Protocol. The Protocol provides for three mechanisms that enable the developed countries with quantified,
emission limitation and reduction commitments to acquire greenhouse gas-reduction credits from
activities outside their own boundaries at relatively lesser costs. These are joint implementation, clean
development mechanism (CDM), and emission trading. Only CDM is applicable to developing countries
like India. Under the clean development mechanism, a developed country would take up greenhouse
gas-reduction project activities in a developing country, where the costs of greenhouse gas-reduction
project activities are usually much lower.
Indias CDM potential represents a significant component of the global CDM market. As on January 31,
2008, 309 out of total 918 projects registered by the CDM Executive Board are from India, which, so far, is
the highest from any country in the world. The Indian National CDM Authority has accorded Host Country
Approval to 858 projects facilitating an investment of more than Rs 71,121 crore. These projects are in the
sectors of energy efficiency, fuel switching, industrial processes, municipal solid waste, and renewable
energy. If all these projects get registered by the CDM Executive Board, they have the potential to generate
448 million Certified Emission Reductions (CERs) by the year 2012.

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Sustained growth and resilience in the face of shocks, such as high energy and commodity prices and a
slow down in the world growth and import demand, have characterised the Indian economy in the recent
years. Indeed, in terms of growth, the fiscal period 200308 has been, perhaps, the best ever, five-year
growth performance in the history of independent India. Yet, there are a number of challenges that need to
be addressed if the current growth momentum has to be sustained in the coming years. Chapter
2 highlights some of these challenges, policy options, and prospects for the Indian economy. Some of the
key indicators of growth momentum is given in Table 8.9.

Sustained growth and resilience in the face of shocks, such as high energy and commodity prices and
a slow down in the world growth and import demand, have characterised the Indian economy in the
recent years.

Table 8.9 Key Indicators

Note: GDP and GNP figures are at a new series base 19992000.
Q
Quick estimates; AAdvance estimates.
a nd
2 advance estimates, 200708.
bAprilDecember, 2007.
c
Index of industrial production (base 199394=100).
d
Index (with base 199394 = 100) at the end of fiscal year.
eAs on February 2, 2008.
fIndex (with base 1982 = 100) at the end of fiscal year.
g
As on December, 2007.
hOutstanding at the end of financial year.
iAs on January 4, 2008 y-o-y growth.
j
Computed over comparable data, i.e., April 1, 2005 due to 27 fortnights during 200607.
K
AprilDecember, 2007 (provisional).
lOutstanding at the end of financial year.
m
At the end of February 8, 2008.
n
Prevent change indicates the rate of appreciation (+) depreciation () of the Rupee vis--vis the US$.
oAverage exchange rate for AprilDecember, 2007.
pAprilDecember, 2007 on provisional over revised basis.
225

CAUSES FOR THE SLOW GROWTH OF NATIONAL INCOME IN INDIA

The growth rate of national income in India remained all along poor, particularly, in the first half of our
planning process. Between the First Plan and the Fourth Plan, the annual average growth rate of national
income varied between 2.5 per cent and 3.9 per cent. During the Fifth, Sixth, and Eighth Plan, the annual
average growth rate of national income ranged between 4.9 per cent, 5.4 per cent, and 6.8 per cent,
respectively. It is only during the Ninth Plan, the annual rate of growth of national income in India had
touched the level of 5.5 per cent. Again in 200405, the rate of growth of national income plunged down to
6.8 per cent, after reaching 9.0 per cent in 200304.

The growth rate of national income in India remained all along poor, particularly, in the first half of
our planning process.
Thus, we have seen that the rate of growth of national income in India is very poor. Targets of growth rate
of national income remain all along unfulfilled. In this connection, Richard T. Gill has observed that,
Indias rate of progress is pitifully meagre as against her actual needs. At her present pace, India would
remain a very poor nation at the end of the century and many segments of her population would
undoubtedly still be living in conditions of desperate poverty.
The following are some of the important causes of slow growth of national income in India:

High Growth Rate of Population: The rate of growth of population, being an important determinant of economic growth, is also responsible for the slow
growth of national income in India. Whatever increase in national income has been taking place, all these are eaten away by the growing population. Thus, the high rate of
growth of population in India is retarding the growth process and is responsible for this slow growth of national income in India.

The high rate of growth of population in India is retarding the growth process and is responsible for
this slow growth of national income in India.

Excessive Dependence on Agriculture: Indian economy is characterised by too much dependence on agriculture and thus, it is primary producing. The major
share of national income that is usually coming from the agriculture, which is contributing nearly 34 per cent of the total national income, engages about 66 per cent of the
total working population of the country. Such excessive dependence on agriculture prevents a quick rise in the level of national income as well as the per capita income, as
the agriculture is not organised on commercial basis rather it is accepted as a way of life. Excessive dependence on agriculture and low landman ratio, inferior soils, poor
ratio of capital equipment, problems of land-holding and tenures, tenancy rights, and so on, are also responsible for the slow growth of agricultural productivity which, in
turn, is also responsible for the slow growth of national income.

Excessive dependence on agriculture prevents a quick rise in the level of national income as well as
the per capita income, as the agriculture is not organised on commercial basis rather it is accepted as
a way of life.

Occupational Structure: The peculiar occupational structure is also responsible for the slow growth of national income in the country. At present, about 66 per
cent of the working force is engaged in agriculture and allied activities, 3 per cent in industry and mining, and the remaining 31 per cent in the tertiary sector. Moreover, the
prevalence of high degree of underemployment among the agricultural labourers, and also among the work force engaged in other sectors, is also responsible for this slow
growth of national income.

Prevalence of high degree of underemployment among the agricultural labourers, and also among
the work force engaged in other sectors, is also responsible for this slow growth of national income.

Low Level of Technology and its Poor Adoption: In India, the low level of technology is also mostly responsible for its slow growth of national income.
Moreover, whatever technology has been developed in the country is not properly utilised in its production process, leading to the slow growth of national income in the
country.

Whatever technology has been developed in the country is not properly utilised in its production
process, leading to the slow growth of national income in the country.

226

Poor Industrial Development: Another important reason behind the slow growth of national income in India is the poor rate of development of its industrial
sector. The industrial sector in India has failed to maintain a consistent and sustainable growth rate during the planned development period and, more particularly, in the
recent years. Moreover, the development of the basic industry is also lacking in the country. All these have resulted in a poor growth in the national income of the country.

The development of the basic industry is also lacking in the country. All these have resulted in a poor
growth in the national income of the country.

Poor Development of Infrastructural Facilities: In India, the infrastructural facilities, viz., transport, communication, power, irrigation, and so on, have not
yet been developed satisfactorily, as per their requirement throughout the country. This has been causing major hurdles in the path of development of agriculture and
industrial sector of the country, leading to a poor growth of national income.

Poor Rate of Savings and Investment: The rate of savings and investment in India is also quite poor as compared to that of the developed countries of the
world. In the recent times, that is, in 199697, the rate of GDS was restricted to 26.1 per cent of GDP and that of investment was 27.3 per cent of GDP in the same year. Such
low rate of saving and investment has resulted in a poor growth of national income in the country.

Socio-political Conditions: Socio-political conditions prevailing in the country are also not very much conducive towards a rapid development. Peculiar social
institutions like caste system, joint family system, fatalism, illiteracy, unstable political scenario, and so on, are all responsible for the slow growth of national income in the
country.

Socio-political conditions prevailing in the country are also not very much conducive towards a rapid
development.

In the mean time, the government has taken various steps to attain a higher rate of growth in its
national income by introducing various measures of economic reforms and structural measures. All
these measures have started to create some impact on the raising growth of the national income of the
country.
SUGGESTIONS TO RAISE THE LEVEL AND GROWTH RATE OF NATIONAL INCOME IN INDIA

In order to raise the level and growth rate of national income in India, the following suggestions are worth
mentioning:
Development of Agricultural Sector

As the agricultural sector is contributing to the major portion of our national income, concrete steps are to
be taken for an all-round development of the agricultural sector, throughout the country at the earliest.
New agricultural strategy to be adopted widely throughout the country to raise its agricultural productivity
by adopting better HYV seeds, fertilisers, pesticides, better tools and equipments, and scientific rotation of
crops and other scientific methods of cultivation. Immediate steps are to be taken to enhance the coverage
of irrigation facilities, along with the reclamation of waste land.

As the agricultural sector is contributing to the major portion of our national income, concrete steps
are to be taken for an all-round development of the agricultural sector, throughout the country at the
earliest.
Development of Industrial Sector

In order to diversify the sectoral contribution of national income, the industrial sector of the country
should be developed to a considerable extent. Accordingly, the small, medium, and large-scale industries
should be developed simultaneously, which will pave the way for attaining a higher level in income and
employment.

In order to diversify the sectoral contribution of national income, the industrial sector of the country
should be developed to a considerable extent.
Raising the Rate of Savings and Investment

For raising the level of national income in the country, the rate of savings and investment should be raised
and maintained to a considerable extent. The capital output ratio should be brought down within the
manageable limit. In this respect, the Ninth Plan document has set its objectives to achieve 7 per cent rate
227

of economic growth, to enhance the rate of investment from 27 per cent to 28.3 per cent and to reduce the
capital output ratio from 4.2 per cent to about 4.0 per cent.

For raising the level of national income in the country, the rate of savings and investment should be
raised and maintained to a considerable extent.
Development of Infrastructure

In order to raise the level of national income to a considerable height, the infra-structural facilities of the
country should be adequately developed. Those facilities include transport and communication network,
banking and insurance facilities, and better education and health facilities, so as to improve the quality of
human capital.

In order to raise the level of national income to a considerable height, the infra-structural facilities of
the country should be adequately developed.
Utilisation of Natural Resources

In order to raise the size and rate of growth of the national income in India, the country should try to
utilise the natural resources of the country in a most rational manner to the maximum extent possible.
Removal of Inequality

The country should try to remove the inequality in the distribution of income and wealth by imposing
progressive rates of taxation, on the richer sections, and also by redistribution of wealth through welfare
and poverty-eradication programmes. Moreover, imposing higher rates of taxation on the richer sections
can also collect sufficient revenue for implementation of the plan.

The country should try to remove the inequality in the distribution of income and wealth.
Containing the Growth of Population

As the higher rate of growth of population has been creating a negative impact on the level of national
income and per capita income of the country, positive steps have to be taken to contain the growth rate of
population by adopting a rational population policy, and also by popularising the family-planning
programmes, among the people in general.
Balanced Growth

In order to attain a higher rate of economic growth, different sectors of the country should grow
simultaneously, so as to attain an inter-sectoral balance in the country.
Higher Growth of Foreign Trade

Foreign trade can also contribute positively towards the growth of national income in the country.
Therefore, positive steps to be taken to attain a higher rate of growth in the foreign trade of the country.
Higher volume of export can also pave the way for the import of improved and latest technologies that are
required for the development of a country.

Higher volume of export can also pave the way for the import of improved and latest technologies
that are required for the development of a country.
Economic Liberalisation

In order to develop the different sectors of the country, the government should liberalise the economy to a
considerable extent, by removing the unnecessary hurdles and obstacles in the path of development. This
would improve the productivity of different productive sectors. Under the liberalised regime, the entry of
right kind of foreign capital and technical know-how will become possible to a considerable extent, leading

228

to modernisation of industrial, infrastructural, and other sectors of the country. This economic
liberalisation of the country in the right direction will ultimately lead the economy towards attaining a
higher level of national income within a reasonable time frame.
Therefore, in order to rise the size and growth rate of national income of the country, a rigorous and
sincere attempt should be made by both public and private sector to undertake developmental activities in
a most realistic path, and also to liberalise and globalise the economy for the best interest of the nation as a
whole.

In order to rise the size and growth rate of national income of the country, a rigorous and sincere
attempt should be made by both public and private sector to undertake developmental activities in a
most realistic path, and also to liberalise and globalise the economy for the best interest of the nation
as a whole.
MAJOR FEATURES OF NATIONAL INCOME IN INDIA

The trends and composition of national income estimates of India during post-independence period shows
the following major features:
Excessive Dependence on Agriculture

One striking feature of Indias national income is that a considerable proportion, that is, 27.8 per cent of
the national income is now being contributed by the agricultural sector Naturally, development of this
sector is very important considering its employment potential, marketable surplus, and necessary support
to the industry sector.
Poor Growth Rate of GDP and Per Capita Income

Poor growth rate of GDP and per capita income is another important feature of national income of the
country.
Unequal Distribution and Poor Standard of Living

The distribution of national income in India is most unequal. Due to the highly skewed pattern of
distribution of income, the standard of living of the majority of population of our country is very poor.
Growing Contribution of Tertiary Sector

Another striking feature of Indias national income is that the contribution of tertiary sector has been
increasing continuously over the years, that is, from 28.5 per cent of total national income in 195051 to
54 per cent in 200607.
Unequal Growth of Different Sectors

In India different sectors are growing at unequal rates. During the period 195197, while the primary
sector has recorded a growth rate of 2.9 per cent the secondary and tertiary sectors have recorded a growth
rate of 6.3 per cent and 7.1 per cent, respectively.
Regional Disparity

Another striking feature of Indias national income is its regional disparity. Among all the states, only six
states of the country have recorded a higher per capita income over the national figure. Out of this six
states Punjab ranks the highest and Bihar ranks the lowest.
Urban and Rural Disparity

Urban and rural disparity of income is another important feature of our national income. The All India
Rural Household Survey shows that the level of income in urban areas is just twice that of the rural areas,
depicting a poor progress of rural economy.
Public and Private Sector

229

Another important feature of Indias national income is that the major portion of it is generated by the
private sector (75.8 per cent) and the remaining 24.2 per cent of the national income is contributed by the
public sector.
DIFFICULTIES OR LIMITATIONS IN THE ESTIMATION OF NATIONAL INCOME IN INDIA

National income estimation in India is subjected to various conceptual and practical difficulties. These
conceptual difficulties arise mostly in connection with personal and government administrative service. In
connection, the first report of the NIC mentioned:
Which part of the governments general administration is service to business firms, enters into the
value of its product and hence should not be counted and which part is service to the people as
individuals and consumers and should be counted likewise, in considering what is consumption in the
process of production and what is net product, the estimator merely, follows M judgment of society
which views net product as what is available either for consumption of individuals personally or
collectively or for additions to capital stock.
In addition to the conceptual difficulties, the estimation of national income in India is facing a number of
limitations or practical difficulties. These difficulties or limitations are as follows:
Non-monetised Output and its Transactions

In the estimation of national income or output, only those G&S, which are exchanged against money, are
normally included. But in an under-developed country like India, a huge portion of our total output is still
either being consumed at home or being bartered away by the producers in exchange of other G&S, leading
to the non-inclusion of huge non-monetised output in the national income estimates of the country. This
problem of non-monetised transactions is very much in the rural areas, whose inclusion in NDP is really
difficult. Till now, no proper method has been developed to find out the total output of this farm output,
consumed at home, and also to derive the imputed value of this huge non-monetised output.

In the estimation of national income or output, only those G&S, which are exchanged against money,
are normally included.
Non-availability of Information About Petty Income

The national income estimates in India are also facing another problem of non-availability of information
about the income of small producers and household enterprises. In India, a very large number of
producers are still carrying on production at a family level or are running household enterprises on a very
small scale. Being illiterate, these small producers have no idea of maintaining accounts and do not feel it
necessary to maintain regular accounts as well. Under such a situation it is really a difficult task to collect
data. In this connection, the NIC wrote, An element of guess-work, therefore, invariably enters into the
assessment of output especially in the large sectors of the economy which are dominated by the small
producer or the household enterprise.

The national income estimates in India are also facing another problem of non-availability of
information about the income of small producers and household enterprises.
Lack of Differentiation in Economic Functions

In India, the occupational classification is incomplete and, thus, there is lack of differentiation in economic
functions. As national income statistics are collected by industrial origin, classification of producers and
workers into various occupational categories is very much essential.

In India, the occupational classification is incomplete and, thus, there is lack of differentiation in
economic functions.
Unreported Illegal Income

230

In India, the parallel economy is fully operational as hidden or sub-terrainean economy. Thus, there is a
huge, unreported illegal income earned by those people engaged in such parallel economy, which is not
included in the national income estimates of our country. In 198384, the National Institute of Public
Finance and Policy made an estimate of black income, which was to the extent of 18 per cent to 21 per cent
of our national income. Obviously, non-inclusion of such a huge illegal income makes the national income
estimates of the country as underestimates.

In India, the parallel economy is fully operational as hidden or sub-terrainean economy.

Lack of Reliable Statistical Data

The most important difficulty facing the national income estimation in India is the non-availability of
reliable statistical information. In India, the national income data are collected by untrained and
semiliterate persons like gram sevaks and, thus, the statistics are mostly unreliable. Although some
statistical organisations like NSSO are organised by the government for this purpose, these are considered
as inadequate. Thus, due to the dearth of reliable, adequate statistical data, the national income estimates
in India is still subjected to a high degree of error.

The most important difficulty facing the national income estimation in India is the non-availability of
reliable statistical information.
KEY WORDS

National Income
Gross National Product (GNP)
Net National Product (NNP)
User Cost
Factors of Production
Personal Income (PI)
Disposable Income (DI)
National Income Estimates
National Income Committee (NIC)
Central Statistical Organisation (CSO)
Product Method
Income Method
Conventional Series
Revised Series
New Series
Primary Sector
Secondary Sector
Tertiary Sector

QUESTIONS

1.
2.
3.
4.
5.
a.
b.
c.

What do you mean by national income? Explain its concepts.

What do you mean by national income estimates? Explain national income estimates during pre-independence and post-independence of India.
Explain trends in the national income growth and structure.
What are the causes for slow growth of national income in India? Explain suggestion measures to raise the growth rate of national income in India.
Write short notes on

Features of national income in India.

Difficulties in estimates of national income in India.
Methodology of national income estimates in India.
REFERENCES

Budget Documents, Government of India.

Economic Survey of India 200708, Government of India Publication.
http://indiabudget.nic.in.
Plan Documents, Planning Commission of India.

231

CHAPTER 09
Industrialisation and Economic Development
CHAPTER OUTLINE

Concept and Meaning of Industrialisation

The Pattern of Industrialisation
Relative Roles of Public and Private Sectors
Inadequacies of the Programme of Industrialisation
Role of Industries in the Economic Development
Industries During the Plan Period
Recent Industrial Growth
Central Public Sector Enterprises (CPSEs)
Micro and Small Enterprises (MSEs)
Corporate Profitability and Investment
Industrial Sickness
Environmental Issues
Challenges and Outlook
Key Words
Questions
References

CONCEPT AND MEANING OF INDUSTRIALISATION

Industrialisation has a major role to play in the economic development of the underdeveloped countries.
The gap in per capita incomes between the developed and underdeveloped countries is largely reflected in
the disparity in the structure of their economies; the former are largely industrial economies, while in the
latter the production is confined predominantly to agriculture. Table 9.1 clearly reveals the positive
relationship between the per capita income and the share of manufacturing output (industry including
construction). Undoubtedly, some countries have achieved relatively high per capita incomes by virtue of
their fortunate, natural resource endowments. Petroleum exporting countries like Saudi Arabia, Kuwait,
and UAE have achieved higher per capita income by exploiting the strong advantage that they enjoy in
international trade. But these countries are rather a special case.

Industrialisation has a major role to play in the economic development of the underdeveloped
countries.
The pattern of growth through trade in primary commodities was, however, realised in the 19thcentury
when industrialisation was closely linked with international trade, because (1) countries previously
isolated by high transport costs as well as other barriers came to specialise, and (2) economic development
through trade was diffused in the outlying area as the pattern of advance in the rising industrial countries
happened to be such as to cause a rapidly growing demand for crude products of the soils, which those
areas were well fitted to supply.
This traditional pattern of growth through trade is out of place now. As rising levels of per capita
consumption have gradually transformed the composition of demand for goods and services and as
technological changes have resulted in the more economic use of new materials or the creation of synthetic
substitutes, the growth of import demand of the advanced countries for most primary products has lost the
momentum of the earlier period and, currently, it lags behind the growth in their domestic incomes and
output. The volume of exports from the underdeveloped countries expanded at a rate of 3.6 per cent per
annum while the exports from the developed countries rose at the rate of 6.2 per cent. This export lag is
accompanied by a deterioration in their terms of trade. Thus, in view of the unfavourable trends in the
world trade of primary commodities, industrialisation is the only effective answer to the problems of
underdeveloped countries. They can no longer depend upon trade for their development but they have to
activise the dynamic elements within their economies.

In view of the unfavourable trends in the world trade of primary commodities, industrialisation is the
only effective answer to the problems of underdeveloped countries.

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Table 9.1 Percentage Industrial Distribution of Gross Domestic Product (GDP) and Per Capita Income
(1994)

Source: World Development Report (1992) and (1996), World Bank.

Note: *Figures of GDP distribution are for 1985.

Besides the limitation of trade gap, these countries are facing a relentless increase of population,
combined with a likelihood of diminishing returns in agriculture which is instrumental in creating the trap
of poverty. The essential precondition for development (and to break this vicious circle) is an all-round rise
in all occupations right from low productivity to high productivity. In general, the net value of output per
person is higher in industry than in agriculture. In industry, the scope for internal as well as external
economies is greater than in other sectors and, certainly greater than in agriculture. As industrialisation
proceeds, the economies of scale and inter-industrial linkages (complementarily) become more
pronounced. It also leads to the creation of economic surplus in the hands of industrial producers for
further investment.

As industrialisation proceeds, the economies of scale and inter-industrial linkages (complementarily)

become more pronounced.
The industrial sector, which possesses a relatively high marginal propensity to save and invest, contributes
significantly to the eventual achievement of a self-sustaining economy, with continued high levels of
investment and rapid rate of increase in income as well as industrial employment. Besides, the process of
industrialisation is associated with the development of mechanical knowledge, attitudes, and skills of
industrial work, with experience of industrial management and with other attributes of a modern society,
which in turn, are beneficial to the growth of productivity in agriculture, trade, distribution, and other
related sectors of the economy. As a consequence of these factors, any successful transfer of labour from
agriculture to industry contributes to economic development. Industrialisation is, thus, inseparable from
substantial, sustained economic development, because it is both a consequence of higher incomes and a
means of higher productivity. With the rise in the income levels, people tend to spend more on the
manufactured goods than on food. The differential income elasticity of demand confers an advantage on
the manufacturing countries, in the form of providing and expanding higher productivity market and
makes it an attractive occupation to effect population transfer so as to arrest the tendency of diminishing
returns in agriculture. Industrialisation acts as an instrument both in creating capacity to absorb excess
labour power and in catering for the diversification of the market that is required at the higher stages of
economic development.

Industrialisation is, thus, inseparable from substantial, sustained economic development, because it
is both a consequence of higher incomes and a means of higher productivity.
In many cases, the diversion of underemployed rural labour to non-agricultural occupations is an urgent
requirement for development. But it does not mean that industrial development can be dissociated from
progress in the agricultural sector. An improvement in productivity in agriculture creates surplus, which
can be utilised to support increasing labour force in industries. Besides providing a large part of the
sustenance for the growing urban population, the agricultural sector supplies a market for the
manufactured goods out of higher real incomes and a source of foreign exchange to pay for the imported
capital goods for industry; it also provides a source of capital for industry through the medium of capital
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accumulated by traders and leads to the growth of an exchange economyall these factors promote the
growth of the manufacturing industry. In fact, unless agriculture is modernised substantially, industrial
expansion is likely to proceed at a slow speed due to lack of purchasing power in the hands of the bulk of
population. The problem facing the less-developed countries is, therefore, not the one of choosing between
primary and secondary activities but rather the one of ensuring a balanced expansion of all appropriate
sectors of the economy.

In fact, unless agriculture is modernised substantially, industrial expansion is likely to proceed at a

slow speed due to lack of purchasing power in the hands of the bulk of population.
THE PATTERN OF INDUSTRIALISATION

Although there is now, almost, a universal agreement on the importance of industrialisation, there is still
much debate regarding the proper pattern of industrial development. Historically, industrial development
has proceeded in three stages. In the first stage, the industry is concerned with the processing of primary
products: milling grain, extracting oil, tanning leather, spinning vegetable fibres, preparing timber and
smelting ores. The second stage comprises the transformation of materials making bread and
confectionery, footwear, metal goods, cloth, furniture, and paper. The third stage consists of the
manufacture of machines and other capital equipments to be used not for the direct satisfaction of any
immediate want but in order to facilitate the future process of production. Hoffmann classified all the
industrial output into two categories: consumer goods and capital goods output, and also classified various
stages in terms of the ratio of consumer goods output to that of the capital goods output as follows: In
stage I the consumer goods industries are of overwhelming importance, their net output being on the
average five times as large as that of capital goods industries. This ratio is 2.5:1 in the second stage and
falls to 1:1 in the third stage, and still lower in the fourth stage. Both these types of classifications
emphasise the increasing role of the capital goods industries in the economy, as industrial development
takes place.

Hoffmann classified all the industrial output into two categories: consumer goods and capital goods
output, and also classified various stages in terms of the ratio of consumer goods output to that of the
capital goods output.
Although the general development of industry itself has proceeded from consumer goods to the capital
goods, there are many variations of this pattern, both in terms of the time taken to attain later stages and
in terms of the relative importance of each of the stages. The Soviet pattern of industrialisation involves a
straight jump from the first to the third stage whereas British pattern is that of a gradual evolution.
Similarly, underdeveloped countries may also evolve a different pattern of industrialisation suitable to
their economic conditions. It has been suggested that the pattern of industrialisation in the
underdeveloped countries to be guided primarily, by considerations arising from the relative scarcity of
capital. Since labour is relatively plentiful and capital is scarce, the development of labour-intensive
consumer goods seems quite legitimate. However, the basic premise of this approach is inappropriate. The
problem is not how to economise the use of capital (this has to be done as an inevitable condition) but how
to increase its supply. As most underdeveloped countries do not produce these goods at home, the only
alternative to increasing their supplies is through imports. This depends upon the rate of growth in the
exports of primary commodities and manufactured goods. As it has been pointed above, the countries are
facing an export lag in their exports of primary commodities. Consequently, primary commodity exports
do not seem to be a reliable source of foreign exchange earning, in order to increase the import of capital
goods.

It has been suggested that the pattern of industrialisation in the underdeveloped countries to be
guided primarily, by considerations arising from the relative scarcity of capital.
The alternative to the increase of exports of primary products from underdeveloped countries would be to
develop export-promoting, manufacturing industries. But the main trouble is that in producing goods of
this sort, say textiles, the advanced industrial countries themselves are likely to have an overwhelming
comparative advantage. This does not necessarily mean that export-promoting, industries should not be
developed, but it only means that specialisation in a few industries for export is not a substitute for the
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growth of a diversified domestic industry. If, however, the growth in foreign exchange earnings cannot be
strengthened by the promotion of export industries, the spread of import-substituting, consumer goods
industries can release foreign exchange for imports of capital goods. Import substitution is of two types:
1.
2.

the substitution of home-produced goods for imported goods, and

the substitution of capital goods imports for consumer goods imports.

Thus, if a country cannot increase its export earnings sufficiently, it can still increase its import of capital
equipment by cutting down its imports of consumer goods. This process of import substitution itself
creates import demand for certain ancillary goods, which are needed for the production of those consumer
manufactures. We are, thus, faced with a problem of choice between expansion of export-oriented
industries or of import-substitution industries. The capital available for investment in an underdeveloped
economy being limited, the allocation of funds to an export project reduces the scope of investment
oriented towards import substitution, If the export-oriented industries are successful in stimulating
exports, they increase the supply of foreign exchange and if import substitution is effective, it releases
foreign exchange, so that the effect of these alternatives on the supply of foreign exchange is identical. How
should we decide between these two alternatives?

The capital available for investment in an underdeveloped economy being limited, the allocation of
funds to an export project reduces the scope of investment oriented towards import substitution.
Although the effect of the development of these two types of industries on foreign exchange is similar, yet
an import-substituting industry strengthens the economic independence of the country; whereas
export-oriented prospect, on the contrary, increases its dependence on the fluctuations of prices and
volume of trade in foreign markets. Therefore, in general, an import-substitution project should be
preferred to an export-oriented project.
To sum up, the industrial development depends upon the rate of capital formation. Supply of capital goods
can be augmented either through imports or through domestic production. An increase in the imports of
capital goods depends upon the rate of growth of exports. Since the scope for the expansion of the exports
of primary commodities is limited, export-promoting, manufacturing industries may be developed or,
alternatively, certain import-substituting, domestic industries may be developed, the effect of which will be
to release foreign exchange for the imports of capital goods. In addition, within the current volume of
imports, capital goods may be substituted in the place of consumer goods. Thus, export-promoting
industries, import- substituting industries, and domestic capital goods industries are not mutually
exclusive alternatives. A simultaneous development of all the three classes of industries will prove to be the
most effective strategy of industrialisation. The relative role of each is likely to vary with the particular
economic circumstan ces of individual countries as well as with their current phase of industrialisation.

Export-promoting industries, import- substituting industries, and domestic capital goods industries
are not mutually exclusive alternatives. A simultaneous development of all the three classes of
industries will prove to be the most effective strategy of industrialisation.
Structure of Effective Demand and Pattern of Industrial Development

A disquieting feature is that the pattern of industrial development that has emerged in the last five decades
reflects the structure of effective demand, which is determined by the distribution of incomes. An unduly
large share of resources is absorbed in production which relates directly or indirectly to maintaining or
improving the living standards of the higher-income groups. The demand of this relatively small class, not
only for a few visible items of conspicuous consumption but also for the outlay on high-quality housing
and urban amenities, aviation and superior travel facilities, telephone services, and so on, sustains a large
part of the existing industrial structure. This means that the further expansion of industry is limited by the
narrowness of the market.

A disquieting feature is that the pattern of industrial development that has emerged in the last five
decades reflects the structure of effective demand, which is determined by the distribution of incomes.

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Consumer durables like refrigerators, air-conditioners, televisions, cars and scooters, and so on, go to
satisfy the wants of the richer sections of the community while the consumer non-durables like sugar, tea,
cotton, cloth, vanaspati, matches, and so on, enter into mass consumption. Between 1961 and 1974, the
industries producing non-durables recorded a very slow growth rate (barely 2.6 per cent) and this was an
important factor for an inflationary rise in the price level. It resulted in wiping out the increase in real
wages and, consequently, ushered an era of strikes, which again slowed down the production. On the other
hand, the capitalist classes were able to appropriate the gains of inflation and, thus, they boosted the
demand for consumer durables. All this led to a distortion in the emerging industrial structure which was
deleterious to social welfare. Commenting on this development, Raj writes:
If this continues, a pattern of industrial development based on high rates of growth of demand for
luxury and semi luxury products may well come to be regarded as the only way of maintaining a high
rate of growth of output in this sector. The situation continues to be similar during 197496 (refer
toTable 9.2). It appeared the deceleration in consumer goods industries output, more especially of
non-durable consumer goods. The growth rate of all groups of goods has been modest since 198081
except for consumer durables which has been zooming forward.

The growth rate of all groups of goods has been modest since 198081 except for consumer durables
which has been zooming forward.
Per Worker Consumption of Power

Since 1951 till now, the number of workers engaged in factories and mines has increased by nearly three
times; but during the same period, the per capita consumption of power for industries and mines
increased about 10-fold. Since the per worker electricity consumption for industrial purposes can be taken
as a good indicator of mechanisation or technological sophistication of the production processes, it is an
index of the growing capital intensity in the factory sector. Despite the 10-fold increase in power
consumption per worker, India is far below the corresponding levels that are reached in developed
countries.

Table 9.2 Average Annual Growth Rate of Production

Source: Handbook of Industrial Statistics (1987) and Economic Survey, 199798. Ministry of Industry,
Government of India.

However, it is generally forgotten that 27 per cent of all workers in the manufacturing are employed in
factories; the remaining 73 per cent are employed in smaller establishments, which do not use power.
There is a need for a massive effort for electrification of production processes in small-scale and cottage
industries. This transformation would raise their productivity and, hence, the income generated there
from.

There is a need for a massive effort for electrification of production processes in small-scale and
cottage industries. This transformation would raise their productivity and, hence, the income
generated there from.

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RELATIVE ROLES OF PUBLIC AND PRIVATE SECTORS

A noteworthy feature of the changing industrial pattern in the planning era in India is the growth of the
public sector in a big way in the heavy and basic industries, the machine goods sector, engineering
industries, and so on. In 199798, though the public sector units accounted for only 7.0 per cent of the
number of factories in the country, they employed 32 per cent of the productive capital. Only 56 per cent of
the productive capital is employed by the private sector units, which account for 91 per cent of the total
number of factories. The high share of the public sector is accounted for by the fact that investment made
in this sector is largely heavy and basic industries are highly capital intensive.

A noteworthy feature of the changing industrial pattern in the planning era in India is the growth of
the public sector in a big way in the heavy and basic industries, the machine goods sector,
engineering industries, and so on.
However, if we judge the contribution of different sectors in terms of employment and value added, then it
is evident that nearly 69 per cent of employment and 60 per cent of value added are contributed by the
private sector. The share of the public sector in employment and value added was only 24 per cent and 28
per cent, respectively. The joint sector which represents the participation of both private and public sectors
in ownership, and management, has not yet become significant although its contribution to the value
added was 12 per cent and employment 6.7 per cent. The conclusion is obvious: the private sector
dominates the industrial scene in India (refer to Table 9.3).

The private sector dominates the industrial scene in India.

Interestingly, the annual wages received by a worker in the public sector are nearly at par with those in the
joint sectorRs 62,936 and Rs 66,644, respectively. But the annual wages in the private sector were Rs
32,342, that is, 51 per cent of the wages received by the workers in the public sector.

Table 9.3 Ownership Pattern in Indian Industries (199798)

Growth of Infrastructure

The rapid pace of industrial growth and the development of productive capacity have been marked by a
remarkable, though still inadequate, expansion of infrastructural facilities in the country, with expansion
and modernisation of coal, which is Indias primary fuel source by more than threefold, and notable
success in the exploration of oil and gas both on shore and offshore. The Sixth Plan summed up the
success in the infrastructure admirably. An efficient complex of refineries, pipelines, storage, and
distribution has been developed and India has entered the petrochemical age. A large infrastructure has
been built to sustain this subcontinental economya network of irrigation, storage works, and canals;
hydro- and thermal power generation; regional power grids; a largely electrified and dieselised railway
system; national and state highways on which a rapidly growing road transport fleet can operate; and the
237

telecommunications system covering most urban centres and linking India with the world. The
development of modern industry as well as of agriculture has stimulated the growth of banking, insurance,
and commerce, and required matching expansion and modernisation of ports, shipping, and internal and
external air services. The major beneficiaries of all these services, as pointed out already, however, have
been the wealthier sections of the population, both in urban and rural areas.

The rapid pace of industrial growth and the development of productive capacity have been marked
by a remarkable, though still inadequate, expansion of infrastructural facilities in the country.
Science and Technology

A Significant progress has been recorded in the field of science and technology. India now ranks third in
the world, in respect of technological talent and manpower. Indian scientists and technologists are
working in many areas on the frontiers of todays knowledge, as in agriculture and industry, in the
development of nuclear power and the use of space technology for communications and resource
development. For further industrial and scientific advance, with growing competence in adaptive research
and development, we need only a selective import of technology. The country has been able to train a cadre
of technical manpower which can handle cement factories, chemical and fertilizer units, oil refineries,
power houses, steel plants, locomotive factories, engineering industries, and so on. More than a
lakh-and-a-half degree and diploma holders are turned out by the technical institutions. Similarly, in-plant
training and sending brilliant young men and women abroad for training in top skills has helped to
generate skilled manpower and, thus, reduce the dependence on foreign technicians and experts. However,
small and cottage industries, and other rural activities, have not received the research and development
support that they require.

A significant progress has been recorded in the field of science and technology. India now ranks third
in the world, in respect of technological talent and manpower.
Small and cottage industries, and other rural activities, have not received the research and
development support that they require.
INADEQUACIES OF THE PROGRAMME OF INDUSTRIALISATION

Without underestimating the achievements of the process of industrial expansion initiated during the
planning era, it may be emphasised that much of the industrial growth is only apparent and not real. Our
reasons for this are as under: Firstly, the share of industry in the national income in 194849 was 17 per
cent. In 199697, it was around 21 per cent, an increase of just 4 per cent in 50 years. Thus, in the terms of
contribution of national product, the share of manufacturing industry sector continues to be low. In most
of the developed nations, this share is between 30 per cent and 50 per cent.

In the terms of contribution of national product, the share of manufacturing industry sector
continues to be low. In most of the developed nations, this share is between 30 per cent and 50 per
cent.
Secondly, the process of industrialisation has not been able to make a dent on the problem of
unemployment. The high capital intensity of public sector investment generated a very small amount of
employment. Factory employment absorbed only 2 per cent of the labour force. Myrdal studied the spited
effects of industrialisation on employment and also its back-wash effects in terms of unemployment on the
traditional sector. After a careful examination of the situation, Myrdal observed:
The employment effects of industrialisation cannot be expected to be very large for several decades
ahead, that is, until the region is much more industrialised. For a considerable time the net
employment effects may even be negative. This dimension of the problem, as well as the wider
consequences for labour utilisation out side the modern sector, is overlooked in the vision that sees
industrialisation as the remedy for unemployment and underemployment.

238

The employment effects of industrialisation cannot be expected to be very large for several decades
ahead, that is, until the region is much more industrialised.
Thirdly, the process of industrialisations rapid expansion of large sector resulted in a comparative neglect
of the small and medium sector. This is evidenced by the data of factories classified according to the value
of plant and machinery by the Annual Survey of Industries.
The structure of factories on the basis of plant and machinery reveals that in 199798, very large factories
(642) accounted for about 43 per cent of productive capital, 32 per cent of value added, but only 10 per
cent of total factory employment. Large factories (5,369) accounted for about 35 per cent of productive
capital, 32 per cent of valued added, and nearly 27 per cent of employment. Taking these two groups
together (large and very large factories) accounted for 78 per cent of productive capital, 64 per cent of net
value added, and about 37 per cent of employment. As against it, 59,131 tiny factories (43.6 per cent of the
total) accounted for only 1.4 per cent of productive capital, 4.0 per cent of net value added, and 16.1 per
cent of the employment. Similarly, 56,496 small factories accounted for 41.7 per cent of the total,
contributed 6.8 per cent of productive capital and 12.1 per cent of value added, but 24.7 per cent of
employment. Thus, there is a heavy concentration of productive capital in large and very large factories,
but their relative contribution to employment is much less. In comparison with this, small and tiny
factories accounting for only 6 per cent of productive capital provide 34 per cent of total employment. The
obvious conclusion is: Large and larger factories are capital intensive but small and tiny factories are
employment intensive.

There is a heavy concentration of productive capital in large and very large factories, but their
relative contribution to employment is much less.
Although the government has been proclaiming the policy of developing new growth centres so as to
diversify the industrial structure, its policies have only resulted in the concentration of industrial
development in the metropolitan areas, in the selected states, and among the top capitalists. Obviously, as
a deliberate policy, the promotion of small-scale sector in consumer goods, required for mass consumption,
can reconcile the objectives of higher growth and higher employment. Sufficient attention has not been
paid in this direction during the last four decades of planning. In this connection, the Sixth Plan states:
The expansion of large-scale industries has failed to absorb a significant proportion of the increment to
labour force and led in some cases to a loss of income for the rural poor engaged in cottage industries like
textiles, leather, pottery, etc.

The expansion of large-scale industries has failed to absorb a significant proportion of the increment
to labour force and led in some cases to a loss of income for the rural poor engaged in cottage
industries like textiles, leather, pottery, etc.
To sum up, the process of industrialisation has not generated sufficient growth potential, either in terms of
contribution of output or in terms of employment; and what is really serious is that the rate of growth of
industrialisation has been declining with every decade. The question of choice of technique has, therefore,
to be examined anew with reference to employment.
ROLE OF INDUSTRIES IN THE ECONOMIC DEVELOPMENT

The industries in India can be broadly classified into (1) organised industries and (2) unorganised
industries. The organised industries of the country include steel, petroleum, textiles, cement, fertiliser, jute,
tea, sugar, plywood, engineering, and so on. The unorganised industries of India include the small and
cottage industries, khadi and village industries, and so on. Both these organised and unorganised
industries are quite important for a large country with a huge size of population, and are also playing an
important role in the economy of the country. Steel, petroleum, cement, fertiliser, engineering, and so on
are some of the organised industries which have been playing an important role to sustain the economic
development process of the country.

Both these organised and unorganised industries are quite important for a large country with a huge
size of population, and are also playing an important role in the economy of the country.

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Utilisation of Natural Resources

The utilisation of a huge volume of natural resources has become possible with the development of these
various types of organised and unorganised industries in the country. The country is still passing a huge
volume of various types of minerals, forests, and agro-based resources, which are mostly unutilised or
underutilised.

The country is still passing a huge volume of various types of minerals, forests, and agro-based
resources, which are mostly unutilised or underutilised.
Balanced Sectoral Development

From the very beginning, the Indian economy has been depending too much on agriculture, as a major
portion of the total population and capital are engaged in agriculture, which is again mostly influenced by
some uncertain factors. Flood and drought are common occurrences in the country leading to a failure of
crops in some or other areas of the country regularly. Thus, the Indian economy has been facing an
unbalanced sectoral development, and the growing industrialisation in the country can attain balanced
sectoral development and, thereby, can reduce the too-much dependence of the economy on the
agricultural sector.

The Indian economy has been facing an unbalanced sectoral development, and the growing
industrialisation in the country can attain balanced sectoral development and, thereby, can reduce
the too-much dependence of the economy on the agricultural sector.
Enhanced Capital Formation

With the growing industrialisation of the economy, the volume and rate of capital formation in the country
are gradually being enhanced due to an increase in the level of income and saving capacity of the people in
general.
Increase in National Income

Organised and unorganised industries are jointly contributing a good portion (i.e., around 24.7 per cent in
199798) of the total national income of the country.
Increase in Job Opportunities

Development of industrial sector would increase the job opportunities for a huge number of population of
the country. Setting up of new industrial units can create job opportunities for millions of unemployed
persons and, thereby, can lesser the burden of unemployment problem. In India, more than 19.4 million
persons are employed in the organised, public sector industrial units and nearly, 8.4 million persons are
employed in the organised, private sector industrial units.

In India, more than 19.4 million persons are employed in the organised, public sector industrial units
and nearly, 8.4 million persons are employed in the organised, private sector industrial units.
Lesser Pressure on Land

Agricultural sector of the country is bearing the excessive pressure of population. About 66 per cent of the
total working population of the country is depending on agriculture for its livelihood. Due to such
excessive pressure of population, the agricultural sector remains backward. But the industrial
development of the country can lessen the burden of the agricultural sector by diverting and engaging such
excess population into the industrial sector of the country.

About 66 per cent of the total working population of the country is depending on agriculture for its
livelihood.

240

Supplementing Export

The development of organised industries like tea, jute, and engineering, along with handicrafts industry,
are supplementing a good volume of export requirement of the country. By producing low-cost product,
the industrial sector can diversify the market of their products in different countries and thereby can
promote foreign trade.
Attaining Economic Stability

Too much dependence on agriculture makes the Indian economy an unstable one as it is very much prone
to natural calamities like flood and drought.
Accumulation of Wealth

The development of industries helps the country to accumulate higher volume of wealth for the welfare of
the nations, as the per capita output in industry is much more higher than that of agriculture. Moreover,
the development of industries assists the economy to develop its trading activities, transport,
communication, banking, insurance, and other infrastructural facilities.
Support to Agriculture

Development of industries can provide necessary support towards the development of agricultural sector
of the country. Agro-based industries like tea, jute, cotton textile, sugar, paper, and so on, collect their raw
materials from agriculture and, therefore, provide a ready market for the agricultural implements and
inputs like chemical fertilizers, pesticides, tools, equipments, and so on, which are produced and marketed
by the industrial sector of the country. Industries have played a crucial role in this regard.

Development of industries can provide necessary support towards the development of agricultural
sector of the country.
Development of Markets

Development of different industries has led to the development of markets for various raw materials and
finished products in the country.
Contribution Towards National Defence

Growing industrialisation in the country has facilitated the development of many strategic industries like
iron and steel, aircraft building, shipbuilding, chemical, ordinance factories, and so on. All these have
enriched and strengthened the national defence system of the country.
Contribution to Government Exchequer

With the gradual industrialisation of the economy the contribution of government revenue has also been
widened extensively, due to increasing collection of corporate taxes, sales taxes, and excise duties.
Moreover, the public sector enterprises are contributing a good amount of resources to the Central
exchequer in the form of dividend, corporate taxes, excise duty, and so on. The amount of such
contribution was Rs 22,087 crore in 199293.

The public sector enterprises are contributing a good amount of resources to the Central exchequer in
the form of dividend, corporate taxes, excise duty, and so on.
INDUSTRIES DURING THE PLAN PERIOD

During more than last four decades of planning, industrial pattern in India had undergone a perceptible
change. The following are some of these changes:
Development of Infrastructure

Infrastructural development is extremely essential for attaining a sound industrial development. Thus, in
the initial part of planning in the country, serious efforts were made for building basic infrastructural

241

facilities like power, transport, and communications along with the development of heavy engineering
industries.

Infrastructural development is extremely essential for attaining a sound industrial development.

Development of Heavy and Capital Goods Industries

Since the Second Plan onwards, the government put much emphasis on the development of heavy
machine-building industries and capital goods industries, with the sole intention to strengthen the
industrial base of the country. In the mean time, the country has developed various heavy industries
engaged in the products, engineering goods, and so on.
Enhanced Sectoral Contribution of the Industrial Sector in GDP

During the plan period, the sectoral contribution of industrial sector has gradually increased. Accordingly,
the share of industrial sector, in general (at 198081 prices), in GDP gradually increased from 15.05 per
cent in 195051 to 18.74 per cent in 196061, 22.4 per cent in 197071, 24.4 per cent in 198081 and then,
to 27.8 per cent in 199091, and finally, to 29.20 per cent in 199596.
Rapid Expansions of Consumer Durables Industry in the 1980s

Due to the pursuance of the policy of liberalisation by the government during 1980s, the consumer
durables industries expanded at a faster rate leading to the significant increase in the production of
consumer durables. Accordingly, during the period from 198182 to 199889, the annual average growth
rate in the production of motorcycles and scooters increased by about 19 per cent, that of televisions and
other electronics increased by 28.7 per cent, and that of air conditioners and refrigeration, and so on,
increased by 12.2 per cent. Thus, the annual growth rate of consumer durables increased gradually to 14.4
per cent during 198185 and then, to 16.9 per cent during 198589, and finally, to 37.1 per cent in
199596.
Increasing Stress on Chemicals, Petro-chemicals, and Allied Industries in the 1980s

Another notable change in the industrial pattern during the 1980s was the rapid expansion of chemicals,
petrochemicals, and allied industries. During the 1980s, the average annual growth rate of chemical and
chemical products industries was nearly 11.2 per cent.
Massive Expansion of Public Sector

Another perceptible change in the pattern of industrialisation in the country was the massive expansion of
public sector, during the post-independence period. During the planning year, the total number of public
sector units had increased from just 5 in 1951 to 241 in 1995 and the total amount of capital invested, also
increased considerably from a mere Rs 29 crore to Rs 15,307 crore during the same period. Thus, the
public sector enterprises have been playing an important role in the growing industrialisation of the
country and have led to the increase in the production of basic metals, fuels, non-ferrous metals, fertilizers,
equipment, transportation and communication services, and so on.

Another perceptible change in the pattern of industrialisation in the country was the massive
expansion of public sector, during the post-independence period.
Industrial Development Under the Ninth Plan

The Ninth Plan (19972002) put an adequate stress on the development of the industrial sector. The plan
finally envisaged to achieve an annual growth rate of 8.5 per cent for the industrial sector. But during the
initial period of the Ninth Plan, that is, during 199798 and 199899, the annual growth rate attained in
the industrial sector were 6.6 per cent and 3.5 per cent, supported by a growth rate of only 3.7 per cent in
manufacturing, 6.6 per cent in electricity, and a negative growth rate of () 1.1 per cent in mining.
RECENT INDUSTRIAL GROWTH

242

The first eight months of the current fiscal, that is, 200708, till November 2007, witnessed a moderate
slowdown in the growth of the industrial sector. The slowdown has mainly been on account of the
manufacturing sector. The mining and quarrying sector grew at a faster pace, while the growth in
electricity remained unchanged during AprilNovember 2006. Nonetheless, the 9.2 per cent growth
achieved during AprilNovember 2007 by the industrial sector, when seen against the backdrop of the
robust growth during the preceding four years, suggests that the buoyancy in this sector has continued,
albeit with a degree of moderation (refer to Table 9.4).

The first eight months of the current fiscal, that is, 200708, till November 2007, witnessed a
moderate slowdown in the growth of the industrial sector. The slowdown has mainly been on account
of the manufacturing sector.
Two important changes have occurred in the growth pattern of the use-based industrial categories during
AprilNovember 2007 when compared to the corresponding period in 2006 (refer to Table 9.5). Firstly,
the capital goods have grown at an accelerated pace, over a high base attained in the previous years, which
augurs well for the required industrial capacity addition. Secondly, the consumer durables basket that
forms part of the index of industrial production (IIP) showed a negative growth during the period, thereby,
forcing a visible decline in the growth of the total consumer goods basket, despite a reasonable growth in
the non-durables. The contrasting patterns of growth in capital goods and consumer durables are
presented in Figures 1 and 2.

Table 9.4 IndustryAnnual Growth Rate (%)a

Source: Central Statistical Organisation.

a
Based on the Index of Industrial Production. Base Year: 199394 = 100.
b
Figures for AprilNov of200607.

Table 9.5 Industrial Production by USE-based ClassificationGrowth Rates (%)a

243

Source: Central Statistical Organisation.

a
Based on the Index of Industrial Production. Base Year: 199394 = 100.

Only one out of the 17 two-digit industrial groupsmetal products and partsrecorded a negative growth
during AprilNovember 2007. Of the remaining 16 industry groups, four have registered growth of less
than 5 per cent, five have registered growth rates between 5 per cent and 10 per cent, and four have
registered growth rates between 10 per cent and 15 per cent. The remaining industry groups, viz., other
manufacturing industries, basic metal and alloy industries, wood and wood products, and furniture
and fixtures, which together accounted for 12.8 per cent weight of the IIP, recorded growth rates in excess
of 15 per cent.
About six out of the 17 two-digit industry groups, viz., food products, jute textiles, wood products, leather
products, chemicals and chemical products, and other manufacturing, surpassed during AprilNovember
2007 their respective growth rates in AprilNovember 2006. During the current year, seven industry
groups exceeded the overall rate of growth of manufacturing while the remaining grew at a lesser pace
than the overall growth. Accordingly, substantial changes have occurred in the point of contributions of
different industry groups to the overall industrial growth from AprilNovember 2006 to AprilNovember
2007 (refer to Table 9.6).
The contribution of a product group to the total manufacturing growth is determined by the value of the
index achieved by the product group, its weight, and its current rate of growth. Table 9.6 shows that
industrial items totalling 24 per cent of the total weight in the manufacturing accounted for 72 per cent
growth of the sector during AprilNovember 2007. Interestingly, while one segment of
automobilescommercial vehicles, jeeps, and passenger carscatalysed manufacturing growth, the slump
in the production of motorcycles dampened it. Items like insulated cables/wires, telecom cables, and so on;
wood products; sugar; computer systems and their peripherals; and laboratory and scientific equipments;
drove growth with their outstanding production performance.

Figure 9.1 Growth in Capital Goods (month-on-month)

Figure 9.2 Growth in Consumer Durables (monthon- month)

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Table 9.6 Industrial Production by Broad Industry Groups Growth Rates (%)a

Source: Central Statistical Organisation.

Note: Growth rates are estimated over the corresponding period of the previous year.
aBased on the Index of Industrial Production. Base Year: 199394 = 100.
b
Non-metallic mineral products.

CENTRAL PUBLIC SECTOR ENTERPRISES (CPSES)

There were 244 Central public sector enterprises (CPSEs) under the administrative control of various
ministries/departments as on March 31, 2007, with a cumulative investment of Rs 421,089 crore. The
largest investment is in the industrial sector comprising electricity, manufacturing, mining, and
construction sectors, which is about 62.58 per cent of the total financial investment. There were 16.14 lakh
(excluding casual workers and contract labour) persons employed in 244 CPSEs; nearly one-fourth of the
employed persons were in the managerial and supervisory cadres. The major highlights of the CPSEs
during 200607 are given in Table 9.7.

245

There were 244 Central public sector enterprises (CPSEs) under the administrative control of various
ministries/departments as on March 31, 2007, with a cumulative investment of Rs 421,089 crore.

Table 9.7 Performance of CPSEs During 200607

Source: Department of Public Enterprises.

aPaid-up capital + share application money pending allotment + long-term loans.

The growth in turnover of CPSEs in the manufacturing sector was 64.62 per cent, followed by services
(18.91), mining (11.75), electricity (4.69), and agriculture (0.03) sectors. Out of the net profit of Rs 81,550
crore earned during 200607, the profit of profit-making CPSEs (156) was Rs 89,773 crore and the total
loss of loss-making enterprises (59) stood at Rs 8,223 crore. As many as 44 CPSEs are listed on the stock
exchanges of India. Market capitalisation of all listed CPSEs as a percentage of market capitalisation of
BSE was 18.35 per cent as on March 31, 2007.

The growth in turnover of CPSEs in the manufacturing sector was 64.62 per cent, followed by
services (18.91), mining (11.75), electricity (4.69), and agriculture (0.03) sectors.
The government has delegated enhanced financial and operational powers to the Navaratna, Miniratna,
and other profit-making public sector enterprises. Besides professionalising the Board of Directors of
CPSEs, the government has issued guidelines on corporate governance. The Board for Reconstruction of
Public Sector Enterprises (BRPSE) has been established to advise the government on the revival of sick
and loss-making enterprises. The BRPSE has made recommendations in 47 cases including two for closure
till October 31, 2007. The proposals for revival of 26 CPSEs and closure of two CPSEs have been approved.
The total assistance approved by the government up to December 2007 in this regard is Rs 8,285 crore
including Rs 1,955 as crore cash assistance and Rs 6,330 crore as non-cash assistance.

The government has delegated enhanced financial and operational powers to the Navaratna,
Miniratna, and other profit-making public sector enterprises.
MICRO AND SMALL ENTERPRISES (MSES)

The micro and small enterprises (MSEs) provide employment to an estimated 31.2 million persons in the
rural and urban areas of the country. During 200307, the MSE sector registered a continuous growth in
the number of enterprises, production, employment, and exports (refer to Table 9.8). It is estimated that
there are about 128.44 lakh MSEs in the country as on March 31, 2007, accounting for about 39 per cent of
the gross value of output in the manufacturing sector.

246

The micro and small enterprises (MSEs) provide employment to an estimated 31.2 million persons in
the rural and urban areas of the country.
Under the micro, small, and medium enterprises development (MSMED) Act, 2006, the definitions and
coverage of the MSE sector were broadened, significantly. Further, the Act also defined the medium
enterprises for the first time. Informal estimates suggest the contribution of the MSME sector to be much
higher than those based on the third All India Census. To capture the data for the MSME sector, the fourth
census of MSME sector is being launched.

Table 9.8 Performance of Micro and Small Enterprises

Source: Office of the Development Commissioner (MSME).

Note: Figures in parenthesis indicate the percentage growth over the previous year.
a
Estimates based on the definitions prior to enactment of MSMED Act, 2006.

Recently, major initiatives have been taken by the government to revitalise the MSME sector. They include:
(1) Implementation of the (MSMED) Act, 2006 (refer to Box 9.1). (2) A Package for Promotion of Micro
and Small Enterprises was announced in February 2007. This includes measures addressing concerns of
credit, fiscal support, cluster-based development, infrastructure, technology, and marketing. Capacity
building of MSME associations and support to women entrepreneurs are the other important features of
this package. (3) To make the Credit Guarantee Scheme more attractive, the following modifications have
been made: (a) enhancing eligible loan limit from Rs 25 lakh to Rs 50 lakh; (b) raising the extent of
guarantee cover from 75 per cent to 80 per cent for (i) micro-enterprises for loans up to Rs 5 lakh, (ii)
MSEs operated or owned by women, and (iii) all loans in the north-east region; and (c) reducing one-time
guarantee fee from 1.5 per cent to 0.75 per cent for all loans in the north-east region. (4) The phased
deletion of products from the list of items reserved for exclusive manufacture by micro and small
enterprises is being continued. About 125 items were de-reserved on March 13, 2007, reducing the number
of items reserved for exclusive manufacturing in micro and small enterprise sector to 114. Further, 79
items were de-reserved through a notification dated February 5, 2008.

Recently, major initiatives have been taken by the government to revitalise the MSME sector.

Box 9.1 Implementation of the MSME Development Act, 2006

For implementation of the MSMED Act, 2006, notifications of rules were to be issued by the Central and
state governments. The Central notifications are as follows:

Principal notification in July 2006 that MSMED Act becomes operational from October 2, 2006.
Notification in September 2006 for the Rules for National Board for micro, small, and medium enterprises (NBMSMEs) to be constituted under the Act.
Notification in September 2006 for the constitution of the Advisory Committee.
Notification in September 2006 for classifying enterprises.
Notifications in September and November 2006 declaring DICs in the states/UTs as Authority with which the entrepreneurs memorandum could be filed by the
medium enterprises.

Notification in September 2006 for the form of memorandum to be filed by the enterprises, procedure of its filing, and other matters, incidental thereto.
Notification in October 2006 for exclusion of items while calculating the investment in plant and machinery.
Notification in May 2007 for constitution of NBMSMEs.
Notification in May 2007 for dividing the country into six regions; and, notification in June 2007 for the amendment of EM format.

247

28 states/UTs have notified the authority for filing of entrepreneurs memorandum, 17 states/UTs have notified rules for MSEFCs, and 15 states/UTs have notified
the constitution of MSEFCs.

Tourism

Global tourism continued to move upward during 2006 with the number of international tourist arrivals
worldwide reaching about 846 million (UNWTO [UN World Tourism Organisation] estimates) and
international tourism receipts scaling US$735 bn in the year. The aforesaid variables grew at 5.7 per cent
and 8.4 per cent, respectively, when compared to 2005. The rate of growth of the tourism sector of India
has been way above the world average in the last few years. The year 200607 is the fourth consecutive
year of high growth in foreign tourist arrivals and foreign exchange earnings from tourism (refer to Table
9.9).

The rate of growth of the tourism sector of India has been way above the world average in the last
few years. The year 200607 is the fourth consecutive year of high growth in foreign tourist arrivals
and foreign exchange earnings from tourism.
The prospects for growth of tourism in India are bright. The overall development of tourism infrastructure
coupled with other efforts by the government to promote tourism, such as appropriately positioning India
in the global tourism map through the Incredible India campaign, according greater focus in the newly
emerging markets, such as China, Latin America, and CIS (Commonwealth of Independent States)
countries, and participating in trade fairs and exhibitions will facilitate tourism growth. From the
construction of Wholesale Price Index (WPI) and the Index of Industrial Production (IIP), it is not possible
to distinguish between input and output prices at the two-digit level classification of industrial groups.
This renders it difficult to verify the correspondence between industrial input and output prices. It is
observed that during AprilNovember 2007, the inflation of manufactured products, in general, has been
slightly higher than their levels during the corresponding period in 2006, while the growth has been lower.
At the disaggregated level, for instance, among food products, sugar recorded a phenomenal growth in
production and recorded a negative point-to-point inflation of 16.4 per cent during AprilNovember
2007. Likewise, the growth performance of edible oils has been generally poor, while their inflation has
been 13.2 per cent. The updated figures of inflation in terms of absolute manufacturing price indices can
be further perused from Table 9.10.
Although the overall inflation could be influenced most directly by monetary factors, the rate of price
change in specific segments like manufacturing (and product groups within) would be significantly
affected by changing demand conditions and input prices. In this context, it is the movement in relative
prices rather than absolute prices that becomes more relevant. The relative inflation of a manufacturing
product group has been measured as the rate of growth in the ratio of the WPI of that product group to the
overall WPI. As a rigorous treatment of relative manufacturing prices is beyond the scope of this Section, a
simple presentation of relative prices during 2005 07 is attempted in Table 9.11. While establishing
correspondence between the WPI and the IIP, of the total of 17 two-digit-level IIP groups, four groups
pertaining to textiles are clubbed together. Similarly, basic metals and metal products are combined, while
other manufacturing is omitted.

Table 9.9 Foreign Tourist Arrivals and Foreign Exchange Earnings from Tourism

Source: Ministry of Tourism.

248

Figures worked out using the new methodology.

b
Revised Estimates.
c
Provisional.
dAdvance Estimates.
a

Table 9.10 Profits and Profitability of Corporates

Source: Reserve Bank of India.

Table 9.11 Manufacturing Relative Price Growth (%)

P=Provisional.

Table 9.11 shows that, on the whole, the relative manufacturing inflation that remained negative during
200506 and 200607 turned positive during AprilNovember 2007. Of the 12 industrial product groups
presented in the same table, product groups other than food products, textiles, and transport equipments,
and paper and paper products contributed towards this change.
249

During the period from 200506 to 200708, the rate of growth in relative prices remained negative for
food products, textiles, and transport equipments, while for beverages and tobacco products, wood and
wood products, and non-metallic mineral products, the same has been positive during the period. Among
the textile products, the growth performance has been sluggish, except for jute textiles; yet, their inflation
levels have been mild. In the face of a near-stagnation in the export growth experienced during
AprilSeptember 2007, mainly on account of appreciation of rupee, price adjustments may have been
attempted by the textile industry to remain internationally competitive. The RBI Study of Corporates has
revealed that among the textile corporates, net profit to sales ratio has declined during the first half of the
current fiscal. Among the six product groups exhibiting both increasing and declining relative prices in
different years, the annual fluctuations were most pronounced in the case of leather and leather products.
CORPORATE PROFITABILITY AND INVESTMENT

The profits earned by companies affect their retained earnings and savings rate, their cost of capital, and,
consequently, their investment. The data on corporate profitability, relevant to the industrial sector,
presented here relate to a sample of non-government, non-financial, public limited companies studied and
analysed by the Reserve Bank of India (RBI). Net corporate profits (net of taxes) have increased
considerably for all industrial groups except food products and beverages and textiles during the first half
of the current fiscal. Corporate profitability too has been visibly higher for most industrial groups in the
first half of 200708 when compared to that of 200607 (refer to Table 9.10). Nonetheless, the study has
observed that the rates of growth in sales and the net profits are lower during the first half of 200708,
when compared to those of the first half of 200607. Table 9.10presents the industry groups in the
descending order of the ratio of net profits to sales during the first half of 200708. It shows that there is a
strong industry-specific pattern to the behaviour of corporate profits and profitability.

The profits earned by companies affect their retained earnings and savings rate, their cost of capital,
and, consequently, their investment.
Higher profits, backed by sound balance sheets, would suggest higher capacity to invest, which is reflected
in the corporate investment plans for the medium term. The analysis of the inter-temporal investment
plans of the private corporate sector done by the RBI, on the basis of the study of 1,054 companies, which
were sanctioned assistance by banks and other financial institutions in 200607, brings out a bright
picture. Analysing the phasing of capital expenditure of the companies over the years, the RBI study
estimated that the capital expenditure envisaged for 200607 amounted to Rs 155,038 crore, which shows
an increase of 60.2 per cent over 200506. Further, it is estimated that the total cost of the projects of the
private corporate sector, which were sanctioned assistance in 200607, went up to Rs 283,440 crore
(against Rs 131,299 crore in 200506). Out of this, about 34 per cent has been planned to be spent in
200708. Besides this, an additional capital expenditure has been envisaged from the external commercial
borrowings and domestic equity issuances.

Higher profits, backed by sound balance sheets, would suggest higher capacity to invest, which is
reflected in the corporate investment plans for the medium term.
Foreign Direct Investment

During AprilNovember 2007, foreign direct investment (FDI) equity inflows stood at Rs 45,098 crore
(US$11.14 bn) against Rs 33,030 crore (US$7.23 bn) during AprilSeptember 2006, signifying a growth of
36 per cent in terms of rupee and 54 per cent in terms of US dollar (refer to Table 9.12).
From April 2000 to November 2007, Mauritius remained the predominant source country for FDI to India,
accounting for 44.24 per cent share of the cumulative total, followed by the United States (9.37 per cent),
the United Kingdom (7.98 per cent), and the Netherlands (5.81 per cent).

From April 2000 to November 2007, Mauritius remained the predominant source country for FDI to
India, accounting for 44.24 per cent share of the cumulative total, followed by the United States (9.37
per cent), the United Kingdom (7.98 per cent), and the Netherlands (5.81 per cent).

250

Table 9.12 Cumulative Equity Flow

Period

Rs Crore

US$ mn

August 1991March 2007

232,041

54,628

April 2007November 2007

45,098

11,141

August 1991November 2007

277,139

65,769

April 2000November 2007

216,534

49,070

Source: Department of Industrial Policy and Promotion.

During AprilNovember 2007, the position of Mauritius remained still prominent (42.77 per cent). While
the shares of the United States (5.45 per cent), the United Kingdom (2.19 per cent), and the Netherlands
(4.51 per cent) were lower, those of Japan (5.72 per cent) and Singapore (8.73 per cent) were higher. In the
sectoral distribution of FDI inflows, financial and non-financial services secured a growth of more than
seven times during 200607, to secure the first spot in cumulative inflows, displacing computer software
and hardware. Along with services, the shares of sectors like telecommunications, construction, housing,
and real estate have buoyed during AprilNovember 2007 (refer to Table 9.13).
Of the total FDI received, about 53.57 per cent came through the automatic route of the RBI, while 20.15
per cent came through the government-approval route, and the rest in the form of acquisition of existing
shares. Among the destinations of FDI inflows, Mumbai, New Delhi, Bangalore and Chennai maintained
the first four positions in that order (refer to Table 9.14). During the period of August 1991November
2007, India received about 7,898 approvals for foreign technology transfer, of which 81 were obtained
during 200607 and 52 during AprilNovember 2007.

During the period of August 1991November 2007, India received about 7,898 approvals for foreign
technology transfer, of which 81 were obtained during 200607 and 52 during AprilNovember
2007.

Table 9.13 Sectors Attracting Highest FDI Flows

Source: Department of Industrial Policy and Promotion.

a
Financial and non-financial services.
b
Radio paging, cellular mobile, and basic telephone services.
cConstruction, including roads and highways.

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Table 9.14 Region-wise Break-up of FDI Received (April 2000 to November 2007)
Regional Office of the RBI
Mumbai

New Delhi

States Covered

Share in FDI Inflows (%)

Maharashtra, Dadra and

Nagar Haveli, Daman and Diu

25.14

Delhi, parts of Uttar Pradesh

22.68

and Haryana
Bangalure

Karnataka

7.03

Chennai

Tamil Nadu and Puducherry

6.69

Hyderabad

Andhra Pradesh

4.12

Ahmedabad

Gujarat

2.84

Source: Department of Industrial Policy and Promotion.

FDI Policy

As a result of the comprehensive review of the FDI policy, wide-ranging policy changes were notified in
2006, like extending automatic routes, increasing equity caps, removing restrictions, simplifying
procedures, and extending the horizon of FDI to vistas like single-brand product retailing and agriculture.
Of late, several steps have been initiated to facilitate FDI inflows which, among other things, include:
raising the equity cap in civil aviation, organising Destination India events in association with CII
(Confederation of Indian Industry) and FICCI (Federation of Indian Chambers of Commerce & Industry),
with a view to attract investments, activating the Foreign Investment Implementation Authority (FIIA)
towards a speedy resolution of investment-related problems; setting up of National Manufacturing
Competitiveness Council (NMCC) to provide a continuing forum for policy dialogue, to energise the
growth of manufacturing; regular interactions with foreign investors through
bilateral/regional/international meets and meetings with individual investors; and making the web site of
the Department of Industrial Policy & Promotion (www.dipp.nic.in) more user-friendly with an online chat
facility. About 4,500 investment-related queries have been replied during 200708.

As a result of the comprehensive review of the FDI policy, wide-ranging policy changes were notified
in 2006, like extending automatic routes, increasing equity caps, removing restrictions, simplifying
procedures, and extending the horizon of FDI to vistas like single-brand product retailing and
agriculture.
Industrial Credit

The overall industrial credit, which slackened in the first half of 200708, is now showing signs of
recovery. During AprilAugust 2007, the outstanding gross deployment of bank credit increased only by
2.8 per cent from end-March 2007, while the corresponding increase stood at 8.5 per cent during 2006.
However, the gap between the rates of credit growth between AprilNovember 2006 and AprilNovember
2007 has substantially narrowed (refer to Table 9.15).
Table 9.15 further shows that there is a strong sectoral pattern to the growth of industrial credit. Among
the sectors that experienced high rates of production growth during AprilNovember 2007, credit growth
also has been robust for jute textiles, leather and leather products, basic metals, and engineering goods.
The slackening of the credit growth in mining and quarrying, and wood products has occurred over a high
base achieved by the end-March 2007. Encouragingly, the outstanding credit to transport equipments
group, which has witnessed a slowdown in production, has grown significantly from the end-March 2007.
Besides, the near-doubling of the rate of credit growth to infrastructure augurs well for many
infrastructure-dependent industrial groups and for the economy as a whole.
Industrial Relations
252

The continued decline in the number of strikes and lockouts indicates improved industrial relations. The
number of strikes and lockouts, taken together, was down by 5.7 per cent in 2006 (refer to Table 9.16). As
per the available information, during the current year till November 2007, West Bengal experienced the
maximum instances of strikes and lockouts followed by Tamil Nadu and Gujarat. Industrial disturbances
were concentrated mainly in textiles, financial intermediaries (excluding insurance and pension fund),
engineering, and chemical industries.

The continued decline in the number of strikes and lockouts indicates improved industrial relations.
The number of strikes and lockouts, taken together, was down by 5.7 per cent in 2006.

Table 9.15 Industry-wise Deployment of Gross Bank credit

Source: Reserve Bank of India.

Table 9.16 Strikes and Lockouts (mandays lost: in million)

Source: Labour Bureau, Shimla

Note: Total may not necessarily tally due to roundingoff of figures.
P: Provisional.

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(January to November).
INDUSTRIAL SICKNESS

The Board for Industrial and Financial Reconstruction has so far received 7,158 references under the Sick
Industrial Companies (Special Provisions) Act (SICA), 1985. These references include 297 from Central
and state public sector undertakings (CPSUs and SPSUs). Out of the total references received, 5,471 were
registered under Section 15 of the SICA, 1,857 references were dismissed as non-maintainable under the
Act, 825 rehabilitation schemes, including 13 by AAIFR/ Supreme Court, were sanctioned, and 1,337
companies were recommended to be wound up. Of the 297 references for PSUs, the references of 92
CPSUs and 122 SPSUs were registered up to December 31, 2007.

The Board for Industrial and Financial Reconstruction has so far received 7,158 references under the
Sick Industrial Companies (Special Provisions) Act (SICA), 1985.
ENVIRONMENTAL ISSUES

The development of a diversified industrial structure, based on a combination of large and small-scale
industries, along with growing population, has led to growing incidence of air, water, and land degradation.
Industrial effluents are a major source of water pollution. As regards solid wastes, flyash, phospho-gypsum,
and iron and steel slag are the main forms of solid wastes generated. Out of 2,744 industries identified
under the 17 categories of polluting industries, 1,991 units have set up pollution control devices to comply
with the standards, 339 units have been closed, and action has been taken against the 414 defaulting units
up to June 2007 (refer to Table 9.17).
Policy Initiatives

Following the recommendations of the Swaminathan Committee and on reviewing the Coastal Regulation Zone (CRZ) notification, so as to enable an
environmentally sustainable use of coastal resources, pilot studies on drawing up the vulnerability line for CRZ were initiated and are continuing.

The Prime Ministers Council on Climate Change was constituted in June 2007 to coordinate national action for assessment, adaptation, and mitigation of climate
change. An Expert Committee the on impact of climate change has also been set up to study the impact of anthropogenic climate change and to identify measures required
therein.

Under the Clean Development Mechanism (CDM), set up under the Kyoto Protocol, India has registered 283 (so far the highest by any country) out of 812 total
projects registered by the CDM Board till October 2007.

Table 9.17 Projects Appraised for Environmental Clearence During AprilDecember 2007

Source: Ministry of Environment and Forests.

Note: This includes proposals which were accorded environment clearance as per provisions of the EIA
Notification, 2007.

CHALLENGES AND OUTLOOK

The industrial sector recorded a robust rate of growth in excess of 8 per cent during 200405 and
200506, and scaled an appreciable 11.6 per cent growth during 200607. The current fiscal till
November 2007 sustained the momentum, albeit with a slight moderation in certain sectors. While
industrial groups like food products, jute textiles, wood products, leather products, chemicals and
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chemical products, and other manufacturing have grown at an accelerated pace, when compared to
200607, industries like non-metallic mineral products, cotton textiles and textile products, automobiles,
paper products, and metal products have suffered from a significant slackening in growth. It is the visible
downslide in the production of consumer durables that has been subjected to anxious commentaries from
different quarters. If the consumer goods sector had grown at the pace at which it had grown during
200607, the overall industrial growth till November in the current year would have closed in on that of
the previous year.

The industrial sector recorded a robust rate of growth in excess of 8 per cent during 200405 and
200506, and scaled an appreciable 11.6 per cent growth during 200607.
The growth of textiles, with very low import intensity, may have been affected adversely by the recent
appreciation of the rupee against the US dollar. The government has promptly taken measures to mitigate
the incidence of the slowdown. The downslide in consumer durables can partly be attributed to the
constrained demand conditions arising from adjustments in policy variables like the interest rates. Yet, it
needs to be appreciated that the automobile segments, including passenger cars, jeeps, scooters, and
mopeds have buoyed during the current fiscal. Besides, the current series of the IIP based on the product
baskets and weights assigned in 199394 has serious limitations in fully capturing the post-reform
dynamics of the consumer durables sector. This IIP series is under revision. In short, the slowdown, shown
by the available data on consumer durables, may not, in itself, be a cause of serious concern in the long run,
provided the overall buoyancy in growth and income is maintained.

The growth of textiles, with very low import intensity, may have been affected adversely by the recent
appreciation of the rupee against the US dollar.
The slowdown, shown by the available data on consumer durables, may not, in itself, be a cause of
serious concern in the long run, provided the overall buoyancy in growth and income is maintained.
There are a number of positive developments that brighten the industrial outlook in the medium term.
First, there has been a commendable growth in the capital goods sector, especially in industrial machinery,
which, along with strong imports of capital goods, augurs well for the much-required industrial capacity
addition. Secondly, the inherent strength of industrial corporates, manifested in the increase in profits and
profitability and strong investment plans, confirms the strength of the growth prospects in the medium
term. Thirdly, the high-investment plans made for infrastructure during the Eleventh Five-Year Plan are
expected to gradually alleviate the infrastructural constraints to industrial development. Moreover, the
bourgeoning direct investment inflows in the liberalised-investment regime supplement the domestic
investment to a great extent.
The real challenge lies in strengthening the foundations for a sustained industrial growth. One of the
biggest challenges to sustaining and stepping up the industrial growth lies in removing the infrastructural
impediments in roadboth rural and urbanrail, air, and sea transport and power. The growth in
infrastructure not only alleviates the supply-side constraints in industrial production, but also stimulates
the additional, domestic demand required for the industrial growth. Another issue in the industrial growth
is the swiftness and efficacy with which the skill deficit felt in many areas of manufacturing is bridged. This
will facilitate research and development and technological innovations, which are urgently called for, in
important industries like chemicals, automotives, and pharmaceuticals.

The real challenge lies in strengthening the foundations for a sustained industrial growth. One of the
biggest challenges to sustaining and stepping up the industrial growth lies in removing the
infrastructural impediments in roadboth rural and urbanrail, air, and sea transport and power.
Further, there is an imperative need to facilitate the growth of labour-intensive industries, especially by
reviewing labour laws and labour market regulations. This is, particularly, important in reversing the
current, not-so-encouraging, manufacturing employment trends. Besides, the growth in many industries is
constrained by the acute scarcity/depleting reserves of important raw materials like coal, iron ore, natural
gas, and forest resources. The Eleventh Five-Year Plan has placed its focus on these challenges. While the
strategies for the industrial development set out by the Eleventh Five-Year Plan document are broadly

255

tailored to address these issues, sectorally differentiated initiatives may be required for skill upgradation,
supply augmentation of inputs, and promotion of research and development.

Further, there is an imperative need to facilitate the growth of labour-intensive industries, especially
by reviewing labour laws and labour market regulations.
KEY WORDS

Industrialisation
Underdeveloped Countries
Growth Through Trade
Trade Gap
Industrial Linkages
Primary Products
Consumer Goods
Capital Goods
Infrastructural Facilities
Balanced Sectoral Development
Enhanced Capital Formation
Gross Domestic Saving (GDS)
Gross Domestic Capital (GDC)
Infrastructure
Private Sector
Joint Sector

QUESTIONS

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
a.
b.
c.
d.

What do you mean by industrialisation? Explain the pattern of industrialisation in India since independence.
Discuss the relative role of public and private sectors in the industrial development in India.
Explain the inadequacies of the programmes of industrialisation in India and suggest the measures to overcome these inadequacies.
What role do industries play in the economic development of the country.
How did the planning in India contribute for the development of industries in India.
Discuss the recent industrial growth and its impact on the economic development.
Discuss the contribution of PSUs in the economic development of the country.
What role did the small-scale industry play for the employment generation of the country.
State the initiatives taken by the government for the development of micro and small enterprises.
Discuss the FDI policy and its contribution for the industrial development of the country.
Discuss the state of tourism industry in India. What initiatives are required from the government for its development.
Write short notes on:

Industrial Credit.
Industrial Sickness.
Industry and Environment.
Performance of Corporate Sector.
REFERENCES

Bala, I. (2003). Foreign Resources and Economic Development. New Delhi: Discovery.
Budget Document, Government of India.
Government of India. Economic Survey of India 200708. New Delhi: Ministry of Finance.
Misra, S. N. (2004). Indian Economy and Socio-economic Transformation: Emerging Issuses and Problems: Essays in Honour of Professor Baidyanath Misra.
New Delhi: Deep and Deep Publications.

Travedi, I. V. and R. Jatana (2004). Economic Environment of India. Jaipur: University Book House.

256

CHAPTER 10
Foreign Trade Policy and Balance of Payments
CHAPTER OUTLINE

Foreign Trade Policy and Balance of Payments

Main Features of Indias Trade Policy
Phases of Indias Trade Policy
Indias Foreign Trade Policy, 1991
Major Trade Reforms
Assessment of the New Trade Policy
Balance of Payments (BoP)
Current Account Deficit (CAD)
Capital Account Deficit
Other Non-debt Flows
Key Words
Questions
References

FOREIGN TRADE POLICY AND BALANCE OF PAYMENTS

Advanced countries like Germany, the United States, Japan, and others have used their trade policy to (a)
restrict their imports and provide a sheltered market for their own industries so that they could develop
rapidly and (b) promote their exports so that their expanding industries could secure foreign markets. In
other words, trade policy has played a significant role in the development of the advanced countries. India,
however, did not have a clear trade policy before independence, though some type of import
restrictionknown as discriminating protectionwas adopted since 1923 to protect a few domestic
industries against foreign competition. It was only after independence that a trade policy, as part of the
general economic policy of development, was formulated by India.

Trade policy has played a significant role in the development of the advanced countries.

It was only after independence that a trade policy, as part of the general economic policy of
development, was formulated by India.
MAIN FEATURES OF INDIAS TRADE POLICY

On the import side, India has been in a disadvantageous position vis--vis advanced countries, which are
capable of producing and selling almost every commodity at low prices. This meant that India could not
develop any industry without protecting it from any foreign competition. Import restriction, commonly
known as protection, was thus essential to protect domestic industries and to promote industrial
development. Since independence, the Government of India has broadly restricted the foreign competition
through a judicious use of import licensing, import quotas, import duties and, in extreme cases, even
banning the import of specific goods. The Mahalanobis strategy of economic development through heavy
industries, which India adopted since the Second Five-Year Plan, called for (a) banning or keeping to the
minimum the import of non-essential consumer goods, (b) comprehensive control of various items of
imports, (c) liberal import of machinery, equipment, and other developmental goods to support heavy
industry-based economic growth, and (d) a favourable climate for the policy of import substitution.

Since independence, the Government of India has broadly restricted the foreign competition through
a judicious use of import licensing, import quotas, import duties and, in extreme cases, even banning
the import of specific goods.
On the export side, to pay for its essential imports and to minimise the dependence on foreign countries,
expansion of exports was very essential. It was also realised that the market for many goods within India
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may not be adequate to absorb that entire domestic production and, hence, a search for markets elsewhere
was a necessity. The Indian government had to play an important role to promote exports through setting
up of trading institutions, and through fiscal and other incentives. Vigorous export promotion was
emphasised after the Second Plan to earn foreign exchange, to overcome the acute foreign exchange crisis.
In the 1970s, importance of export promotion was again emphasised because of mounting debt-service
obligations and the goal of self-reliance (with zero net aid).

Vigorous export promotion was emphasised after the Second Plan to earn foreign exchange, to
overcome the acute foreign exchange crisis.
PHASES OF INDIAS TRADE POLICY

Five distinct phases in Indias trade policy can be noted as follows: the first phase pertains to the period
from 194748 to 195152; the second phase covering the period from 195253 to 195657; the third phase
from 195758 to June 1966; the fourth phase started after devaluation of the rupee in June 1966; and the
last phase after 197576.

Five distinct phases in Indias trade policy can be noted as follows: the first phase pertains to the
period from 194748 to 195152; the second phase covering the period from 195253 to 195657; the
third phase from 195758 to June 1966; the fourth phase started after devaluation of the rupee in
June 1966; and the last phase after 197576.
During the first phase up to 195152, India could have liberalised imports, but on account of the
restrictions placed by the United Kingdom on the utilisation of the sterling balances, it had to continue
wartime controls. Since our balance of payments (BoP) with the dollar area was heavily adverse, an effort
was made to screen imports from hard-currency areas and boost up exports to the above dollar area, so as
to bridge the gap. This also necessitated India to devalue her currency in 1949. By and large, the import
policy continued to be restrictive during this period. Besides this, restrictions were also placed on exports
in view of the domestic shortages.

The import policy continued to be restrictive during this period.

During the second phase (from 195253 to 195657), the liberalisation of foreign trade was adopted as the
goal of trade policy. Import licences were granted in a liberal manner. An effort was also made to
encourage exports by relaxing export controls, reducing export duties, abolishing export quotas, and
providing incentives to exports. Liberalisation led to a tremendous increase in our imports, but exports did
not rise appreciably. Consequently, there was a fast deterioration in our foreign exchange reserves (FERs).
This necessitated a reversal of trade policy.

Liberalisation led to a tremendous increase in our imports, but exports did not rise appreciably.
During the third phase, which began in 195657, the trade policy was re-oriented to meet the
requirements of the planned economic development. A very restrictive, import policy was adopted, and the
import controls further screened the list of imported goods. On the other hand, a vigorous export
promotion drive was launched. The trade policy assumed that a lasting solution to the BoP problem lies in
the promotion and diversification of our export trade. Not only should the export of traditional items be
expanded, but also the export of newer items should be encouraged. Similarly, import-substitution
industries should also be encouraged so that dependence on foreign countries be lessened. It was in this
period that Indias trade policy was thoroughly reviewed by the Mudaliar Committee (l962).

The trade policy assumed that a lasting solution to the BoP problem lies in the promotion and
diversification of our export trade.
The fourth phase started after the devaluation of the rupee in June 1966. During this period, the trade
policy attempted to expand exports and strangely liberalised imports, too. Actually, export promotion was
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given a big boost through the acceptance and implementation of the recommendations of the Mudaliar
Committee (1962). The major recommendations included an increased allocation of raw materials to
export-oriented industries, income-tax relief on export earnings, export promotion through import
entitlement, removal of disincentives, and setting up of Export Promotion Advisory Council, a Ministry of
International Trade, and so on. When these export-promotion measures did not succeed and adverse BoP
persisted, the Government of India undertook devaluation of the rupee in 1966, as a major step to check
imports and boost exports. Initially, devaluation was not successful and the adverse BoP worsened during
the annual plans. But during the Fourth Plan, the trade policy was quite successful in restricting imports
and promoting exports. This period continued till 197576.

During the Fourth Plan, the trade policy was quite successful in restricting imports and promoting
exports.
During the last phase (197576 onwards), the government adopted a policy of import liberalisation, with a
view to encourage export promotion. During the Janata rule (197779), import liberalisation was also
adopted to augment domestic supply of essential goods and to check rise in the price level. ImportExport
Policy of the Indian government attempted to achieve such objectives as: (i) to provide further impetus to
exports, (ii) to provide support to the growth of indigenous industry, (iii) to provide for optimum
utilisation of the countrys resource endowments, especially in manpower and agriculture, (iv) to facilitate
technology upgradation with a special emphasis on export promotion and energy conservation, (v) to
provide a stimulus to those engaged in exports and, in particular, to manufacturing units contributing,
substantially, to the export efforts, and (vi) to effect all possible savings in imports. Thus, it is clear that the
purpose of trade policy has been to stimulate economic growth and export promotion via import
liberalisation.

It is clear that the purpose of trade policy has been to stimulate economic growth and export
promotion via import liberalisation.
Import liberalisation, along with export promotion, at a time, when (a) prices of imported goods were
rising much faster and (b) foreign markets for Indian goods were depressed, has resulted in huge adverse
balance of trade and payments from 197980 onwards. Instead of curtailing imports, the Tendon
Committee (1981) recommended a policy of vigorous export promotion and further import liberalisation,
as a means of export promotion. The IMF Loan (1981) had also stipulated that India should use export
promotion and not import restriction, as the strategy for controlling adverse BoP. Such a trade policy
forced India almost into a debt trap, and the Indian bureaucrats were knocking at the doors of Aid India
Consortium and other advanced countries tried to bail India out.
While framing the ExportImport Policy (1985), the government was guided by the recommendations of
the Abid Hussain Committee. Whereas the Committee emphasised the need for striking a balance between
export promotion and import substitution, the government, in its wave of import liberalisation, permitted
a much greater quantum of imports in the name of export promotion and capital goods imports for
technological upgradation. Thus, grave distortions appeared in the process of implementation of the
recommendations of the Committee.

While framing the ExportImport Policy (1985), the government was guided by the
recommendations of the Abid Hussain Committee.
The first major attempt at liberalisation was made by the Rajiv Gandhi government. As a result, in the four
years from 198586 to 198990, exports surged forward, and the period witnessed a recorded average
annual growth of 17 per cent in dollar terms. Unfortunately, and unaccountably, the exports declined by 9
per cent in 199091.

The first major attempt at liberalisation was made by the Rajiv Gandhi government.
INDIAS FOREIGN TRADE POLICY, 1991

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The Commerce Minister, Mr P. Chidambaram, announced a major overhaul of trade policy on July 4, 1991,
entailing (i) suspension of cash-compensatory support, (ii) an enlarged and uniform REP (replenishment)
rate of 30 per cent of FOB (free on board) value, (iii) abolition of all supplementary licences, except in the
case of small-scale sector and producers of life-saving drugs/equipments, (iv) abolition of unlisted OGL
(open general licence), and (v) removal of all import licensing for capital goods and raw materials, except
for a small negative list in three years.

The then Commerce Minister, Mr. P. Chidambaram, announced a major overhaul of trade policy on
July 4, 1991.
Rationale of Foreign Trade Policy

Giving the rationale for the new policy, the Commerce Minister noted as follows: for several decades, trade
policy in India has been formulated in a system of administrative controls and licences. As a result, we
have a bewildering number and a variety of lists, appendices, and licences. This system has led to delays,
wastage, inefficiency, and corruption. Human intervention, described as discretion at every stage, has
stifled enterprise and spawned arbitrariness.
The government, therefore, decided that while all essential imports like POL (petroleum, oil, and
lubricants), fertilizer, and edible oil should be protected, all other imports should be linked to exports by
enlarging and liberalising the REP licence system. For this purpose, the following major reforms were
announced.

The government, decided that while all essential imports like POL (petroleum, oil, and lubricants),
fertilizer, and edible oil should be protected, all other imports should be linked to exports by enlarging
and liberalising the REP licence system.
MAJOR TRADE REFORMS

1.
2.
3.
4.
5.
6.
7.
8.

REP will become the principal instrument for export-related imports. To describe REP as a licence is a misnomer. Hence, it will now be called exim scrip and can
be freely traded.
All exports will now have a uniform REP rate of 30 per cent of the FOB value. This is a substantial increase from the present REP rates, which vary between 5 per
cent and 20 per cent of FOB value.
The new REP scheme gives a maximum incentive to exporters whose import intensity is low. For example, agricultural exports, which earlier had very a low REP
rate of 5 per cent or 10 per cent, will now gain considerably.
All supplementary licences shall stand abolished except in the case of the small-scale sector and for producers of life-saving drugs/equipment. These two categories
will be entitled to import both under OGL or through supplementary licences.
All additional licences granted to export houses shall stand abolished. However, export houses will enjoy a REP rate of 30 per cent of FOB value, and will be
granted an additional REP rate of 5 per cent of FOB value.
All items now listed in the Limited Permissible List. OGL items would, hereafter, be imported through the REP route.
The exim policy contains a category known as Unlisted OGL. This category stands abolished and all items falling under this category may be imported only through
the REP scheme.
Advance licensing has been an alternative to the REP route for obtaining imports for exporters. It is expected that many exporters will find the REP route more
attractive now. However, for exporters who wish to go through advance licensing, this route will remain open. The REP rate for advance licence exports is being increased

9.
10.
11.
12.
13.

from 10 per cent of NFE (net foreign exchange earnings) to 20 per cent of NFE.
In three years time, our objective will be to remove all import licensing for capital goods and raw materials, except for a small negative list.
The goal of the government is to decanalise all items, except those that are essential.
In the light of the substantial liberalisation of the trade regime, and also the recent changes in exchange rates (after devaluation), cash-compensatory scheme (CCS)
was abolished from July 3, 1991.
In order to make this system more transparent and free, it is proposed that financial institutions may also be allowed to trade in exim scrips.
In threefive years, the Commerce Minister hoped that the rupee will become fully convertible on the trade account.

On August 3, 1991, the Commerce Minister announced a new package of incentives for export-oriented
units (EOUs) and export-promotion zones (EPZs) by granting higher rates of exim scrips. The new
package stated:
1.
2.

The basic rate at which exim scrips would be issued against exports would be 30 per cent of foe value. Exports to hard-currency areas will be eligible for exim scrips
that are valid for hard-currency imports while exports to rupee-payment areas will be issued exim scrips that are valid for imports from the latter areas only.
The basic rate of 30 per cent is inadequate for exports of certain products, such as value-added agricultural products, electronics, bulk drugs and marine products,
formulations, and certain categories of advanced engineering goods. These products will be eligible for an additional exim-scrip entitlement of 10 percentage points, taking

3.
4.

the total exim-scrips rate to 40 per cent of FOB value.

The EOUs and EPZ units, and exim scrips at 3096 of NFE earnings would also be available.
The 30 per cent of NFE rate of exim scrips would also be applicable to service exports, including software exports, which is a thrust area. The definition of services
under this category included other services, such as services of architects, textile designers, artists, management consultants, lawyers, and so on. The benefit will be available
to services exported by resident Indians for which remittances are made to India.

260

On August 3, 1991, the Commerce Minister announced a new package of incentives for
export-oriented units (EOUs) and export-promotion zones (EPZs) by granting higher rates of exim
scrips.

Table 10.1 Environment (annual % change unless otherwise noted)

Source: World Economic Outlook, October 2007, IMF.

The growing influence of global developments on the Indian economy was manifested in the surge in
capital inflows in 200708, a phenomenon observed earlier in the other emerging market economies. This
is a natural concomitant of the robust, macro-economic fundamentals like high growth, relative stability in
prices, healthy financial sector, and high returns on investment. Sometimes, it also reflects the rigidities in
the economy, particularly the interest differentials. Even as the external environment remained conducive
to the nations growth, the problems of managing a more open capital account came to the fore, in terms of
the economy approaching the limits of its absorptive capacity, with the pace of adjustment becoming
somewhat difficult in the short run. On the other side, the nations rapid growth, in conjunction with the
other major emerging market economies, helped to keep the global growth momentum strong.

The growing influence of global developments on the Indian economy was manifested in the surge in
capital inflows in 200708, a phenomenon observed earlier in the other emerging market economies.
Growth in the world trade volume of goods and services (G&S) decelerated from 9.2 per cent in 2006 to
6.6 per cent in 2007, and is projected to remain around the same levels in 2008 (refer to Table 10.1). The
world trade prices, in contrast, were projected to rise sharply for manufactures, but likely to moderate for
oil and other commodities. However, with a sharp rise in oil prices of late, the growth in value terms may
remain high. With broad-based growth and relative stability, the pace of net private capital flows to
emerging market economies and developing countries accelerated with a growth of 124 per cent in 2007,
which posed adjustment problems in these economies.

Growth in the world trade volume of goods and services (G&S) decelerated from 9.2 per cent in 2006
to 6.6 per cent in 2007.
ASSESSMENT OF THE NEW TRADE POLICY

The New Trade Policy (NTP), 1991 aimed to cut down administrative controls and barriers, which act as
obstacles to the free flow of exports and imports. The basic instrument developed by the policy is the exim
scrip in place of REP licences. The purpose of this instrument is to permit imports to the extent of 30 per
cent on 100 per cent realisation of export proceeds. Obviously, the purpose is to bridge the BoP gap. The
trade policy has streamlined various procedures for the grant of advance licences, as also permit imports,
through exim scrips routes.

261

The New Trade Policy (NTP), 1991 aimed to cut down administrative controls and barriers, which act
as obstacles to the free flow of exports and imports.
Moreover, during 198889, out of the total imports of the order of Rs 34,202 crore, the imports into
government account were Rs 16,775 crore, that is, 49 per cent of the total. These canalised imports would
not be affected by the exim scrips instrument. Thus, the exim scrips would only affect half of the imports.
This may be the probable reason for the Commerce Minister to undertake decanalisation of imports, so
that the amenable area of the NTP could be enlarged.
Since the time of Mudaliar Committee in 1962, the country has been fed with the slogan of export
promotion through import entitlement. Various instruments have been forged, thereafter, but a long-term
view only underlines the fact that the country had failed to check the faster growth of imports than that of
exports during the last three decades. Under one pretext or another, the import window was opened much
wider, and this has continued. There is a strong need to exercise extreme caution in liberalising imports,
more so, inessential imports.

There is a strong need to exercise extreme caution in liberalising imports, more so, inessential
imports.
To conclude, Indias trade policy since independence has been used as part of general economic policy to
develop the country and to diversify the economy. Initially, it took the form of restricting the imports and
boosting the exports. It also took the form of organising international trade and bilateral and multilateral
trade agreements. In the later years, trade policy has taken the form of export promotion through import
liberalisation. Formulated by bureaucrats under the influence and guidance of Indian business houses and
multinational giants, Indias trade policy did have an important influence on the rapid development of the
country, but it is basically responsible for leading the country into the classical debt trap.

Formulated by bureaucrats under the influence and guidance of Indian business houses and
multinational giants, Indias trade policy did have an important influence on the rapid development
of the country, but it is basically responsible for leading the country into the classical debt trap.
BALANCE OF PAYMENTS (BOPS)

The BoP of India is classified into (a) BoP on current account and (b) BoP on capital account. The current
account of the BoP of India includes the following three items: (a) visible trade relating to imports and
exports, (b) invisible items, viz., receipts and payments for such services as shipping, banking, insurance,
travel, and so on, and (c) unilateral transfer such as donations. The current account shows whether India
has a favourable balance or deficit BoP in any given year. The BoP on capital account shows the
implications of current transactions for the countrys international financial position. For instance, the
surplus and the deficit of the current account are reflected in the capital account, through changes in the
FERs of country, which are an index of the current strength or weakness of a countrys international
payments position.

The BoP of India is classified into (a) BoP on current account and (b) BoP on capital account.
The strength, resilience, and stability of the countrys external sector are reflected by various indicators,
which include a steady accretion to reserves, moderate levels of current account deficit (CAD), changing
composition of capital inflows, flexibility in exchange rates, sustainable external debt levels with elongated
maturity profile, and an increase in the capital inflows. The current account has followed an inverted U
shaped pattern during the period from 200102 to 200607, rising to a surplus of over 2 per cent of GDP
(gross domestic product) in 200304. Thereafter, it has returned close to its post-1990s reform average,
with a CAD of 1.2 per cent in 200506 and 1.1 per cent of GDP in 200607.

The current account has followed an inverted U shaped pattern during the period from 200102 to
200607.

262

The capital inflows, as a proportion of GDP, have been on a clear uptrend during the six years (from
200102 to 200607) of this decade. They reached a high of 5.1 per cent of GDP in 200607, after a
somewhat modest growth rate of 3.1 per cent in 200506. The net result of these two trends has been a
gradual rise in reserve increase to reach 4 per cent of GDP in 200607 (refer to Figure 10.1). With capital
inflows exceeding financing requirements, FER increase was of the order of US$15.1 bn in 200506 and
US$36.6 bn in 200607 (refer to Table 10.2). As a proportion of GDP, the external debt was 17.2 per cent,
in 200506, and 17.9 per cent 200607, respectively.

Figure 10.1 Current a/c Balance, Total Capital a/c, and Reserve Change

Figure 10.2 Trade Balance, G&S Balance, and Non-factor Services (net)

The current account, after being in surplus during the period from 200102 to 200304, reverted to a
deficit in 200405. This was despite a robust growth in net invisible account fuelled by software exports
and private transfers. The CAD is attributable to the widening trade deficit, driven primarily by the rise in
the international prices of petroleum products and gold. Thus, large merchandise trade deficit coexists
with a lower deficit on the G&S, because of the surplus on non-factor services. Even in the years when
there were some surpluses on the current account, India had deficit on G&S account and a relatively larger
trade deficit too (refer to Figure 10.2).

Even in the years when there were some surpluses on the current account, India had deficit on G&S
account and a relatively larger trade deficit too.
The rising trend in capital inflows has been accompanied by a change in its composition. The most
welcome feature was the rise in gross foreign direct investment (FDI) inflows of US$23.0 bn in 200607.
With FDI outflows also increasing steadily over the last five years, the overall net flows have moderated.
The portfolio investment in the first half of 200607 was lower in comparison, because of the initial slump
in equity markets. Debt flows, primarily, external commercial borrowings (ECBs), shot up from a level of
0.7 per cent of GDP in 199091 to 1.8 per cent in 200607. Thus, the rupee faced upward pressure in the
second half of 200607; but on an overall yearly average basis, it depreciated by 2.2 per cent.

The rupee faced upward pressure in the second half of 200607; but on an overall yearly average
basis, it depreciated by 2.2 per cent.
CURRENT ACCOUNT DEFICIT (CAD)

263

CAD mirrors the savinginvestment gap in the national income accounts and, thus, constitutes foreign
savings. The challenge before the emerging market economies is to leverage foreign savings, and to
promote domestic growth without having the long-term consequences of external payment imbalances.
However, CADs, per se, need not necessarily enhance the productive capacity and, thus, overall the GDP
growth. This would depend on the underlying component factors that are leading to the CAD. The
distinction between gross capital inflow and net inflow is useful. As the latter must equal the CAD, there is
no way in which the net use of foreign savings can increase without an increase in the CAD. The gross
inflow can, however, increase to the extent, that it is offset by a gross outflow in the form of build-up of
FERs, a reduction in government external debt, or by an outward investment, by entrepreneurs. Higher
gross inflows have value even if the net flows do not increase to the same extent, as they can improve the
competition in the financial sector, the quality of intermediation, and the average productivity of
investment, and, thus, raise the growth rate of the economy. The challenge before the government is to
maximise these benefits while minimising the costs of exchange-rate management.

The challenge before the emerging market economies is to leverage foreign savings, and to promote
domestic growth without having the long-term consequences of external payment imbalances.
Figure 10.3 shows that the rise and fall of the current account balance, during the period from 200001 to
200607, has been driven largely by the G&S balance, with the two having, virtually, the same pattern as a
proportion of GDP. The surplus from factor income including remittances, which fluctuated between 2 per
cent and 3 per cent of GDP has helped to moderate the substantial deficit on the trade account. Both the
trade (G&S) balance and the factor surplus had improved between 200001 and 200304, leading to an
improvement of the current account, and both reversed direction, thereafter, resulting in a declining trend
in the current account. In the past two years, the CAD, trade (G&S) deficit, and factor surplus have
averaged 1.2, 3.5, and 2.0 per cent of GDP, respectively (refer toTable 10.3).

Table 10.2 Balance of Payments: Summary

Source: Reserve Bank of India.

PR: Partially Revised; P: Preliminary; R: Revised.
a
Figures include receipts on account of India Millennium Deposits in 200001 and related repayments, if
any, in the subsequent years.
b Include, among others, delayed export receipts and errors and omissions.

The trends in the G&S trade deficit have, in turn, been largely driven by the merchandise trade deficit since
200405. Between 200001 and 200304, the merchandise trade deficit was around 2 per cent of GDP,
and the rising non-factor services surplus resulted in an improving trend in the overall trade balance (refer
to Figure 10.3). From 200405, the merchandise trade balance has been deteriorating and despite the
264

continual rise in the non-factor services surplus, the overall G&S balance has followed the deteriorating
trend of the former (refer to Figure 10.3).

From 200405, the merchandise trade balance has been deteriorating and despite the continual rise
in the non-factor services surplus, the overall G&S balance has followed the deteriorating trend of the
former.
Widening of merchandise trade was a way in which foreign savings could be absorbed, and growth in
exports and imports was a key component of the growth process. As a proportion of GDP, on BoP basis,
the exports rose from a level of 5.8 per cent in 199091 to reach a level of 14.0 per cent in 200607 (refer
to Table 10.3). The average annual growth rate in the last five years has been placed at a high of 23.5 per
cent. However, the imports have grown even faster in the last five years at an annual average of 28.2 per
cent. As a proportion of GDP, on BoP basis, the imports in 200607 were placed at 20.9 per cent of GDP.
Thus, trade deficit widened to 6.9 per cent of GDP in 200607. The higher trade deficit could be attributed
to a rise in POL, as well as non-POL components in imports. A continued uptrend in prices in the
international markets and a rise in the price of gold were the major contributors to this process.
Of the seven major components of non-factor services in the invisible account of the BoP, six
componentstravel, transportation, insurance, financial services, communication services, and business
servicescontributed on a net basis; only 9 per cent of the surplus on account of services trade in 200607.
Thus, the seventh component, viz., software services, comprising information technology (IT) and
IT-enabled services (ITES), was the main driver of the surpluses generated from the non-factor services.

The seventh component, viz., software services, comprising information technology (IT) and
IT-enabled services (ITES), was the main driver of the surpluses generated from the non-factor
services.
The net surplus from travel grew modestly in 200607. Travel receipts grew by 22.1 per cent on an annual
average basis for the last three years, reflecting in part, the attractiveness of India as a tourist destination;
travel payments were also catching up with the corresponding average annual growth at 24.3 per cent. The
transportation payments exceeded receipts, resulting in a modest deficit. The classification in BoP
accounting system of software, business, financial, and communication under the head miscellaneous
allude to the recent nature of their importance. The growth in software services receipts (both IT and ITES)
was phenomenal at an annual average of 32.9 per cent in the last five years. As per the revised data of the
RBI, the growth in business services on a net basis, as made available by RBI, was higher at 39.4 per cent
in 200607; the other services, albeit posting lower growth rates, have nevertheless helped to catalyse the
growth process through appropriate technology transfer from the rest of the world. Thus, higher levels of
surplus arising from services helped to moderate the overall G&S balance. As a proportion of GDP, G&S
deficit was placed at 3.4 per cent of GDP in 200607, which was lower than the level of 3.6 per cent of
GDP in 200506.

Higher levels of surplus arising from services helped to moderate the overall G&S balance.
The private transfers continued its traditional role of being a major source for the invisible account surplus,
with an annual average growth at 13.5 per cent in the Five-Year period from 200203 to 200607.
According to a report published by the World Bank, containing estimates of cross-country data on
migration and remittances, India topped the list of countries that received remittances. Investment income
(net), which reflects the servicing costs on the payment side and return on foreign currency assets (FCA)
on the receipt side, has remained negative over the years, indicating a higher interest outgo. Investment
income (net) was placed at US$()3.5 bn in 200203. With the rapid building up of FCA, the credit side of
investment income also grew as rapidly as the debit side. Given the latters higher base, the net investment
income deteriorated to US$()6 bn in 200607.

According to a report published by the World Bank, containing estimates of cross-country data on
migration and remittances, India topped the list of countries that received remittances.

265

Figure 10.3 Current a/c Balance, G&S Balance, and Factor Balance

Table 10.3 Selected Indicators of External Sector

Source:RBI
Notes:
1.
2.
3.
4.
5.
6.

TC: Total capital flows (net).

ECB: External commercial borrowing.
FER: Foreign exchange reserves, including gold, SDRS, and IMF reserve tranche.
GDPmp: Gross domestic product at current market prices.
As total capital flows are netted after taking into account some capital outflows. The ratios against item numbers 5, 6, and 7 may, in some years, add up to more
than 100 per cent.
Rupee equivalents of BoP components are used to arrive at GDP ratios. All other percentages shown in the upper panel of the table are based on US$ values.

The current receipts in 200607 amounted to US$243.2 bn and the current payments were placed at
US$252.9 bn. The current receipts covered 96.1 per cent of the current payments in 200607.
Consequently, CAD was placed at US$9.8 bn in 200607 (US$9.9 bn in 200506).
The nature of the CAD is indicated by the contribution of the oil trade deficit and non-oil trade deficit in
conjunction with the surpluses on factor and non-factor services (refer to Table 10.4).
Based on the sharp upward movements in the exchange rates and FERs, there is a general apprehension
about the developments on the BoP front and their consequences in terms of competitive losses and,
thereby, on the growth prospects of exports. The BoP data for the first half of the current financial year
shows some deceleration in the growth in exports, from a level of 24.8 per cent in 200607
(AprilSeptember) to 19.9 per cent in 200708 (AprilSeptember). Simultaneously, the growth in imports
266

in the first half of 200708 fell to 21.9 per cent from 24.7 per cent in 200607 (AprilSeptember). Based
on BoP, the merchandise trade deficit rose to US$42.4 bn in 200708 (AprilSeptember), equivalent to
8.1 per cent of GDP from a level of US$33.8 bn in 200607 (AprilSeptember), equivalent to 8.3 per cent
of GDP. In the same reference period, a deceleration in the software services exports to 15.2 per cent from
37.2 per cent led to a lower growth in the net invisible surplus (17.5 per cent from 35.2 per cent). The
receipts from business services actually declined from US$8 bn in 200607 (AprilSeptember) to US$6.4
bn in 200708 (AprilSeptember) and, with payments rising marginally, there was a decline of 91 per cent
in 200708 in the net receipts. Thus, as a proportion of GDP, G&S deficit rose to 5.3 per cent in 200708
(AprilSeptember) from a level of 4.7 per cent in 200607 (AprilSeptember).

As a proportion of GDP, G&S deficit rose to 5.3 per cent in 200708 (AprilSeptember) from a level
of 4.7 per cent in 200607 (AprilSeptember).

Table 10.4 Decomposition of Current Account Deficit

Source: compiled from RBI (BoP data) and the Directorate General of Commerical Intelligence and
Staistics (DGCI&S) trade data.
a
Due to trade data divergence between BoP basis and DGCI&s, the totals may not add up.

The private transfers receipts (mainly remittances) shot up, year-on-year, by 49.2 per cent as against 19.2
per cent in the corresponding period of the previous year. The investment income (net) grew by 60.0 per
cent in 200708 (AprilSeptember), reflecting the burgeoning FERs. Net invisible surplus grew by 35.2
per cent to reach US$31.7 bn in 200708 (AprilSeptember), equivalent of 6.1 per cent of GDP. Thus,
higher invisible surplus was able to moderate somewhat the rising deficits on trade account, and CAD was
placed at US$10.7 bn in 200708 (AprilSeptember), equivalent of 2.0 per cent of GDP.

Higher invisible surplus was able to moderate somewhat the rising deficits on trade account, and
CAD was placed at US$10.7 bn in 200708 (AprilSeptember), equivalent of 2.0 per cent of GDP.
CAPITAL ACCOUNT DEFICIT

Capital inflows can be classified by instrument (debt or equity), duration (short term or long term), and
nature (stable or volatile) of flows. Such taxonomy helps to calibrate the policy of liberalisation of the
capital account. Figure 10.4 shows that foreign investment (net) has been a relatively stable component of
267

total capital flows, fluctuating broadly between 1 per cent and 2 per cent of GDP, during this decade.
However, it seems to have shifted to a higher plane from 200304 with an average for the period from
200304 to 200607, roughly double than that was found between 200001 and 200203. In contrast,
the debt flows have fluctuated much more, with a down trend till 2003, which resulted in net outflows in
the three years to 200304, and a rising trend from 200405. The trend in net capital flows since
200304, therefore, seems to be broadly driven by the rising ratio of debt flows (refer toFigure 10.4). The
variations in debt flows have been, primarily, due to lumpy repayments on government-guaranteed or
government-related ECB.

The trend in net capital flows since 200304, therefore, seems to be broadly driven by the rising ratio
of debt flows
Net capital flows rose from a level of US$25.0 bn in 200506 to reach US$46.4 bn in 200607, which
implies a growth of 85.8 per cent. The major developments in 200607 include (i) a quantum jump in
ECBs (net), (ii) a significant rise in FDI inflows with a simultaneous rise in outward investment, (iii) large
inflows in the form of non-resident Indian (NRI) deposits, and (iv) an initial fall in portfolio investment,
which was somewhat compensated by a recovery in the latter half of the year. The World Economic
Outlook (WEO) reported that many emerging markets and developing countries similarly experienced
historically high levels of NFE inflows. The acceleration in gross flows was sharper than the net flows. The
net private capital flows to emerging market economies and developing countries, after falling by 18.5 per
cent in 2006, have risen again by 124.3 per cent to reach US$495.4 bn in 2007. Thus, the net capital flows
into India have been substantial in the current financial year.

Figure 10.4 Total Capital a/c (net), Foreign Investment (net), and Debt Flows

ecb: External commercial borrowing; ea: External assistance; std: Short-term debt.

OTHER NON-DEBT FLOWS

In the BoP system of accounts of the RBI, the head Other Capital covers mainly the leads and lags in
export receipts (the difference between the custom data and the banking-channel data), funds held abroad,
and the residual item of other capital transactions not included elsewhere, such as flows arising from
cross-border financial derivative and commodity hedging transactions, migrant transfers, and sale of
intangible assets, such as patents, copyrights, trademarks, and so on. In 200607, Other Capital (net),
including banking capital, amounted to US$8.8 bn. Payments transaction like short-term credits, which
were earlier not captured explicitly elsewhere, were accounted under this residual head, implicitly. In its
Press Release dated December 29, 2007, reporting the BoP developments for the second quarter, the RBI
had, among other things, indicated some accounting changes in this head (refer to Box 10.1).

In its Press Release dated December 29, 2007, reporting the BoP developments for the second quarter,
the RBI had, among other things, indicated some accounting changes in this head.

Box 10.1 Changes in the BoP System of Recording

268

The RBI, in conformity with the best international practices and as per the provisions of Balance of
Payments Manual 5 (BPM5) of the IMF, made certain changes in the system of recording BoP flows. In the
earlier system of recording of international transactions between residents and non-residents, trade
credits or credits for financing imports by Indian residents, extended by foreign suppliers up to 180 days,
were not covered explicitly, and were subsumed under the head Other Capital or errors and omissions.
However, such credit beyond 180 days was recorded and reported. Usually, a very short-term credit, less
than 180 days, get rolled over within a year and, as such, they are recorded on a net basis only. However,
using the internationally accepted methodology as recommended in BPM5, the RBI started recording
these transactions for both BoP and external debt purposes. While in the case of BoP, where there was no
change in the overall balance as other capital and errors and omissions were lower to the extent that
short-term credits were higher, the total stock of outstanding external debt went up (details in the
subsequent section on external debt). Transactions by non-resident Indians (NRIs) in the non-resident
ordinary (NRO) account were earlier included under other capital in the capital account. The RBI has, put
in place, a reporting system and records these data separately. As such, transactions under the NRO
account have now been included under NRI deposits. Besides all these, the RBI, taking cognisance of the
importance of the services in the invisible account and the possibility of some overlap between business
services and software services of the ITES variety, had reviewed the data that were reported by authorised
dealers, revised the data that were produced by the business services, and started providing greater details
of the non-software services.
As per the RBIs revised data on the other capital, leads and lags in export payments, which were negative
in 200506 and less than US$1 bn in 200607, shot up in AprilSeptember 2007 and reached US$3.7 bn.
In 200708, the advance that was received for effecting FDI (pending with authorised dealers) amounted
to US$2 bn. With other residual capital, of the order of US$2.1 bn, the total net flows under other capital
head was of the order of US$6 bn.

KEY WORDS

Annual Growth Rate

Primary Sector
Secondary Sector
Tertiary Sector
Public Sector
Organised Enterprises
Unorganised Enterprises
Trade Policy
Balance of Payments (BoPs)
Money Market
Call Money Market
Financial System
Indian Banking System
Wholesale Price Index (WPI)

QUESTIONS

1.
2.
3.
4.
5.
6.
7.
8.
9.
a.
b.
c.
d.
e.

What do you mean by trade policy? Explain the main features of Indias trade policy.
Explain Indias trade policy since independence.
What are the major trade reforms of Indias foreign trade policy, 1991?
Critically analyse the Indias NTP.
What do you mean by Balance of Payments, and how does it occur?
How is the deficit or surplus in BoP known?
Analyse the latest BoP position of India.
Suggest the measures to overcome the huge deficit in Indias BoPs.
Write short notes on:

urrent account deficit (CAD)

Capital account deficit
Causes of deficit BoP
Latest Trade Policy of India
Economic reforms and BoP
REFERENCES

Budget Document, Government of India.

Government of India. Economic Survey 200708. New Delhi: Ministry of Finance.

269

Mathur, B. L. (2001). Economic Policy and Performance. New Delhi: Discovery.

Nagarjuna, B. (2004). Economic Reform and Perspectives: Recent Developments in Indian Economy. New Delhi: Serials.
Reddy, K. C. (2004). Indian Economic Reforms: An Assessment. New Delhi: Sterling Pub.
Singh, R. K. (2004). Economic Reforms in India. Delhi: Abhi-jeet Pub.

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CHAPTER 11
Poverty in India
CHAPTER OUTLINE

Concept, Meaning, and Definition of Poverty

People Living Under Poverty Line
Causes of Poverty in India
Historical Trends in Poverty Statistics
Poverty and Inclusive Growth
Factors Responsible for Poverty
Measures to Reduce Poverty
Poverty Alleviation Programmes
Poverty Alleviation Through Micro-credit
Outlook for Poverty Alleviation
Controversy over the Extent of Poverty Reduction
Case
Key Words
Questions
References

CONCEPT, MEANING, AND DEFINITION OF POVERTY

Poverty is a social phenomenon in which a section of the society is unable to fulfil even the basic
necessities of life. When a substantial segment of a society is deprived of the minimum level of living and
continues at a bare subsistence level, the society is said to be plagued with mass poverty. The countries of
the Third World invariably exhibit the existence of mass poverty, although pockets of poverty exist even in
the developed countries of Europe and America. The deprivation of minimum basic needs of a significant
section of the society, in the face of luxurious lives for the elite classes, makes poverty more glaring.

Poverty is a social phenomenon in which a section of the society is unable to fulfil even the basic
necessities of life. When a substantial segment of a society is deprived of the minimum level of living
and continues at a bare subsistence level, the society is said to be plagued with mass poverty.
Two types of standards are common in economic literature: the absolute and the relative. In the absolute
standard, minimum physical quantities of cereals, pulses, milk, butter, and so on are determined for a
subsistence level and, then, the price quotations convert the physical quantities into monetary terms. The
aggregation of all the quantities included determines the per capita consumer expenditure. The population,
whose level of income (or expenditure) is below the figure, is considered to be below the poverty line (PL).
According to the relative standard, income distribution of the population in different fractile groups is
estimated, and a comparison of the levels of living of the top 5 per cent to 10 per cent with the bottom 5
per cent to 10 per cent of the population, reflects the relative standards of poverty. The defect of this
approach is that it indicates the relative position of different segments of the population in the income
hierarchy.
The world is in a race between economic growth and population growth, and, so far, population growth is
wining. Even as the percentages of people living in poverty are falling, the absolute number is rising. The
World Bank defines poverty as living on less than $2 a day, and absolute or extreme poverty as living
on less than $1 a day.

Even as the percentages of people living in poverty are falling, the absolute number is rising. The
World Bank defines poverty as living on less than $2 a day, and absolute or extreme poverty as
living on less than $1 a day.
In India, the subject of defining poverty was first posed at the Indian Labour Conference in 1957. The
Working Group of the Planning Commission recommended Rs 25 per person per month, for urban and
Rs 18 per person per month, for rural areas, at 196061 prices as the minimum expenditure for providing
the minimum nutritional diet of calories (2,100, for urban and 2,400, for rural per person per day) intake,
as well as to allow for a modest expenditure on items other than food (barring health and education, which
were expected to be provided by the government). This became the cut-off amount and accordingly, people
271

having expenditure below this were bracketed as being below the poverty line. These figures have since
been revised from time to time. While there are other estimates as well, the estimates of the Planning
Commission are as follows:

Table 11.1
(Rs/Month/Person)
Poverty line
At price level of
Urban

Rural

197374

56.64

49.09

197677

71.30

61.80

197778

75.00

65.00

198788

152.13

131.80

199394

264.00

229.00

Source: Planning Commission documents.

Thus, the urban people whose expenditure fall below Rs 264 per person per month at the 199394 price
level belong to the group of the people below PL. Others whose expenditure exceeded this amount are
above the line.
PEOPLE LIVING UNDER POVERTY LINE

Although the middle class has gained from the recent positive economic developments, India suffers from
a substantial poverty. The Planning Commission has estimated that 27.5 per cent of the population was
living below the PL in 20042005, down from 51.3 per cent in 19771978 and 36 per cent in 19931994
(refer to Figure 11.1). The source for this was the 61st round of the National Sample Survey Organisation
(NSSO), and the criterion used was the monthly per capita consumption expenditure, below Rs 356.35 for
rural areas and Rs 538.60 for urban areas. Around 75 per cent of the poor are in rural areas, most of them
are daily wagers, self-employed householders, and landless labourers. Although the Indian economy has
grown steadily over the last two decades, its growth has been uneven when compared with different social
groups, economic groups, geographic regions, and rural and urban areas.

Although the middle class has gained from the recent positive economic developments, India suffers
from a substantial poverty.

Figure 11.1 Percentage of Population Below Poverty Line

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The wealth distribution in India is fairly uneven, with the top 10 per cent of income groups earning nearly
33 per cent of the income. Despite a significant economic progress, one-fourth of the nations population
earns less than the government-specified poverty threshold of $0.40 per day. The official figures estimate
that 27.5 per cent of Indians lived below the national PL in 20042005. A 2007 report by the State-run
National Commission for Enterprises in the Unorganised Sector (NCEUS) found that 25 per cent of
Indians, or 236 million people, lived on less than Rs 20 per day with most working in informal labour
sector with no job or social security, living in abject poverty. The income inequality in India is increasing.
In addition, India has a higher rate of malnutrition among children under the age of three (46 per cent in
year 2007) than any other country in the world.

The wealth distribution in India is fairly uneven, with the top 10 per cent of income groups earning
nearly 33 per cent of the income. Despite a significant economic progress, one-fourth of the nations
population earns less than the government-specified poverty threshold of $0.40 per day.
CAUSES OF POVERTY IN INDIA

There are at least two main schools of thought regarding the causes of poverty in India. They are as
follows:
The Developmentalist View

Colonial Economic Restructuring

Pandit Nehru noted, A significant fact which stands out is that those parts of India which have been
longest under British rule are the poorest today. The Indian economy was purposely and severely
deindustrialised (especially in the areas of textiles and metal-working) through colonial privatisations,
regulations, tariffs on manufactured or refined Indian goods, taxes, and direct seizures.
In 1830, India accounted for 17.6 per cent of global industrial production against Britains 9.5 per cent, but
by 1900 Indias share was down to 1.7 per cent against Britains 18.5 per cent. (The change in industrial
production per capita is even more extreme due to Indian population growth). Not only was Indian
industry losing out, but also consumers who were forced to rely on expensive, (open monopoly produced),
British-manufactured goods, especially as barter, local crafts, and subsistence agriculture was discouraged
by law. The agricultural raw materials exported by Indians were subject to massive price swings and
declining terms of trade.
Mass Hunger: British policies in India exacerbated the weather conditions to lead to mass famines which,
when taken together, led to a range of 30 million to 60 million deaths from starvation, in the Indian
colonies. Community grain banks were forcibly disabled, use of land for foodcrops for local consumption
273

was converted into cotton, opium, tea, and grain for export, largely for animal feed. In summary,
deindustrialisation, declining terms of trade, and the periodic mass misery of man-made famines are the
major ways in which the colonial government destroyed development in India and held it back for
centuries.

In summary, deindustrialisation, declining terms of trade, and the periodic mass misery of
man-made famines are the major ways in which the colonial government destroyed development in
India and held it back for centuries.
The Neoliberal View
1.

Unemployment and underemployment, arising in part from protectionist policies and pursued till 1991, prevented high foreign investment. Poverty also decreased
from the early 1980s to 1990s significantly. However, there are some legal and economic factors like

2.

3.

Lack of property rights: The right to property is not a fundamental right in India.
Over-reliance on agriculture: There is a surplus of labour in agriculture. Farmers are a large
vote bank and they use their votes to resist reallocation of land for higher-income industrial projects.
While services and industry have grown at double-digit figures, the agriculture growth rate has dropped
from 4.8 per cent to 2 per cent. Neoliberals tend to view food security as an unnecessary goal when
compared to purely financial, economic growth.
There are also varieties of more direct technical factors like

About 60 per cent of the population depends on agriculture whereas the contribution of
agriculture to the gross domestic product (GDP) is about 28 per cent only.
High population growth rate, though demographers generally agree that this is just a
symptom rather than a cause of poverty.
And a few cultural ones have been proposed like

The caste system, under which hundreds of millions of Indians were kept away from
educational, ownership, and employment opportunities, and subjected to violence for getting out of
line. The British rulers encouraged caste privileges and customs even before the 19thcentury.
Despite this, India currently adds 40 million people to its middle class every year. Analysts such as the
founder of Forecasting International, Marvin J. Cetron writes that an estimated 300 million Indians now
belong to the middle class; one-third of them have emerged from poverty in the last 10 years. At the
current rate of growth, a majority of Indians will be included in middle-class by 2025. Literacy rates have
risen from 52 per cent to 65 per cent in the same period.

Cetron writes that an estimated 300 million Indians now belong to the middle class; one-third of
them have emerged from poverty in the last 10 years.
HISTORICAL TRENDS IN POVERTY STATISTICS

The proportion of Indias population below the PL has fluctuated widely in the past, but the overall trend
has been downward. However, there have been roughly three periods of trends in income poverty.

1950 to mid-1970s: Income poverty reduction shows no discernible trend. In 1951, 47 per cent of Indias rural population was below the PL. Although the
proportion went up to 64 per cent in 195455 it came down to 45 per cent in 196061, but in 197778 it went up again to 51 per cent.

Mid-1970s to 1990: Income poverty declined significantly between the mid-1970s and the end of the 1980s. The decline was more pronounced between 197778
and 198687, with rural income poverty declining from 51 per cent to 39 per cent. It went down further to 34 per cent by 198990. The urban income poverty went down
from 41 per cent in 197778 to 34 per cent in 198687, and further to 33 per cent in 198990.

After 1991: This post-economic reform period evidenced both setbacks and progress. The rural income poverty increased from 34 per cent in 198990 to 43 per
cent in 1992 and then fell to 37 per cent in 199394. The urban income poverty went up from 33.4 per cent in 198990 to 33.7 per cent in 1992 and declined to 32 per cent in
199394. Also, NSS data for the period from 199495 to 1998 show little or no poverty reduction, so that the evidence till 19992000 was that poverty, particularly rural
poverty, had increased post-reform. However, the official estimate of poverty for 19992000 was 26.1 per cent, a dramatic decline that led to much debate and analysis. This
was because, for this year, the NSS had adopted a new survey methodology that led to both higher-estimated mean consumption and also an estimated distribution that was
more equal than in the past NSS surveys. The latest NSS survey for 200405 is fully comparable to the surveys before 19992000 and shows poverty at 28.3 per cent in rural
areas, 25.7 per cent in urban areas, and 27.5 per cent for the country as a whole, using uniform recall period (URP) consumption. The corresponding figures using the mixed
recall period (MRP) consumption method was 21.8 per cent, 21.7 per cent, and 21.8 per cent, respectively. Thus, poverty has declined after 1998, though it is still being
debated whether there was any significant poverty reduction between 198990 and 19992000. The latest NSS survey was so designed as to also give estimates roughly, but
not fully, comparable to the 19992000 survey. These measures suggest that most of the decline in rural poverty over the period between 199394 and 200405 actually
occurred after 19992000.

274

Poverty has declined after 1998, though it is still being debated whether there was any significant
poverty reduction between 198990 and 19992000.

The proportion of Indias population below the PL has fluctuated widely in the past, but the overall
trend has been downward.
POVERTY AND INCLUSIVE GROWTH

Incidence of Poverty is estimated by the Planning Commission on the basis of quinquennial large
sample surveys on household consumer expenditure conducted by the NSSO. The URP consumption
distribution data of NSS 61st Round yields a poverty ratio of 28.3 per cent in rural areas, 25.7 per cent in
urban areas, and 27.5 per cent for the country as a whole in 200405. The corresponding poverty ratios
from the MRP consumption distribution data are 21.8 per cent for rural areas, 21.7 per cent for urban
areas, and 21.8 per cent for the country as a whole. While the former consumption data uses a 30-day
recall/reference period for all items of consumption, the latter uses a 365-day recall/reference period for
five infrequently purchased non-food items, viz., clothing, footwear, durable goods, education, and
institutional medical expenses, and a 30-day recall/reference period for the remaining items. The
percentage of poor in 200405, estimated from the URP consumption distribution of NSS 61st Round of
consumer expenditure data, are comparable with the poverty estimates of 199394 (50thround), which was
36 per cent for the country as a whole. The percentage of poor in 200405, estimated from the MRP
consumption distribution of NSS 61st Round of consumer expenditure data, are roughly comparable with
the poverty estimates of 19992000 (55th round), which was 26.1 per cent for the country as a whole. In
summary the official poverty rates recorded by NSS are given in Table 11.2.

The percentage of poor in 200405, estimated from the MRP consumption distribution of NSS
61stRound of consumer expenditure data, are roughly comparable with the poverty estimates of
19992000 (55th round), which was 26.1 per cent for the country as a whole.
Consumption Patterns Below and Above PL

There are concerns about the vulnerability of people who have crossed the PL and are at present above it.
Vulnerability is a relative term and could be gauged from the consumption patterns (refer to Table 11.3) (in
the absence of a better available alternative). Given meagre resources, the higher share of expenditure on
food items, which is the most basic of all basic needs, would be indicative of vulnerability to some extent.
The average per capita consumption expenditure for rural and urban population as per 61st Round
(200405) is Rs 558.78 and Rs 1,052.36, respectively. NSSO data also reveals that the rural population on
an average spends about 55 per cent of its consumption on food and remaining 45 per cent on non-food
items (Table 11.4). The rural population divided on the basis of their monthly per capita expenditures
(MPCEs) exhibit consumption patterns as follows:

Rural poor (below PL) are spending about 31 per cent to 35 per cent of their total consumption expenditure on non-food items and remaining on food items.
In the group of population between PL and 1.5PL, non-food items take up between 36 per cent and 40 per cent of the total consumption expenditure.
For rural population between PL and 2PL, non-food items take up between 36 per cent and 46 per cent of the total consumption expenditure.

The average per capita consumption expenditure for rural and urban population as per 61stRound
(200405) is Rs 558.78 and Rs 1,052.36, respectively.

Table 11.2

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Table 11.3 Poverty Ratios by URP and MRP (%)

Source: Planning Commission

Table 11.4 Consumption Pattern Across Different MPCE Classes of Population, Rural (%)
MPCE classes of populationrural

Food (55.05)

Non-Food (44.95)

Poor (roughly below PL)

0235

68.45

31.55

235270

67.16

32.84

270320

66.35

33.65

320365a

64.78

35.22

365410

63.99

36.01

410455

62.93

37.06

455510

61.61

38.39

510580 b

60.11

39.88

580690

58.02

41.98

690890c

53.92

46.08

49.80

50.20

Roughly between PL and 2PL

Roughly above 2 PL
8901155

Source: NSSO: Estimated from Table 5R of NSS Report No. 508: Level and Pattern of Consumer
Expenditure, 200405.
Notes:
a
MPCE class having PL at Rs 356.30.
b
MPCE class having 1.5 times the PL (1.5PL) at Rs 534.45.
c MPCE class having twice the PL (2PL) at Rs 712.60.

A similar classification of urban population indicates a consumption pattern as in Table 11.5. While about
43 per cent of the total consumption on an average is spent on food items and the remaining 57 per cent is

276

spent on the non-food items, the urban poor (below PL) are spending. About 35 per cent to 43 per cent of
their total consumption expenditure on non-food items.

In the group of population between PL and 1.5 PL, non-food items take up between 45 per cent and 50 per cent of the total consumption expenditure.
However, in the group of population between PL, and 2 PL, non-food items take up between 45 per cent and 53 per cent of the total consumption expenditure.
It is noticeable that on expected lines, the average consumption pattern of urban population, in general, is more skewed in favour of non-food items.

Trends in Consumption Growth (RuralUrban Disparity)

The compound annual growth rate (CAGR) of consumption for the rural as well as urban population for
different percentile groups of population over the period between 199394 and 200405 based on NSSO
data, on monthly per capita consumption for various rounds at constant prices (Table 11.6) indicate the
following:

While, on an average, the growth in consumption expenditures over this period may not appear too different for rural (CAGR1.16 per cent) and urban
(CAGR1.35 per cent) population, the differences are noticeable if different MPCE-based percentile groups of population are taken into consideration.

For all percentile groups, except top 10 per cent in rural population between 199394 and 200405, CAGR has been around 1 per cent.

At the same time, the CAGR of the upper 50 percentile group in the urban population is consistently above
1 per cent and higher when compared with those of the lower 50 percentile urban population. It is also
noticeable that while in urban population, a CAGR of more than 1 per cent is for the entire upper 50
percentile, only the uppermost 10 percentile group is registering a CAGR of consumption (MPCE) above 1
per cent for rural population (refer to Table 11.6). Further, the growth in consumption of the lower 40
percentile urban population is consistently lower than its counterpart rural population.

Table 11.5 Consumption Pattern Across Different MPCE Classes of Population, Urban (%)
MPCE classes of populationurban

Food 42.51

Non-food 57.48

Poor (roughly below PL)

0335

64.86

35.14

335395

63.11

36.89

395485

60.04

39.96

485580 a

57.30

42.70

580675

55.35

44.65

675790

52.37

47.62

790930 b

49.69

50.31

9301100c

46.61

53.39

11001380

44.44

55.56

13801880

40.17

59.83

Roughly between PL and 2PL

Roughly above 2 PL

Source: NSSO: Estimated from Table 5U of NSS Report No. 508: Level and Pattern of Consumer
Expenditure, 200405.
Notes:
a MPCE class having PL at Rs 538.60.
b MPCE class having 1.5 times the PL (1.5PL) at Rs 807.90.
c
MPCE class having twice the PL (2PL) at Rs 1077.20.

Table 11.6 Growth in MPCEs Between 19931994 and 20042005

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Source: NSSO: Estimated from Table No.P7: Comparison of average MPCE at constant prices over rounds.
NSS Report No. 508: Level and Pattern of Consumer Expenditure, 20042005.

Hence, the changes in MPCEs over this period within the urban population may have been less uniform
than in the rural population. (Ruralurban migration may be behind this phenomenon as the influx of
migrant population may be neutralising the rise in the average incomes of the lower half of the urban
population. At the same time, the migrant workers may be sending back funds to support their poor
families back home, thus raising the consumption levels). This also signals the importance of programmes
that improve the supply of public goods and services to the urban poor.
FACTORS RESPONSIBLE FOR POVERTY

Poverty is widespread in India. The main factors responsible for this problem are stated as follows:
Rapidly Rising Population

The population during the last 50 years has increased at the rate of 2.2 per cent per annum. On average, 17
million people are added every year to its population which raises the demand for consumption goods
considerably.
Low Productivity in Agriculture

The level of productivity in agriculture is low due to subdivided and fragmented holding, lack of capital,
use of traditional methods of cultivation, illiteracy, and so on. This is the main cause of poverty in the
country.
Under-utilised Resources

The existence of underemployment and disguised unemployment of human resources and low production
in the agricultural sector. This brought down a fall in their standard of living.
Low Rate of Economic Development

The rate of economic development in India has been below the required level. Therefore, there persists a
gap between the levels of availability and the requirements of goods and services. The net result is poverty.
Price Rise

The continuous and steep price rise has added to the miseries of the poor. It has benefitted a few people in
the society, and the persons in the lower-income group find it difficult to get their minimum needs.
Unemployment

The continuously expanding army of unemployed is another cause of poverty. The job seekers are
increasing in number at a higher rate than the expansion in the employment opportunities.
Shortage of Capital and Able Entrepreneurship

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Capital and able entrepreneurship have an important role in accelerating the growth. But these are in short
supply making it difficult to increase the production significantly.
Social Factors

The social set up is still backward and is not conducive to faster development. Laws of inheritance, caste
system, and traditions and customs are putting hindrances in the way of faster development, and have
aggravated the problem of poverty.
Political Factors

The Britishers started a lop-sided development in India and reduced the Indian economy to a colonial
state. They exploited the natural resources to suit their interests and, in turn, weakened the industrial base
of the Indian economy. In independent India, the development plans have been guided by political
interests. Hence, the planning is a failure to tackle the problems of poverty and unemployment.
MEASURES TO REDUCE POVERTY

Pandit Nehru has correctly observed, In a poor country there is only poverty to redistribute. The
following measures can go a long way to reduce poverty.
More Employment Opportunities

Poverty can be eliminated by providing more employment opportunities so that people may be able to
meet their basic needs. For this purpose, labour-intensive rather than capital-intensive techniques can
help to solve the problem to a greater extent. During the Sixth and Seventh Five-Year Plan, the
programmes like Integrated Rural Development Programme (IRDP), Jawahar Rozgar Yojana, and Rural
Landless Employment Guarantee Programme, and so on have been started with a view to eliminate
poverty in the rural sector.
Minimum Needs Programme

The programme of minimum needs can help to reduce poverty. This fact was realised in the early 1970s as
benefits of growth do not percolate to poor people, and less-developed countries (LDC) are left with no
other choice except to pay a direct attention to the basic needs of the lower strata of the society. In the
Fifth Five-Year Plan, the Minimum Needs Programme was introduced for the first time.
Social Security Programmes

The various social security schemes like Workmens Compensation Act, Maternity Benefit Act, Provident
Fund Act, Employees State Insurance Act, and other benefits in case of death, disability, or disease while
on duty can make a frontal attack on poverty.
Establishment of Small-scale Industries

The policy of encouraging cottage and small industries can help to create employment in rural areas,
especially in the backward regions. Moreover, this will transfer resources from surplus areas to deficit
areas, without creating much problem of urbanisation.
Upliftment of Rural Masses

As it is mentioned that India lives in villages, thus, various schemes for upliftment of the rural poor may be
started. The poor living in rural areas, generally, belong to the families of landless agricultural labourers,
small and marginal farmers, village artisans, scheduled castes, and scheduled tribes. However, it must be
remembered that the Government of India has introduced many schemes from time to time for the
upliftment of the poor.
Land Reforms

Land reforms has the motto, land belongs to the tiller. Thus, legislature measures were undertaken to
abolish the Zamindari System. Intermediaries and ceiling on holdings were fixed. But it is a bad luck that
these land reforms lack a proper implementation. Even then, it is expected that if these reforms were
implemented seriously, it would yield better results, which will be helpful to reduce the income of the
affluent section.

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Spread of Education

Education helps to bring out the best in human body, mind, and spirit. Therefore, it is urgent to provide
education facilities to all. The poor should be given special facilities of stipend, free books, contingency
allowance, and so on. Education will help to bring an awakening among the poor and raise their mental
faculty.
Social and Political Atmosphere

Without the active cooperation of citizens and political leaders, poverty cannot be eradicated from India. A
conducive, social and political atmosphere is a necessary condition for eradicating the poverty from its
root.
To Provide Minimum Requirements

Ensuring the supply of minimum needs to the poor sections of society can help in solving the problem of
poverty. For this, the public procurement and distribution system should be improved and strengthened.
POVERTY ALLEVIATION PROGRAMMES

After the dawn of freedom, India got wedded to the goal of democratic set-up in the country. Under the
Directive Principles, it has been laid down that the State strives to promote the welfare of the people by
securing and protecting, as effectively as it may, the social order in which justice, social, economic, and
politicalshall inform all the institutions of national life. With this motto, the strategy of direct assault on
poverty and inequality through rural development and rural employment programme has been adopted.

Under the Directive Principles, it has been laid down that the State strives to promote the welfare of
the people by securing and protecting, as effectively as it may, the social order in which justice, social,
economic, and politicalshall inform all the institutions of national life.
The launching of the Community Development Programme (CDP) in 1952 was a landmark in the history of
India, which ushered in an era of development with the participation of people. It adopted a systematic
integrated approach to rural development, with a hierarchy of village-level workers and block-level
workers drawn from various fields to enrich the rural life. About 5,000 National Extension Service (NES)
Blocks were created under the CDP by the end of the Second Five-Year Plan. During the Third Five-Year
Plan, the momentum was maintained through a series of development schemes through allocations under
the NES programmes. This was succeeded by the Small Farmers Development Agencies followed by
Marginal Farmers Development Agencies, Crash Schemes for Rural Employment, Food-for-Work
Programme, Drought-Prone Areas Programme (DPAP), and Desert Development Programme (DDP) in
the early 1970s. Panchyati Raj for decentralised administration was evolved by the Balwant Roy Mehta
Committee in 1957. However, employment generation and poverty alleviation programmes as follows are
also implmented:

Jawahar Gram Samridhi Yojana (JGSY): JGSY was introduced in April 1999 by restructuring the Jawaliar Roazgar Yojana and is being implemented as a
Centrally sponsored scheme on a cost-sharing ratio of 75:25 between the Centre and the states. The programme is implemented by Gram Panchayats, and works which result
in creation of durable, productive community assets are taken up. The secondary, however, is the generation of wage employment for the rural unemployed pool.

Swarnjayanti Gram Swarozgar Yojana (SGSY): SGSY was launched with effect from April 1, 1999, as a result of amalgamating certain erstwhile programmes, viz.,
IRDP, Development of Women and Children in Rural areas (DVCRA), Training of Rural Youth for Self-Employment (TRYSEM), Million Wells Scheme (MWS), and so on,
into a single self-employment programme. It aims at promoting micro-enterprises and helping the rural poor into self-help groups (SHG). This scheme covers all aspects of
self-employment like organisation of rural poor into SHG and their capacity-building, training, planning of activity clusters, infrastructure development, financial assistance
through bank credit, subsidy, and marketing support, and so on. The scheme is being implemented as a Centrally sponsored scheme on a cost-sharing ratio of 75:25 between
the Centre and the states.

Employment Assurance Scheme (EAS): EAS was started in October 1993 for implementation in 1778-identified, backward Panchayat Samitis of 257 districts
situated in doughtprone areas, desert areas, tribal areas, and hill areas in which the revamped public distribution system was in operation. It was, subsequently, expanded by
199798 to all the 5,448 rural panchayat samitis of our country. It was restructured in 19992000 to make it a single-wage employment programme and implemented as a
Centrally sponsored scheme on a cost-sharing ratio of 75:25.

Sampoorna Grameen Rozgar Yojana (SGRY): Launched with effect from September 2001, the scheme aims at providing wage employment in rural areas as also
food security, along with the creation of durable community, with social and economic assets. The scheme is being implemented on a cost-sharing ratio of 75:25 between the
Centre and the states. The EAS and JGSY have been integrated within the scheme, with effect from April 1, 2002.

National Social Assistance Programme (NSAP): NSAP was introduced on15 August, 1995 as a 100-per cent Centrally sponsored scheme for social assistance
benefit to poor households that are affected by old age, death of primary bread earner, and maternity care. The programme has three components, that is, National Old Age
Pension Scheme (NOAPS), National Family Benefit Scheme (NFBS), and National Maternity Benefit Scheme (NMBS).

Pradhan Mantri Gramodaya Yojana (PMGY): PMGY was introduced in 200001 with the objective of focusing on village-level development in five critical areas,
that is, Health, primary education, drinking water, housing and rural roads, with the overall objective of improving the quality of life of people in the rural areas.

280

Pradhan Mantri Gram Sadak Yojana (PMGSY): PMGSY was launched on December 25, 2000, with the objective of providing road connectivity through good,
all-weather roads to all rural habitations with a population of more than 1,000 persons by the year 2003 and those with a population of more than 500 persons by the year
2007. An allocation of Rs 2,500 crore has been provided for the scheme in 200102.

Pradhan Mantri Gramodaya Yojana (Gramin Awas): This scheme is to be implemented on the pattern of Indira Awas Yojana with the objective of a sustainable
habitat development at the village level and to meet the growing housing needs of the rural poor.

Pradhan Mantri Gramodaya YojanaRural Drinking Water Project: Under this programme, a minimum 25 per cent of the total allocation is to be utilised by the
respective states/union territories (UTs) on projects/schemes for water conservation, water harvesting, water recharge, and sustainability of the drinking water sources in
respect of areas under DDP and DPAP.

Swarna Jayanti Shahari Rozgar Yojana (SJSRY): The urban self-employment programme and the urban wage-employment programme are two special schemes
of the SJSRY. Initiated in December 1997, it replaced various programmes operated earlier for urban poverty alleviation. This is funded on a 75:25 basis between the Centre
and the states. During 200102, an allocation of Rs 168 crore has been provided for various components of this programme.

Indira Awaas Yojana (IAV): This is a major scheme for construction of houses to be given to the poor, free of cost. An additional component for conversion of
unserviceable kutcha houses to semi-pucca house has also been added. From 19992000, the criteria for allocation of funds to states/UTs have been changed from poverty
ratio to equally reflect the poverty ratio and the housing shortage in the state. Similarly, the criteria for allocation of funds to a district have been changed to equally relied
SC/ST population and the housing shortage.

Samagra Awaas Yojana: This has been launched as a comprehensive housing scheme in 19992000 on a pilot-project basis in one block, in each of 25 districts of
24 states and in one UT, with a view to ensuring integrated provision of shelter, sanitation, and drinking water. The underlying philosophy is to provide for convergence of
the existing housing, sanitation, and water-supply schemes with a special emphasis on technology transfer, human resource development, and habitat improvement with
peoples participation.

Food-for-Work Programme: This programme was initially launched with effect from February 2001 for live months and was further extended. The programme
aims at augmenting food security through wage employment in the drought-affected rural areas in eight states, that is Gujarat, Chattisgarh, Himachal Pradesh, Madhya
Pradesh, Maharashtra, Orissa, Rajasthan, and Uttranchal. The Centre makes available appropriate of food grains, free of cost, to each of the drought-affected states as an
additionality under the programme. Wages by the State government can be paid partly in kind (up to 5 kg of food grains per man-day) and partly in cash. The workers are
paid the balance of wages in cash, such that they are assured of the notified minimum wages. This programme stands extended up to March 31, 2001 in respect of notified
natural calamity-affected districts.

Annapurna: This scheme came into effect from April 1, 2000 as a 100-per cent Centrally sponsored one. It aims at providing food security to meet the requirement
of those senior citizens who, though eligible for pensions under theNOAPS, are not getting the same. Food grains are provided to the beneficiaries at subsidised rates of Rs 2
per kg of wheat and Rs 3 per kg of rice. The scheme is operational in 25 states and 5 UTs. More than 6.08 lakh families have been identified and the benefits of the scheme
are passing on to them.

Krishi Shramik Samajik Suraksha Yojana: The scheme was launched in July 2001 for giving social security benefit to agricultural labourers on hire, in the age
group of 1860 years.

Shiksha Sahayog Yojana: The scheme has been finalised for providing an educational allowance of Rs 100 per month to the children, of parents living below the PL,
for their education in classes from 9th Standard to 12th standard.

POVERTY ALLEVIATION THROUGH MICRO-CREDIT

All over the world, micro-credit is being recognised as an instrument of poverty alleviation. About 30 years
ago, the concept of micro-credit was unknown. Since then, its role in poverty alleviation and
empowerment of the weaker sections has gained recognition in many developing countries and even in a
few developed ones. Today, it is active in more than 100 countries and is said to have helped more than
100 million people to take steps to reduce poverty.

All over the world, micro-credit is being recognised as an instrument of poverty alleviation. About 30
years ago, the concept of micro-credit was unknown.
In the recent years, the World Bank and the International Finance Corporation (IFC) have also
participated in the promotion of micro-finance. Of course, the Banks role has been much bigger in this
endeavour. It has targeted the firms, financial and social protection sectors, in many developing countries.
The World Bank Groups portfolio in micro-finance initiatives has risen to over $1 bn in recent years.

The World Bank Groups portfolio in micro-finance initiatives has risen to over $1 bn in recent years.
Indian Experience

A significant feature of the micro-finance movement in India is that it has relied heavily on the existing
banking infrastructure, in the process, obviating the need for a new institutional set-up. Most of the
leading practitioners of micro-finance activities follow the Grameen model. Banks lend micro-credit
through SHGs to local micro-finance institutions (MFIs) that have contacts in small villages.

A significant feature of the micro-finance movement in India is that it has relied heavily on the
existing banking infrastructure, in the process, obviating the need for a new institutional set-up.
Indias bankSHG link programme is now the biggest in the world. According to the RBI Annual Report
200506, the cumulative number of SHGs linked to banks stood at 2.2 million, with total bank credit to
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these SHGs at Rs 11,398 crore. The 200607 Budget envisages the banking industry to credit link another
385,000 SHGs in 200607. Some 30 million women have reportedly formed 2.2 million small businesses
so far, and another four lakh are expected to be in place by March 2007, according to the National Bank of
Agriculture and Rural Development (NABARD).
Of late, some of the leading commercial banks, such as ICICI Bank, HDFC Bank, UTI Bank, and the State
Bank of India, have begun focusing on this sector, rather aggressively. Even some of the multinational
banks operating in India, such as ABN Amro, Standard Chartered, HSBC, and Citibank, have moved into
the sector. There is a growing realisation among the commercial banks that micro-finance is a bankable
proposition.

Of late, some of the leading commercial banks, such as ICICI Bank, HDFC Bank, UTI Bank, and the
State Bank of India, have begun focusing on this sector, rather aggressively.
The award of the Nobel Peace Prize to Prof. Yunus and Grameen Bank is expected to provide a big boost to
micro-finance activities in India. ICICI Bank, which has emerged as an active and innovative player in the
micro-finance segment, has now joined hands with Grameen Foundations, the United States and ITCOT
Consulting to set up Grameen Capital India (GCI). It has already approached the Reserve Bank of India,
seeking a licence for a non-banking finance company (NBFC).

The award of the Nobel Peace Prize to Prof. Yunus and Grameen Bank is expected to provide a big
boost to micro-finance activities in India.
Suggestions

Clearly, a multi-pronged approach is required to solve the pervasive imbalances in the banking services.
1.

Firstly, banks especially the PSBs, must be constantly encouraged to extend small loans to the poor. Many private and foreign banks are rapidly increasing their
rural banking activities. For instance, ICICI Bank has doubled the size of its rural banking activities to about Rs 157 crore and has outstanding micro-loans of Rs 2,475 crore.
ABN Amro began its micro-finance operations in September 2003 and has 24 Indian partners and Rs 10.3 crore as outstanding loans in this sector. What is more, banks
view micro-credit operations as a lucrative business opportunity. They believe that the sheer volumes of the micro-loans market will, in the long term, make up for the low
interest charges (9.5 per cent is the lending cap for loans up to Rs 2 lakh).

2.

Firstly, banks especially the PSBs, must be constantly encouraged to extend small loans to the poor.
3.
4.

Secondly, banks must also be actively encouraged to lend to the poor through intermediaries such as MFIs and SHGs. This has been a huge success in neighbouring
Bangladesh, and there is no reason why the same would not hold true for India as well. This approach is all the more important as it entails an average default rate of a mere
3 per cent.

5.

Secondly, banks must also be actively encouraged to lend to the poor through intermediaries such as
MFIs and SHGs.
6.
7.

Thirdly, and most importantly, all such measures must be complemented by a large government intervention in the form of land reforms, provision of irrigation
facilities, crop insurance, and better physical infrastructure.

8.

Thirdly, and most importantly, all such measures must be complemented by a large government
intervention in the form of land reforms, provision of irrigation facilities, crop insurance, and better
physical infrastructure.
9.
OUTLOOK FOR POVERTY ALLEVIATION

Eradication of poverty in India can only be a long-term goal. Poverty alleviation is expected to make a
better progress in the next 50 years than in the past, as a trickle-down effect of the growing middle class.
Increasing stress on education, reservation of seats in the government jobs, and the increasing
282

empowerment of women and the economically weaker sections of society, are also expected to contribute
to the alleviation of poverty. It is incorrect to say that all poverty-reduction programmes have failed. The
growth of the middle class (which was virtually non-existent when India became a free nation in August
1947) indicates that economic prosperity has, indeed, been very impressive in India, but the distribution of
wealth is not at all even.

Increasing stress on education, reservation of seats in the government jobs, and the increasing
empowerment of women and the economically weaker sections of society, are also expected to
contribute to the alleviation of poverty.
After the liberalisation process and moving away from the socialist model, India is adding 60 million to 70
million people to its middle class every year. Analysts such as, the founder of Forecasting International,
Marvin J. Cetron writes that an estimated 390 million Indians now belong to the middle class where
one-third of them have emerged from poverty in the last 10 years. At the current rate of growth, a majority
of Indians will be middle-class by 2025. Literacy rates have risen from 52 per cent to 65 per cent during
the initial decade of liberalisation (19912001).

After the liberalisation process and moving away from the socialist model, India is adding 60 million
to 70 million people to its middle class every year.
CONTROVERSY OVER THE EXTENT OF POVERTY REDUCTION

While the total overall poverty in India has declined, the extent of poverty reduction is often debated.
While there is a consensus that there has not been an increase in poverty between 199394 and 200405,
the picture is not so clear if one considers other non-pecuniary dimensions (such as health, education,
crime, and access to infrastructure). With the rapid economic growth that India is experiencing, it is likely
that a significant fraction of the rural population will continue to migrate towards cities, making the issue
of urban poverty more significant in the long run.

With the rapid economic growth that India is experiencing, it is likely that a significant fraction of the
rural population will continue to migrate towards cities, making the issue of urban poverty more
significant in the long run.
Economist Pravin Visaria has defended the validity of many of the statistics that demonstrated the
reduction in the overall poverty in India, as well as the declaration made by Indias former Finance
Minister Yashwant Sinha that poverty in India has reduced significantly. He insisted that the 19992000
survey was well-designed and supervised and felt that, just because they did not appear to fit the
preconceived notions about poverty in India, they should not be dismissed outright. Nicholas Stern, the
Vice President of the World Bank, has published defenses of the poverty-reduction statistics. He argues
that increasing globalisation and investment opportunities have contributed significantly to the reduction
of poverty in the country. India, together with China, has shown the clearest trends of globalisation with
the accelerated rise in the per-capita income.
A 2007 report by the State-run NCEUS found that 77 per cent of Indians, or 836 million people, lived on
less than Rs 20 per day (US$ 0.50 nominal, US$ 2.0 in PPP), with most working in informal labour sector
with no job or social security, living in abject poverty.

A 2007 report by the State-run NCEUS found that 77 per cent of Indians, or 836 million people, lived
on less than Rs 20 per day (US$ 0.50 nominal, US$ 2.0 in PPP), with most working in informal
labour sector with no job or social security, living in abject poverty.
A study by the McKinsey Global Institute found that in 1985, 93 per cent of the Indian population lived on
a household income of less than Rs 90,000 a year, or about a dollar per person per day; by 2005 that
proportion had been cut nearly in half, to about 54 per cent. More than 103 million people have moved out
of desperate poverty in the course of one generation in urban and rural areas as well. They project that if
India can achieve 7.3 per cent annual growth over the next 20 years, 465 million more people will be
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spared a life of extreme deprivation. Contrary to popular perceptions, rural India has benefitted from this
growth: extreme rural poverty has declined from 94 per cent in 1985 to 61 per cent in 2005, and they
project that it will drop to 26 per cent by 2025. The report concludes that Indias economic reforms and
the increased growth that has resulted have been the most successful anti-poverty programmes in the
country.

Contrary to popular perceptions, rural India has benefitted from this growth: extreme rural poverty
has declined from 94 per cent in 1985 to 61 per cent in 2005.
CASE

ICT and Rural Poverty Alleviation

Poverty alleviation is not the responsibility of the NGOs alone, as corporate sector also can play a very
important role in it, especially in India. If the corporate is able to link their corporate social responsibility
with poverty alleviation in India, it will really help to a greater extent. But how many business
organisations are aware about their role in poverty alleviation in India? Very few like Tata Steel spends
about 5 per cent to 7 per cent of its profit-after-tax on several CSR initiatives. Tatas have signed an MoU
(memorandum of understanding) with the Jharkhand government in August 2005, to pay Rs 25 crore
every year, for the next 30 years, for medical insurance of people living below the PL.
JRD Tata, Chairman of the Tata Group from 1938 to 1993, had said: Let industry established in the
countryside adopt [adopts] the villages in the neighbourhood it is also clearly in the interests of industry
that surrounding areas should be healthy, prosperous and peaceful. The House of Tatas has, in fact,
ensured that no stone is left unturned in its endeavour to meet the expectations of the community and the
environment within which it exists. An innovative approach for the poverty alleviation by Tata is Jamsetji
Tata National Virtual Academy for Rural Prosperity (NVA).The NVA has become the umbrella for
MSSRFs (M.S. Swaminathan Research Foundation) initiatives in ICT-led development.
From small beginnings as an experimental information village project started in Pondicherry in 1998,
MSSRFs initiative in the use of ICT (information and communication technology) for information and
poverty alleviation in rural areas has evolved and expanded over the years. By December 2004, 12 VKCs
(Village Knowledge Centres) were in operation in Pondicherry. VKC initiatives are also being attempted at
other field sites, and different models are emerging in response to local needs. As a need was felt for
network-linking experts and grassroot-level communities, the NVA was launched in August 2003, with the
generous support of Sir Dorabji Tata Social Welfare Trust. The State-level hub, located at MSSRF, is the
knowledge resource that creates and maintains websites and databases for the local hubs, in close
collaboration with national and international agencies. It is linked to Village Resource Centres (VRCs),
which in turn are linked to VKCs for a cluster of villages. It is an information system that establishes
lab-to-lab, lab-to-land, land-to-lab, and land-to-land linkages.
The NVA aims to provide information and knowledge related to drought, climate management,
augmentation of water, maximising crop yield (more cropper drop) and markets, and build skills and
capacities of the rural poor, with a view to enhancing livelihood opportunities, and empowering vulnerable
people to make better choices and have better control of their own development.
A State-level hub in Chennai and four block-level hubs in Tamil Nadu at Thiruvaiyaru (Thanjavur District),
Sempatti (Dindigul District), Annavasal (Pudukkottai District), and Thangatchimadam (Ramanathapuram
District) have been set up. In October 2004, ISRO (Indian Space Research Organisation) provided satellite
connectivity for three block-level information centres (Thiruvaiyaru, Sempatti, and Thangatchimadam)
under the VRC programme. The Prime Minister of India inaugurated this programme through video
conferencing in October 2004. In his inaugural speech, he said, Community-based vulnerability and
risk-related information, provision of timely, early warning and dissemination of weather related
information can lead to reliable disaster management support at the village level.
This network provides the services of tele-education, tele-medicine, online decision support, interactive
farmers advisory services, tele-fishery, weather services, and water management. This programme covers
both farm and fishing families, based on the motto food, water, health, literacy, and work for all and for
ever.

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Under the VRC programme, a spatial database for Thiruvaiyaru has been prepared by ISRO. It reveals the
land-use pattern of crops grown, such as paddy, sugarcane, and oil seeds. It also includes fallow lands,
sandy areas, built-up land, water bodies, and a detailed soil survey. The database helps farmers to plan
their activities. TNAU (Tamil Nadu Agricultural University) has developed a software called DSSIFER
(Decision Support System for Integrated Fertilizer Recommendation) which gives a district-wise cropping
pattern. The TN Rice Research Institute has suggested that it could include the land and water resource
plan.
Under the Microsoft Unlimited Potential Programme (MUPP), 100 Community Technology Learning
Centres (CTLC) are to be set up. A series of need-based training programmes was facilitated through
networking with various research centres, NGO, and government agencies. The hub at MSSRF has a good
satellite bandwidth under the ISRO VRC programme. All the centres regularly hold video conferences
between the rural communities and experts, between farmers, between SHGs and between farmers and
manufacturers. They promote lateral learning among rural families. Interactive programmes were held
during the year for diverse groups. About 40 audio programmes on different topics were created by
knowledge workers and relayed every Saturday through All India Radio (AIR), Pondicherry. This
programme produced under the Open Knowledge Network (OKN) collects and disseminates information
in the local language on various matters.
The aim of the NVA in reaching frontier technology to the resource-poor rural women and men, and
enabling them to become masters of their own destiny will help to create large numbers of knowledge
managers in our villages. This cadre of grass-root workers, both men and women, are to be elected as
Fellows of the NVA for rural prosperity and trained to be master trainers for spearheading the
knowledge revolution in rural India. In 2004, six Fellows were selected through a rigorous selection
process as the first Fellows of the NVA. About 137 grass-root workers were inducted as Fellows of the NVA
at the Second National Convention of Mission 2007, and the Convocation of the NVA was inaugurated by
the President of India in July 2005.
Case Questions
1.
2.
3.

Comment on the application of ICT in poverty alleviation in the rural sector.

Do you think so such kind of experiments should be done in all parts of India?
What kind of prior planning will be required for using ICT in alleviation of rural poverty?

KEY WORDS

Absolute Standard
Below the Poverty Line
Relative Standard
Cut-off Amount
Substantial Poverty
National Sample Survey Organisation (NSSO)
Wealth Distribution
Malnutrition
Mass Hunger
Deindustrialisation
Declining Terms of Trade
The Periodic Mass Misery
Unemployment and Underemployment
Lack of Property Rights
Over-reliance on Agriculture
Uniform Recall Period (URP)
Mixed Recall Period (MRP)
Shortage of Capital and Able Entrepreneurship
Inheritance
Land Belong to the Tiller
Zamindari System
Community Development Programme
Food-for-Work Programme
Drought-prone Areas
Desert Development Programme (DDP)
Integrated Rural Development Programme (IRDP)
Rural Youth For Self-employment (RYSEM)
Self-help Groups (SHGS)
Micro-finance Institutions (MFIS)
National Bank of Agriculture and Rural Development (NABARD)
Grameen Capital India (GCI)
Non-banking Finance Company

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QUESTIONS

1.
2.
3.
4.
5.
6.

What do you mean by the term poverty? Give its extent.

Highlight the factors responsible for poverty?
Discuss the phases in poverty reduction?
Explain the Incidence of Poverty and suggest suitable measures to overcome the situation?
Discuss the various poverty alleviation programmes adopted by the Government of India from time to time?
Discuss the impact of economic reforms on poverty reduction?

REFERENCES

Government of India. Economic Survey 20072008. New Delhi: Ministry of Finance.

Ten Five-Year Plan Document, Government of India.
The Economic Times, Pune, October 10, 2006.
The Economic Times, Pune, October 12, 2006.
www.wikipedia.com (the free encyclopedia).

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