In d ia i Experience
Transformation “ With a Human Face” ?
-Introduction
Four decades o f planning plunged the Indian economy in dire distress thereby leaving no choice for the new policy makers but to think o f alternative models o f develop- ment. The balance o f payments crisis in m id-1991 may be described as the worst o f its kind in the post-independence era and warranted a quick and effective manage- ment. The m inority government led by Prime Minister P.V. Narasimha Rao o f Con- gress Party had to seek urgent financial assistance from International Monetary Fund and World Bank (Fund/Bank) to deal with this crisis, and they agreed on condition that the government adopted the stabilization and structural adjustment program. The liberal reforms suggested by Fund/Bank would throw open the Indian economy to pri- vatization, marketization and globalization. In the first section an attempt is made to show how the Indian economy had become ” inward-looking” (or turned to import- substituting industrialization) under planning; the second deals with the problems o f transition to a market-friendly economy; the third briefly discusses the likely impact o f the market economy on vulnerable sections o f Indian society.
I. Import-substitution, Planned and State-controlled Economy and its Collapse
A fter India achieved Independence (1947), the Indian statesmen and policy makers were faced with the problems o f a colonial legacy - economic backwardness and social injustice.1 Jawaharlal Nehru dreamed o f India’s planned economic develop- ment to achieve socialism. He rejected the Western capitalist model and also a Stali- nist-type o f regime as unsuitable for India. Instead he preferred the Fabian approach.2 The leading industrialists joined the policy makers in evolving a mixed economic system to achieve the goal o f a socialist pattern o f society. They arrived at an under- standing, known as the Bombay Plan, in which the government was given a para- mount role, and the private sector a minor role in directing, controlling and super- vising industrial development. The leading industrialists tacitly gave consent to restrictions imposed on private enterprises. In the course o f time, the private sector got side-lined, and planning and policy makers evolved “ a planned system more
1 For a review See: B. Chandra. “The Colonial Legacy." In: B. Jalan (ed.). The Indian Economy: Pro- blems and Prospects. Delhi. 1992. pp. 1-13.
2 See: D. Lai. The Hindu Equilibrium: A Cultural Stability and Economic Stagnation, Clarendon Press.
Oxford. 1988. pp. 232-33.
suited to a command economy and an economic administration more suited to re- gulation and control.” 3 The Planning Commission was established in March 1950 and the second Five Year Plan (1956-61) got o ff the mark on the basis o f Nehru- Mahalnobis model in spite o f its limitations.4 This model set the future pattern o f India’s industrial development without any hesitation from the leading industrialists.5 The Industrial Policy Resolution o f 1948 envisaged the working o f the public sec- tor under government patronage and the private sector by leading industrialists for the progress o f India’s industrial development. The Planning Commission, under the chairmanship o f the prime minister, decided the overall savings and investment, the size o f the plan and sectoral allocations. The elements o f regulation and control may be traced to the Industrial (Development and Regulation) Act o f 1951. The Industrial Policy Resolution o f 1956 prepared a blueprint for the undertaking o f rapid indu- strialization thanks to the ideas o f Mahalnobis. The state-owned enterprises produ- cing capital goods were given a commanding role capturing the “ commanding heights o f the economy” while the private sector was satisfied with production o f consumer goods and agricultural products, all catering the needs o f a planned economy.
The planning commission realized the paramount necessity o f state intervention in determining the pattern o f public investments, production pattern, and redistribution o f economic benefits to the masses on the principle o f “ growth with social justice.”
The second Five Year Plan further envisaged a rapid expansion o f the public sector which was given the task o f building the industrial infrastructure, “ which the private sector is either unw illing or unable to undertake.” The plan documents o f the first three Five Year Plans expressed the desire o f achieving more equitable distribution o f income, “ raising living standards,” national income and employment,” and granting the “ benefits o f economic development to the relatively lessprivileged social classes”
to establish “ greater equality o f opportunity and bring about reduction in [social and economic] disparities.” A ll the objectives o f the plan could not be achieved, and it became clear at the end that ” concurrence o f growth with equality has had to be abandoned in favor o f growth alone, with little emphasis on distribution.” 6
The policy makers and planners conceived the idea o f a price mechanism that would suit the objectives o f the plan rather than the principles o f the market. The price mechanism would be controlled by the state bureaucracy. Thus the “ market failures,”
found so common in the Western capitalist economies, would not occur in India. It was believed that efficient bureaucrats who understood the signals o f the market would accomplish the twin objectives o f resource mobilization and allocation for the plan outlays. Their hopes were belied within three decades, since market principles
3 R. Mohan, “Industrial Policy and Controls.” In: B. Jalan (ed.), Op.cit. p. 93.
4 On the limitations of the Mahalnobis model and strategy see: S. Sarkar,
"Growth Perspectives o f the Eighth Plan: A Two-Sector Open Economy Framework.” Economic and Po- liticai Weekly, f f Bombay, Vol XXVIII. Nos. 27 and 28, 1993. p. 1453. Also see J.W. Melior, The New Economic Growth: A Strategy f o r India and the Developed World, Ithaca: Cornell University Press,
1976. pp. 3 ^ ł.
5 See: P. Bardhan, The Political Economy o f development in India. Oxford: Blackwell, 1984, p. 40.
6 D. Banergee and A. Ghosh, “Indian Planning and Regional disparity in Growth.” In: A. Kumar Bagehi (ed.). Economy, Society and Policy: Essays in Political Economy o f Indian Planning, f f Calcutta, 1988.
p. 105.
Transition to Market Economy: India 's Experience 181
00063447
could not be thwarted. In the end it became evident that like “ market failure” there could be “ government failure” or “ bureaucratic failure” too.
The private sector, which was assigned a minor role, was to operate in areas other than that designed for the public sector and was subjected to an industrial licensing system. It was to invest in areas specified in the government’s list o f priorities and these included grains, agricultural products, consumer goods and some capital goods.
The licensing control system became more restrictive in outlook w ith the passages o f Monopoly Restrictive Trade Practices (MRTP) o f 1969, and Foreign Exchange Regulation Act (FERA) o f 1973. The former prevented large business houses from establishing monopolies, the latter restricted all kinds o f imports and exports. There were other restrictions which hindered private initiatives. An application to establish a private enterprise required various licenses causing not only delay but additional expenditure in view o f rising costs.7 lthough these controls were introduced with good intentions, they became useful tools in the hand o f vested interests and corrupt bureaucrats for “ rent seeking” , and instead o f promoting industrial development they hampered it. Eventually the control system became rigid with pernicious effects on investments. Some 836 industrial products were reserved for small-scale enterprises thus preventing successful small firms from competition.
The deleterious effects o f the regulation and the licensing system were felt by the industrial sector as early as the late 1960s. Four committees were set up to examine the issue, but the recommendations, with a few exceptions, were not implemented.8 To insulate domestic industry from undesirable foreign competition, the govern- ment extended a ring o f protection by building a high ta riff wall. The growth in indu- striai production, however, generated a need for importing raw materials. Unfortu- nately, import policy, till the mid 1970s aimed at reducing the need fo r imported raw materials, foreign capital, and technology. The policy o f “ domestic production for domestic market” in the name o f “ self reliance” engendered what is known as “ export pessimism.” India’s exports declined considerably in the 1960s, resulting in a recur- rence o f a balance o f payments crisis. This was at a time when the volume o f world trade was increasing by leaps and bounds.9 In the 1980s India’s share in the world trade showed a steep decline down to 0.4%. Indian products lost their competitiveness in foreign markets due to poor design, low quality, and high costs resulting from out- dated technology.
Foreign investments in India played no significant role due to the MRTP, Indian Patent Act (1970) and FERA. Foreign enterprises were allowed 40% o f the equity capital and permitted to operate in restricted areas o f trade and commerce. There was a fear that foreign investments would bring about foreign interference and foreign domination in industrial and business sector; it was this attitude that discouraged the inflow o f foreign exchange and technology transfer.
7 Mohan, “Industrial Policy and Controls.” In: B. Jalan (ed.), Op.cit. pp. 96-97. Also see his, "De-licen- sing.” In: Seminar, New Delhi, 1991; A. Heston, “Indian Economic Reforms: The Real Thing?" Current History. Vol. 91, No. 563, 1992. pp. 113-14.
8 R. Mohan. Op.cit. pp. 97-99.
9 For export policy and lost opportunities see: J. Bhagwati and P. Desai, India: Planning fo r Industria- lization. London: Oxford University Press, 1970. p. 370.
ln 1989 a communist country like China allowed $ 3 billion foreign direct invest- ment, where India permitted only $ 100 m illion. During the premiership o f Shri Rajiv Gandhi, the tight hold on inflow o f foreign capital was relaxed. He believed that foreign investment would bring superior technology to the industrial sector, and, in the long-term, become instrumental in bridging the widening trade gap. He even conceived o f a large role for the private sector in view o f the dismal performance o f the public sector.
The expansion o f the public sector was phenomenal, and by 1991 there were 246 units, o f which 236 were operating with a capital o f Rs. 101,797 crores. They showed a net profit o f Rs.2,368 crores, a paltry 2.3%, and the bulk came from the oil sector.
Regarding the share o f the public sector in the gross domestic savings, it declined from 20% in 1981 to 8% in 1990; and with reference to the GDP, it declined from 4.6% to 1.7%. W ith regard to departmental enterprises o f all the states and union territories o f India, they incurred loss estimated at Rs. 1,827 crores in 1991-92. The State Elee- tricity Boards and State Road Transport Corporations incurred a further loss o f Rs.
4,169 crores and Rs. 470 crores respectively in 1990-91.10 Besides, a large number o f sick public sector units received subsidies amounting to Rs. 15,000 crores annually in recent years. Therefore the poor performance o f the public sector, which had captured
“ commanding heights,” came under scathing attacks for showing low-rates o f return, poor capacity utilization, and declining contribution to national savings."
The regulations and licensing system deterred investments in the private sector which was also not showing considerable improvement in spite o f its motive being profit-m axim izing and efficiency. The number o f profit making companies declined from 1,368 in 1985-1986 to 1,164 by 1987-88, and gross profit as a percentage o f sales also declined from 9 % to 7.8 %.
W hile the public sector showed poor returns, government expenditure had been enormously growing since the 1980s and it had resorted to borrowing. Persistent and growing fiscal deficits placed the Indian economy in terrible distress, thus causing stagflation and balance o f payments crisis. In 1990-91, it was running at Rs. 43,331 crores, i.e. at 8.4% o f the GDP. As fo r inflation, it began in October 1990 at a modest 7%, rapidly rose to 13.7% in February 1991, and finally reached its peak at 16.7% in August 1991. The G u lf crisis coupled with import liberalization in 1990-91 plunged the Indian economy to the verge o f bankruptcy. Non-resident Indians withdrew their deposits on an average o f $300 m illion a month from their accounts in India, and international commercial institutions lost their faith in the viability o f Indian eco- nomy. The foreign exchange reserves declined to Rs. 2,383 crores ($ 1 billion). As mentioned earlier Rajiv Gandhi’s economic liberalization remained short-lived and could not halt economic decline.12 India’s external debt stood at the staggering figure o f $ 70 billion in 1991. From an international perspective it ‘reflected the lack o f confidence and “ Government inability to manage the situation.” 13
10 Economic Survey 1990-91. Part II. Ministry o f Finance, Government of India, New Delhi. 1992.
pp. 20-22.
11 D. Lai. Op.cit. p. 284.
13 A. Kohli, “Politics of Economic Liberalization in India.” World Development, Vol. XXVII, No. 3, 1989.
pp. 305-28.
IJ Economic Survey 1990-91. Part I. p. 6.
Transition to Market Economy: India s Experience 183
2. Stabilization, Liberalization and Privatization: Towards a Market Economy
The International Monetary Fund and the World Bank reiterated their willingness to assist the newly-formed Congress Party minority-govemment, which assumed office in June 1991, i f their conditions were accepted. Moreover the minority government o f P.V.
Narasimha Rao and Finance Minister Manmohan Singh realized the fu tility o f pursuing the industrial policies o f the 1950s in the current context. The New Industrial Policy of July 24,1991, occupied the centerstage o f the New Economic Policy, stating: ” many of the public enterprises have become a burden rather being an asset to the government.” 14 With regard to the private sector, it referred to “ major policy initiates and procedural reforms are called for in order to actually encourage and assist Indian entrepreneurs to exploit and meet the emerging domestic and global opportunities and challenges.” 15
The Trade Policy reforms were intended to achieve a “ rapid growth o f exports to overcome our persistent balance o f payments problems, restore international confi- dence and achieve true self-reliance with an expanding economy.” 16
Anne O. Krueger rightly says that “ One o f the major difficulties w ith liberalization is that it is usually undertaken in the midst o f an exceedingly d iffic u lt situation, and often in crisis atmosphere.” 17 Forty years o f planning policies and strategies under the Congress Party government had nurtured groups o f vested interests, and attempts to liquidate them through new policies would encounter opposition. The New Economic Policy o f Narasimnha Rao’s government has challenged the wisdom o f Nehru’s Fabian Socialism and Mahalnobis’s theoretical vision. Hence, the problems o f the new dispensation stem from ideological differences.
The Indian economy which was now poised for marketization, privatization, and globalization has had to contend with criticism relating to the conditionalities attached by the Fund/Bank for releasing the much-needed economic assistance. Indira Gandhi had rejected the Fund’s assistance in 1981 in order to avoid the undesirable conditionalities. The Fund/Bank policies o f reform have been subjected to serious scrutiny in recent years, and its inadequacies have been pointed out before when implemented in the Third World countries in general, and India in particular.18 W hile the Fund/Bank contends that their package o f reforms would release the “ unsuspected and unknown energy potential” o f the Indian economy, many still suspect that it w ill benefit only the 10% to 15% well-to-do sections o f the population and land India into a serious “ debt trap.” 19 Manmohan Singh allayed the fears o f the Indian economists about the conditions but it did not have the desired effect.
14 Statement on Industrial Policy. Paragraph 31.
15 In: B. Jalan, Op.cit. p. 82.
16 Ibid. pp. 82-83.
17 In: A.C. Hårberger (ed.). World Economic Growth: Case Studies o f Developed and developing Nations.
San Francisco, 1984. p. 412.
18 For a critique of the IMF model see: R. Sau. “Financial Programming for Stabilization: Some Notes on the IMF Model.” Economic and Political Weekly, Vol. XXVII, Nos. 10 and 11, pp. 531-34.; K.P.
Levitt, “IMF Structural Adjustment: Short-Term Gain for Long-Term Pain?” Economic and Political Weekly, Vol. XXVII. No. 3, pp. 97-102; M. Rakshit, “The Macroeconomic Adjustment Program: A Critique.” Economic and Political Journal, Vol. XXVI, No. 34 pp. 1977-88.
19 A. Gosh, “Management of Economy and IMF Conditionalities.” Economic and Political Weekly, Vol.
XXVII. Nos. I and 2. pp. 14-15.
The Fund/Bank strategy o f dealing with balance o f payment crisis, i.e. stabilization program, was accepted and carried out by the Indian government. A sharp devaluation o f the exchange value o f the rupee to the extent o f 20% was put into effect in two stages during the first week o f July 1991. It was followed by changes in the import policy which aimed at reducing imports and encouraging exports. These immediate measures fetched the Indian government $ 2,260 m illion as standby credit from IMF, which, to a great extent, restored international confidence. In presenting the 1992-93 budget, the Finance M inister boldly announced that the crisis was over. But what was the impact o f stabilization? Though inflation was brought under control, industrial output and exports suffered setbacks. The GDP reached a low level, indicating that the economy was in recession. The devaluation pushed up the cost o f debt-servicing by another $ 1.2 billion thus making it a total o f $ 5.9 billion. As for the balance o f payments crisis, it posed no immediate threat to the government.20
The new economic policy o f the government includes the Fund/Bank prescriptions o f structural adjustments and reforms in a phased manner after completing the stabiliza- tion. In tune with the new policy, the industrial licensing system, with some reservati- ons, was virtually abolished. Similarly, the MRTP Act placing restrictions on large business houses was scrapped. The FERA was amended to allow foreign investments a larger equity (51 %) in a large number o f industries, moreover, in some export-oriented industries up to 100%. Approval procedures in foreign cooperation were liberalized.
Exports were encouraged through incentives. In the second budget, presented by Manmohan Singh, steps were taken for de-subsidization, government disinvestment in public sector, partial convertibility o f the rupee, reduction o f customs duties and so on.
Due to these measures, the growth rate increased from 1.2% in 1991-92 to roughly 4.2% in 1992-93. The current account deficit was reduced from 2.89% to 1% o f the GDP, and export growth registered 24% on average by quarters. The inflation rate decreased from 17% in 1991 to 6% in August 1993. The trade deficit, during this financial year, in all likelihood, would be reduced by about $ 1 billion, compared to 1992-93. Agricultural and industrial growth would reach 6% and 4.5% respectively during the current financial year. The budget deficit, according to recent budget estima- tions, is declining from 8.4% (two years ago) to roughly 5%. Speculation is rife that external debt w ill go up to $91 billion in 1997-98 and debt payment w ill be larger than the foreign currency reserves by 1998. The above statistics reflect a slow recovery from the 1991 crisis and show that India is on the path o f growth. Recent statements made by the Minister o f Finance at the time o f the presentation o f the third successive budget were very optimistic. He stated that if the present process o f economic reforms was con- tinued, India would be a major “ Power House” in Asia in a couple o f years. His opti- mism is, however, not shared by many economists, for the problems o f adjustment and transition are going to be too painful to bear in terms o f social costs. What problems w ill India get during the period o f adjustment and transition? For India, there is no respite from dithering because the Fund/Bank is always prodding the country to carry out structural reforms. The government has not achieved considerable progress in matters like public sector reforms, privatization, de-subsidization, tax and banking reforms.
20 V.M. Dandekar, “The Economy and the Budget.” Economic and Political Weekly, Vol. XXVII. Nos. 15 and 16, 1992, p. 815.; Economic Times, Bombay, March 22, 1993, p. 9.
Transilion to Market Economy: India 's Experience 185
00063447
The industrial policy o f 1991 envisaged a low profile for public enterprises since investment decisions hereafter w ill be handled by private entrepreneurs based on their commercial judgements. But public enterprises in the sphere o f defence industries and infrastructure shall receive due attention. They w ill receive less subsidies and the sick and loss-making units w ill be referred to the Board o f Industrial and Financial Reconstruction (BIFR) for disposal, but the process is going to be very slow.
In the euphoria for socialism, previous governments neglected accountability and profitability in running the public sector. Frequent government interference in their working led to inefficient management, and vested interests played an important role.1־ The present government therefore has decided to withdraw from running enterprises. A policy o f disinvesting the government’s share o f capital holding up to 20% was introduced. Meanwhile public firms are gaining autonomy by decentraliza- tion.22 The government’s biggest hurdle in reforming public enterprises stems from
In the euphoria for socialism, previous governments neglected accountability and profitability in running the public sector. Frequent government interference in their working led to inefficient management, and vested interests played an important role.1־ The present government therefore has decided to withdraw from running enterprises. A policy o f disinvesting the government’s share o f capital holding up to 20% was introduced. Meanwhile public firms are gaining autonomy by decentraliza- tion.22 The government’s biggest hurdle in reforming public enterprises stems from