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LPG REFORMS 1991-92

02 Jan 2024 LPG REFORMS 1991-92

Posted at 13:10h in Daily current-affairs by
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UPSC MAINS SYLLABUS GS3 PAPER: Indian Economy and issues relating to Planning, Mobilization of Resources, Growth, Development and Employment

WHY IN NEWS? 

  1. S.Venkitaramanan, an IAS officer who served as the Governor of the Reserve Bank of India (RBI) from December 1990 to December 1992 passed away recently.
  2. He played a pivotal role in steering India through the 1991 financial crisis by employing strategies like pledging gold reserves and implementing import compression to stabilise the country’s Balance of payments (BOP) crisis. 

CAUSES OF BOP CRISIS IN 1991-92: 

The balance of payments (BoP) record the transactions in goods, services, and assets between residents of a country with the rest of the world in a financial year. It represents a summation of country’s current demand and supply of the claims on foreign currencies and of foreign claims on its currency:

  1. Indian economy was plagued with low rate of economic growth (called as Hindu rate of growth) averaging 3-4% of GDP between 1950s-1980s due to the:
    1. Poor performance of public sectors
    2. Red Tapism: Entrepreneurs were unwilling to establish new industries because laws like MRTP Act 1969, corruption, undue delays and bureaucratic inefficiency disenfranchised them. 
  2. Also, under India’s Industrial policy 1977 suggesting for Heavy industrialisation had led to large import of heavy industrial products. 
  3. To finance this, Indian Government under Rajeev Gandhi tenure had taken huge loans from International financial institutions such as IMF & World Bank.
  4. Additionally, India was highly dependent on Oil imports for its energy needs up to 80% of energy demands. This led to heavy drain of FOREX.
  5.  Further, fall of the Eastern Bloc or USSR in 1989 with which had significant trade relations with India led to deficit of FOREX payments flowing towards India. 
  6. Thus accumulation of factors (1),(2),(3) ,(4) & (5)  had led to India facing high TWIN Deficit:
    1. High Current Account Deficit (CAD) i.e; reduction of receipts and a rise in the value of imports, up to 3% of GDP (highest in two decades)
    2. High fiscal deficit incurred by the Government.  For example, India’s fiscal deficit had risen from 10% in 1985 to 12% in 1990-91.
  7. Thus, India was facing a Balance of Payments (BOP) crisis in 1990 which means inability to procure imports to serve need of economy due to dwindling of Foreign Exchange reserves.
  8. This was further exacerbated by Gulf crisis of 1990-91 which led to the rise in the price of oil following the invasion of Kuwait by Saddam Hussain. 
  9. There was also growing speculation that India would default on its external payment obligation. 
  10. In February 1991, the Chandrasekhar government was unable to pass the budget after Moody’s downgraded India’s bond ratings.

 

Following this, IMF suspended its loan program to India, and the World Bank also discontinued its assistance limiting the government’s options to address the crisis. These issues forced the Government & RBI to take drastic measures to avoid defaulting on its payments: 

IMMEDIATE MEASURES TO CONTROL 1991 BOP CRISIS: 

  1. RBI had begun a programme of import compression, implemented mainly via raising the cash margin on imports which was hiked fourfold between October 1990 and April 1991. This strategy turned out to be a winner, and CAD flipped from a high of 3% in 1990-91 to a mere 0.3% of GDP in 1991-92
  2. Devaluation of the rupee: The government, along with the Reserve Bank of India (RBI), undertook a two-step devaluation of the rupee – 9 & 11%.
  3. Pledging gold holdings to shore up forex reserves: The RBI pledged India’s gold holdings with the Bank of England in four tranches from 4-18 July 1991 raising around $400 million through this route.
  4. Budget 1991-92 increased Corporate tax rates by 5 % to 45% and introduced the concept of Tax deducted at source (TDS) for some financial transactions like bank deposits.
    1. It also increased the prices of cooking gas cylinders, fertilisers and petrol and removed the subsidy on sugar.
    2. It opened up mutual funds to the private sector and relaxed rules for investment by non-residents.

LONG TERM MEASURES: NEW ECONOMIC POLICY 1991: 

P. V. Narasimha Rao took over as Prime Minister in June 1991 and appointed Manmohan Singh as Finance Minister & ushered in several reforms that are collectively referred to as Liberalisation, Privatisation & Globalisation (LPG) reforms: 

LIBERALISATION OF INDUSTRIES: 

  1. Free determination of interest rate by the commercial Banks
  2. Increase in the investment limit for the Small Scale Industries (SSIs) to Rs 1 crore
  3. Indian industries were allowed to buy machines and raw materials from foreign countries to do their holistic development
  4. Industries were made free to diversify their production capacities and reduce the cost of production ( Earlier government used to fix the maximum limit of production capacity)
  5. Industries were freed from licensing and other restrictions, except following industries: Liquor, Cigarette, Defence equipment’s, Industrial explosives etc. 

PRIVATISATION: 

  1. Indian Govt. started selling shares of PSU’s to public and financial institution e.g. Govt. sold shares of Maruti Udyog Ltd.
  2. The share of private sector were increased from 45% to 55%.
  3. Number of industries reserved for public sector was reduces from 17 to 2: Space & Defence. 

GLOBALISATION: 

  1. Custom duties and tariffs imposed on imports and exports were reduced gradually just to make India economy attractive to the global investors.
  2. All controls on foreign trade was removed
  3. Partial Convertibility of Indian currency: Led to increased Remittances to meet family expenses, Payment of interest, Import and export of goods and services.
  4. Increase in Equity Limit of Foreign Investment (FDI & FPI)
  5. Further, India moved from Fixed exchange rate system under Bretton Wood system to Market determined exchange rate since March 1993. 

UPSC MAINS 2024 PRACTISE QUESTION: 

Q: Examine the effects of the LPG reforms on poverty alleviation in India.(10M, 150W). 

 

 

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