Economic Transformation of India: The Unfinished Agenda

Mandeep Singh
G.N.Khalsa College,Kurukshetra University
Yamuna Nagar(India)

(Abstract)

In response to a fiscal and balance of payment crisis in 1991,India launched a program of economic policy reforms. The

program consisting of stabilization-cum-structural adjustment measures was put in place with a view to attain macro

economic stability and higher rates of economic growth. Some rethinking on economic policy had begun in the early eighties

by when the limitations of earlier strategy based upon import substitution, public sector dominance and extensive government

control over private sector activity had become evident, but the policy response was limited only to liberalizing only

particular aspect of the control system. By contrast, the reforms in the 1990’s in the industrial, trade, and financial sectors,

among others, were much wider and deeper. As a consequence, they have contributed more meaning fully in attaining higher

rates of growth in India Although much seemed to have been achieved during this period, but a lot remains to be done .Fiscal

deficit continues to be high, agriculture still is stagnant, human resource development still remains laggard, regional

disparities still exist .The present paper is an attempt to analyze this unfinished agenda of economic transformation and to

chart out a road ahead.

 In the end of June 1991, India landed in an unprecedented economic crisis. Faith of international
community in Indian economy was shaken. The balance of payment position was on the brink of disaster
as in mid-January 1991 and again in late June 1991 the level of foreign exchange reserves dropped to
levels which were not sufficient to finance imports of even ten days. The BOP crisis that hit India in
1990-91, had been building for at least a half a decade preceding that year. The rising fiscal deficit and
gradually increasing overvaluation contributed to the rising imbalance. Inadequate exchange rate
adjustment in response to the external and domestic shocks during 1990-1 triggered the crisis. The period
from mid-1989 to mid-1991 was packed with a series of political developments, one following on
another without let-up. The break-up of Soviet empire, the unification of Germany followed the policy of
Glasnost .Iraq invaded Kuwait and set off another oil shock. Domestically there were three changes of
government and unprecedented socio-political upheaval. Underlying macroeconomic imbalances that
had been building up over the eighties came to a head as a result of these shocks and, along with the
inadequate policy response, resulted in a BOP crisis in 1990-91.

In order to pull the economy out of economic crisis and to put it on the path to rapid and steady
economic growth, introduction of economic reforms or appropriate economic policy was considered
inevitable. On June 21, 1991 the government adopted a number of stabilization measures that were
designed to restore internal and external confidence. The government adopted, as the centrepiece of
economic strategy, a programme to bring about reduction in fiscal imbalance to be supported by reforms
in economic policy that were essential to impart a new element of dynamism to the growth process in the
economy. This paper examines India’s experience with the cumulative outcome of sixteen years of
reforms to assess whether the reforms have created an environment which can support 8 percent GDP
growth, which is now the government target. The paper is divided into two sections. the first section
deals with emerging strengths of Indian economy in Post reform period especially with regard to growth,
savings & Investment; Industrial Sector Reforms and Developments in external sector . The second
Section deals with Creative Imperatives in India i.e. the priorities for Indian economy.

Section I : Emerging Strengths of Economy in Post Reform Period

A. Growth, Savings and Investment

Following the initiation of structural reforms in the early 1990s, the Indian economy has grown at an
annual average rate of over 6 per cent per annum. While the 1980s had also witnessed high growth (5.8
per cent per annum), this growth was associated with widening macroeconomic imbalances – growing
fiscal deficits, growing current account deficits, falling international reserves and higher inflation –
culminating in the balance of payments crisis of 1990-91. In contrast, not only has been there an
acceleration in growth from 5.8 per cent during the 1980s to 6.4 per cent between 1992-93 and 2005--
06, it has also been achieved in an environment of macroeconomic and financial stability, despite large
exogenous shocks, both internal and external, over this period (Table 1)
TABLE 1: INDIA’S REAL GDP GROWTH
Period Average Annual Growth Coefficient of Variation
(%)
1970s 2.9 1.42
1980s 5.8 0.39
1990s 5.8 0.32
2000-06 6.4 0.32
1992-93 to 2005-06 6.4 0.24
Source : Inaugural Address of Dr. Rakesh Mohan, Deputy Governor, RBI at the 2nd Annual Indian Securities
Infrastructure & Operations Forum 2006 at Mumbai on November 7, 2006.

More recently, real GDP growth has averaged more than 8 per cent per annum in the three year period ended
 2005-06. Taking into account the sharp deceleration in population growth over the past two decades, per capita
real GDP growth has recorded a more impressive increase from 3.4 per cent per annum during the 1980s to around
6.5 per cent per annum in the recent three years.
The Indian economy is today the world’s second fastest growing economy after China. In terms of
purchasing power parity (PPP) GDP, India is the world’s fourth largest economy after the US, China and Japan.
India’s share in world GDP (PPP basis) has increased from 4.3 per cent in 1991 to almost 6.0 per cent in 2005 (Chart
1).

The step up in the growth rate of the economy has been facilitated by increase in domestic investment to over 30
per cent of GDP, financed predominantly by domestic savings. Domestic savings increased to over 29 per cent of
GDP by 2004-05 after some stagnation in the second half of the 1990s. The improvement in overall savings in
recent years has particularly benefited from the turnaround in public sector savings. After turning negative
between 1998-99 and 2002-03 owing to sharp deterioration in the savings of Government administration,
public sector savings have turned positive again from 2003-04 onwards, mainly reflecting the ongoing fiscal
consolidation. In 2004-05, the public sector savings rate
CHART 1 : INDIA’S SHARE IN WORLD GDP

was 2.2 per cent, but it was still less than a half of the peak of almost five per cent touched in 1976-77.
Improvement in corporate profitability since 200203 has also contributed to increase in domestic savings in the
recent years. Household savings remain the predominant component of domestic savings, contributing almost three
fourths of overall domestic savings in 200405. For the Indian economy to achieve higher growth on a sustained
basis, further improvement in overall savings is necessary and, in this context, public sector savings will have to
play a significant role (Table 2).

TABLE 2: DOMESTIC SAVINGS IN INDIA (PERCENT TO GDP)

Period/ Household Sector Private Corporate sector Public sector Total
year
1970’s 12.2 1.6 3.7 17.5
1980’s 14.6 1.8 3.0 19.4
1990’s 18.5 3.7 1.0 23.2
2000-05 22.4 4.2 (-)0.2 26.3
Source : Inaugural Address of Dr. Rakesh Mohan, Deputy Governor, RBI at the 2nd Annual Indian Securities
Infrastructure & Operations Forum 2006 at Mumbai on November 7, 2006.
B. Industrial Sector Reforms: A Success Story

The major objective of reforms in the industrial sector was to attain faster industrial growth aided by improved
productivity and efficiency, so as to be competitive, domestically as well as globally. The instruments to achieve
these objectives included removal of industrial licensing which abolished restrictions on investment and capacity
expansion, de-reservation of industries reserved for the public sector, substantial opening of foreign direct
investment and trade liberalization through elimination of quantitative restrictions and reduction in custom tariffs.
These measures resulted in significant removal of entry barriers and provided greater access to foreign technology
and capital. Realistic exchange rates and industrial restructuring helped improve the competitiveness of the
manufacturing units. A welcome feature of the strengthening of economic activity since 1991-92 has been the
resurgence of manufacturing activity in the country ( Charts 2 and 3). After recording high growth in the mid1990s,
the manufacturing sector exhibited stagnation till 2001-02. Since then, manufacturing has registered a gradual pick-
up and this growth has been sustained in the current year so far

CHART 2: INDUSTRAIL PRODUCTION IN INDIA

Source : Inaugural Address of Dr. Rakesh Mohan, Deputy Governor, RBI at the 2nd Annual Indian Securities
Infrastructure & Operations Forum 2006 at Mumbai on November 7, 2006.
 CHART 3:GROWTH IN INDUSTRY:2002-05

Source : Inaugural Address of Dr. Rakesh Mohan, Deputy Governor, RBI at the 2nd Annual Indian Securities
Infrastructure & Operations Forum 2006 at Mumbai on November 7, 2006.

Today, the endeavour should be that the Indian industry must continue to strive to be an efficient and competitive
one and able to stand on its own in the face of rising domestic and foreign competition. In order to ensure this,
Government on its part must resist any attempts to delay the process of liberalization and deregulation and continue
to deepen the reforms and remove all obstacles and bottlenecks for unleashing competitive forces in the industrial
sector. This would entail removal of the remaining infrastructural constraints especially in power, transport and
telecommunications; reducing bureaucratic controls in all spheres, liberalizing the labour and land market and
removing other barriers to growth.

C. External Sector

The external sector has witnessed dramatic transformation over the past 15 years. There is growing integration of
the Indian economy with the rest of the world. In contrast to the constant stress experienced with respect to the
external sector during the period till the early 1990s, the balance of payments position since then has remained
comfortable. A summary indicator of the strength of the external sector is provided by India’s foreign
currency assets which are now close to US $ 160 billion (as on October 27, 2006) in contrast to a mere US $ 1
billion in June 1991. This significant improvement can be attributed to the combination of policies related to the
external sector such as reduction in tariff and non tariff barriers, current account convertibility, prudential approach
to capital account liberalisation, preference for foreign investment flows, especially direct investment flows,
constraints imposed on debt flows and a market determined exchange rate system. These policies have enhanced
access to external markets while promoting productivity gains and ensuring financial stability. This is mirrored in
strong growth in merchandise exports and, more strikingly, growth in exports of services and remittances. As a
result, the country has been able to finance its increasing import demand while keeping current account
deficits quite modest – an average of only 0.5 per cent of GDP since 1991-92 as against a deficit of 1.8 per cent of
GDP during the 1980s( Chart 4 & 5)
 CHART 4: IMPORT COVER OF RESERVES

CHART 5: CURRENT ACCOUNT DEFICITS

The growth in services receipts has been led by the significant expansion in software exports, and other professional
 and business services. Reflecting the sustained growth since the early 1990s, gross invisible receipts (i.e., services,
transfers and income taken together) have expanded sharply from 2.4 per cent of GDP in 199091 to 11.5 per cent in
2005-06, outpacing the growth in merchandise exports (which increased from 5.8 per cent of GDP to 13.1 per cent
over the same period). This has led to a rise in the share of invisibles in the current receipts (exports and
invisibles combined) from 29 per cent in 1990-91 to 47 per cent in 200506 (Table 4).
Table 4: India’s Invisible Receipts ( U.S. $ Billion)
Year Services Transfers Income Invisible receipts/ current
receipts
(per cent)

1990-91 4.6 2.5 0.4 29

1995-96 7.3 8.9 1.4 35
2000-01 16.3 13.3 2.7 42
2001-02 17.1 16.2 3.4 45
2002-03 20.8 17.6 3.5 44
2003-04 26.9 22.7 3.9 45
2004-05 46.0 21.3 4.5 47
2005-06 60.6 25.2 5.7 47
Source : Inaugural Address of Dr. Rakesh Mohan, Deputy Governor, RBI at the 2nd Annual Indian Securities
Infrastructure & Operations Forum 2006 at Mumbai on November 7, 2006.

exports, the share of India’s services exports in world exports has trebled in the course of just a decade from 0.6 per
cent in 1995 to 1.8 per cent in 2004 (Chart 10). India was the 18th largest service exporter in the world in 2004. The
gains recorded by the exports of services have far exceeded those recorded by exports of goods.
Foreign investment has increased from negligible levels till the early 1990s to 2.5 per cent of GDP by 200506 (Chart
11). Both direct and portfolio investment flows have recorded significant increases, although As a result, the ratio of
current receipts to GDP has nearly trebled from 8.2 per cent in 199091 to 24.5 per cent in 200506. Reflecting the
continued buoyancy of India’s services the inflows under direct investment remain relatively low compared to other
recipient countries. The volume of FDI inflows into India is, however, growing on the back of growing interest
by many of the world’s leading multinationals. India has improved its rank from fifteenth (in 2002) to become the
second most likely FDI destination after China in 2005. Net capital flows received by India amounted to US $ 25
billion in 2005-06; gross capital inflows and outflows were much higher at US $ 139 billion and US $ 115 billion,
respectively, pointing towards growing openness and integration of the Indian economy with the global economy.
Consequently, global economic developments are likely to have more pronounced effects on the Indian
economy than hitherto. Policies that take advantage of the growing openness while minimising the adverse
consequences have

CHART 6 : India’s Export of Services & Goods

 been followed since early 1990s and these have served the country well so far. Indeed, not only is India a recipient of
FDI inflows, but Indian companies are also increasingly investing abroad to take advantage of opportunities
available in the global market. Outward FDI investment was as high as US $ 2.7 billion in 200506 and cumulative
FDI investment abroad is estimated at US $ 12 billion at end March 2006.
CHART 7: Foreign Investment in india

Section II : The Creative Imperative in India

Perhaps no other economy has enjoyed such a buzz over its prospects or such celebration over its progress as the
Indian Economy. The irony of this notoriety is that it only raises the pressure on policy-makers to do even better,
particularly for India’s thousands of impoverished rural communities, where news of the country’s growing prosperity
has also arrived. Meeting their expectations will require that governments and the private sector focus on following
four issues identified as top priorities at the India Economic Summit:
A. Managing Growth
India aims to boost economic growth from 8 to 10% by 2010 but a number of obstacles stand in the way. The trouble is
that as India manages its growth higher, the going will only get tougher. Constraints such as poor
infrastructure, the underperformance of the agriculture sector and the shortage of skills will make it more difficult to
sustain the fast pace unless significant progress is made in resolving bottleneck problems. It will be even more
difficult to ensure that growth is equitable which is the top priority for India’s leaders. It will take strong partnerships
between the public and private sectors and better political and corporate governance to address the drags and
disparities that could spoil India’s ambitions. Specifically the growth imperatives for India are:
• Poor infrastructure, a weak agriculture sector and skills shortages are placing constraints on growth. But the
government alone cannot come up with the investment needed over the next five years to construct or upgrade the
airports, ports, bridges, roads, ports and other facilities it needs to support 10% growth. Public private partnerships
and significant private investment are essential.
• India will need to double growth in the farm sector to 4%, if it is to meet its goals and achieve more inclusive
growth. But for this to come true will require significant restructuring. The sector must diversify beyond traditional
cereal production into more high value businesses such as horticulture, floriculture and fisheries. But this will involve
the production, distribution and marketing of perishable products. Rural supply chains today are highly inefficient.
About 40% of Indian produce is wasted due to insufficient transport, storage and handling facilities and If we want to
develop the agricultural sector, one of the preconditions is a proper supply chain
• Educational reforms are vital for alleviating a shortage of labour . Companies complain of inadequate talent among
graduates and difficulties retaining personnel after spending money and resources on their training. If manufacturing
and agriculture are to expand, if the retail sector is to modernize to cater to the expanding ranks of middleclass
consumers and to the untapped rural market, if the infrastructure the nation badly needs is to be built, if the health and
education facilities and programmes the country requires are to push ahead, and if the economy’s knowledge base is to
widen, what India needs are workers with the skills to carry out this ambitious growth agenda and for this to happen a
comprehensive reform package in education is the need of the hour
• To promote innovation, India must make it easier for companies to access capital and encourage enterprises to go
global to improve competitiveness

B .State and National Competitiveness

India’s global competitiveness compares well with those of China, Brazil and Russia. But if the Indian economy is to
achieve and sustain 10% growth, it is imperative that Indian states must participate in this growth story.India’s states
are the principal shareholders in India’s development. Given India’s democratic system, India’s future competitiveness
will depend on the states and their capacity to adopt reforms and tackle their respective problems. The competition
among the states for investment will spur them into action. States differ widely in income level, quality of
infrastructure and governance standards. Foreign investors are increasingly more discriminating in their choice of
state to target. As in China, this has naturally sparked rivalries. The more responsive are taking stock and adopting
better governance practices, eschewing knee-jerk ideology for solid results. Indeed, some of the more pragmatic states
have come to understand the value of forging public-private partnerships with the private sector to address their
shortcomings in areas such as infrastructure, water management, healthcare and education that are crucial to attracting
investors. The states and the competitive spirit they generate will certainly be instrumental in helping India within five
years to achieve and sustain 10% growth, the level where China is today. India will need their contribution and
collaboration to address serious competitive shortcomings, particularly in education and human resources, governance
and the rural economy.
C .Risk Management
The risks to India’s progress span the development spectrum, from the immediate perils of poor nations to the long-
term challenges of affluent economies. While problems of water, the rural poor and disease have plagued India
since before independence, they are being joined by modern-day challenges, including volatile oil prices, the threat of
international protectionism and global climate change. The potential impact of these problems rises as the economy
grows. So India’s early stage of development gives it the chance to confront them early and devise novel solutions.
Some of the risk facing Indian economy are as Follows :
 One of the greatest risks is the one posed by India’s young and growing population. If India fails to adequately
feed, school and employ this swelling group, its “demographic dividend” could become a demographic
disadvantage. Later, India will face the same problem now vexing Europe and Japan – how to support an ageing
population.
 As many as two-thirds of India’s population live in a shrinking agricultural sector, uneducated and unskilled,
driving more into the cities by the year. Thus, even as companies complain of a skills shortage, growing disparities
in income could stoke social unrest.
 India is particularly vulnerable to an oil price shock. Though it lies close to rich gas fields and relies on domestic
coal for most of its energy, India is a net oil importer and subsidizes fuel prices. India is already short of natural
gas. India needs to secure its energy supply, invest in a strategic oil reserve and start taking stakes in foreign
supplies as China has done. It must continue to develop alternative sources of energy at home, such as solar, wind
and biofuel. Equally important, India needs to waste less energy
 Perhaps the biggest risk facing India, however, is the impact of global climate change, particularly on its worsening
water situation. India already suffers from the effects of deforestation and air pollution thanks to its reliance on coal.
Droughts and floods are on the rise and glaciers are retreating. The impact of these problems globally appears to be
contributing to more severe weather, potentially affecting the monsoons that are critical to the nation’s agriculture
and water supply. Shortages of water pose perhaps the greatest risk of social unrest. Almost a third of India’s people
lack access to quality drinking water and the numbers are growing as water supplies shrink In addition to massive
investments in water-related infrastructure such as desalination plants and drip irrigation, policies should discourage
the growth of water intensive crops in dry areas. Cities must conserve and recycle water to reduce their burden on
rural supplies. Mechanisms also need to be developed to price water to reflect its scarcity.
 India’s youth is a positive force but its schools need an overhaul if it wants to truly leverage its demographic
dividend. Companies should invest in vocational training and help design college curriculam.

D. Infrastructure development

Poor infrastructure may be the single most important issue India faces. Despite impressive economic growth,
India’s dilapidated roads, congested ports, inadequate power and labyrinth of state regulations are braking
development. Improving India’s infrastructure would propel economic growth, create jobs, boost domestic
 consumption, lower costs and stimulate exports. If its infrastructure were better, the country’s impoverished rural
sector could even be transformed into a leading exporter. On the other hand, if infrastructure improvements
continue to lag, foreign investment could stall and development would concentrate in service industries such as IT
outsourcing. This would exacerbate income disparities, feed social pressures and raise the potential for unrest.
Improving India’s inadequate infrastructure is essential to sustaining economic growth and reducing disparities in
income. Some of the Infrastructural areas requiring immediate attention are:
• Energy and water remain two crucial areas for investment. India needs to find more domestic sources of natural
gas and promote investment in power plants, water treatment and irrigation.
• Growing trade has created an urgent need for investment in logistics, particularly roads, ports and railways.
Customs facilities need to operate around the- clock.
• Private investment is crucial. Special purpose vehicles should be used to manage infrastructure projects and
eliminate red tape.
• The maze of state regulations still needs trimming. The financial industry should be further deregulated to facilitate
fund-raising and risk management
The government has ambitious plans to improve the situation. Montek S. Ahluwalia, Deputy Chairman,Planning
Commission, India, outlined the government’s aim, as detailed in its 11th Five-Year Plan, to raise infrastructure
spending from 4.7% to 8%of GDP. The government has committed to developing35 new airports by 2009 and has
embarked on a project to add 6,000 kilometers of highways connecting Delhi, Chennai, Kolkata and Mumbai. And,
recognizing the link between a broad power grid and state wealth, the government announced in October it will sell
stakes in its four largest power companies to help finance expansion of the nation’s power supply. The Govt.
promises much but ground realities points to very little.The mismatch in performance horizons is made trickier by
the fact that governments – both state and national – want to retain control over key public assets. As a result,
infrastructure aims will require public-private partnerships that bridge the gap in expectations. India is establishing
special economic zones as one solution; another suggestion is the creation of special purpose vehicles that would
provide investors with a single public partner able to cut through the red tape for them. To construct the
infrastructure India needs will require investment of US$ 350 billion over the next five years. As the government will
not be able to provide all the necessary funding, the private sector will have to cover the shortfall.
In conclusion, it may be said that the Indian economy responded to the economic reform of the 1990s with a higher
growth performance than in previous decades. The economy has shown that it is capable of achieving high growth
rates in response to the implementation of appropriate economic reform polices. Consequently, higher growth rates
in future can indeed be achieved through further deepening of the economic reform process. Government on its part
must resist any attempts to delay the process of liberalization and deregulation, no doubt as required under Indian
Economic environment and continue to deepen the reforms and remove all obstacles and bottlenecks for unleashing
competitive forces in the economic. This would entail removal of the remaining infrastructural constraints, reducing
bureaucratic controls in all spheres and removing other barriers to growth.
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