Economic Reforms Since 1991

By 1991 the old inward-looking strategy had run into a deep economic crisis. India faced a severe balance of payments crisis: foreign exchange reserves had fallen so low (to barely a couple of weeks of imports) that the country could not pay for its imports; the fiscal deficit and public debt were very high; inflation was rising; and the 1991 Gulf War had pushed up oil prices. India had to pledge gold and borrow from the IMF, which (with the World Bank) asked India to reform its economy. In response, the government announced the New Economic Policy (NEP) of 1991 — the famous LPG reforms (Liberalisation, Privatisation, Globalisation).

Liberalisation means freeing the economy from unnecessary government controls and restrictions, so that market forces can work. The main liberalisation reforms were:

• Industrial reforms — the licensing system was abolished for almost all industries (ending the licence raj), the number of industries reserved for the public sector was cut drastically, and restrictions on big firms (MRTP) were eased.
• Financial sector reforms — the role of the RBI changed from controller to regulator; private and foreign banks were allowed; and foreign institutional investors (FIIs) could invest in Indian markets.
• Tax reforms — tax rates were reduced and the tax system simplified, to encourage compliance and investment (later leading to the GST in 2017).
• Trade and investment reforms — import tariffs were cut, import quotas/licensing largely removed, and the rupee was made convertible — opening India to world trade.

The aim of liberalisation was to make the economy more efficient, competitive and faster-growing by reducing red tape and letting markets play a bigger role.

Privatisation means giving the private sector a greater role and reducing the role of the public sector. It can happen in two ways: by selling public-sector enterprises (PSUs) to the private sector, or by disinvestment — the government selling a part of its shares in a PSU to private investors and the public.

Why did India privatise? Many public-sector firms had become inefficient and loss-making, draining the government's resources without producing good results. By bringing in private ownership and management, the government hoped to:

• Improve the efficiency and performance of these firms (private firms face competition and the profit motive).
• Raise money for the government (from selling shares) to reduce its deficit.
• Reduce the burden of running loss-making units, and let the government focus on its core jobs.

To make better-performing public firms more independent and competitive, the government also gave special status to some of them — the Maharatna, Navratna and Miniratna companies were given greater freedom to take their own decisions and expand.

Privatisation has been gradual and sometimes controversial: supporters say it raises efficiency and resources, while critics worry about job losses, the selling of national assets cheaply, and neglect of social goals. So India has generally followed a careful, partial approach (mainly disinvestment) rather than wholesale privatisation. Together with liberalisation, privatisation aimed to make the economy more market-driven and efficient.

Globalisation means integrating a country's economy with the world economy — through freer trade, investment, technology and the movement of people across borders. The 1991 reforms opened India to the world by lowering trade barriers, welcoming foreign direct investment (FDI), and connecting Indian markets to global ones. A major feature was outsourcing — foreign companies getting services (like IT, call centres and back-office work) done in India, where skilled labour is cheaper, which made India a global services hub.

Globalisation is supported by the World Trade Organisation (WTO) — the international body that sets the rules for world trade and works to remove trade barriers between countries. India is a founding member of the WTO (set up in 1995, succeeding GATT). Membership gives India access to world markets and a voice in trade rules, though India also negotiates hard to protect its farmers and small industries.

How well have the reforms worked? An honest appraisal shows both sides:

• Successes: economic growth accelerated (India became one of the fastest-growing economies); foreign investment and reserves rose sharply; the services sector (especially IT) boomed; and a wider range of goods became available to consumers.
• Criticisms: agriculture was relatively neglected and grew slowly; growth was often "jobless" (output rose faster than employment); inequality between rich and poor and between regions widened; and there were worries about the social costs of opening up.

So the 1991 reforms transformed India from a slow-growing, closed economy into a fast-growing, globally connected one — a historic turning point — but the gains have not been shared equally, which is why the next chapter looks at the challenges that still remain.