Plus One Economics-Chapter 3
Plus One Economics-Chapter 3

Plus One Economics-Chapter 3

Chapter 3

Liberalization, Privatization and Globalization: An Appraisal.

Plus One Economics Chapter 3


India’s economic strategy till 1990-91 helped to build a well diversified industrial sector. Countries like South Korea, Singapore, etc., industrialized rapidly as a result of their market-friendly policy.

Background of Reforms

Some of the deficiencies of the strategy from 1950-51 to 1990-91 can be summarised as follows:

  • Acts like MRTP (Monopolies and Restrictive Trade Practices Act) prevented large resourceful companies from making investment. Acts like FERA (Foreign Exchange Regulation Act) restricted foreign investment.

  • Reservation of certain areas (like steel) for the public sector prevented good private sector companies (like TISCO) from making large investment.

  • Reservation of many goods for small-scale and cottage sector led to poor investment.

  • Progressive taxation reached absurd levels. (Personal income tax rate touched a maximum of 97.75 per cent in 1973-74). This discouraged tax compliance, encouraged tax evasion and created unaccounted (black) money.

  • Protection to domestic industry through high level of import duties (rising as high as 330 per cent) made domestic industry inefficient.

  • The public sector, with some exceptions, was performing poorly.

This necessitated a rethink on our economic policy. Reforms were introduced as a result of this re-thinking.

The Crisis of 1991

In 1991 petroleum prices rose sharply due to political disturbances in the Gulf region. India’s imports rose sharply. But our remittances from, and exports to, Gulf countries declined. Our foreign exchange reserves fell to less than $ 1 billion, just sufficient to meet only two weeks of import requirements. We came close to defaulting on our international commitments. Poor balance of payments position created fears of currency devaluation. This caused capital flight from the country. High fiscal deficit along with rising petroleum prices led to mounting inflation.

Credit rating agencies like ‘Moodys’ and ‘Standard and Poor’ downgraded India’s credit rating to speculative grade. International banks refused to give loans to India. We had to sell some gold and pledge gold with the Bank of England. To overcome this crisis, we approached the International Bank for Reconstruction and Development (IBRD), popularly known as World Bank and the International Monetary Fund (IMF). India received loan of $7 billion. World Bank and IMF imposed conditionalities on loans.

The conditions are given below:

  • a) Liberalise the Indian economy and open its portals to the world economy.
  • b) Liberate the private sector from excessive government control.
  • c) Reduce government involvement in different sectors of the economy.
  • d) Remove controls on international trade.
India agreed to the above mentioned conditionalities of World Bank and IMF, and announced the New Economic Policy (NEP). Wide ranging economic reforms were announced starting from 1991.

The government announced a two part programme.

  1. Stabilization Measures
  2. Structural Adjustment Programme (SAP)
Stabilization refers to short term measures to correct macro economic imbalances like foreign exchange crisis and inflation.

  • For example, reduction of fiscal deficit to control inflation or devaluation to increase exports.
Structural Adjustment Programme (SAP) consists of measures to improve the productivity of the economy. Changes in industrial, labour and trade policies are structural adjustment measures.

Economic reforms were implemented in all spheres of the economy like the industrial sector, financial sector, taxation, trade and capital market. Broadly, these reforms fall under three heads, viz., liberalization, privatization and globalization. Liberalization and privatization are policies. They are optional. But, as Amartya Sen said, ‘Globalization is a phenomenon‘. It is a wave sweeping across the world. It is mainly powered by changes in technology like satellite communications and the internet. Partly, globalization is a consequence of liberalization and privatization.


Liberalization means liberating the economy from government restrictions on economic growth. The earlier policy of government intervention was excessive interference. Intervention is positive. Interference is negative. Interference created the ‘licence-permit raj’. It led to corruption, delays and inefficiency. Policies like licensing, resérvation of certain industries to public and small scale sectors, MRTP Act, FERA, etc., discouraged private investment and growth. In other words, the earlier strategy proved to be restrictive rather than regulatory (Liberalization aims at removing these restrictions on growth.

Deregulation of Industrial Sector (Industrial Sector Reforms)

The following reforms were introduced in the industrial sector with a wiew to increase industrial production and growth of the sector.

  • 1) Delicensing: Only a few industries like alcohol, cigarettes, hazardous chemicals, industrial explosives, drugs and pharmaceuticals need licensing. Others have been delicensed.
  • 2) Dereservation: The number of industries reserved for the public sector has been drastically reduced. Only defence equipment, atomic energy and railways are reserved for the public sector.
  • 3) Dereservation of goods for small-scale sector: Number of goods reserved for the small-scale Sector was reduced.
  • 4) Amendment of MRTP and FERA: MRTP Act and FERA were amended to facilitate private investment.
  • 5) Industries were allowed to expand their capacity freely as per the needs of market.
  • 6) Producers were allowed to produce any commodity or diversify their output.

Financial Sector Reforms

The financial sector includes institutions dealing in banking, insurance, investment banking, capital market operations (stock market) and foreign exchange operations.

Important financial sector reforms are:

  • 1) Bank branch licensing liberalised.
  • 2) The number of industries reserved for the public sector has been drastically reduced. Only defence equipment, atomic energy and railways are reserved for the public sector.
  • 3) Deposit and lending rates deregulated.
  • 4) CRR and SLR reduced, facilitating more money with banks.
  • 5) New life insurance and general insurance companies were allowed in the private sector.
  • 6) Capital markets liberalized.
  • 7) Mutual funds opened to the private sector.
  • 8) Foreign institutional investors (like mutual funds, pension funds, etc.) were allowed to invest in Indian capital market.

Tax Reforms

Tax reforms were introduced as a part of liberalisation and economic reform.

Fiscal Policy

Fiscal policy is the policy of government on public expenditure, government revenue and public debt.

Tax – Two Types

Direct Tax: tax paid directly to the government) by the individuals or business entities on whom it is imposed. e.g. income tax and corporation tax.

Indirect Tax: It is a tax collected and remitted by one whereas its impact falls upon another. Hence it is called Indirect Tax. e.g. sales tax, excise duty, etc.

Important tax reforms are the following:

  • Reduction in personal income tax.

  • Reduction in corporation tax.

  • Reduction in excise duty.

  • Reduction in customs duty.

  • Introduction of GST (Goods and Services Tax).

  • Note: GST came into effect in July 2017 (Thus, VAT, service tax, excise duty, customs duty, etc., are all now included in GST)
It is global experience that moderate levels of taxation encourage tax compliance and discourage tax evasion. Lower excise duties bring prices down. Lower customs duties encourage competition.

Foreign Exchange Reforms

In 1991, as a stabilization measure, Indian Rupee was devalued. Devaluation means reducing the value of the domestic currency vis-a-vis foreign currencies. This prevented capital outflow, encouraged capital inflows and exports.

The exchange rate formerly determined by the RBD (Fixed Exchange Rate) was replaced by market determined exchange rate. Now the exchange rate is determined by demand for and supply of foreign currency.

Exchange Rate

Exchange Rate: It is the rate at which one currency is exchanged for another.

Fixed Exchange Rate: When exchange is determined by the Central Bank, it is fixed exchange rate.

Flexible Exchange Rate: It is a type of exchange rate regime wherein a currency’s value is determined according to market forces – demand and supply — in foreign exchange market.

To promote trade and investment, following reforms were introduced:

  • Imports liberalized.

  • Quantitative restrictions on imports (Quota) removed.

  • Import duties reduced.

  • Import licensing abolished except in case of hazardous and environment-sensitive industries.

  • Export duties removed to encourage exports.

  • Moved to market determined exchange rate.

Privatization :

Privatization implies giving away ownership/management of government enterprises to private companies. It became a global trend in the eighties and nineties. It may be described as denationalization. India started privatization as part of the structural adjustment programme. Governments have been following different forms of privatization. Disinvestment is one form of privatization; it implies selling government investment (equity) in public sector undertaking.

Disinvestment aims at:

  • Improving the management of PSUs through superior management techniques.

  • Improving financial performance of PSUs through financial discipline.

  • Enhancing ability of companies to raise financial resources from the market.

  • Raising revenue for the government from sale of equity.

The government made a series of disinvestments. Some PSUs in non-priority areas (e.g. Modern Bread) were completely sold off. Some PSUs which were managed well and were making profits were given autonomy, Some companies in areas like petroleum, steel, power, engineering, etc., which were doing well were given financial, managerial and operational autonomy by declaring them as ‘Navaratnas’.

‘Navaratnas'( 9 Gems)

Indian Oil Corporation (IOC)

Hindustan Petroleum Corporation Ltd. (HPCL)

Bharat Petroleum Corporation Ltd. (BPCL)

Oil and Natural Gas Corporation (ONGC)

Steel Authority of India Limited (SAIL)

Indian Petrochemical Corporation Limited (IPCL)

Bharat Heavy Electrical Limited (BHEL)

National Thermal Power Corporation (NTPC)

Videsh Sanchar Nigam Limited (VSNL)

Later two more PSUs were added to the original list of Navaratnas. They were:

Gas Authority of India Limited (GAIL)

Mahanagar Telephone Nigam Limited (MTNL)

VSNL and IPCL were later privatised. 97 other profit making enterprises are now referred to as ‘Mini Ratnas.’

Globalization :

Globalization means integration of countries of the world.

Joseph Stiglitz

The eminent Nobel laureate Joseph Stiglitz defines globalization as: “Fundamentally globalization is the closer integration of countries and peoples of the world which has been brought about by the enormous reduction of costs of transportation and communication, and the breaking down of artificial barriers to the flow of goods, services, capital, knowledge and (to a lesser extent) people across borders ”. It is clear from this definition that globalization implies:

  • Closer integration of countries.

  • Free flow of goods, services, capital, knowledge and people across national borders.

  • Extension of markets through reduction of costs of transportation and communication.

Amartya Sen

To Amartya Sen, globalization is “a phenomenon, not a policy.” Other economists also see globalization as an outcome of liberalization and privatization.


Outsourcing means sourcing from outside. This is one of the important outcomes of the globalization process. Developed countries are outsourcing many services from developing countries like India. Computer software, ITES (IT Enabled Services) like medical transcription, accounting, legal services, editing, animation, etc., are the major outsourcing businesses. India’s huge pool of skilled human resources, low wage rates and proficiency in English language have made India a major outsourcing destination for Multinational Corporations in developed countries. Indian IT/ITES industry has contributed substantially to the growth of Indian economy. This industry has created several millions of jobs in recent times.

World Trade Organisation (WTO) :

World Trade Organisation (WTO) GATT (General Agreement on Tariffs and Trade) was established in 1948 with 23 countries as a multilateral forum. Its main objective was to promote trade by removing restrictions on international trade like quotas and tariffs.

In 1995, GATT was replaced by WTO. WTO aims at:

  • Equal opportunities to all countries in international market.

  • Encouraging multi-lateral trade (Trade between nations) rather than bi-lateral trade (Trade between two countries).

  • A rule based trading system removing arbitrary trading restrictions.

  • Extension of trade by including trade in services like banking, insurance, etc.

  • Removal of tariff and non-tariff barriers in trade.

  • Including TRIPs (Trade Related Intellectual Property Rights) and TRIMs (Trade Related Investment Measures) in the scope of international trade.

India which was a founding member of GATT is a member of WTO.

Indian Economy During Reforms: An Assessment

Economic reforms began in India in 1991. It is time to make an assessment of the reforms.

Gross Domestic Product

Economic growth rate is the rate of growth of GDP. See the following table.

Table 3.1
Period GDP Growth Rate
1980 – 1990 5.79
1990 – 2000 5.7
2000 – 2010 7.26
2015 – 2016 7.6
Source: CSO

The table shows that there has been a marked improvement in GDP growth rate. The Tenth Five Year Plan achieved a record growth rate of 7.9 per cent. During this period, India has been the second fastest growing major economy in the world.

The growth is mainly driven by the services and industrial sectors. But, low growth rate is seen in agricultural sector.

The higher GDP growth is indeed an achievement of reforms.

The Economic Slow Down

Following the financial crisis of 2008, the global economy fell into acute recession. Global GDP contracted. Since this was the worst economic contraction since the Great Depression of 1930s, this is now referred to as the Great Recession. India was one of the few economies which were not seriously affected by the Great Recession. India’s GDP did not contract, but the growth rate slowed down. India grew by more than 9% during 2005-08. The Great Recession impacted India and the growth rate declined to 6.7% in 2008-09. But the Indian economy. quickly recovered from the slow down and achieved growth rates of 8.6% and 9.3% during 2009-10 and 2010-11. But growth rate again slumped to 6.2% in 2011-12 and a poor 5% during 2012-13. The global economy is yet to recover from the financial crisis of 2008 and the European debt crisis that followed. The contraction in the global economy impacted India also. Moreover, the high level of inflation in India and the consequent high interest rates also impacted growth. But recently India has smartly recovered from the slow down. India’s growth rate in 2015-2016 is 7.6%. This is the highest growth rate in the world.

Foreign Investment

Foreign investment in India has shown a big increase in the reform period. It includes Foreign Direct Investment (FDI) and Foreign Institutional Investment (FI), Both increased sharply. See table.

Table 3.2
Year FDI ($ Million) FPI ($ Million) Total ($ Million)
1990 – 1991 97 6 103
1995 – 1996 2144 2748 4892
2000 – 2001 4029 2760 6789
2005 – 2006 7751 12492 20243
Source: Handbook of Statistics on Indian Economy, RBI.

FDI into India has been increasing at a steady pace in recent times. In 2015 India received $ 55,560 million FDI. This is the largest FDI among emerging markets.

Foreign Exchange Reserves

Foreign exchange reserves shot up from $ 6 billion in 1991 to $ 363 billion in June 2016, Now, India has one of the largest foreign exchange reserves in the world.

Growth and Employment

India did not succeed in creating job opportunities in keeping with economic reforms. In other words, growth has failed in creating job opportunities for the labour force. Hence our growth is often called jobless growth.

Reforms and Agriculture

Economic reforms and high growth rate of GDP have not benefited agriculture. In fact, agriculture suffered during the reform period with only around 3 per cent growth. The problems in agriculture are mainly due to:

  • Decline in public investment in agriculture, particularly in irrigation, power, rural roads, research, etc.

  • Reduction in import duties on agricultural products leading to imports.

  • Increase in the prices of agricultural inputs has led to increase in cost of production. But, the prices of agricultural products did not increase at the same rate.

  • Production shift from domestic market to export market encouraged the farmers to shift to cash crops from food crops.

Reforms and Industry

The financial crisis brought about a slow down in industrial sector mainly due to low investment, infrastructure constraints, cheaper imports, etc,. Cheaper imports re-placed the demand for domestic goods.

Since 1991 the performance of the industrial sector has been impressive. But the industrial sector is subject to cyclical fluctuations. After showing impressive growth rate during 1995-99 the industrial growth rate declined during 2000-04. But since 2004 the growth rate of the industrial sector has again become very impressive. The sector recorded around 9 per cent growth rate annually during 2004-08.

In many areas such as steel, aluminium, zinc, petroleum refining, chemicals, engineering, autoparts, pharmaceuticals, etc. Indian industry is becoming globally competitive. In recent years many Indian companies took over foreign companies. (For example: Tata Steel bought Corus, Tata Motors bought Jaguar and Land Rover brands of Ford, Tata Tea bought Tetley Tea, Hindalco bought Novelis.)


Every year the government fixes a target for disinvestment. In 1991 – 92 the target was around ₹ 2,500 crore. But they could go above the target to the tune of ₹ 3,040 crore. In 2016 – 17 the target fixed is ₹ 56,500 crore.

Criticisms against disinvestment

Assets of several public sector undertakings have been undervalued and sold to the private sector thereby bringing huge losses to the government. The income from such disinvestment was not set aside for the development of PSUs, or utilised to develop social infrastructure facilities in the country. Instead, the proceeds from disinvestment were used to make up for the deficit in the budget.

Reforms and Fiscal Policies

The government introduced lower tax rates to curb tax evasion and increase public revenue. But it did not produce the desired results. Performance in revenue collection is measured by the Tax-GDP ratio. It declined in the early years of reform. Tax incentives were given to foreign investors to encourage foreign investment. But it reduced the scope for increasing tax revenue. This had a negative impact on developmental and welfare expenditures.

Table 3.3
Year Tax – GDP Ratio
1990 – 1991 10.1
2000 – 2001 8.9
2006 – 2007 11.2
2007 – 2008 12.3
2013 – 2014 16.6
2021 – 2022 11.7
Source: Handbook of Statistics on the Indian Economy (RBI) Economic Survey


Economic reforms have produced mixed results. There has been very impressive performance in many areas and poor performance in others.

Major positive aspects are:

  • It opened new opportunities in terms of greater access to global market.

  • Better technology adoption and improvement in the competence of domestic industries.

  • Substantial improvement in GDP growth rate.

  • Saving and investment rates improved.

  • Inflow of foreign capital (FDI and FII)

  • Improvement in foreign exchange reserve position.

Negative aspects (or failures) are:

  • It widened economic disparity; it only benefited the high income groups.

  • High growth rate in GDP did not benefit agriculture.

  • Vital sectors like agriculture and industry do not benefit much, whereas select areas in service sectors such as entertainment, real estate, hospitality services, etc., benefited more.

New Terms

Acquisition– takes over of a relatively weaker firm by a stronger firm.

Disinvestment– selling of government equity, partially or wholly, to private parties.

Free convertibility – An attribute of a currency which is freely exchangeable for another currency or gold.

Merger– An amalgamation of two firms where the respective share holders agree to combine their equity capital to from a single new company.

Monopolistic trade – Trade practices which have the effect of preventing competition.

Multilateral Trade agreement – Trade agreement made by a country with more than two nations to exchange goods and services.

Protection – Policy where by domestic producers are protected against foreign competition by raising of the tariff and/ non tariff barriers.

Quantitative restrictions – Restrictions in the term of total quantities or quotas imposed on imports to reduce Balance of Payments (BoP) deficit and protect domestic industry.

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