INTRODUCTION

Reforms in India prior to 1991 were incremental, adding flexibility without fundamentally altering
the existing economic system developed in the 1950s and 1960s. However, in 1991, the Indian
government undertook significant changes to the system of economic management to adapt to
contemporary needs. It needs to be understood whether the 1991 reforms were domestically
initiated or driven by the International Monetary Fund (IMF). While some believe the IMF
imposed these reforms as a condition for financial assistance, there was actually an ongoing
process of rethinking Indian economic policy prior to 1991.

MEANING
Economic reforms as a development strategy aim to shift the focus from a heavily controlled
economy to one where market forces play a more significant role. The intended outcomes are
higher economic growth, increased employment opportunities, better infrastructure, and
improved social welfare.
In the Indian context, economic reforms have been driven by the need to address various
challenges, including slow economic growth, high fiscal deficits, trade imbalances, and limited
integration with the global economy. The reforms, which gained momentum in 1991, include
liberalization (involves reducing government regulations, removing trade barriers, and allowing
greater freedom for businesses to operate), privatization (refers to the process of transferring
ownership or control of state-owned enterprises to the private sector) and globalization (focuses
on integrating India into the global economy by opening up to international trade and
investment).

PRE-LIBERALISATION PRACTICES
In the 1950s and early 1960s, India’s state-led industrialization strategy, heavily influenced by
Soviet planning, saw the public sector dominate capital-intensive industries, while the private
sector faced tight controls through industrial licensing. This closed-economy approach led to
inefficiency and corruption due to bureaucratic discretion. It also hindered export-oriented
growth, unlike Southeast Asian economies that thrived on export-driven strategies. The
comprehensive import licensing system, introduced in the mid-1950s, aimed to manage the
balance of payments but instead became a source of inefficiency. The focus on heavy industries
led to moderate growth initially, but by the mid-1960s through the 1970s, economic growth
slowed to about 3% annually.

The Janata government in 1977 attempted reforms by setting up committees like the Dagli
Committee to evaluate controls and subsidies and the Alexander Committee to liberalize import
controls. However, these efforts were limited in impact, and the government’s tenure was
short-lived. Indira Gandhi’s return to power in 1980 ended these initiatives. In the early 1980s,
India saw some relaxation in the licensing system, allowing for technological upgrades and
modernization. The Abid Hussain Committee and the Narasimham Committee recommended
liberalizing imports and delicensing certain industries. Rajiv Gandhi’s government took steps in
this direction by delicensing 30 industries, raising the MRTP limit, and liberalizing capital goods
imports. The establishment of the Securities and Exchange Board of India (SEBI) helped
regulate the stock exchange.
These changes improved economic performance in the 1980s, with GDP growth averaging
5.6% for the decade. However, deeper and more comprehensive reforms were still needed to
address the underlying issues in India’s economic system.

M DOCUMENT
The M Document, created in June 1990, outlined a plan for India’s economic liberalization,
signaling a shift towards a more open and market-oriented economy. Commissioned by Prime
Minister V.P. Singh, the document proposed a strategy to improve India’s competitiveness,
focusing on measures to control fiscal deficits, reduce overstaffing in ministries, and modernize
the public sector. Key recommendations included relaxing industrial licensing, raising MRTP
asset limits, reducing import protection, reforming foreign direct investment (FDI) policies, and
transitioning from import licensing to tariff-based protection. It also suggested rupee
depreciation to maintain competitiveness.

Although the M Document was never officially approved, its ideas significantly influenced the
1991 economic reforms, showing that the reforms had a home-grown basis rather than being
imposed by external pressures. Despite mixed reactions within the government, the document’s
proposals contributed to the momentum for change that culminated in the 1991 reforms.

NEED FOR REFORMS

The 1991 Indian economic reforms were driven by a severe balance-of-payments crisis, which
was worsened by a combination of high fiscal deficits, excessive external borrowing, and
political instability. Although the Gulf War’s oil price spike in August 1990 is often cited as the
crisis’s immediate trigger, its roots lay in unsustainable fiscal practices. The macroeconomic
imbalance started in the late 1980s due to high fiscal deficits, leading to excess demand and
external borrowing from Non-Resident Indian (NRI) deposits. Political instability further delayed
corrective action, with V. P. Singh’s government prioritizing the Mandal Commission’s
recommendations over economic adjustments. The collapse of V. P. Singh’s government and
the instability of Chandra Shekhar’s minority government eroded market confidence, leading to
the withdrawal of credit lines and negative NRI deposits. Rajiv Gandhi’s assassination during
the 1991 election campaign added to the chaos, though Congress eventually won, leading to P.
V. Narasimha Rao becoming Prime Minister.

Amid this uncertainty, Manmohan Singh’s April 1991 convocation address at IIM Bangalore
outlined the path forward, emphasizing the need to reduce fiscal deficits and implement
structural reforms to improve efficiency. He recommended revising the 1956 Industrial Policy
Resolution to allow private sector competition, cautiously approaching privatization, and relaxing
industrial licensing to encourage business expansion. Singh also suggested a gradual
liberalization of import restrictions, with a long-term goal of making the rupee convertible by the
end of the decade. These ideas shaped the 1991 reforms, focusing on restoring economic
stability and building a more open and competitive economy.

STAGES AND STEPS

The Congress government under P. V. Narasimha Rao took office on June 21, 1991, facing a
dire balance-of-payments crisis with foreign exchange reserves down to $1.1 billion, barely
enough to cover two weeks of imports. This heightened the need for decisive action to avoid a
potential default on payments. Manmohan Singh was chosen as Finance Minister due to his
credibility in international financial circles.

The Indian government moved quickly to address the economic crisis and restore market
confidence. Within days of taking office, it devalued the rupee by about 20%, signaling a
commitment to tackle the crisis. Manmohan Singh’s July 24, 1991, budget speech laid out the
reform agenda, focusing on two main goals: reducing the fiscal deficit to curb excess demand,
and implementing structural reforms to boost efficiency and growth. The structural reforms
represented a major shift, reducing the role of the public sector and allowing more market-driven
forces, foreign trade, and investment. The government’s swift and bold actions indicated a
determination not only to stabilize the economy but also to set it on a path of sustained growth
and broader benefits.

Key aspects of the reforms:

Delicensing of Industries: The government moved to delicensing all but 18 industries, where
licensing control was retained for reasons of security and environmental protection. This change
greatly reduced the bureaucratic burden on businesses and encouraged private sector activity.
By removing the requirement for licensing in most industries, the government opened up the
economy to greater competition and entrepreneurship.
Reduction in Public Sector Monopoly: The reforms reflected a shift towards greater private
sector participation in the economy. Public sector units that were unviable were subject to
closure, creating room for more efficient private enterprises. The concept of partial
“disinvestment” was introduced, allowing government equity to be sold to financial institutions
and mutual funds, providing non-inflationary finance to the government and fostering a culture of
efficiency.
Restructuring of the MRTP Act: The requirement for separate approval under the Monopolies
and Restrictive Trade Practices Act (MRTP) for so-called large industrial houses was abolished.
This change allowed businesses to grow without excessive regulatory hurdles and encouraged
investment and expansion. The new focus was on encouraging competition rather than
preventing the emergence of large companies.
Foreign Trade and Import Licensing: Import licensing was drastically reduced, with imports
earlier allowed on Open General Licensing (OGL) or import licenses now freely importable
against EXIM Scrips issued to exporters at 30% (or 40% in some cases) of the export value.
This shift aimed to promote exports and facilitate easier importation of goods, supporting the
transition to a more open economy. The government also announced plans to move toward full
convertibility of the rupee within three to five years, accelerating integration with the global
economy.
Devaluation of the Rupee: One of the initial steps taken by the new government was to devalue
the rupee by about 20% in a two-step operation. This was essential to improve India’s
competitiveness and address the balance-of-payments crisis. The devaluation sent a strong
signal to international markets about the government’s commitment to reform.
Liberalization of Foreign Investment: The rules regarding foreign investment were liberalized in
several ways. The cap on foreign equity, previously limited to 40%, was raised to 51% in a
range of priority industries, with scope for even higher levels of foreign investment subject to
approval by the newly established Foreign Investment Promotion Board (FIPB). The intent was
to attract foreign capital and technology, promoting economic growth and modernization.
Tax Reforms: The Tax Reforms Committee, chaired by Raja Chelliah, was established to guide
the reform of direct and indirect taxes. This move aimed to create a more broad-based,
moderately progressive, and elastic tax system that would generate the revenue needed for
rural infrastructure and basic social services like health and education.
Financial Sector Reforms: The Narasimham Committee’s recommendations led to significant
reforms in the banking and financial sector. These reforms aimed to increase efficiency, improve
asset quality, and introduce greater autonomy for banks. Measures included reducing
government control over banking operations, allowing public sector banks to raise capital from
the market, and promoting competition among financial institutions.
Social Sector Reforms: While the 1991 reforms focused on economic liberalization, there was
also an increased emphasis on social sector reforms. The government recognized the need for
inclusive growth and addressed issues related to health, education, and social welfare. These
reforms aimed to ensure that economic growth translated into tangible benefits for the broader
population

POSITIVE IMPACTS
The 1991 Indian economic reforms were widely welcomed for signaling a strong resolve to
address the country's economic crisis innovatively. However, there were mixed reactions from
various groups.

Despite early doubts, the 1991 reforms proved beneficial. Although the growth rate in the first
decade post-reforms wasn’t much higher than in the 1980s, economic growth surged later,
averaging 7.7% from 2003-04 to 2015-16. The expansionary fiscal policy of the late 1980s had
contributed to unsustainable growth, emphasizing the need for reforms. Gradual implementation
allowed the economy to strengthen over time. The private investors now need not run after
bureaucrats in various industries to seek clearance for setting up new units or to execute plans
of expansion of existing capacity. Overstaffing of the public sector is being progressively
reduced.

The reforms were instrumental in the emergence of the IT and software industries, which
became significant contributors to India’s economic growth and global competitiveness. The
relaxation of controls on foreign direct investment (FDI) and the easing of import restrictions
attracted more foreign capital and expertise, which stimulated growth, created jobs, and
improved technology transfer. External liberalization helped India withstand significant external
shocks, such as the 2008 financial crisis and the Eurozone crisis in 2011, without needing IMF
assistance. The rapid decline in poverty between 2004-05 and 2011-12 showed that the
economic growth driven by the 1991 reforms had a real impact on reducing poverty. These
outcomes underscored the benefits of embracing a more open and adaptable economy.

CRITICISM & CHALLENGES

Leftist critics viewed the 1991 Indian economic reforms with skepticism, fearing that reducing
the public sector’s role, loosening control over large industrial houses, and relying more on
market forces would undermine India’s socialist orientation. They were especially concerned
about external liberalization, even though China had successfully implemented market-oriented
reforms since 1978. The collapse of statist models in Eastern Europe and the Soviet Union
further fueled these concerns.

Indian industry had mixed reactions to the reforms. They welcomed the removal of controls on
domestic investment but worried about increased competition from imports and the liberalization
of Foreign Direct Investment (FDI). The “Bombay Club,” a group of industrialists, argued that
Indian industry needed more time to prepare for international competition. These fears were
largely overstated, as some sectors, like consumer goods, remained protected until 2002,
allowing domestic industries time to adjust. Companies that embraced the new environment
often thrived.

Reforms have also faced criticism for its limited scope, primarily focusing on the large corporate
sector while neglecting the small-scale sector and agriculture, which are significant sources of
employment. Privatization efforts have also been minimal due to resistance from trade unions,
leading to token disinvestment in only the healthiest public sector undertakings. Although it
managed to control the wholesale price index, it struggled to curb the rising consumer price
index, impacting industrial workers and agricultural laborers. Additionally, its reliance on the
foreign private sector to build infrastructure has fallen short, with foreign firms failing to
contribute significantly to power generation. These issues highlight the NEP’s need for a
broader, more inclusive approach to address India’s diverse economic challenges.

CONCLUSION: WAY FORWARD

Despite facing internal and external pressures, the reforms collectively represented a significant
transformation of India’s economic landscape. The shift from a highly traditional and regulated
system to a more open, competitive, and market-oriented economy laid the foundation for the
rapid economic growth that followed in subsequent years. However, today, the challenges in
India are multifarious and one among them is the socio-economic transformation. Thus, there is
a need to re-orient the reforms with a view to making it more broad-based. Excessive
dependence on foreign investment is not the correct approach. The nation needs development,
but it should be sustainable, equitable and linked with the empowerment of the common people.