Liberalisation and the steps taken to liberalise the Indian economy

Meaning of liberalisation

Liberalisation means removing the controls and restrictions on business that serve no useful purpose, so that firms are free to decide what to produce, how much, at what price and where to buy and sell. For India, the economic reforms that began in 1991 aimed at freeing Indian business and industry from unnecessary controls, and they marked the end of the so-called licence-permit-quota raj. The new industrial policy sought to release industry from the hold of the licensing system, and it is this strand of the reforms that is called liberalisation; the other two strands were privatisation and globalisation.

Why India liberalised in 1991

Planned development since Independence, with state control of key industries and many restrictions on private enterprise, had given mixed results. By 1990-91 the fiscal deficit had reached 6.6 per cent of GDP, inflation stood at 13-14 per cent, and foreign exchange reserves had fallen so low that they could cover the import bill for only a few weeks. India approached the International Monetary Fund for funds, and the loan was conditional on structural changes, which pushed the country to liberalise its economic policies.

Steps taken to liberalise the economy

1. Licensing cut back. Compulsory industrial licensing was confined to a short list of industries; the policy itself puts the number at six. Among the first measures of 1991, licensing was abolished for all industrial projects except 18 industries marked out both by high strategic and environmental importance and by a high import content, which delicensed about 80 per cent of industry.
2. Public sector reservation reduced. Many industries earlier reserved for the public sector were dereserved, and the public sector's role was confined to just four industries of strategic importance. Nine areas of basic and core industry were opened to private firms.
3. Freedom over scale and prices. Firms were given freedom to expand or contract their activities without restriction and freedom to fix the prices of their goods and services. A bicycle maker in Ludhiana could now double its capacity on its own judgment of demand.
4. MRTP restrictions eased. The MRTP Act was amended so that large companies no longer needed prior approval of the Central Government for capacity expansion, diversification, mergers or amalgamations.
5. Foreign investment and technology welcomed. The foreign equity limit was raised from 40 to 51 per cent in a wide range of priority industries, and the Foreign Investment Promotion Board was set up to negotiate with large international firms and speed up approvals. Technology agreements with foreign companies were given automatic permission.
6. Trade and exchange reforms. Import licensing was removed for most capital goods, raw materials, intermediates and components; licences for imports were replaced by freely tradeable entitlements linked to export earnings, called Eximscrips; and the Liberalised Exchange Rate Management System set up a dual exchange rate, one rate being floated in the market. The rupee was devalued by 18 per cent in early July 1991.
7. Lower taxes and simpler procedures. Tax rates were reduced, unnecessary controls over the economy were lifted, and import and export procedures were simplified.
8. Free movement of goods and services. Restrictions on moving goods and services were removed.

Conclusion

Liberalisation replaced a system in which the government decided much of what business could do with one in which firms decide for themselves, within the law. Its effect on Indian business has been more competition, more demanding customers and a need to change quickly.