Posted by Anjali Kaur on May 29, 2020

Why Were The Economic Reforms Introduced In India?

Well, when I googled for ‘Economic Reforms‘ then I came to know, that this is one of the most asked questions: Why were the Economic Reforms introduced in India? What was the force behind the opening up of the Indian economy?

Let me give an insight on this topic. Okay, let’s start.

In 1991, India faced a crisis in its ‘Balance of Payment’ account (Wondering what is Balance of Payment: It shows the country’s debit and credit transactions with the rest of the world, in a given year). Indian Government was not able to make repayments on its borrowings from abroad, as India did not have enough foreign exchange currency to honor its payments. This gradually led to an inflationary situation (prices of essential commodities increased) in the country. Let’s focus on other important reasons for this economic crisis:

1. Fiscal Deficit: Remember, fiscal policy is related to government revenues and expenditure policy. So, when we say Fiscal Deficit, it is like a loss; which means Government expenditures were more than government revenues (Revenues are like income). India faced a fiscal deficit for which India started borrowing from banks, from other international financial institutions. This was the beginning of India’s economic crisis.
2. To Finance Various Development Program: What are development programs? Well, India faced several problems related to its population, unemployment, poverty level, lack of proper infrastructure, etc. So, to solve these issues, India adopted different development programs (Think about the National Rural Employment Guarantee Act, Food for Work, etc, these are development programs). For the implementation of such programs, the government requires funds. Again, India did not have that many funds to honor its commitment to such development programs.
3. Insufficient Revenues: Indian government was involved in huge expenditures for the development of its country. But the revenue sources, like tax revenues, were not sufficient to balance such expenditures. Also, income from Public Sector Undertaking was low. So, India was getting deeper and deeper into its economic crisis.
4. Unsustainable Borrowings: In the late 1980s, government expenditure began to exceed its revenue by such a large margin that meeting the expenditure through borrowings became unsustainable.
5. Inflation: As I mentioned in the starting, the prices of many essential goods rose sharply. India’s imports also grew at a very high rate without the matching growth in India’s exports.
6. Lack Of Foreign Exchange: There was not enough foreign exchange to pay the interest that needs to be paid to international lenders. Moreover, other countries were not willing to lend to India.

Thinking how India got out of such a miserable situation? Well, all these problems related to the economic crisis forced India to approach the International Bank for Reconstruction and Development (IBRD), (which is now popularly known by ‘World Bank’) and The International Monetary Fund (IMF). These institutions gave India $7 billion as a loan to manage its economic crisis. But, as you know ‘there are no free lunches’. For availing this loan, these international agencies expected India to ‘Liberalize’ and open up its economy by removing restrictions on the ‘Private Sector’, and reducing the role of government in many areas. They also expected India to remove the trade restrictions on other countries.

So, India was helpless and agreed to all these conditions and announced the ‘New Economic Policy’ or ‘Economic Reforms’ in 1991.

To summarize, the economic crisis in India arise due to huge borrowings, inflation, lack of foreign exchange, etc. This caused India to approach international agencies, who gave the loan of $7 billion on a condition that India will liberalize, privatize and globalize.

Check out the slideshow below on economic reforms:

Photo by Markus Winkler on Unsplash

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