1991: Turning Crisis into Opportunity
Prime Minister Rao had inherited an India which was on the brink of collapse. Bankrupt and corrupt, the Indian state machinery was corroded. The Nehruvian policies were no more viable for social transformation. India had isolated itself from international markets due to protectionist approach of the government which produced incompetent domestic businesses, crippling infrastructure and a small middle class. Violence in Assam, Kashmir and Punjab threatened to jeopardise national security and integrity. The armed forces were barely keeping up; many of the combat aircrafts could barely take off owing to the unreliable Soviet spare parts (Soviet Union was imploding). India was about to go bankrupt and unable to repay its foreign loans. The World Bank and the IMF were withholding new loans and our country was about to lose face in front of the world. Our credibility was at a rock bottom. Apart from the above stated causes, there were other immediate events that strained Indian foreign exchange reserves to the core- The Gulf War of 1990 had increased the oil prices drastically and had also reduced the remittances from Indians working in the Middle East; Indians living abroad had withdrawn their deposits worth USD 900 million from Indian banks. Reckless borrowing during Rajiv years had resulted in outstanding loans. The situation was so delicate that India’s gold was mortgaged in the Bank of England for foreign loans. The simplest way to explain the financial mess is that by June 1991, India had foreign exchange reserves enough to pay for just two weeks of imports, while a minimum safe level was considered six times that amount. In the severe crisis, India needed an internationally credible face and an apolitical economist of incorruptible character as its finance minister.Dr Manmohan Singh fitted the profile.
Barricades in Way
The path to economic reforms was not easy. The first and foremost obstacle in the path was that the Congress party was in minority in the Parliament. Unlike his predecessors (Such as Indira Gandhi and Rajeev Gandhi), Rao did not have the numbers in the parliament to push through radical reforms. On top of that, traders and small manufacturers were not competent enough to compete with foreign companies. The second hurdle was the established business houses, known as the Bombay Club, had accumulated considerable wealth in the License Raj and had formed a formidable alliance. Perhaps the biggest hurdle was his own party which did not want to be seen as abandoning the ideals of Nehru’s socialism. Those who benefited from the state-run economy- rich farmers, trade unions, business houses and corrupt politicians- were also powerful. The reason why the economic reforms were so hard to sell politically was that it promised only future advantages for, many beneficiaries were yet unborn.
Big Bang Reforms
In order to overhaul the economic structure and the Industrial Policy, the devaluation of rupee was absolutely sine qua non because an expensive rupee made it harder for Indian manufacturers to sell in foreign markets. Devaluation was done in two phases in order to avoid political outrage of the opposition. With the value of rupee depreciated, it was time to get rid of export subsidies in order to save money and reduce the fiscal deficit. To appease the unhappy exporters, the import of restricted items (Capital goods) was allowed. With the devaluation done, it was Industrial policy’s turn next. Rao had deliberately kept the industry portfolio with himself. The Industrial Policy included three major steps: first, industrial licensing was abolished for all industries except those specified (Privatisation); the second step was to liberalise the anti-monopoly restrictions in order to end the phobia towards large companies; and the third change was to raise the permitted level of FDI from 40% to 51%. This was the single most radical economic instrument in the history of independent India, and it was announced without fanfare of any sort. That very same day, Manmohan Singh, in his budget speech, overhauled the import-export policy, pushed for export promotion, slashed import licensing and reduced tariffs thereby integrating the Indian economy with the global market (Globalisation, as it is rightly called). In a single day, the three pillars of the license raj- monopolies for the public sector, restrictions on private business and isolation from the world markets were dismantled. This was not all. The Big Bangs of 1991 were followed by minor changes that were intentionally kept out of attention to avoid direct political confrontation. The stock market response was startling. By April 1992, India’s forex reserves were now enough to buy three months’ worth of imports. Also, the stock market had to be regulated that year in order to maintain the credibility of liberalisation policies. The real challenge was yet to be overcome. With the crisis over, Rao and Manmohan did not have the excuse of having to deal with a catastrophe. That is when the political skills- playing up the crisis, disguising the change as continuity and using the image of Manmohan Singh- of a shrewd politician helped to sustain the reforms over a long duration. After these reforms, Manmohan Singh only did that for which he did not need to go for parliamentary approval; that is how India was able to get through reforms. Behind all these actions was a psychological transformation. By 1994, India had become confident to compete with the West without losing her soul and it is due to this confidence that India is the 5th largest economy in the world right now (in terms of nominal GDP).
I hope the wise people in the government of today read this blog and undertake some reforms for the generation to come and not feel proud to be announcing free food for 80 crore Indians.