3.3.1 Definition of Liberalization

Liberalization entails the removal of unnecessary governmental controls and restrictions, including permits, licenses, protective duties, quotas, and more. Prior to 1991, the government imposed various regulations in several ways, including:

(a) Industrial Licensing: Entrepreneurs were required to obtain government permission to establish a new firm, expand an existing one, or introduce the production of a new product.

(b) Restricted Private Sector Participation: Many industries were off-limits to the private sector.

(c) Constraints on Small-Scale Industries: Some goods could only be produced by small-scale industries.

(d) Price Controls and Distribution Restrictions: Certain industrial products were subject to price controls and distribution restrictions.

(e) Import Licenses: Importers had to obtain licenses for importing goods.

(f) Foreign Exchange Controls: Strict controls were placed on foreign exchange.

(g) Investment Restrictions for Large Corporations: Large business houses faced restrictions on their investments.

These controls led to:

(a) Delays in consumption

(b) Inefficiencies

(c) Losses

(d) High-cost economic operations

3.3.2 Objectives of Liberalization

It was believed that liberalization would allow market forces to guide the economy more effectively. Countries like South Korea, Singapore, and Thailand had set examples of rapid economic development through liberalization. The objectives of the policy of liberalization in 1991 included:

1.Enhancing the internal competitiveness of industrial production.

2.Attracting foreign investment and technology.

3.Reducing the country’s debt burden.

4.Facilitating exports to developed countries and importing capital goods and machinery from them.

3.3.3 Liberalization Measures

Liberalization was introduced in various areas in July 1991, with the following key measures:

Industrial Sector Reforms

The government announced the New Industrial Policy in 1991, which included significant industrial reforms:

(a) Abolition of Industrial Licensing: Industrial licensing was eliminated for all projects, except for those related to security and strategic concerns, social reasons, hazardous chemicals, environmental concerns, and items of elitist consumption.

(b) Contraction of Public Sector: The number of industries exclusively reserved for the public sector was reduced from 17 to 3. These were defense equipment, atomic energy generation, and railway transport.

(c) Reforms in Small Scale Sector: The investment limit for small-scale industries was increased to one crore to modernize them. Many goods produced by small-scale industries were de-reserved.

(d) Concessions in the MRTP Act: The threshold limit of assets in respect of MRTP (Monopolies and Restrictive Trade Practices) and dominant undertakings was eliminated.

(e) Expansion of Production Capacity: Production and production capacity were delinked from licensing, allowing producers the freedom to determine what to produce and in what quantity.

(f) Freedom to Import Capital Goods: Industrialists were granted the freedom to import capital goods without prior government permission.

Financial Sector Reforms

The financial sector, which includes banking and non-banking financial institutions, stock exchange markets, and foreign exchange markets, underwent significant changes:

(a) Role of RBI: The Reserve Bank of India’s (RBI) role shifted from being a regulator to a facilitator, allowing commercial banks to determine their interest rate structures through market forces.

(b) Reduced CRR and SLR: Both the Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR) were reduced to increase the availability of funds for commercial banks.

(c) Lower Bank Rate: Bank rates were reduced, encouraging lending by commercial banks.

(d) Foreign Institutional Investors (FII): Foreign institutional investors, including merchant bankers, mutual funds, and pension funds, were allowed to invest in Indian financial markets.

(e) Private Sector Banks: Private sector banks, both Indian and foreign, were established, and the foreign investment limit in banks was raised to around 50%.

(f) SEBI: The Securities and Exchange Board of India (SEBI) was made a statutory body, responsible for the development and regulation of the stock market.

Tax Reforms/Fiscal Reforms

Before 1991, both direct and indirect taxes were high, leading to tax evasion and disincentives for honest taxpayers:

(a) Reduction in Taxes: Both direct and indirect taxes were reduced.

(b) Simplified Tax Procedures: Tax payment procedures were simplified.

(c) Reduced Non-Planned Expenditure: The government reduced non-planned expenditure.

Foreign Exchange Reforms/External Sector Reforms

In 1991, the Indian rupee was devalued against foreign currencies to address the balance of payments crisis:

(a) Approval for Foreign Investment: Approval was granted for direct foreign investment of up to 51% foreign equity in high-priority industries.

(b) Foreign Technology Agreements: Automatic permission was given for foreign technology agreements in high-priority industries up to a lump-sum payment of ₹1 crore.

Trade Policy Reforms

Before 1991, India followed a protectionist policy with high tariffs on imports, import licensing, and export duties. Liberalization of the trade and investment regime was initiated in 1991 to increase international competitiveness and foreign investment:

(a) Abolition of Import Licensing: Import licensing was abolished except for hazardous and environmentally sensitive industries.

(b) Removal of Quantitative Restrictions: Quantitative restrictions on imports were eliminated.

(c) Reduction in Tariff Rates: Tariff rates were reduced.

(d) Strengthening Export Promotion: The export promotion structure was strengthened.

These reforms aimed to enhance international competitiveness in industrial production and foreign investment.

Objective Type Questions

1.What does liberalization entail in an economic context?

A) Strengthening governmental controls and restrictions

B) Imposing more permits and licenses

C) Removing unnecessary governmental controls and restrictions

D) Increasing protective duties and quotas
Answer: C) Removing unnecessary governmental controls and restrictions

2.Before 1991, what was the role of industrial licensing in India?

A) It encouraged the expansion of the private sector in all industries.

B) It abolished the need for any licenses to start a business.

C) It required entrepreneurs to obtain government permission for various industrial activities.

D) It imposed strict controls on small-scale industries.
Answer: C) It required entrepreneurs to obtain government permission for various industrial activities.

3.Which objective of liberalization in 1991 aimed to attract foreign investment and technology?

A) Enhancing internal competitiveness

B) Reducing the country’s debt burden

C) Facilitating exports to developed countries

D) Removing price controls
Answer: A) Enhancing internal competitiveness

4.What was the primary impact of the devaluation of the Indian rupee in 1991?

A) Reduced foreign investment

B) Lower inflation rates

C) Increased foreign exchange inflow

D) A strengthened balance of payments
Answer: C) Increased foreign exchange inflow

5.In the financial sector, what role did the Reserve Bank of India (RBI) play after liberalization?

A) It regulated the interest rate structure for commercial banks.

B) It acted as a facilitator, allowing market forces to determine interest rates.

C) It reduced the foreign investment limit in Indian banks.

D) It encouraged tax evasion.
Answer: B) It acted as a facilitator, allowing market forces to determine interest rates.

6.Which component of the financial sector saw the establishment of private sector banks and an increase in foreign investment limits?

A) Stock exchange market

B) Foreign exchange market

C) Banking institutions

D) Non-banking financial institutions
Answer: C) Banking institutions

7.What change did liberalization bring to India’s trade policy in 1991?

A) It increased tariffs and import restrictions.

B) It abolished all import licensing.

C) It strengthened the export promotion structure.

D) It expanded quantitative restrictions on imports.
Answer: C) It strengthened the export promotion structure.

8.What are the objectives of liberalization in 1991 as mentioned in the text?

A) Reducing government control and increasing inflation

B) Encouraging tax evasion and increasing fiscal expenditure

C) Enhancing internal competitiveness, attracting foreign investment, reducing debt burden, and facilitating exports

D) Restricting foreign investment and technology transfer
Answer: C) Enhancing internal competitiveness, attracting foreign investment, reducing debt 

burden, and facilitating exports

9.Which area of liberalization aimed to abolish controls, eliminate bureaucratic hurdles, and enhance decision-making efficiency?

A) Tax Reforms/Fiscal Reforms

B) Financial Sector Reforms

C) Trade Policy Reforms

D) Structural Adjustment
Answer: D) Structural Adjustment

10.What did liberalization seek to achieve in the Indian industrial sector in 1991?

A) Imposing more industrial licensing restrictions

B) Encouraging public sector expansion

C) Enhancing production capacity and allowing freedom in what to produce

D) Strengthening price controls and distribution restrictions
Answer: C) Enhancing production capacity and allowing freedom in what to produce

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