Economic reforms of 1991 or the LPG reforms were initiated under the directions of the International Monetary Fund. The leadership to LPG reforms was given by PM PV Narasimha Rao and then Finance Minister Manmohan Singh.
International monetary fund IMF was set up in 1944 to bailout the countries that had depleted their forex reserves. It’s mandate also includes prevention of recurrence of such crisis in that country.
India resorted to IMF during balance of payment (BoP) crisis in 1991. Whenever IMF bails out a country, it imposes certain conditions to ensure that such crisis does not occur again. The conditions imposed on India were based on following dictums:
- Regulations should only be so much that it does not hinder growth.
- Profit should not be allowed with suspicion. It promotes entrepreneurship.
- Government needs to trust its people and recognise the role of private sector.
- PSUs can continue but they have to be independent of government.
- Agriculture has limited capacity to provide growth. Hence focus should also be on other sectors.
These conditions imposed on India led to the economic reforms.
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The LPG Reforms in India
First Generation Economic Reforms are those economic reforms that are easy to do and do not require any legislation. It only requires change in the mindset of the government. It covers the sectors such as banking, industry, insurance, foreign trade and capital markets.
Prior to this reforms public sector occupied most of the economic space. Space for private sector was restricted by:
- Monopolistic and Restrictive Trade Practices (MRTP) Act, 1969
- Foreign Exchange Regulation Act (FERA), 1973
- Price Controls
- Requirement of Industrial License
- Production quota limits
The first generation economic reforms in India were also called the Liberlaization, Privatization and Globalization or simply LPG Reforms.
Liberation is simply the removal of bureaucratic control on the private sector. It involved the following steps:
It it means the removal of Licence Raj. For opening almost any business the entrepreneur required licence permit from the government. This opened up scope for lot of corruption. It also hinder the growth of business. But certain critical industries still require license, for example: arms and ammunitions, explosives, defence equipments, mining of minerals, drugs and pharmaceuticals, hazardous chemicals, tobacco and alcohol products.
There are many industrial sectors that were reserved for only the government agency. Private sector was not allowed to invest or start a business in those sectors. In 1991 most of the sectors were open for the private sector except for certain critical areas like atomic energy, space, railways, rare minerals, etc. Nowadays, on the services side of railways, private sector is being partnered with.
It involves reducing the government regulations and interference in the industry and businesses. For example
- Removal of production quota
- Limiting inspection powers of bureaucrats
- Removal of MRTP limits
- Removal of
Instead of imposing price control by the government, the price of products was left to be decided by the market forces. However, some prices of essential items are still controlled. For example, minimum support price for food grains, price of fertilisers, minerals, gas, kerosene, public transport, electricity, water, etc.
While many of the liberalisation measures were enforced by the IMF, privatisation was a result of governments own interpretation. Involvment of private sector in public sector companies happens in either form of disinvestment or privatisation.
Two Ways to Do Business
It means that the losses of the business shall be recovered from even the private assets of the businessman.
It means that losses from the business can only be recovered from the assets of the business, not from the personal assets of the owners.
For limited liability company (LLC), one has to register as company under the Companies Act. The number of shares and the face value of each share is decided by the company itself. Major decisions of the company is taken by 3/4th or 75% shareholders. This is why holding of 26% share is called strategic shareholding, because no major decision can be taken without his concurrence.
Authorized Capital = (No. of shares)x(Face Value of each share)
The person with maximum number of shares is called the Promoter.
Private Limited Company: When a company is not listed on stock market and its shares are not available for trading.
CEO/CMD is appointed when he/she enjoys the support and confidence of 51% shareholders.
It is a strategic move by the government to sell shares of a public sector company without losing the public character. It has dual objectives. Not only it achieves the goal of private participation but also it helps in raising funds for the government. Since 26% share is a strategic share, no government wishes to issue more than 25% share for fear of losing control. But there are many public sector companies where the government has reduced its share to 51%. This allows balance between efficiency of private sector and control of government.
When the share of government drops below 50%, i.e. majority share, it is called privatisation. This happens when the government wants the management to be controlled by private agencies for the sake of efficiency.
De-nationalization or Strategic Sale
In this case, the government transfers 100% control of the productive assets of the company to a private agency.
It means opening up of the country for foreign investment and integration with the world economy. When globalisation happens, the movement of capital and labour across national borders becomes easy.
Benefits of LPG Reforms
- India’s GDP growth rate in 1991 was merely 1.1%. After the reforms, the economic growth picked up pace. For a long time India grew above 6% annually.
- Flow of foreign investment increased and now has reached about $20 Billion.
- India’s per capita income has registered continuous remarkable growth.
- India’s Forex Reserve has now reached $475 Billion. During 1991 BoP crisis, we had forex reserve only enough to last just 14 days.
- Overall quality of life of people has improved as more employments were generated.
- The boom of IT and BPO sectors were the direct result of globalisation under LPG reforms. This created a wealthy middle class.
- Exports have seen outstanding growth. In Feb 2020, India’s exported goods and services worth $27.36 Billion.
Demerits of LPG Reforms
The demerits mentioned by many websites and coaching centres are not actually demerits in true sense.
- LPG reforms has caused decrease of Agriculture’s share in GDP from 29% to 18%. In a developing country, this is actually a natural progress as people move from low value agriculture sector to high value manufacturing and services sectors.
- MNCs are out-competing local businesses. Arrival of MNCs has actually increased competition and efficiency in Indian industry. It has also allowed technology transfer. This has ensured our own MNCs like Airtel, Mahindra etc. to come up.
The real demerits are the following:
- As people have more income, there is push for irresponsible consumerism. Thus rapid environmental degradation is happening.
- Since those who have capital can invest and make more profit, there is accumulation of wealth in fewer hands. Hence inequality is widening.
- There is spread of a western monoculture as people are adopting the food and other cultural habits of the West. This is causing loss of local cultural heritage. It also affects the health of the nation.