INDUSTRIAL & TRADE POLICY REFORMS

Session 5: International & Indian Economy

Prof Prema Basargekar

Session Plan

Industrial Policy Resolution, 1948 Industrial Policy Resolution, 1956 Industries (Development and Regulation) Act,

1951 Review of industrial policy before

liberalization The libralization trends New Industrial Policy, 1991 Import & Export policy Trade reforms

Industrial Policy Resolution, 1948 Division of industries into four categories: 1. Industries where state had a monopoly – arms &

ammunition, atomic energy & rail transport 2. Mixed sector – 6 industries such as coal, iron & steel,

aircraft mfg, ship building, mfg of telephone, telegraph & wireless apparatus, mineral oils- new undertakings were to be set up by public sector but existing pvt players were to continue in the business for next 10 years

3. The field of Government control – 18 industries of national importance

4. The field of private enterprise – all other industries not included in the above categories

Encouragement to small & cottage industries

Industrial Policy Resolution, 1956 Objectives – to accelerate the rate of industrialization, to develop

heavy industries, to expand public sector, to reduce disparities, to develop cooperative sector & to control monopolies

Three categories: 1. Monopoly of the state – Schedule A: 17 industries where either

public monopolies or existing pvt sector will operate 2. Mixed sector – schedule B where state would play a major role

but would not deny the opportunities for pvt sector 3. industries left for pvt sector – all industries not included in the

schedule ‘A’ or schedule ‘B’ which were left open to pvt sector Mutual dependence of public & pvt sector Recognition of small & cottage industries Enlarged the area of public sector from 6 to 17 sectors

Industries (Development And Regulation) Act, 1951

Objective – to control and regulate the process of industrial development, to regulate the investments and production according to plan priorities & targets, protection of small entrepreneurs, prevention of monopolies, balanced regional development

1. Restrictive Provisions – a) registration & licensing of industrial units b) enquiry of industries listed in the schedules – capacity utilization, cost of production, prices c) cancellation of registration & licenses

Industries (Development And Regulation) Act, 1951

2. Reformative provisions: A) Direct regulation or control by the

government – direction, take over of mgt, etc.

B) control on price, distribution, supply, etc: regulation of all units listed in the schedule of Act

C) constructive measures: establishments of Central Advisory Council & other Development Councils

MRTP & FERA

Monopoly & Restrictive Trade Practices Act – 1969

To safeguard the interests of the consumers To prevent economic power concentration To prevent unfair trade practices Foreign Exchange Regulation Act – 1973 To regulate the transactions related to foreign

exchange Firms that came under the purview of these Acts

were allowed to invest only in a select set of industries.

New Economic Policy - 1985 This net of controls on the economy in the seventies caused several

firms to A) operate below the minimum efficiency scale B) under-utilize capacity and, C) use outdated technology resulted from the restrictions placed on

import of technology through the provisions of FERA. D) unnecessary diversification to get advantages of SSI E) the capacity mix being determined independent of the market

demand, F) the policy of distributing imports based on capacity, causing firms to

expand beyond levels determined by demand so as to be eligible for more imports.

New Economic Policy (NEP) in 1985. As part of these reforms, several groups of industries were delicensed Foreign investment was allowed in select industries and norms under

the MRTP Act were relaxed.

Liberalization trend

Liberalization trend started from 1970s. Major changes since 1980s

Exemption from licensing limit was raised from 3 crore to 5 crore in 1983 & to 15 crore in non-backward areas & 50 crore to backward areas in 1988-89.

Relaxation from MRTP (Monopolies & Restrictive Trade Practices Act) & FERA (Foreign exchange regulation Act) in raising of the limit of MRTP companies from Rs. 20 crore to Rs. 100 crores, permission to increase capacities, mfg products not reserved for SSI, etc

Delicensing of 28 broad category of industries which are not falling in MRTP & FERA Act and also not reserved for SSI.

Broad banding of industries into generic categories such as automobile, pharma, etc so as to enable them to change their product mix rapidly with changes in demand patterns.

Review of Industrial Policy before 1991

Licensing & underutilization of capacity – Licensing was used to restrict the output & raise prices, underutilization of capacities in many industries (such as cement, automobile, paper, ceramic, etc)

Concentration of economic power – licensing acted as an entry barrier for other players

Mis -utilization of power by licensing authorities – As discretionary power was vested with govt authorities, it tended to promote corruption, rent seeking activities. The system favoured large business as they had more power & resources to deal with bureaucracy.

Regional imbalance – regional imbalance increased due to several reasons such as private sector’s choices, infrastructural development, etc (Maharashtra, Gujarat, West Bengal & Tamil Nadu accounting for more than 60 % of licenses approved)

Delays in processing – due to higher coverage & degree of details of regulations & scarcity of resources, lack of clarity with administration.

Roadmap to liberalization

The two principal instruments of industrial policy before the reform were a system of industrial licensing and a system of import licensing designed to foster import substituting industries.

The main objectives of the policy were to dismantle the regulatory systems, develop the capital market and increase the competitiveness of industry for the benefit of the common man.

A major policy decision was regarding the public sector. The role of public sectors would be confined only to the strategic and basic infrastructure sectors. An other area where further changes were contemplated was the exit policy.

Liberalization trend

Introduction of Minimum Economic Scales of Operation (MECs) to encourage realization of minimum economic level of operation.

Promotion of backward areas by allowing MRTP/FERA cos to establish in backward regions, deciding to set up 100 growth centres for creating infrastructure facilities of high order..

Incentives for export promotion – permitting MRTP & FERA cos to expand for exports, setting up 100 % export oriented businesses, setting up free trade zones, etc.

Enhancement of investment limit for SSI to Rs. 35 lakh & ancillary unit to Rs. 45 lakh

New Industrial Policy, 1991

Abolition of Industrial Licensing – licensing remained compulsory for only 5 industries such as alcohol, cigarettes, hazardous chemicals, electronics aeroscape, defence equipments & industrial explosives.

Dilution in the role of public sector – reduction in the reservation from 17 to 8 & later to 3 industries – atomic energy, mineral required for atomic energy & rail transport

Relaxation in MRTP – MRTP cos (having more than Rs. 100 cr of assets) which were not allowed to enter in certain sectors were permitted to enter on a case by case basis.

Freer entry to foreign investment & technology – high technology & high priority list was made to allow 51 % foreign equity with automatic approval. The limit was raised from 51 % to 100 % over the years.

Liberalization trend

Liberalization of industrial location policy – no requirement of obtaining industrial approval from centre below cities having population more than 1 million.

Abolition of Phased Manufacturing Programme for new projects – no need for enforcing the local content requirements

Removal of mandatory convertibility clause: conversion of loans into equity may not be imposed by banks.

Appraisal of New Industrial Policy Positive outcomes – Reduction in interventionist barriers on growth

& encouragement to more competitive environment

Reduction in project costs, higher productive use of resources, higher efficiency

Encouragement to attract foreign investment, technology & managerial expertise

Higher allocative efficiency by rehabilitation, restructuring, closure, liquidation, privatization of public sector

Appraisal of New Industrial Policy Negative outcomes: Erratic & fluctuating industrial growth – despite

liberalization, the growth in industrial production could not take place. – 5.9 % per yr

Fall in the production of capital goods – 4.7 % per yr Unequal competition from foreign MNCs Misplaced faith in foreign investment – development of

indigenous technology, exports could not take place. Technology, managerial inputs used by MNCs more suitable to western countries.

Danger of business colonalisation – foreign investors buying out brands in order to replace them later with their own brands to penetrate in the market.

Trade Policy before Liberalization Import policy: Due to heavy dependence of public sector on import of capital

goods, technical know how & increasing imports of food grains we resorted to policy of import restriction & import substitution

Import restriction – requirement of import license for a) specific amount b) specified item c) specified user d) specified purpose e) specified source of supply

Selective Quantitative Restriction based on perceived importance of in the development strategy

Import divided into different categories such as capital, consumer, intermediate- each category divided into sub groups such as non –permissible, limited permissible, automatic permissible, open, etc.

Licenses were categorized based on user types Some crucial imports were allowed only through state trading

corporations

Trade Policy before Liberalization Import substitution: to save the scarce foreign

exchange for the import of more important goods & to achieve self reliance in the production

Encouraging domestic production of consumer goods Replacement of imported capital goods Reducing dependence on imported technology by

developing indigenous techniques. 1977-78 – import liberalization – many capital goods &

raw material were put in open category Duty free imports against exports 1980 – liberal import of technology to make out

country internationally completive

Export policy

The pre reform period- Phase I – export pessimism (up to 1973) : exports

from developing countries like India face a stagnant world demand & terms of trade are destined to deteriorate - passive export policy

Phase II – 1973 to 1083-84 – export priority due to understanding the limitations of import substitution policy – devaluation of Rs to boost exports

Phase III – (1984- 1990)- export promotion – exports being considered as integrated to economic development process

Problems in Export – Import

Import restrictive policies led to delays, administrative expenses, inflexibility, absence of competition, underutilization of capacity, lack of coordination between multiplicity of agencies dispensing imports & creation of bottlenecks & corruption

Policy of import substitution helped India to achieve diversification, but at a higher cost.

Import substitution also led to lower quality of goods, underutilization of capacity, monopolistic or oligopolistic industrial structures

In absence of any long term export strategy, India adopted an ad-hoc policy which failed to integrate exports to overall planning.

Heavy dependence of exports of primary goods led to unfavorable terms of trade & heavy fluctuations in export earnings

Overvalued exchange rate made imports cheaper & exports unprofitable.

New Trade Policy

Freer imports & exports: reduction in tariff Quantitative restrictions on all import items withdrawn. Rationalization of tariff structures – to bring parity

between domestic & international market Decanlization – excepting few essential product (oil,

fertilizers, etc) all the imports were decanlised Convertibility of Rs on current account Exchange rate made market driven 51 % foreign equity allowed in trading houses Establishments of Special Economic Zones for promoting

exports Focus on exports of services

Impact of reforms: positive results

Higher and resilient growth: East Asian crisis – 1999, sanctions in post Pokharan tests, border conflict in 1999, rising global prices – robust macro economic performance

Consistent rise in GDP- annual average growth rate of 3.5 % during 1950 to 80 ; 6 % in 80 to 90 & 8 to 9 % in last 5 years

Increasing resilience to external shocks such as South Asian crisis, global economic slowdown in 2002, etc

Widespread growth drawing from industry, services & exports

Impact of reforms: positive results Accelerated growth of service sector Increase in growth accompanied by fall in the avg

inflation rate from 8 % to 5.8% per year Domestic savings increasing at high rate: from 10

% of GDP in 1950 to 32.4 % in 2005-06 95 % of investment financed by domestic savings Gross investment rate rising from 22.9% of GDP

in 1990 to 33.8 % 2005-06.

Impact of reforms: positive results Higher growth in PCI by 4 % accompanied

by fall in population growth rate from 2.14 % to 1.96 % - resulting in significant reduction in poverty ratio from 38.9% to 26.1%.

Adequate foreign exchange reserves Trade liberalization has helped in

globalization of production processes in India

Tax- revenue position improving Gross capital formation rate rising steadily

Impact of reforms: Negative results

Inability to generate employment opportunities- no change in unemployment ratios

Lack of job oriented investment such as in agriculture, construction, etc.

No proper steps taken on the front of labour reforms- without proper safety net we cannot adopt labour reforms

Dismal human development indicators – challenge of human capital development

Impact of reforms: Negative results Fall in development expenditure from 17.4

% to 15.9% in total expenditure Fall in education expenditure from 10.4 %

to 9.9% Marginal decline in fiscal deficit: from 8 %

to 5 % & combined fiscal deficit almost remaining same around 9.4%.

No significant change in revenue deficit Neglect on agricultural reforms

Appraisal of reforms

Absence of broader development strategy: reforms were concentrated in few sectors and few pockets

Wrong sequencing of reforms: fiscal correction resulted in cut in development expenditure and capital expenditure; liberalizing imports of capital goods before adopting a strategy for technology advancement

Hasty pace of reforms: reduction in the growth of capital goods industry, industrial employment, etc

Prerequisites of reforms ignored: development of egalitarian structure very imp before reforms to spread benefits universally- land reforms, education spread, access to health & training, etc.

Absence of human development goals as an integral part of the strategy

Appraisal of reforms

Inadequate framework: The new policy did not pay enough attention to agricultural reforms, reforms in labour sector and reforms in SSI & cottage industries.

New policy emphasized on agg supply & improving productivity. It did not pay so much attention on reviving agg demand by using distributive measures.

Gains of liberalization shd be spread more evenly across different strata & specifically in disadvantaged section of society