Home / Politics / Policy /  The making of Budget 1991

New Delhi: P.V. Narasimha Rao was sworn in as prime minister of India on 21 June 1991, at a time when the economy was beset by domestic and global worries. External debt at 23% of gross domestic product (GDP) and internal public debt at 55% of GDP were among the headaches the government inherited.

Heading a minority Congress-led government, Rao, together with his finance minister Manmohan Singh, had to take some difficult, but essential, decisions to liberalize the economy and extricate it from the crisis it faced. Here is a look at the series of steps the government took over a little more than two months that proved decisive and path-breaking for the Indian economy.

The crisis

India’s foreign exchange reserves at 2,500 crore had fallen sharply and were down to a level where they would be just enough to meet around two weeks of imports. The country’s reserves had been depleted due to high oil prices and falling remittances, both a direct fallout of the Gulf War. The situation worsened with the flight of non-resident Indian deposits from the country.

A deteriorating fiscal deficit situation compounded the government’s woes and resulted in burgeoning domestic and foreign debt levels. The fiscal deficit was dangerously poised at 8% of GDP in 1990-91 while current account deficit made up 2.5% of GDP. India came close to defaulting on its debt repayments. A combination of domestic and external factors pushed the wholesale price inflation to 12.1% and consumer price inflation to 13.6%.

Crisis-handling before budget

Devaluation: The government, along with the Reserve Bank of India (RBI), undertook a two-step devaluation of the rupee, which was first devalued against major currencies by around 9% on 1 July 1991, followed by another devaluation of 11% two days later.

Pledging gold holdings: RBI also proceeded to park India’s gold holdings with the Bank of England in four tranches from 4-18 July 1991 to avail of financial assistance. Prior to this, State Bank of India sold 20 tonnes of gold on 16 May to the Union Bank of Switzerland, helping raise around $200 million. This sale came with a repurchase option.

Trade policy revamp: To give a boost to exports, the government announced a new trade policy, doing away with unnecessary controls, streamlining the licensing process and linking non-essential imports to exports to discourage such imports. It abolished export subsidies in the light of the rupee devaluation and expansion of the so-called “replenished licensing system".

New industrial policy: Unveiled on the eve of Budget 1991, the new industrial policy sought to open selected sectors to foreign investment, doing away with the licence raj in most industries and relaxing some of the provisions in the Monopolies and Restrictive Trade Practices Act to facilitate easier entry and restructuring of businesses. The government also announced partial stake sales in public sector enterprises to state-owned mutual funds and financial institutions.

Emergency IMF loan: India received an emergency loan of $220 million from the International Monetary Fund (IMF) on 22 July 1991. Following this, the government sought another emergency loan from IMF to prevent a debt default.

Budget 1991-92

The budget, presented by finance minister Manmohan Singh on 24 July 1991, sought to extend the reform measures taken by the government in the previous month. Among the tough measures announced were increases in the prices of fertilizers, cooking gas and petrol and doing away with a subsidy on sugar.

It conferred statutory powers on the Securities and Exchange Board of India to effectively regulate India’s capital markets. It liberalized rules for non-resident investments and opened up mutual funds to the private sector.

The budget also announced a special scheme for people to declare unaccounted wealth with immunity from prosecution, interest and penalty. It introduced the concept of tax deducted at source on bank deposits and commissions. It also reduced taxes on dividend received by offshore funds from Unit Trust of India units to encourage such investments. To encourage exports, it announced tax incentives for export of services. It also increased the corporate tax rate to 45% from 40% but retained existing personal income tax slabs.

Steps taken after the budget

Following the budget, the government announced a comprehensive package for developing small- and village-level enterprises. It also unveiled the second trade policy package on 13 August to boost exports. The following day, on 14 August, the government announced setting up of a committee for recommending financial sector reforms under former RBI governor M. Narasimhan, covering banking and capital markets. This was followed by a committee on tax reforms set up on 29 August under Raja Chelliah, a noted public finance economist.

As a result of these moves, India weathered the crisis and by 1992-93, the economy was on a far better footing. By the time Singh rose to present his second budget in February 1992, India managed to avert the ignominy of defaulting on its debt payments, forex reserves had improved to 11,000 crore and the fiscal deficit had been reined in to around 6.5% of GDP in 1991-92. Inflation moderated to 12% from a high of almost 17% in August 1991 although it continued to remain above the government’s comfort level.

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