DMPQ- . “After the Covid pandemic has enraged India’s economy, Discuss what lessons it can learn from it’s 1991 crisis and reforms.

. The 30th anniversary of the 1991 reforms deserves commemoration. They dismantled a dysfunctional system of controls, which tied down the private sector and closed the economy to trade and investment.

The reforms were opposed by both the Left and the Right. The Left feared they would hurt the poor and lead to unnecessary imports, perpetuating balance of payments (BoP) problems. The Right feared foreign investors would take over the economy, in a replay of the East India Company phenomenon.

Both fears were unwarranted. The results took time because policy changes were gradual, delaying the benefits. However, by the first decade of the 21st century, India began to be seen as one of the fastest growing emerging markets. Far from poverty increasing, for the first time, there was a substantial reduction in it.

This looks enviable at a time when India is reeling from the impact of the Covid-19 pandemic, with Gross Domestic Product (GDP) having fallen by 7.3% in 2020-21, and an even sharper decline in per capita GDP because the population has continued to grow. Not surprisingly, unemployment and poverty have both increased.

The best way to commemorate the 1991 reforms is to consider what we can learn from them in dealing with the current crisis. The 1991 strategy had two components — reducing the fiscal deficit and implementing structural reforms. Both are relevant today, but with differences.

Reducing the fiscal deficit was essential in 1991 because the crisis was caused by excess domestic demand sucking in imports and widening the current account deficit (CAD). A loss of confidence triggered an outflow of funds and financing CAD forced a sharp drawdown in reserves. Reducing the fiscal deficit was an obvious way of containing demand.

The crisis today is not caused by excess demand. It has been triggered by a collapse in production following the disruption caused by the pandemic, which, in turn, has caused a fall in demand. Those who lost incomes had to cut consumption. Even those who have not lost income, face uncertainity and have postponed expenditure. Investment, a key source of aggregate demand, has also slowed because of unutilised capacity and uncertainty about growth.

The 1991 reforms succeeded because they were structured around a core package of mutually supportive reforms. The need for mutually supportive reforms was not adequately recognised at the time even by the private sector. Representaives of the private sector asked for elimination of government controls over investment, but did not recognise that this by itself would only mean that investors would have to queue up in the commerce ministry to get licences to import capital goods. Genuine liberalisation required parallel delicensing of capital goods imports, but that could only be done if we had some way of managing the BOP. The obvious solution was to shift to a market-determined exchange rate. All these steps were carefully coordinated and implemented over a very short period.

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