How Narasimha Rao and Dr. Manmohan Singh rescued India in 1991 and made history

Remya Nair

New Delhi: On 24 July 1991, finance minister Manmohan Singh presented his first ever budget, just a month after being sworn in the cabinet of prime minister P.V. Narasimha Rao. The government also unveiled a game-changing new industrial policy removing many roadblocks that hindered industries from flourishing.

But for both Rao and Singh, their initiation into the government was a trial by fire. No other government was faced with politically difficult decisions in the first few weeks of assuming power like theirs.

Exactly 30 years have passed since this historic event that helped India avert a major economic crisis and placed it on the high growth trajectory. ThePrint explains what led to the crisis and how India weathered it. What was the 1991 crisis?

In 1991, India faced its worst economic crisis and was on the brink of a sovereign default. The 1990-91 Gulf War had led to a sharp increase in oil prices and a fall in remittances from the Indian workers working overseas. This led to a sharp depletion in India’s forex reserves — at less than $6 billion, and this was just enough to meet around two weeks of the country’s imports.

The deteriorating fiscal deficit situation and burgeoning foreign debt levels did not help the government either. A fiscal deficit of 8 per cent of gross domestic product (GDP) and a current account deficit of 2.5 per cent of GDP all added to the government’s woes. Double-digit inflation numbers also added to the burden of the common man.

Immediate measures to mitigate the crisis The immediate priority for the Rao government was to prevent a sovereign default — an ignominy that India had managed to avoid till then. It took two immediate measures.

Devaluation of the rupee: 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 per cent on 1 July 1991, followed by another devaluation of 11 per cent two days later. This was done with the aim of making Indian exports more competitive. Rao, known for his political astuteness, preferred to undertake the devaluation in two phases to make it more palatable to all stakeholders.

Pledging gold holdings to shore up forex reserves: The central bank pledged India’s gold holdings with the Bank of England in four tranches from 4-18 July 1991 raising around $400 million through this route. Prior to this, in the midst of national elections, the State Bank of India sold 20 tonnes of gold on 16 May to the Union Bank of Switzerland or UBS to raise around $200 million. The government had also got emergency loans from the International Monetary Fund in two tranches totalling around $2 billion earlier in the year.

Structural reforms Trade policy: As part of its efforts to boost exports, the Indian government announced a new trade policy that sought to bring a change in the licensing process. It also linked non-essential imports to exports to discourage such imports. Taking into account the boost to exports from the massive devaluation of the rupee, the government did away with export subsidies. It introduced the concept of tradeable exim scrips granting such scrips to exporters for their use or for sale. Such scrips were calculated based on the value of exports. The policy also did away with the need for routing imports through state-owned firms. The private sector was allowed to make its own imports.

New industrial policy: The game-changing new industrial policy was unveiled on the eve of Budget 1991. It proposed some massive changes in the way India treated its industries and foreign investment by moving away from a licence raj regime. The policy relaxed some of the provisions in Monopolies and Restrictive Trade Practices Act to facilitate easier entry and restructuring of businesses by facilitating mergers and amalgamations. The policy ended the public sector monopoly in many sectors and announced a policy of automatic approval for foreign direct investment up to 51 per cent as against the earlier cap of 40 per cent for foreign equity investments.

Public sector monopoly was restricted to only a few sectors important from the point of view of national security. It also abolished industrial licensing for all industries barring 18 irrespective of levels of investment.

All these changes made it easier to do business in India and saw a deluge of foreign goods and investments flooding the Indian market in the subsequent years.

Budget 1991-92: Presented by Manmohan Singh on 24 July, the budget was a continuation of the reform measures undertaken by the Indian government over the last few weeks. There were some difficult measures taken. Faced with a rising fiscal deficit, the budget increased corporate tax rates by 5 percentage points to 45 per cent and introduced the concept of tax deducted at source for some financial transactions like bank deposits.

It also increased the prices of cooking gas cylinders, fertilisers and petrol and removed the subsidy on sugar.

It opened up mutual funds to the private sector and relaxed rules for investment by non-residents.

A scheme for people to declare unaccounted wealth was also announced. People were given immunity from prosecution and from the levy of interest and penalty.

The reform push continued after budget: Over the next eight months, the government announced many steps to continue the reforms momentum and pull India out of the crisis. These included a second trade policy package to boost exports and a package for developing small firms.

The government also announced a committee under former RBI governor M. Narasimham for proposing financial sector reforms. This was followed by the constitution of another committee for recommending tax reforms under well-known public finance economist Raja Chelliah. Courtesy: ThePrint