The 1991 balance of payments crisis and the World Bank–IMF loan, stabilisation and structural reforms, liberalisation of industry, finance, tax, foreign exchange and trade, privatisation and disinvestment, globalisation, outsourcing and the WTO, GST, and an appraisal of what the reforms did, with the traps CUET sets.
In 1991 India ran out of foreign exchange. The answer, the New Economic Policy, opened the economy in three ways: liberalisation (remove controls), privatisation (shrink state ownership) and globalisation (link with the world economy), together called LPG.
For years the government had spent more than it earned and borrowed to fill the gap, at home and abroad, while imports grew faster than exports. In 1990–91 the Gulf crisis pushed up oil prices. By 1991:
India borrowed about $7 billion from the World Bank (IBRD) and the IMF. In return they expected India to liberalise: free the private sector, reduce the role of the government and remove trade restrictions.
| Stabilisation | Structural reform |
|---|---|
| Short-term | Long-term |
| Correct the balance of payments, control inflation | Raise efficiency and international competitiveness |
| Build up foreign exchange reserves | Remove rigidities in the economy |
| Area | What changed |
|---|---|
| Industry | Licensing abolished for almost all products except a few such as alcohol, cigarettes, hazardous chemicals, industrial explosives, electronics, aerospace, and drugs and pharmaceuticals. Only part of atomic energy and some core railway activities stay reserved for the public sector. Many small-scale goods de-reserved; prices left to the market |
| Finance | The RBI's role moves from regulator to facilitator; private Indian and foreign banks allowed; foreign investment limit in banks raised to about 74%; foreign institutional investors may invest |
| Tax | Lower income tax and corporation tax rates, simpler procedures |
| Foreign exchange | Rupee devalued in 1991; the market now largely sets the rate |
| Trade | Quantitative restrictions dismantled (fully removed on consumer goods and farm products from April 2001), tariffs cut, import licensing removed except for hazardous goods, export duties removed |
High rates encouraged evasion. Moderate rates encourage saving and honest declaration of income, so a lower rate on a larger base can still raise revenue.
Privatisation means the government giving up ownership or management of firms. Disinvestment sells part of the government's shares in public sector firms to the public, to improve financial discipline and modernisation with private capital and management.
In 1996, nine public sector firms were given Navratna status, with more freedom to take business decisions. Today the categories are Maharatna (for example Indian Oil, SAIL and NTPC), Navratna and Miniratna.
Critics say assets were sometimes sold below their worth, and the money often filled revenue gaps instead of building the firms.
Globalisation integrates the economy with the world economy through trade, investment and technology.
In 2016 the Constitution was amended to allow a Goods and Services Tax, which came into force on 1 July 2017. GST is an indirect tax that replaced many central and state taxes, aiming at "one nation, one tax, one market".
| Successes | Criticisms |
|---|---|
| Faster GDP growth, led by services | Agriculture neglected: public investment in irrigation, power, roads and research fell |
| Foreign exchange reserves grew to among the world's largest | Cheaper imports hurt some industries; power and other infrastructure stayed short |
| India became a leading exporter of IT and other services | Growth created too few jobs (jobless growth) |
| Exports of goods such as auto parts and engineering goods grew | Tariff and tax cuts reduced revenue; disinvestment undervalued assets |
Watch out
Selling government firms is privatisation, not globalisation; removing licences is liberalisation. Stabilisation is short-term, structural reform long-term.
Crisis and response
LPG
Appraisal
Building the skills that the new economy needed is in human capital formation.
65 questions, grouped by type, easy to hard. Pick an answer and check it. The worked solution opens when you ask for it.
In 1991, India faced a crisis mainly in its
AnswerB · external debt and balance of payments
India could not repay the interest on its foreign borrowing, and its foreign exchange reserves had run down.
In 1991, India's foreign exchange reserves had fallen so low that they could pay for
AnswerD · less than about two weeks of imports
Reserves had dropped to a level that could not finance even a fortnight of imports.
The root of the 1991 crisis was that, for years, the government had
AnswerA · spent more than it earned and borrowed to cover the gap
Spending on development and welfare ran ahead of revenue, so the government borrowed at home and abroad.
Imports also kept growing faster than exports, so foreign debt piled up.
To deal with the 1991 crisis, India borrowed about $7 billion from
AnswerC · the World Bank (IBRD) and the IMF
India approached the International Bank for Reconstruction and Development (the World Bank) and the IMF, and received about $7 billion.
In return for the 1991 loan, the World Bank and IMF expected India to
AnswerB · liberalise and open up its economy
The conditions were to remove restrictions on the private sector, reduce the role of the government and remove trade restrictions.
The set of policies India announced in 1991 is called the
AnswerC · New Economic Policy
The New Economic Policy (NEP) of 1991 brought a wide range of reforms, grouped as liberalisation, privatisation and globalisation.
Assertion (A): India could not repay its foreign debt in 1991.
Reason (R): India's foreign exchange reserves had run down to very low levels.
AnswerA · Both A and R are true, and R is the correct explanation of A.
Foreign debt is repaid in foreign currency; with almost no reserves, India could not pay.
R explains A.
Read the two statements and choose the correct option.
I. A rise in oil prices during the Gulf crisis of 1990–91 added to India's import bill.
II. In 1991, prices of essential goods in India were falling fast.
AnswerA · Only I
Dearer oil meant more foreign exchange for the same imports: I is true.
Prices of essential goods were rising sharply, so II is false.
Arrange these in chronological order.
A. The Industrial Policy Resolution
B. Quantitative restrictions fully removed
C. GATT is set up
D. The balance of payments crisis
AnswerA · C, A, D, B
GATT 1948, IPR 1956, crisis 1991, quantitative restrictions removed by April 2001.
Assertion (A): The 1991 crisis forced India to borrow from the IMF and the World Bank.
Reason (R): India had large foreign exchange reserves in 1991.
AnswerC · A is true, but R is false.
A is true.
Reserves were barely enough for two weeks of imports, so R is false.
Stabilisation measures in 1991 were
AnswerA · short-term steps to correct the balance of payments and control inflation
Stabilisation is short-run: build up enough foreign exchange reserves and keep rising prices in check.
Worth noting
Making the economy efficient and competitive is the job of structural reforms.
Structural reform measures are
AnswerD · long-term steps to raise efficiency and international competitiveness
Structural reforms remove rigidities in the economy so it becomes more efficient and can compete abroad.
Read the two statements and choose the correct option.
I. Stabilisation measures aim to keep inflation under control.
II. Structural reforms aim to improve the efficiency of the economy over the long run.
AnswerC · Both I and II
Both describe the two kinds of 1991 measures correctly.
Match each 1991 measure with its kind.
| List I | List II |
|---|---|
| A. Building up foreign exchange reserves | I. Privatisation |
| B. Ending industrial licensing | II. Stabilisation |
| C. Selling shares of public sector firms | III. Globalisation |
| D. Joining the WTO's rules on trade | IV. Liberalisation |
AnswerC · A-II, B-IV, C-I, D-III
Reserves are short-run stabilisation; the other three are the structural reforms of LPG.
Read the two statements and choose the correct option.
I. Stabilisation measures are long-term measures.
II. Structural reforms are short-term measures to control inflation.
AnswerD · Neither I nor II
Stabilisation is short-term, so I is false.
Structural reforms are long-term and aim at efficiency, so II is false.
Liberalisation means
AnswerA · removing government controls on the economy
Liberalisation removes restrictions, such as licensing, so that firms and markets can work freely.
Worth noting
Selling government firms is privatisation; linking with the world is globalisation.
After 1991, industrial licensing was abolished for almost all products except a few, such as
AnswerB · cigarettes and industrial explosives
Licences stayed only for products such as alcohol, cigarettes, hazardous chemicals and industrial explosives, for health, safety or strategic reasons.
After the reforms, which of these remains reserved for the public sector?
AnswerD · Atomic energy generation
Only a few areas, such as atomic energy and core railway activities, are still reserved for the public sector.
Steel, airlines and banking are all open to private firms.
After 1991, the RBI's role in the financial sector changed from
AnswerA · regulator to facilitator
The financial sector was to decide many things on its own, with the RBI easing the way rather than controlling every step.
Which of these was a financial sector reform after 1991?
AnswerD · Private and foreign banks were allowed in
Private Indian and foreign banks were permitted, and the limit on foreign investment in banks was raised to about 74%.
Foreign institutional investors such as mutual funds and pension funds may now invest in Indian financial markets.
Tax reforms after 1991 included
AnswerB · lower rates of income tax and corporation tax
High rates encouraged tax evasion; moderate rates were expected to encourage saving and honest disclosure of income.
Corporation tax, which had been very high, was also cut gradually.
In 1991, as a first step in foreign exchange reform, the rupee was
AnswerC · devalued against foreign currencies
Devaluation made Indian goods cheaper abroad and brought in more foreign exchange.
Later, the market was allowed to set the exchange rate, with the RBI stepping in only at times.
Trade policy reforms after 1991 included
AnswerC · removing quotas on imports and cutting tariffs
Quotas were dismantled, tariff rates cut and import licensing removed except for hazardous and environmentally sensitive goods.
Export duties were also removed, to make Indian goods competitive abroad.
Read the two statements and choose the correct option.
I. After 1991, many goods earlier reserved for small-scale industry were de-reserved.
II. After 1991, the government fixed the prices of most industrial goods.
AnswerA · Only I
De-reservation let larger firms make those goods: I is true.
The market was allowed to set prices in many industries, so II is false.
Assertion (A): The rupee was devalued in 1991.
Reason (R): Devaluation makes a country's exports cheaper for foreign buyers.
AnswerA · Both A and R are true, and R is the correct explanation of A.
Devaluation was meant to earn more foreign exchange by making exports cheaper abroad.
R explains A.
After the reforms, the limit on foreign direct investment in Indian banks was raised to about
AnswerC · 74%
The FDI limit in banks was raised to around 74%.
Quantitative restrictions on imports of manufactured consumer goods and farm products were fully removed from
AnswerB · April 2001
The quantitative restrictions were fully removed from April 2001.
Assertion (A): Lower income tax rates were expected to raise tax revenue.
Reason (R): Moderate rates encourage people to declare their income honestly.
AnswerA · Both A and R are true, and R is the correct explanation of A.
If more income is declared, a lower rate on a larger base can still bring in more revenue.
R explains A.
Assertion (A): Industrial licensing was abolished for almost all products in 1991.
Reason (R): Licences are still needed for some products, such as hazardous chemicals.
AnswerB · Both A and R are true, but R is not the correct explanation of A.
Both are true: licensing ended for most products, and a short list still needs it.
R states an exception to A; it does not explain why A happened.
Privatisation means
AnswerD · ending state ownership or management of firms
The government withdraws from owning or managing public sector firms, or sells them outright.
Worth noting
The government taking over private firms is nationalisation, the opposite.
Under the reforms after 1991, disinvestment meant
AnswerA · selling some government shares in public firms
In disinvestment, part of the equity of a public sector enterprise is sold to the public.
The main purpose of disinvestment, as the government stated it, was to
AnswerD · improve financial discipline and modernisation
Private capital and managerial skill were expected to improve the performance of public sector firms.
In 1996, to improve their efficiency and give them more autonomy, nine public sector enterprises were given the status of
AnswerA · Navratna
The first nine 'navratnas' got greater freedom to run their business and take decisions.
The Maharatna and Miniratna categories came later.
Granting Maharatna, Navratna or Miniratna status to a public sector enterprise mainly gives it
AnswerC · more freedom to take business decisions
The status gives the board greater autonomy over investment and operations, so the firm can compete.
Indian Oil Corporation, Steel Authority of India and NTPC are examples of
AnswerB · Maharatna public sector enterprises
These large, profitable public sector firms have Maharatna status, the highest of the three categories.
Assertion (A): Privatisation was expected to improve the efficiency of public sector firms.
Reason (R): Private owners have a stronger profit motive to cut waste.
AnswerA · Both A and R are true, and R is the correct explanation of A.
A firm whose owners keep the profit has more reason to run efficiently.
R explains A.
Assertion (A): Disinvestment means the government sells its entire stake in every public firm.
Reason (R): In disinvestment, shares of public sector firms are sold to the public.
AnswerD · A is false, but R is true.
Disinvestment often sells only part of the government's shares, so A is false.
R is true.
Read the two statements and choose the correct option.
I. Critics argue that public sector assets were sometimes sold for less than they were worth.
II. Money from disinvestment was always used to develop the public sector firms that were sold.
AnswerA · Only I
Undervaluation of assets is a common criticism: I is true.
The money was often used to make up the government's revenue shortfall, so II is false.
Globalisation means
AnswerB · integrating the economy with the world economy
Globalisation links countries through trade, investment, technology and the movement of people, making the world more interdependent.
Outsourcing means that a company
AnswerA · hires regular services from an outside source
Firms buy services such as call centres, accounting or data processing from other firms, often in other countries.
The World Trade Organisation (WTO) was founded in
AnswerC · 1995
The WTO was set up on 1 January 1995 as the successor to GATT, which dated from 1948.
Worth noting
1948 is GATT, which the WTO replaced.
India became a major destination for outsourcing mainly because of
AnswerD · low-wage skilled workers who speak English
Low wages and a skilled workforce, together with cheaper telecommunication after the IT revolution, made India attractive for back-office work.
Which of these is an example of outsourcing to India?
AnswerC · A US bank's customer calls answered from Gurugram
A foreign firm buys a service, handling customer calls, from a firm in India.
The WTO was set up as the successor to
AnswerD · the General Agreement on Tariffs and Trade (GATT)
GATT, set up in 1948, was replaced by the WTO in 1995, which covers services as well as goods.
The main aim of the WTO is to
AnswerB · set up a rule-based trading system and cut barriers to trade
It aims at a rule-based regime in which no country can put arbitrary restrictions on trade, so that resources are used well worldwide.
Worth noting
Lending in a balance of payments crisis is the IMF's job.
Assertion (A): Outsourcing grew rapidly after the IT revolution.
Reason (R): Cheap and fast telecommunication lets services be done far from the customer.
AnswerA · Both A and R are true, and R is the correct explanation of A.
Voice and data can move instantly, so a call centre or accounts team can be in another country.
R explains A.
Match each part of the 1991 reforms with an example.
| List I | List II |
|---|---|
| A. Liberalisation | I. Selling shares of a public firm |
| B. Privatisation | II. Rebuilding forex reserves |
| C. Globalisation | III. Ending industrial licensing |
| D. Stabilisation | IV. Cutting tariffs under WTO rules |
AnswerC · A-III, B-I, C-IV, D-II
Removing controls is liberalisation; selling state shares is privatisation; opening to world trade is globalisation; rebuilding reserves is stabilisation.
Read the two statements and choose the correct option.
I. Globalisation makes the world more interdependent.
II. Globalisation means the government selling its firms.
AnswerA · Only I
Trade, capital and technology flows tie economies together: I is true.
Selling government firms is privatisation, so II is false.
Read the two statements and choose the correct option.
I. India has been a member of the WTO from its start.
II. Developing countries complain that rich members still protect their own farmers with subsidies.
AnswerC · Both I and II
India is a founding member of the WTO: I is true.
Farm subsidies in developed countries are a long-standing complaint of developing members: II is true.
Assertion (A): The WTO covers trade in services as well as goods.
Reason (R): GATT, which the WTO replaced, was set up in 1995.
AnswerC · A is true, but R is false.
A is true: the WTO's agreements go beyond goods.
GATT dates from 1948; the WTO from 1995. R is false.
After the reforms, which sector grew fastest and led India's growth?
AnswerA · Services
Growth after 1991 was driven mainly by services, while agriculture slowed and industry swung up and down.
A clear success of the reforms was
AnswerB · a large rise in India's foreign exchange reserves
From barely two weeks of imports in 1991, reserves grew until India held some of the largest reserves in the world.
A major criticism of the reforms concerns agriculture, because
AnswerD · public investment in farm infrastructure fell
Public spending on irrigation, power, roads, market links and research fell.
Cuts in fertiliser subsidy raised costs, and many farmers moved from food crops to export crops, which put pressure on food prices.
Industrial growth slowed in some years after the reforms because
AnswerA · cheaper imports replaced demand for Indian goods
Lower tariffs brought in cheaper imports, which took demand from domestic producers.
Infrastructure such as power remained inadequate.
Which of these is NOT counted as a success of the reforms?
AnswerC · More public investment in agriculture
Public investment in agriculture fell after 1991; the other three are successes.
Assertion (A): India became a leading exporter of IT services after the reforms.
Reason (R): Globalisation and outsourcing opened world markets to Indian service firms.
AnswerA · Both A and R are true, and R is the correct explanation of A.
Once the economy opened, Indian IT firms could sell their services abroad.
R explains A.
Read the two statements and choose the correct option.
I. India's foreign exchange reserves were far larger in the 2000s than in 1991.
II. The reforms led to a rise in public investment in irrigation and rural roads.
AnswerA · Only I
Reserves grew strongly after 1991: I is true.
Public investment in farm infrastructure fell, so II is false.
Read the two statements and choose the correct option.
I. Growth after the reforms did not create jobs in proportion to the rise in output.
II. Tariff cuts after 1991 reduced the scope for raising revenue through customs duties.
AnswerC · Both I and II
Critics call this jobless growth: I is true.
Lower tariffs mean less customs revenue: II is true.
Assertion (A): Some farmers shifted from food crops to export-oriented cash crops after the reforms.
Reason (R): Opening to world markets made export crops more profitable.
AnswerA · Both A and R are true, and R is the correct explanation of A.
Farmers grow what pays; world demand raised the returns on cash crops.
R explains A.
Assertion (A): Agriculture grew faster than services after the reforms.
Reason (R): Public investment in agriculture fell after the reforms.
AnswerD · A is false, but R is true.
Services grew fastest; agriculture slowed. A is false.
R is true.
The Goods and Services Tax (GST) was rolled out on
AnswerC · 1 July 2017
GST came into force on 1 July 2017, after the Constitution was amended in 2016 to allow it.
GST is
AnswerB · an indirect tax that replaced many central and state taxes
GST merged many indirect taxes into one, under the slogan 'One Nation, One Tax, One Market'.
Read the two statements and choose the correct option.
I. GST was expected to make India a single common market for goods and services.
II. GST replaced the income tax.
AnswerA · Only I
One tax across states removes the barriers that state taxes created: I is true.
Income tax is a direct tax and still exists; GST replaced indirect taxes. II is false.
Arrange these in chronological order.
A. Quantitative restrictions on imports fully removed
B. The New Economic Policy
C. GST is rolled out
D. The WTO is founded
AnswerC · B, D, A, C
NEP 1991, WTO 1995, quantitative restrictions removed April 2001, GST July 2017.
Assertion (A): GST is an indirect tax.
Reason (R): The WTO was founded in 1995.
AnswerB · Both A and R are true, but R is not the correct explanation of A.
Both statements are true.
When the WTO was founded has nothing to do with the kind of tax GST is, so R does not explain A.
NTA's Economics syllabus is three courses: Introductory Microeconomics, Introductory Macroeconomics and Indian Economic Development, each split into units with a list of topics. It prints no chapters and no split of the 50 questions across the courses. So the areas here are NTA's three courses, and the chapters inside them are ours: a unit that covers several ideas, such as consumer behaviour and demand, is split into a chapter for each, so that a chapter can be practised in one sitting. All three courses are here.