Monday, February 11, 2013

Indian Economy background




Indian economy faced a grave crisis in the early years of the last decode of the last century. The annual rate of inflation touched 17%, fiscal deficit rose to 8.4% of GDP, the current account deficit in the Balance of Payment was an unsustainable $9.9 billion and the country’s foreign exchange reserve went down to such a level that the country was not in the position of meeting the country’s import bills for a week.
The reasons for such a situation rest on three factors:
Ø  Lack of fiscal discipline of the former governments
Ø  Collapse of USSR
Ø  Failure of monsoon
Ø  Gulf crisis
This led to major structural reforms in the economy. The economy was liberalised and opened for foreign investors. The high bureaucratic control on various sectors of the economy was removed and the licence and permit raj was ended.
To encourage the foreign investors, Foreign Exchange Regulatory Act (FERA) was amended and in its place Foreign Exchange Management Act (FEMA) was enacted.
A major disinvestment drive began in the public sector. The loss making PSUs were handed over to private owners wholly or partially.
Greater autonomy was provided to the financial institutions like RBI.
The trade barriers were lifted.

The decade saw rise of IT and ITES sector. Fiscal deficit was brought down to manageable levels. India sailed through the global recession and slowdown, largely unaffected.
But it also remain a fact the in a period of 30 years (1981 - 2011) India has not improved its HDI. The issues of poverty, unemployment etc. remain largely unsolved.
The agriculture sector too has been not able to bring forth the reforms and international best practices for better productivity.
India has been able to address the absolute poverty to some extent but the relative poverty has gone up. The society has grown into a society of great divides and inequality.


Definitions and meaning
Ø  Fiscal Deficit When a government's total expenditures exceed the revenue that it generates (excluding money from borrowings). Deficit differs from debt, which is an accumulation of yearly deficits.
Ø  Current Account Deficit Occurs when a country's total imports of goods, services and transfers is greater than the country's total export of goods, services and transfers. This situation makes a country a net debtor to the rest of the world.
Ø  Balance of Payment accounts are an accounting record of all monetary transactions between a country and the rest of the world. These transactions include payments for the country's exports and imports of goods, services, financial capital, and financial transfers. The BoP accounts summarize international transactions for a specific period, usually a year, and are prepared in a single currency, typically the domestic currency for the country concerned. The BoP has two components viz. Capital Account or Current Account.
Ø  Foreign Exchange Regulatory Act (FERA) was legislation passed by the Indian Parliament in 1973 by the government of Indira Gandhi and came into force with effect from January 1, 1974. FERA imposed stringent regulations on certain kinds of payments, the dealings in foreign exchange and securities and the transactions which had an indirect impact on the foreign exchange and the import and export of currency. The bill was formulated with the aim of regulating payments and foreign exchange.
Ø  Foreign Exchange Management Act (FEMA) is an Act to consolidate and amend the law relating to foreign exchange with the objective of facilitating external trade and payments and for promoting the orderly development and maintenance of foreign exchange market in India. It was passed in the winter session of Parliament in 1999 replacing Foreign Exchange Regulation Act. This act seeks to make offenses related to foreign exchange civil offenses. It extends to the whole of India. It replaced Foreign Exchange Regulation Act (FERA), since FERA had become incompatible with the pro-liberalisation policies of the Government of India. It has brought a new management regime of Foreign Exchange consistent with the emerging framework of the World Trade Organisation (WTO). It is another matter that the enactment of FEMA also brought with it the Prevention of Money Laundering Act 2002, which came into effect from 1 July 2005.
Ø  Difference between FERA and FEMA
o   FERA was to regulate the foreign exchange whereas FEMA is to manage the foreign exchange.
o   Any offence under FERA is considered to be criminal whereas in FEMA it is considered to civil offence
o   Under FERA it was necessary to obtain permission from the RBI; however in FEMA it is not the case.
o   Under FERA nothing was permitted unless it was mentioned as “permitted”, in case of FEMA everything is permitted unless mentioned as “prohibited”.
Ø  RBI: Its function is formulation and execution of monetary policy. The overall goal is to promote economic growth and ensure price stability. It maintains price stability and ensures the flow of credit to productive sectors. It is also the manager of foreign exchange. RBI issues currency and exchanges and destroys currency and coins not fit for circulation. RBI supports a wide range of promotional functions to support national objectives. 

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