Information on Liberalisation

Liberalisation is a general term referring to making laws, opinions or institutions less rigid. Usually, it means eliminating or easing certain government restrictions or regulations. The term is most often used in conjunction with economics to refer to economic liberalisation, i.e. removing or reducing restrictions on specific areas of economic activity. In India, liberalisation was achieved through industrial sector deregulation, financial sector reform, tax reform and foreign exchange reform.

What is Liberalisation?

• The practice of making laws, institutions or opinions less rigid.
• Liberalisation removes restrictions on private sector activities usually associated with the economic system.
• Liberalisation involves eliminating certain government control and regulation from a country’s economy to ensure that businesses and corporations can maximise their contribution to economic development.
• India first launched a new economic policy to overcome the balance of payments crisis.
• Liberalisation refers to achieving the goals of industrialisation, expanding the role of private and foreign investment, and introducing a free market system.

Liberalisation in India

The Indian economy’s global transformation began with the 1991 economic reforms, which were triggered by the balance of payment crisis. In 1991, the country suffered a major balance of payment crisis and requested help from global financial institutions like the International Monetary Fund. However, the IMF put several conditions before providing India with financial assistance. The IMF had asked India to adopt the policy of LPG – Liberalisation, Globalisation, and Privatisation. Since then, there have been several structural changes in the Indian economy.

Before 1991, the government had imposed various controls on the Indian economy, e.g. industrial licensing systems, price controls, import licences, foreign exchange controls, etc. This discouraged the industrial growth of the country. Strict government laws also lead to more corruption and unnecessary delays and inefficiencies, due to which economic growth started to fall sharply. 

Therefore, economic reforms were introduced in 1991 to loosen restrictions on the economy. Economic reform is based on the assumption that market forces can guide the economy more effectively than government control.

Objectives of liberalisation in 1991 were

1. Expansion of the market size
2. Reduction of country’s debt
3. Increase competition among domestic industries
4. Facilitate the import and export of goods and services.

Economic Reforms in Context of Liberalisation

1. Industrial sector reform

• Abolition of industrial licence
• Contraction of the public sector
• Freedom in importing capital goods

2. Reforms in the financial sector

• Reducing various monetary controls (SLR, CRR)
• Transform the RBI role from regulator to facilitator
• Deregulation of interest rates

3. Fiscal reform/Tax reform

• Personal income tax has been reduced since 1991
• High-income tax rates are considered a major source of tax evasion, so modest income tax and corporate tax rates have been introduced
• Many legal procedures have been simplified
• Indirect tax reforms have been implemented, the most recent being the Goods and Services Tax (GST)

4. Stock Exchange Reform – Rupee Devaluation

• The rupee had been devalued against foreign currencies in 1991. This was mainly to increase exports and, ultimately, increase foreign exchange reserves
• The devaluation of the Indian rupee against foreign currencies has increased the supply of foreign exchange in the Indian economy
• Since 1991, the supply and demand of foreign exchange have determined the exchange rate, and there is little government intervention in it

5. Trade and Investment reforms

• Import quantity restrictions are gradually relaxed.
• Import licences have been abolished, except for hazardous and environmentally sensitive industries
• In April 2001, quantitative restrictions on imports of industrial consumer goods and agricultural products were also lifted
• There is a gradual influx of FDI/FPI

Advantages of Liberalisation

(a) Increased Foreign Investment: As a country liberalises its trade, it becomes more attractive to foreign investment. Foreign investment leads to capital inflows and contributes to the economy by disseminating more technology, management skills and knowledge.

(b) Increased Foreign Exchange Reserves: Deregulation of foreign investments and currencies has paved the way for easier access to foreign capital.

(c) Increased Consumption: Liberalisation increases the number of goods available for consumption in a country due to increased production.

d) Price Control: Removing tariff barriers can lower prices for consumers. This is especially beneficial for importing countries.

e) Reduce External Borrowing: Liberalisation reduces reliance on external commercial borrowing by attracting more foreign investment.

Disadvantages of Liberalisation

(a) Rising Unemployment: Trade liberalisation often leads to changes in the economic balance. Some industries grow, while others shrink. As a result, structural unemployment often occurs due to the closure of certain industries.

(b) Loss of Domestic Units: With fewer entry restrictions, many new foreign entities have the potential to enter the country’s market, posing a threat and competition to existing domestic industries.

c) Unbalanced Development: Trade liberalisation can harm emerging economies that cannot compete with free trade. It tends to favour developed countries over emerging economies.

Conclusion

Liberalisation means removing all unnecessary controls and restrictions imposed on the economy, such as permits, licences, protectionist consumption quotas, etc. In other words, it is the practice of making laws, systems, or opinions less severe. The economic reform of 1991 in India is an example of the liberalisation of the economy. However, liberalisation comes with both its advantages and disadvantages.