by Rakesh Mohan
This was certainly an unlikely team to carry out the radical changes in economic policies that were implemented. Both of them were known much more as loyal deputies to the Congress leadership from Indira Gandhi’s time and neither was particularly known for decisive leadership. Both certainly rose to the occasion and delivered the country from a serious economic crisis and set it on a sustainable high-growth path that has lasted for twenty-five years so far, despite a number of changes in the government over this period. But it was the third member of the team who is seldom given credit for what transpired during that five-year period—Principal Secretary Amar Nath Verma—whose role was crucial to the implementation of economic reforms. Despite no previous familiarity between the two, it was providential that Narasimha Rao appointed him as his principal secretary: he clearly turned out to be the right man for the right job at the right time.
As I relate below, it was Verma who was responsible for the initiation of industrial policy reforms much earlier as industry secretary, so he could usher in the radical reforms in no time once given the opportunity. Perhaps even more important, having gained success in implementing this radical reform, he acquired enough confidence to be the enforcer of the economic reforms regime over the next five years.
Thus, it was this unlikely trio that should be given somewhat equal credit for what transpired in the economic policy realm between 1991 and 1996.
I am not qualified to say much more on the first question, and I leave it to those who were nearer the political decision-making process at the top at that time to give a clear verdict.3 In his chapter in this volume, T.N. Ninan4 has provided an insightful political-economy framework, within which the economic reforms have been carried out (and constrained) in India.
Could these reforms have been accomplished without the pressure of the IMF and the World Bank? Possibly not. There is nothing like a crisis to focus the political and bureaucratic mind. But then, there is no shortage of crises that different countries have suffered over the last half-century or so: in fact, more than 100 countries have suffered such crises and have been subjected to IMF programmes. If they had all succeeded in carrying out IMF-imposed programmes, the world would perhaps be a much better place now!
After the excesses of the late 1980s, the dual balance-of-payments and fiscal crises had been building up in India for a couple of years before 1991, but action could not be taken because of the then ongoing political instability in the country. By the time the new government came to power on 21 June 1991 the economic situation was dire—inflation was well into double digits and foreign-exchange reserves had hit rock bottom; something just had to be done. In their contributions to this volume, C. Rangarajan5 and Montek Singh Ahluwalia provide vivid first-person accounts of the macroeconomic mess that the country found itself in 1991. The IMF and World Bank pressure was undeniable. However, resorting to an IMF programme in 1981–82 had not resulted in a similar well-organized reform programme. The balance-of-payment difficulties arising from the oil price increase in 1989–90 had necessitated the use of a loan of SDR 3.9 billion from the IMF’s ‘Extended Fund Facility’ at that time.
This time it succeeded because, as I document, there was actually an emerging technocratic consensus on the direction of reforms over the previous decade or so. Moreover, the collapse of the Soviet Union in the previous year added to the Reagan–Thatcher ideological winds that had been blowing in the 1980s. The 1980s also saw developing countries launching economic reforms—the so-called wave of structural adjustment programmes. The East Asian miracle was grounded in more liberal industrial and trade regimes with an export focus. Dr Manmohan Singh has also talked of how his work for the South Commission raised his awareness of how East Asia was progressing relative to India. The world was changing around us, and we became aware that we were being left behind.
A great deal of work had been done towards liberalization within different arms of the economic policy establishment during the 1980s. So, in some sense, the country was ready and a good part of the reform programme was indeed home-grown. Montek Ahluwalia has provided an overview of the overall reform programme in his chapter.6 My general conclusion is that the reforms were much more home-grown than often thought by observers.
With this general background, I now focus on one aspect of the programme, the industrial policy reforms of 1991, as an illustration of the domestic generation of the overall reform process. These reforms were somewhat different in that they were comprehensive in the industry policy realm and were carried out in one shot on 24 July 1991, less than five weeks after the new government came into power. Most of the other reforms had to be done over a period of time: fiscal, trade, monetary and financial sector policy reforms were carried out gradually over the next decade or so.
My Personal Journey to the 1991 Industrial Policy Reforms
I first came back to India in 1980 to work as a ‘senior consultant’ on urban development in the Planning Commission, after having spent almost sixteen years abroad. It was Professor Raj Krishna, as a member of the Morarji Desai government’s Planning Commission, who, in 1979, had invited me to come to the commission in recognition of my work on housing and urban development with the World Bank. At that time, there was very little work in the country on urbanization and its attendant problems; hence, the interest in inviting me to the commission. By late 1980, when I was finally able to extricate myself from the large multiyear research project that I was involved in, ‘The City Study’ on Bogota and Cali, Colombia, and obtained leave from the World Bank, the government had changed and Professor Raj Krishna had returned to academia. In those days of a relatively depoliticized Planning Commission, my appointment was honoured but no one in the commission really knew why I had arrived when I did and what I was supposed to. Those were the days when people like me, returning to India from abroad, from institutions such as the World Bank and the International Monetary Fund, were viewed with suspicion. In fact, the welcome greeting I received from a senior member of the administration on the first day went something like this: ‘Why have you come here? Is there something wrong with you? Or is there some problem in your family? Why would you leave a cushy job in the World Bank to come here? You know that we don’t treat people like you well here!’7
I survived all this and worked exclusively on housing and urban development for three years before returning to the World Bank after my leave ended. There was really very little interest shown in what I was doing except for Dr Manmohan Singh who was then the member secretary of the Planning Commission. To keep me busy, and perhaps to get me out of his hair, he agreed to appoint four task forces on housing and urban development, with me as the member secretary to each of them.
This turned out to be a very rewarding experience for me, since the members of each of the task forces were senior civil servants engaged in housing and urban development issues, and other independent experts and academics from across the country. Each of the meetings of the task forces was held in different cities of the country, so I was also able to get familiarity with the working of state and city governments, as also some personal knowledge of our main cities. From my perch at the Planning Commission, I was able to get to know most of the senior economists in the country as well. As someone who lived abroad from the age of sixteen to thirty-two, this was indeed a great opportunity. The result was preparation of four comprehensive task-force reports on planning, financing and management of urban development, and on housing and shelter for the urban poor, which attempted to provide a blueprint for what was needed to anticipate the course of urbanization in the country for the following twenty years or so, and the approach that needed to be adopted. These reports did arouse a great deal of interest among the cognoscenti of urban development, but did not succeed in catching the attention of mainstream policymakers, and hence, were essentially buried in the archives of the Planning Commission. The one concrete result was the founding of the National Housing Bank, which was an indirect descendent of one of the recomme
ndations of the Task Force on Financing of Urban Development, chaired by the redoubtable Raja Chelliah.8
However, having achieved what I came out to do, I returned to the World Bank at the end of my three-year leave. I also concluded that the time was not ripe for policy work in urban development in India. There were too many moving parts in the system between the central, state and urban local governments and too few policy instruments at the central level to be effective and, in any case, too little interest. Consequently, I decided that I needed to retrain myself and work on more mainstream policy areas, such as industrial and trade policy, and on macroeconomic policy.
After returning to the World Bank in late 1983, I spent a year finishing the earlier work on the City Study, which resulted in two full-fledged monographs on the ‘developing metropolis’. It was then time to move on and abandon urban development. I was fortunate to get appointed as a senior country economist in the World Bank’s Philippines division in early 1985. This was a momentous time for the Philippines when the transition took place from President Marcos to President Aquino, and the IMF and the World Bank got active in designing macro-stabilization and structural adjustment programmes for the country. Among other activities at the macro level I was designated to lead a large team to design industrial policy reforms. This was fortuitous as it gave me some idea of the policy process involved in designing countrywide macroeconomic strategy, including tax reforms, but particularly focused on industrial policy.
Meanwhile, in India, after Indira Gandhi’s assassination, her successor Rajiv Gandhi appointed Dr Manmohan Singh as the deputy chairman of the Planning Commission. Just as I was completing the industrial strategy report for the Philippines in 1986, I got a call from him to return to India to join the Planning Commission as one of the three economic advisers in the newly formed development policy division in the commission. I readily agreed and returned to India at the end of 1986. This was a prescient attempt by the then deputy chairman Dr Manmohan Singh to begin the transformation of the Planning Commission towards a greater and active role in formulating policy. It is ironic that twenty-eight years after that largely failed initiative, the whole Planning Commission has now been transformed into the NITI Aayog, the ‘Policy Commission’!
The development policy division never really took off, especially after Dr Manmohan Singh got appointed to the South Commission in Geneva and left in late 1987. But with members such as Abid Hussain, Yoginder Alagh and Raja Chelliah, and advisers such as old-timer Nitin Desai, newly appointed economic advisers, Arvind Virmani and Srinivas Madhur, and Jairam Ramesh9 for company, that commission was an intellectually absorbing place to be. Abid Hussain,10 in particular, as one of the early liberalizers, was constantly pushing the policy envelope and consistently on the lookout for new ideas. He encouraged each of us to contribute: Srinivas Madhur assisted him on a committee on capital markets; among other activities, he asked me to assist him as member secretary in a High-Level Committee (HLC) on Restructuring the Textile Industry, and later in a similar capacity in an HLC on Industrial Exports.11 Both these roles brought me into direct contact with industrial policy as it was at the time, and also brought me face-to-face with the powerful vested interests as they existed in trade unions, incumbent industrialists and in the entrenched bureaucracy. The work for the textile committee, which included a research project that I commissioned Omkar Goswami (one of the contributors to this volume) to do, brought home to me in very vivid form how irrational and dysfunctional our industrial control system was. In the garb of protecting employment, it had essentially succeeded in almost destroying an industry that was once India’s pride. To give but one example: a weaving mill was not allowed to replace an ageing loom without specific permission from the textile commissioner, in the interest of protecting employment in handlooms. Thus, little investment took place and much of the textile industry in India was either aged or deceased by the late 1980s. India lost its place in the global textile industry, ceding its place to East and South East Asian countries and lately to Bangladesh.
With this experience whetting my appetite for more active policy work, and the development policy division in the Planning Commission becoming increasingly moribund, I was on the lookout for a more regular mainstream economic adviser appointment. I was also keen to avoid returning to the arid confines of the World Bank in Washington. I was pipped to the post of economic adviser in the Ministry of Commerce by my friend Jayanta Roy,12 but then came the providential opportunity to become economic adviser in the Ministry of Industry in late 1988. I jumped at it as I felt qualified enough to do this after the experience I had had in charting industrial strategy for the Philippines and my industry-related work in the Planning Commission. Moreover, although the Philippines itself was seen as the sick man of Asia, I had become fascinated by the unfolding East Asian miracle and had taken pains to familiarize myself with the successful macro, industrial and trade policies of the East Asian tigers.
This turned out to be another challenge as the ministry had not had an effective economic adviser for some years, so his role had become restricted to compilation of the weekly wholesale price index and routine analysis of the index of industrial production, and hence far removed from policy issues. I therefore busied myself by doing research on the extant industrial policy and how it had evolved since Independence. India had been known to have among the most complex and comprehensive command-and-control economic systems, which was known pejoratively as the Licence Permit Raj. The result of my labors was a comprehensive paper co-authored with my colleague Vandana Aggarwal, who was then a young senior research officer from the Indian Economic Service.13 This turned out to be fortuitous as it provided a pretty comprehensive understanding of the origins of the Indian economic control system as it operated at the time, and enabled me to insert myself in the ministry’s policymaking process when the opportunity came later. I also learnt a great deal about how the control system really worked by participating in the myriad of committees that an entrepreneur had to negotiate before he would actually invest in a new industrial project.
From my personal viewpoint, this was the beginning of the process of what later culminated in the 1991 industrial policy reforms.
Given the transformational changes that have taken place since then, it is useful to relate what I found: how the system actually operated even as late as the late 1980s, and how desperate the need for reforms were.
A Detour: Contours of the Licence Permit Raj
Prior to the sweeping industrial policy reforms of 1991, the establishment and operation of an industrial enterprise in India required approval from the central government at almost every step.14 Before making an investment, an entrepreneur had to obtain an ‘in principle’ approval from the Ministry of Industry. The granting of this approval resulted in the issuance of a ‘Letter of Intent’ (LoI), which usually included a requirement for a phased manufacturing programme (PMP) aimed at progressive indigenization of the manufacturing process. Armed with this LoI, the entrepreneur could then tie up other requirements for setting up the project. If he needed to import capital goods, he had to obtain a capital goods import licence from the Chief Controller of Imports and Exports (CCI&E), in the Ministry of Commerce. The approval for the import, however, was given by a committee set up in the Ministry of Industry. If there was also a need for a foreign-collaboration agreement, as there usually was, the entrepreneur had to obtain a specific approval for this, an ‘FC’ approval, from a committee chaired by the finance secretary, but serviced by the Ministry of Industry, which then enabled the allocation of foreign exchange from the RBI. In order to raise funds for the project, if an entrepreneur wanted to go to the capital market, he needed separate approval from the Controller of Capital Issues (CCI) in the Ministry of Finance. For import of raw material and components, separate licences had to be obtained on an annual basis from the CCI&E, with the list each year having been determined by the requirements of the PMP. In each case, an essentiality and indigenous
non-availability clearance had to be given by the technical wing of the Ministry of Industry, the Directorate General of Technical Development (DGTD). Once everything was tied up and the unit was about to go into production, the entrepreneur had to go back to the Ministry of Industry for an Industrial Licence, and then approach the government-owned development finance institutions for funding. In this whole approval process, the DGTD was the linchpin as it alone was supposed to possess the technical knowledge needed to process the approvals at this stage.
In their respective chapters in this volume, Baba Kalyani and Narayana Murthy provide a flavour of the command-and-control raj in their evocative personal accounts of what they went through to set up their businesses in the 1980s. The incredible expansion that Bharat Forge and Infosys demonstrated in the 1990s and 2000s, along with international competitiveness, once they were liberated, give some idea of the power of earlier constraints.
As it happens, it is important to understand that each of these controls was inherited from the Second World War when the Defence of India Act was promulgated in 1939. Comprehensive economic controls were put in motion through issuance of Rules 81 and 84 of the Defence of India Rules.15 Rule 81 had a blanket provision for ‘regulating or prohibiting the production, treatment, keeping storage, employment, transport, distribution, disposable, acquisition, use or consumption of articles or things of any description whatsoever’; under Rule 84, the central government was also empowered to prohibit or restrict import or export of all kinds and to control the purchase of foreign exchange and to make restrictions on payments, etc. These powers were later enshrined in a flurry of specific legislative enactments soon after Independence in 1947: the Foreign Exchange Regulation Act (FERA); the Imports and Exports (Controls) Act; the Capital Issues (Continuance of Controls) Act; and a little later in 1951, the Industries (Development and Regulation) Act (IDR Act). These main instruments of economic administration were extensions of the Defence of India powers acquired by the government during the Second World War. They essentially served as the administrative instruments designed to implement the thinking on industrial policy as had been expressed in the Statement of Industrial Policy (1945), the Industrial Policy Resolution (1948), and later, the 1956 Industrial Policy Resolution. This panoply of controls has usually been seen to result from the practice of planning in India. It is important to understand that, first, the economic and industrial control system was actually put in place before planning started in 1952; and second, that the system originated in the war powers of 1939. Given these origins, the system was much more for control and less for development. This was also consistent with the colonial bureaucratic mindset more designed to control rather than foster development: a system that we inherited and have not changed to this date.