News Today – Fragile politics: A necessary and sufficient condition for reforms

by Guwahati_City

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India’s polity seems to accept big-bang economic reforms only under two co-existing circumstances: Political instability and an economic crisis.

This article is part of the series 30 Years After: Review and Renew the Reforms Agenda.

An evaluation of the big-bang economic reforms in India 30 years ago would be incomplete and even flawed without simultaneously analysing the role of the political landscape that prevailed in the country around that time. The Economic Reforms of 1991 did not take place in a political vacuum. The politics of that time was as crucial a factor as economic thinking and policy imperatives were in shaping the substance as well as pace of those reforms. The nature of the economic disruption that they created was integral to the political dynamics of that era. This article will attempt an assessment of India’s economic reforms in 1991 in the context of those political forces and how relevant they are for the future of reforms in India.

A quick recap of what happened just before the reforms were unleashed would be instructive. After the completion of a three-phase general election in May-June 1991, the Congress could win only 232 seats in the lower house of Parliament, the Lok Sabha. The tally made the Congress the single largest party in the House, but it was much below the number required to form a majority government. Such was the crisis — both economic and political — that no other political party (the next best score was of Bharatiya Janata Party (BJP), which had won just about 120 seats) staked claim to form the government. The Congress became the default option and it formed a minority government.

P.V. Narasimha Rao, who emerged as the leader of the Congress and eventually became the prime minister, had not even contested the 1991 general election. Indeed, Rao had packed his bags and was planning his retirement from politics just before the results were declared on 20 June. But on being selected by the Congress to lead the minority government, Rao displayed unusual courage and sprang a big surprise — he appointed Manmohan Singh, a technocrat with a vast experience of economic administration, as the finance minister. The economic disruption through big-bang policy changes in the first 100 days of a minority government was huge. But no less enormous was the political disruption that had already engulfed the country.

Political disruptions prior to July 1991

Indeed, the seeds of such political disruption were sown several months before July 1991. The National Front government, led by V.P. Singh, had collapsed under its own weight of a hugely ambitious leadership tussle and intra-party wrangling; that was in November 1990, even as the Indian economy was slipping into a serious crisis. The Chandra Shekhar government was formed, with the outside support of Rajiv Gandhi’s Congress. But this government too was short-lived, thanks to Gandhi’s decision to embrace opportunistic politics, guided purely by electoral considerations and ignoring the risks such a decision would pose to India’s economic stability.

Differences between the Congress and Chandra Shekhar began coming out in the open from February 1991, threatening to pull down the government. The Congress also made sure that Finance Minister Yashwant Sinha could not present a full Budget for 1991-92 at the end of February. This was a big political blow to the Chandra Shekhar government’s ability to manage the economy. Neither could the government outline its policy action to arrest the economic slide, nor could it use the package to seek more financial assistance from multilateral financial institutions like the International Monetary Fund (IMF) and the World Bank. India’s foreign exchange reserves were dwindling and the non-resident Indians (NRIs) were withdrawing their deposits. This caused more pressure on the country’s balance of payments and the government’s ability to finance itself was under strain.

The relations between the Congress and the Chandra Shekhar government got worse after the Delhi Police on 2 March 1991 arrested two intelligence officers, belonging to the Haryana government, on charges of spying on Rajiv Gandhi. The Congress stepped up its campaign against Chandra Shekhar alleging that the surveillance by the intelligence officers was conducted at the behest of the Union government, through the help of friendly parties in charge of the state of Haryana.

Under these politically charged circumstances, Sinha presented an interim Budget on 4 March 1991, announcing some austerity steps and revenue measures like the disinvestment of government equity in Public Sector Undertakings (PSUs). Gandhi’s political strategy was to ensure a defeat for the Chandra Shekhar government on the floor of the Lok Sabha after a confidence vote. But Chandra Shekhar showed his masterly political astuteness and outsmarted Gandhi. On 6 March 1991, he tendered his resignation to the President, as a result of which elections had to be called and he remained in charge as prime minister of a caretaker government till elections results would declare the winners.

Chief Election Commissioner, T.N. Seshan, announced a schedule for a three-phase election to be held on 20, 23 and 25 May. The expectation then was that a duly elected government would be in place by the end of May and it would be able to present a full Budget before June and initiate the necessary steps to bail out the economy from the twin crises arising out of deteriorating fiscal discipline and worsening balance of payments. But that schedule got upset after a tragic event. A day after the first phase of the general election, Rajiv Gandhi was killed in a bomb attack in Sriperumbudur, near Chennai, in Tamil Nadu.

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Ironically, it was Gandhi who had forced those elections by withdrawing support to the Chandra Shekhar government that led to its resignation on 6 March 1991. On the one hand, the tragic assassination of Gandhi on 21 May 1991 led to the postponement of the final two rounds of the elections by about three weeks. But on the other hand, Gandhi’s assassination created a sympathy factor for the Congress and threw up a new leader in P.V. Narasimha Rao to take charge of the grand old party of India. Undeniably, though, both politics and the worsening state of the economy made the challenges even more formidable for the new government of Narasimha Rao that was sworn in on 21 June 1991. Rao’s choice of Manmohan Singh as his finance minister was one of those inspired decisions in history made by a leader. Singh by then had shifted from the Prime Minister’s Office, where he was the advisor to Chandra Shekhar, to the University Grants Commission as its chairman.

A slew of reforms at a time of crisis

Remember that at the helm of India’s economic management were Rao and Singh, none of whom was a member of Parliament at that time. Rao won a Lok Sabha by-poll only in November 1991 and Singh entered the Rajya Sabha, the Upper House, at around the same time, representing the state of Assam. But such was the seriousness of the political and economic crises that nobody questioned the propriety of Rao and Singh ushering in those big-bang changes in the first 100 days of the government, even though they were not members of Parliament at that time.

Not that only Rao and Singh were spared from such questions on propriety. Even earlier when Chandra Shekhar was running a lame-duck government, after having resigned and been asked by President R. Venkataraman to run a caretaker government till the elections were over, many economic policy steps were taken that would be frowned upon in the normal course. But, once again, it was the nature of the crisis that those decisions by Chandra Shekhar and Sinha were implemented without much public or political furore. Those steps included the sale of India’s confiscated gold to a Swiss bank, initiation of talks with the IMF for an emergency line of credit, and imposition of curbs on imports in a bid to conserve foreign exchange.

Similar political acceptance or a kind of forbearance was shown to the series of steps taken by the Rao-Singh duo in the first 100 days of the new government. Industry had little option other than to accept those changes, which exposed them to more competition and also freed them up from many government controls. There were some political voices, including a few from within the Congress, protesting against the rationale of those steps. But none of them was strong enough to mobilise any political support to pull down the government.

This is where the political landscape of the country and the dire state of the economy combined to pave the way for those bold reforms. It was a cocktail of political and economic crises. No political party was ready to bargain for another election soon after the country had witnessed two elections held within a span of 18 months, which produced two unstable governments. The government headed by V.P. Singh lasted for about 11 months and the one led by Chandra Shekhar had an even shorter tenure of seven months. The state of the Indian economy was also in such a parlous state that there was a general acceptance of the need for quick decisions to bail it out of that crisis and get the country back on the rails. In short, political parties had no stomach for another election in 1991. Nor did they have the courage to take another political risk of destabilising a minority government even though the Rao-Singh duo was merrily overhauling economic laws and policies.

100 days that changed India

What Rao and Singh achieved in those 100 days is huge. The steps could be categorised under two baskets. One pertained to managing the immediate crisis and the other was aimed at bringing about policy reforms.

Thus, less than a fortnight after assuming office, they depreciated the Indian currency against the US dollar by 9.5 per cent on 1 July 1991 and followed up with another depreciation by 12 per cent two days later. Along with that came a series of trade policy reforms including the abolition of export subsidies, removal of the monopoly of state trading companies over imports, and a series of steps to move towards convertibility of the Indian rupee on the current account. The bigger challenge Singh faced was on the foreign exchange reserves front. India’s reserves had dwindled to just about US $1 billion in the first week of July, barely enough to meet three weeks of India’s imports. So, in three separate rounds, Singh pledged gold kept with the Reserve Bank of India (RBI) with the Bank of England, against which the government got loans of about US $600 million.

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On the policy front, Singh presented a historic Budget on 24 July 1991. It outlined a road map for economic reforms needed in the coming years, achieved a massive reduction in the government’s fiscal deficit and cut import duties steeply. The government’s fiscal deficit came down from 7.6 per cent of gross domestic product (GDP) in 1990-91 to 5.4 per cent in 1991-92 — the steepest reduction in fiscal deficit ever achieved in a single year.

But more important than even the Budget was the industrial policy document tabled in Parliament on 24 July 1991. That document fundamentally changed the way Indian companies would do their business in the years to come. Singh was not the industry minister, but Rao had kept with himself the industry ministry portfolio at the Cabinet level. That showed how the reforms burst came from both Rao and Singh. In one stroke, that document abolished industrial licensing for all sectors, except 18 specified groups; scrapped the asset limit for companies governed under the Monopolies and Restrictive Trade Practices Act; and reduced the monopoly of the public sector by allowing private enterprises to enter as many as 10 sectors that were hitherto out of bounds for them. Foreign investment up to 51 per cent equity was allowed automatically in 34 industries. Obtaining the government’s permission was no longer necessary for entering into technology agreements. Significantly, a gradual disinvestment of government equity in PSUs was allowed — an idea that had been mooted first by Yashwant Sinha in his interim Budget about four months ago.

A couple of years later, Singh introduced more fundamental reforms in the financial sector, based on the recommendations of the committee headed by former RBI Governor M. Narasimham. Those reforms included the entry of private banks and a gradual dilution in the role of development financial institutions. More reforms were carried out in fiscal, trade and industrial policies in the following three decades. Fiscal consolidation has continued to be treated as an article of faith by all succeeding finance ministers, though the quality of their commitment has varied. The Centre was soon barred from direct borrowing from the RBI through ad hoc treasury bills to instil greater fiscal discipline, an idea that was mooted by Manmohan Singh in 1994, but implemented in 1997 by P. Chidambaram, who was then finance minister in the United Front government.

Taxation reforms have been taken forward by finance ministers of different governments to rationalise the direct tax rates and simplify them to a broad three-slab structure. More rationalisation in direct taxes is on the cards. Indirect tax reforms began with a rationalisation exercise to reduce the multiplicity of rates in excise, followed by the expansion in the scope of a modified value-added tax system to cover more items. By 2017, the long overdue reforms in indirect taxes was completed with the introduction of the goods and services taxes (GST), even though its structure and implementation were patchy and imperfect.

Import duty rationalisation gathered pace in the first couple of decades after the reforms with tariffs coming down, but they have been moving up gradually since 2018, raising the spectre of a return to protectionism. On the industrial policy front, more licensing relaxations have taken place in the last three decades and the disinvestment exercise has gained momentum. But barring a short phase under the government of Atal Bihari Vajpayee from 1998 to 2004, privatisation as a policy option made little headway. Vajpayee succeeded in privatising about a dozen units, but that exercise was stopped as political controversies erupted over those decisions. Indeed, since the end of Vajpayee’s government in 2004, no privatisation has been completed even though the Narendra Modi government has of late made plans to privatise more units.

A new dimension of economic reforms during the Modi regime has been the espousal of the idea of creating a self-reliant India (Atma Nirbhar Bharat), which has resulted in an increase in import tariffs and the introduction of a discretionary incentive system to attract investment in different sectors of the economy. Even the proposed policy on e-commerce companies has provisions that may reintroduce the ‘Inspector Raj,’ a system banished a few years ago in most sectors.

What emerges from the story of India’s economic reforms in the last 30 years is that while they have broadly been maintained in the areas of fiscal, trade and industrial policies, the pace seen in those 100 days under Rao and Singh remains unparalleled. What also becomes evident is that the reforms in 1991 were not enforced by only Singh. Rao as the prime minister backed them up with his full political support and his additional holding of the industry ministry portfolio at the Cabinet level helped make the transition smooth. P. Chidambaram, who was the commerce minister in the early years of the Rao government, had also played a key role in initiating a series of trade policy reforms. The presence of a group of top-class technocrats at senior levels in the government as secretaries and economic advisors helped implement those decisions without getting caught in any bureaucratic landmine.

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Yet, all of this begs the question as to why, if economic policy reforms could take place at such a fast pace in 1991, the succeeding months of the Rao government and, indeed, the tenures of many other regimes after that broadly stayed on the path of reforms but failed to achieve the same pace or implement the much-needed reforms in many other areas of the economy like health, education, social infrastructure including water, municipal or civic governance and the independent functioning of regulatory bodies.

The politically strong and stable government of Narendra Modi has brought about key reforms in insolvency and bankruptcy resolution, introduced the GST, reformed the agricultural sector and eased the rigidities of labour laws. But it has faced significant resistance in implementing them as well as they were envisaged at the time of their introduction. The insolvency and bankruptcy resolution law has increasingly faced a demand for its dilution. Agriculture reform laws remain suspended. Labour reform laws are still to be notified. GST reforms to remove its glitches and imperfections still seem to be a long way off. And major reforms in areas like health, education, water, civic laws or in regulation are either slow or insignificant and even absent.

It could be argued that the pace of reforms by the Rao-Singh duo was fast because the kind of policy changes achieved by them were all low-hanging fruits. Those changes were relatively easy to bring about. This, perhaps, is a simplistic explanation. All reforms essentially are a politically difficult exercise, and they require firm handling and a robust governance framework. Rao and Singh managed to achieve those reforms in 100 days because in spite of being a minority government, they had a relatively free hand to bring about those policy changes as there were lurking fears of political instability once again troubling the economy.

What also helped them was that most of the reforms they achieved in fiscal, trade and industrial policies were principally governed by central laws. Most of those changes required no involvement or endorsement of the states. In contrast, the reforms that faced delays and implementation hurdles required a full participation of and even political buy-in from the states. The resistance or implementation delays faced by agricultural reform laws or labour policy reforms are an example of how ensuring greater involvement and concurrence of states could have made the task of implementing those changes less problematic.

But if there is one factor which decisively helped the Rao-Singh duo in introducing those big-bang economic reforms in less than 100 days of a minority government, it was the presence of a fragile political formation at the helm and the fears that any move to destabilise that formation could make the country politically more unstable and economically more unsafe. Those reforms were not accepted ungrudgingly. They were accepted because of the political and economic crises that stared the political classes at that time.

Conversely, a strong government at the Centre does not necessarily and always ensure an easy acceptance of tough reforms. Consider the fate of agricultural reforms and the slow pace of labour law changes. They required the concurrence of the states. The central government is strong. There was a health crisis in the country when these reforms were introduced. Yet, they have faced resistance and their implementation has remained a question mark. India’s polity seems to accept big-bang economic reforms only under two co-existing circumstances: Political instability and an economic crisis. Without both of them, expecting quick reforms will be a cry in the wilderness and may even be a mirage, unless the Centre invests its political capital to secure the support of the states and Opposition parties to launching fresh reforms.

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