Balance of Payments

BALANCE OF PAYMENTS &

STRUCTURAL ADJUSTMENTSIN

INDIA

Presented By:Group-7Sec. B

AGENDA:

Balance of payment & BOP Crisis

Crisis in 1956-58 Structural adjustment in 1956-

58 Crisis in 1966 Structural adjustment in 1966 Crisis in 1990-91 Structural adjustment in 1990-

91

Balance of payments (BOP)

An accounting record of all monetary transactions between a country and the rest of the world.

Summarize international transactions for a specific period, usually a year

Prepared in a single currency, typically the domestic currency for the country concerned.

Sources of funds for a nation: positive or surplus items.

Uses of funds: negative or deficit items.

Two principal parts of BOP

CURRENT ACCOUNT Net amount a

country is earning if it is in surplus, or spending if it is in deficit.

Transactions in the "here and now" - those that don't give rise to future claims.

balance of trade + factor income + cash transfers.

CAPITAL ACCOUNT Net change in

ownership of foreign assets.

Reserve account + loans and investments between the country and the rest of world.

Not the future regular repayments/dividends that the loans and investments yield

BOP Crisis

Occurs when a nation is unable to pay for essential imports and/or service its debt repayments.

Rapid decline in the value of the affected nation's currency.

Balancing mechanism: Rebalancing by changing the exchange

rate Rebalancing by adjusting internal prices

and demand Rules based rebalancing mechanisms

Some of the major BOP crisis in INDIA

SOURCE: RBI WEBSITE

YEAR/ITEM

CURRENT ACCOUNT

CAPITAL ACCOUNT

OVERALL BALANCE

1956-57 -313 37 -276

1957-58 -431 137 -294

1966-67 -843 760 -83

1990-91 -17367 12895 -4471

CRISIS IN 1956-58

Balance of payments Crisis

Withdrawal from foreign exchange reserves which had amounted to Rs. 221.3 crores in 1956-57 and Rs. 259.9 crores in 1958-59 and Rs. 16.1 crores in 1959-60.

Increase in foreign exchange reserves in 1959-60

Pressure increased when reserves declined by 59.2 crores. (Rs. 10.7 to IMF)

Aggregate reserves at the beginning of third plan amounted to only rs.186 crores as against rs.785 crores at the beginning of second plan.

The overall BOP remained difficult in the 1st year of the 3rd plan.

Became necessary to draw reserves from IMF in august 1961.

Rs. 60.7 crores was used for the repayment of the earlier drawing made in 1956-57. on balance, therefore an amount of 58.3 crores went to supplement our reserves.

Decline of foreign exchange holdings of rs.11.1 crores during the 1st half of the current fiscal year.

Industrial Adjustment Program The World Bank was originally set up as the International

Bank for Reconstruction and Development (IBRD) at USA in July 1994, along with the International Monetary Fund (IMF).

Though, they are different institutions, there are several reasons to believe that they are inseparable twins:

Membership in IMF is a prerequisite for membership in WB; Annual meetings of IMF and WB are held jointly; Their governing structures are similar. In fact there are

some overlapping in membership of the executive board; These two institutions share the same perception and

paradigm of development.

Structural Adjustment Policies are economic policies which countries must follow in order to qualify for new World Bank and International Monetary Fund (IMF) loans and help them make debt repayments on the older debts owed to commercial banks, governments and the World Bank.

Although SAPs are designed for individual countries but have common guiding principles and features which include export-led growth; privatization and liberalization; and the efficiency of the free market.

Structural Adjustment Programme

The Bank was influential in India's policy making right from the early years of Independence, In the early years of relationship, the Bank involvement was not direct and visible as compared to 1980s and 90s.

The World Bank began to intervene in Indian economic affairs in a significant manner. A second World Bank mission visited India in mid-50s. On the basis of its instructions to facilitate the close integration of private capital with foreign capital, the Nehru Government established the Industrial Credit and Investment Corporation of India (ICICI) in January 1955.

The Government announced the Industrial Policy in 1956, The 1956 policy marked out the areas in which private sector could expand in an uninhibited manner.

Although the private sector also benefited from changes in the official policy the real beneficiaries were foreign companies. Foreign private capital flowed in larger volumes.

The form in which the World Bank wanted foreign capital to participate in the Indian economy was made clear when the Government had sought the Bank's assistance for financing the Rourkela Steel Plant in 1956. The Bank insisted that the German collaborators supplying technology should have more leverage than had been offered. The negotiations fell through and evidence suggests that the reason for the Indian government to adopt a strong position at that juncture was due to availability of adequate foreign exchange.

CRISIS IN 1966

Balance of payments crisis

Indo-Pak war in 1965 US refused aid and renewal of PL-480

agreement Substantial rationalization of tariff and

export subsidies BOP improved because of decline in

imports

India failed to sustain: WHY? Exogenous stock leading to BoP Govt need help from international

monitory fund (IMF) IMF should dictate the policy of trade

liberalization on the borrowers Indian devaluation of 1966 challenges

economic transition Decision sequence in India's trade policy


Due to heavy dependence on external aid, imports and the growing burden of outward remittance of profits of foreign companies, the next great foreign exchange crisis came. This crisis coincided with the succession crisis caused by Nehru's death.

The Bank's recommendations, were for a devaluation of the rupee accompanied by dismantling of the plethora of import controls and export subsidies .The government announced devaluation of rupee by 37.5% (from Rs4.75 to Rs 7.50 to a dollar) and the associated import liberalization measures in June 1966.

The devaluation package did not yield results. The expected boost to exports did not materialize, instead they declined.

India's dependence on the Bank and other creditors reached a high in 1966 when the Fourth Five Year Plan, supposed to begin in 1966, had to be postponed for 3 years for obvious reasons.

The Bank recommendations were supportive of the Green Revolution which was already underway in India. This strategy aimed at the creation of a stratum of prosperous capitalist farmers and use of expensive commercial inputs such as chemical fertilizers.

With the nationalization of coal and oil industry in the 1970s, this option for private foreign capital was foreclosed. The manufacturing sector gained prominence during this period and adopted priorities set by developed countries. Thus foreign private capital was taken as inescapable by the policy makers.

CRISIS IN 1990-91

Balance of payments Crisis

In 1991, India faced an unprecedented balance of payments crisis. For almost a decade the government had borrowed heavily to support an economic strategy that relied on expansionary public spending to finance growth.

From 1980 to 1991 India's domestic public debt increased steadily, from 36 percent to 56 percent of the GDP, while its external debt more than tripled to $70 billion.

Political changes, unrest in parts of the country, and the 1990 Persian Gulf crisis compounded the already volatile situation. The crisis caused oil prices to rise, substantially increasing the cost of oil imports, and foreign exchange earnings to drop.

Causes of the crisis

1. Break up of the Soviet Union: The Soviet Union had been one of the largest export markets for India prior to its breakup in India. The Soviet breakup therefore negatively affected India’s precarious trade balance.

2. The Gulf war: The Gulf war began in August 1990 with Iraq’s Invasion of Kuwait. Due to the war many of these long term contracts were hit, which forced the government to buy from the spot market at high prices resulting in the oil bill ballooning to $2 billion in the latter half of 1990.

3. Fall in remittances: The Gulf war also caused many Indian workers working in Kuwait and Iraq to return, resulting in a fall in remittances.

4. Political uncertainty: The period between1990-91 was marked with high political uncertainty at the central level with the country seeing three successive government changes. This reduced the focus of the government on the looming economic crisis as there was no clear policy to deal with the unexpected situation.


Four major steps taken to address the structural rigidities of BOP(1990-91) :

1) Fiscal Correction Reversal of the trend of fiscal expansion was

necessary to restore balance in the economy Budget projected a sharp decline in the budget

deficit. Improvements in the fiscal performance was

mainly due to the decision to abolish export subsidies, to increase fertilizer prices, and to keep non-plan expenditure in check

2) Trade policy Reforms Administered licensing of imports was replaced by

import entitlements linked with export earnings. Import entitlements renamed as EximScrips, were

freely tradable and attracted a premium in the market The advanced licensing system for exports was

simplified. Permission was granted to import capital goods

without clearance from the indigenous availability angle.

Trading houses were permitted a large range of imports including 51% in foreign equity.

Scope of canalization of both exports and imports was narrowed.

3) Industrial Policy Reforms Industrial licensing was abolished for all

projects except 18 industries The MRTP Act was amended to eliminate

the need for prior approval for capacity expansion and diversification.

Greater participation by private sector was permitted in core and basic industries.

Small scale industries were given an option to offer their share-holding to large scale and other industrial undertaking.

4) Public Sector Reforms Government undertook a limited

disinvestment of a part of public sector equity to the public through financial institutions and mutual funds in order to raise non-inflationary finance for development.

Government amended the Sick Industrial Companies Act to bring public sector undertaking also within its purview.

Post structural changes: Impacts

Foreign exchange reserves had been building up to respectable level.

Introduction to LERMS( Liberalized exchange rate management system)

Mobilization of external assistance from IMF, World Bank , ADB and Bilateral donors to support the BOP

Despite the increase in imports to more normal levels it has been possible to manage the BOP with the stable exchange rate and comfortable foreign exchange reserves.

THANK YOU.

Documents

Balance of Payments