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Monetary and Fiscal Policies Page 1

CONTENTS

Monetary Policy.... Pg. 2

Objectives of Monetary policy.Pg. 5 Methods and instruments of credit control..Pg. 7

Fiscal Policy and its understanding . Pg. 17

Example of Fiscal Policy . Pg. 17Govt. Spending Structure Pg. 18Expenditures .....Pg. 19Funding of Deficit Pg. 20

Connotation (Implications) of Fiscal Policy .Pg. 22

INDIAN FISCAL POLICY Pg. 23

Savings, Investments & Fiscal Deficit .. Pg. 24Industrial Policy Pg. 26Trade Policy .. Pg. 27FDI Policy . Pg. 28Reforms in Agriculture . Pg. 29Social Sector Development ... Pg. 30

Relevance of Indian Fiscal Policy . Pg. 31

GDP Growth Rate Statistics . Pg. 31

Sector Growth Rate Statistics ... Pg. 32Poverty Reduction . Pg. 32Literacy Rate .. Pg. 33Foreign Investments (Inflow & Outflow) .. Pg. 33Other facts of Indian Economy .. Pg. 35

Budget 08 09: A Glance Pg. 36

Suggestions . Pg. 37Summary.. Pg. 38References . Pg. 39


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MONETARY POLICY

The Monetary and Credit Policy is the policy statement, traditionally announced twice a year,

through which the Reserve Bank of India seeks to ensure price stability for the economy. Thesefactors include - money supply, interest rates and the inflation.

With the introduction of the Five year plans, the need for appropriate

adjustment in monetary and fiscal policies to suit the pace and pattern of planned

development became imperative. The monetary policy since 1952 emphasized the twin aims

of the economic policy of the government:

(a)Spread up economic development in the country to raise national income andstandard of living, and

(b)To control and reduce inflationary pressure in the economy.


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This policy of RBI since the First plan period was termed broadly as one of controlled

expansion, i.e. a policy of adequate financing of economic growth and at the same time the

time ensuring reasonable price stability. Expansion of currency and credit was essential to

meet the increased demand for investment funds in an economy like India which had

embarked on rapid economic development. Accordingly, RBI helped the economy to expand

via expansion of money and credit and attempted to check in rise in prices by the use of

selective controls.

TYPES OF MONETARY POLICYCheap money policy: Followed in periods of slums & depression.

Dear money policy: Followed in periods of boom & inflation.


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RBIs Anti-inflationary Monetary Policy

since 1972..

Since 1972, the Indian economy has been

working with considerable inflationary potential

------ rapid increase in money with the public

and with the banking system. There was also

expansion of bank credit to finance trade and

industry. RBI was forced to abandon controlled

expansion and adopt the policy of credit

restraint or tight monetary policy. RBI has

generally followed this kind of monetary policy

with varying degrees of success till today.

AN EVALUATION OF THE MONETRY POLICY:-The objective of monetary policy was at one

time characterized by RBI itself as controlled

expansion. On the one hand, RBI was thinking steps such as the bill market scheme to expand

bank credit to industry and trade and thus help in economic development. On the either hand,

RBI was using both quantitative (general credit restraint) and selective credit controls so that

the deployment of loans and advances by the commercial banks for speculative purposes was

under control. This was necessary to keep the rising prices under check.

Thus, the monetary policy had twin aims- expansion of the economy and control of inflationary

pressure. Monetary policy RBI has certain inherent constraints and obviously limited in itsusefulness.

Finally, the weapons and the powers available to RBI are such that they cover only organized

banking sector viz, commercial banks and cooperative banks. To the extent inflationary

pressure is the result of bank finance, Reserve Banks general and selective controls will have

positive effect. But if inflationary pressure is really brought about by deficit financing and

shortage of goods, RBIs control may not have effect at all. This is what is probably happening

in Indian in recent years. Besides, it should always be kept in mind that RBI has no power over

non-banking financial institutions as well as indigenous bankers who play such major role in

financing trade and industry.


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OBJECTIVES OF MONETARY POLICY: -

1.Price stability:-The chakravarty committee argued that, in the context of planned economic development,

monetary authorities should aim at price stability in the broadest sense. Price stability here

does not mean constant price level but it is consistent with an annual rise of 4% in the

wholesale price index. To achieve this objective, the government should aim at raising output

levels, while RBI should control the expansion in reserve money and the money supply.

2.MONETARY TARGETING:-Emphasizing the inter-relation between money, output and prices, the chakravarty committee

has recommended the formation of a monetary policy based on monetary targeting. According

to the committee, target for growth in money supply in a broad sense during a given yearshould be in terms of a range.

(a)Based on anticipated growth in output, and(b) In the light of the price situation.

The target range should be announced in advance, the target for money supply should be

reviewed in the course of the year to accommodate revisions, if any, in the anticipated growth

in output and any change in the price situation.

3.Change in the definition of budgetary deficit:-Till now the budgetary deficit of the central government essentially took from increase in

treasury bills outstanding. Not all the treasury bills were held by RBI but part of treasury bills

were absorbed by the public. Since the present concept of budget deficit did not distinguish

between the amounts held by RBI, it overstated the extent of monetary impact of fiscal

operation. Accordingly, the chakravarty committee suggested a change in the definition of

budgetary deficit, so that there could be clear distinction between revenue deficit, fiscal deficit

and overall budgetary deficit.

4. Interest rate policy:-At present the interest rate structure is completely administered by the monetary authorities

under the general direction of the government. According to the chakravarty committee, the

present system of administered interest rates has become unduly complex and needs to be


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modified the committee has mentioned some of the important aspects of interest rate policy

which need to be taken into account, while modifying the administered interest rate structure

as for example increasing the pool of financial savings, providing a reasonable return on saving

of small savers, reinforcing anti-inflationary policies the need to provide credit at concessional

rate of interest to the priority sector and the profitability of banks , etc.

Thus, the chakravarty committee envisaged a strong supportive role for interest rate policy in

monetary regulating based on monetary targeting.

5.Restructuring of the money market in India:-The committee envisage (predicted) an important role in treasury bill market, the call money

market, the commercial bills market and the inter-corporate funds market in the allocation of

sort term resources, with minimum of cost and minimum of delay, further, according to the

committee, a well-organized money market provided an efficient mechanism for thetransmission of the monetary regulation to the rest of economy. Accordingly, the committee

has recommended that RBI should take measures to develop an

efficient.

yOther objectives of Monetary Policy:-In certain periods, RBI may be seriously concerned with other

short-term objectives and problems. For instance, during in

two years 1994-96, RBI had to enter the foreign exchange

market in a big way to prevent heavy depreciation of the rupee.

This was also done during January 1998 and later to prevent the rupee following the

experience of South Asian currencies. Bimal Jalan, the Governor of RBI came out strongly with

a series of measures to check the rapid sliding of his rupee against the dollar.

These objectives can be taken as short-term objectives of monetary policy of RBI. The long-

term policies of RBI, however reflects the banks firm commitment to pursue a low and stable

order of inflation-----the assumption is that real growth would be in jeopardy (danger), if

inflation goes beyond the margin of tolerance.


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Methods and instruments of credit control:

There are many methods of credit control. These methods can be broadly divided into two

categories:

I. Quantitative or General Methods.II. Qualitative or selective methods.

The quantitative methods of credit control aim at influencing the quantity or total volume of

credit in an economy during a particular period of time. The qualitative methods of credit

control aim at influencing the quality of use of credit with respect to a particular area or field of

activity. Quantitative system of credit control includes following instruments:

1) Bank Rate

2) Open Market Operation (OMO)

3) Change in Cash Reserve Ratio (CRR)4) Statutory Liquidity Ratio (SLR)

5) Repo and Reverse repo rate

Qualitative system consists of the following instruments:

1) Selective credit control

2) Rationing of Credit

3) Moral Persuasion

4) Direct Action

With the inflation rate based on wholesale price index hardening since the Annual PolicyStatement was announced, an adjustment of overall aggregate demand on an economy-wide

basis was warranted to ensure that generalized instability did not develop and eroded the

hard-earned gains in terms of both outcomes of and positive sentiments on Indias growth

momentum. In this regard, monetary policy had to urgently address aggregate demand

pressures, which appeared to be strongly in evidence. Apart from the build-up in inflationary

expectations, this was reflected in (i) strong investment demand; (ii) sustained high growth in

domestic capital goods production albeit with some moderation in 2008-09 so far; (iii) revival

in the production of consumer goods with a turnaround in the production of durables; (iv)

widening trade deficit and some tightening of external financing conditions in the ongoingglobal financial turmoil; and (v) emergence of fiscal pressures due to the possibility of

enhanced subsidies on account of food, fertilizer and POL as well as for financing deferred

liabilities relating to farm loan waivers. Keeping in view the liquidity conditions and inflationary

pressures in the economy, the cash reserve ratio was raised by 75 basis points to 8.25 per cent

during April-May 2008 in three stages of 25 basis points each effective from April 26, May 10,

and May 24, 2008. On May 30, 2008, special market operations were announced to alleviate


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the binding financing constraints face by public sector oil companies in importing POL as also to

minimize the potential adverse consequences for financial markets in which these oil

companies are important participants. On a review of the current macroeconomic and overall

monetary conditions and with a view to containing inflation expectations, the repo rate under

the Liquidity Adjustment Facility (LAF) was raised by 25 basis points to 8.0 per cent with effect

from June 12, 2008. Consistent with the overall stance of monetary policy set out for 2008-09

in April 2008 in terms of ensuring a monetary and interest rate environment that accords high

priority to price stability, well anchored inflation expectations and orderly conditions in

financial markets and on the basis of incoming information and domestic and global

macroeconomic and financial developments, it was decided on June 24, 2008 to increase the

repo rate under the LAF by 50 basis points to 8.50 per cent with effect from June 25, 2008 and

the CRR by 50 basis points to 8.75 per cent in two stages of 25 basis points each with effect

from July 5, 2008 and July 19, 2008 (Table 35).

I. Quantitative Methods of Credit Control

1) Bank Rate :Bank Rate is the rate at which central bank grant loans to the commercial banks against the

security of government and other approved first class securities. According to section 49 of

RBI Act, Bank Rate is the standard rate on which RBI purchase or discount such exchange

bills or commercial papers which can be purchased under this act. Reserve Bank of India

controls credit by affecting quantity and cost of credit money through its bank rate policy.

But this method of credit control would be effective only when there is organized moneymarket and commercial banks depend on reserve bank for their credit. Reserve Bank

adopts cheap or Dear Monetary Policy according to the economic conditions of the country.

RBI decreases bank rate to increase the quantity of the credit. This is called Cheap

monetary policy. Decease in bank rate decreases cost of credit i.e. decrease in interest rate.

As a result of this quantity of credit increases. According to dear monetary policy of RBI

increases bank rate to decrease quantity of credit in the country. Increase in bank rate

increases cost of credit i.e. increase interest rate and this will result in decrease in quantity

of credit.

Operation ofBank Rate Policy in India:

At the time of establishment of RBI the bank rate was 3.5% which had changed time to

time. Till 1951, the bank rate was constant at 3% as Reserve Bank followed Cheap Money

Policy during this period. Since 1951 till now bank rate has continuously changing. In 1991

at the time of higher inflation, bank rate has changed twice and increased from 10% to

11%. On 29 April, 1998, it has reduced from 11% to 9%. It was further reduced to 8% in


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march, 1999 and 7% in April,2000. It was further reduced to 8% in march,1999 and 7% in

April,2000. It was further changed several times and on 23 October, 2001 it reduced to

6.5%. Now the bank rate policy of credit control has not been succeed in India. As it is failed

to control inflationary trend in the economy. It has failed to influence interest rate in the

money market. The bank rate policy proves inefficient due to following reasons :

1) Major part of the credit in the market is made available by non-banking institutions. Theinterest charged by these institutions have no direct relation with the bank rate.

2) Most of the changes in bank rate has been made effective for combating inflationarytrends.

3) Speculative tendencies in the economy carry large premiums in the form of hugemargins of profit. A small change in bank rate does nor significantly affect the profit

margin.

4) Priority sector leading has almost become immense to the effect of changes in the bankrate.

5) Increasing non-dependence of commercial banks on the central bank for rediscountingfacilities is one of the ineffective bank rate in India. Though the bank rate policy has not

been effective in India. Yet the Reserve Bank has been using it more and more as a

weapon to control deflationary pressure in the economy. During the last few years, the

bank rate has been reduced several times to combat the deflationary pressures in the

economy. But this year it is currently stipulated at 6%.


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2) Open Market Operations:

The term Open market operation implies the purchase and sale by the Central Bank not

only the Govt. securities but also of other eligible papers. Like bills and securities of private

concerns section 17(8) of RBI Act. Empowers Reserve Bank to purchase the securities of

central Govt. state Govt. and other autonomous institutions. Apart from this section

17(2)(A) empower Reserve Bank to purchase or sell of short term bills. Open market

operations are used as supporting instrument of bank rate. This method is used to influence

the flow of credit. Sale and purchase of Govt. securities influence the cash reserve ratio

with the commercial banks and hence these operations control their credit creation power.

These operation will have both anti-inflationary and anti-deflationary effects. When the

economy is faced with the inflationary pressures, the central bank would like the

commercial banks to contract the supply of credit. To achieve this objective the central

bank would sell the Govt. securities to the commercial banks. The banks would transfer apart of their cash reserve to the central bank towards the payment for these securities.

Consequently the cash reserve with the commercial banks will be reduced. It would lead to

a contraction in the credit creation power of the commercial banks. Similarly, open market

operations can also be used as anti-deflationary measures. In this situation, the central

bank will purchase securities from the commercial banks. In this situation, the central bank

will purchase securities from the commercial banks. In the process the cash reserves with

the commercial banks will increase and they would be enabled to create more credit. The

open market operations in India are limited by Reserve Bank. The bank has used this policy

only to make successful government debt policy and to maintain price stability of Govt.

securities. It is used to fulfill seasonal credit requirements of commercial banks.

3) Cash Reserve Ratio (CRR):

The RBI controls credit through change in Cash Reserve Ratio of commercial banks.

According to section 42(1) of RBI Act every schedule bank has to maintain a certain

percentage reserve of its time and demand deposits. This ratio can be varied from 3% to

15% as directed by the Reserve Bank. Reserve Bank itself changed this ratio according to

the credit requirement of the economy. It has been changed several times in the history of

Reserve Bank of India. The cash reserve ratio affects on the lend able funds of commercial

banks. If this ratio increases the credit creation capacity of commercial banks decreases. Onthe other hand if this ratio decreases the credit creation capacity of commercial banks

increases. On 17 April 2008, the Reserve Bank of India hiked the cash reserve ratio of

scheduled commercial banks, regional rural banks, scheduled state co-operative banks and

scheduled primary (urban) co-operative banks by 50 basis points to 8 per cent in two stages

effective 26 April 2008 and 10 May 2008. The monetary authority stated that as a result of

the above increase in CRR on liabilities of the banking system, an amount of about


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Rs.18,500 crore of resources of banks would be absorbed. In this context, it may be noted

that surplus liquidity in the banking system amounted to Rs.2,43,566 crore as on 4 April

2008. The Reserve Bank's move comes at a time when there are only 12 days left for its

monetary policy. The monetary policy is due to be announced on 29 April 2008.The hike in

the cash reserve ratio of banks is a measure aimed at reducing liquidity in the banking

system thereby reducing the money supply which in turn is expected to help curb inflation.

The CRR hike will put margins of banks under a bit of a pressure since they wont be earning

anything on the money that they park with the RBI as cash reserve. The CRR hike will put

margins of banks under a bit of a pressure since they wont be earning anything on the

money that they park with the RBI as cash reserve. On 29 April 2008, the Reserve Bank of

India released its annual monetary policy statement for the year 2008-09. It increased the

cash reserve ratio for scheduled commercial banks by 25 basis points to 8.25 per cent with

effect from 24 May 2008. It was only less than a fortnight ago that the bank had raised the

cash reserve ratio. On 17 April, the monetary authority had announced that the CRR would

be raised by 25 basis points with effect from 26 April 2008 and by another 25 basis pointswith effect from 10 May 2008. The two increases announced on 17 April were expected to

suck out Rs.18,500 crore from the banking system. Recently, RBI has hiked the cash reserve

ratio (CRR) by 25 basis points to 9 per cent beginning 30 August 2008. The 25 basis points

hike in the cash reserve ratio will suck out about Rs.8,000-8,500 crore of liquidity from the

banking system 4) Statutory Liquidity Ratio (SLR) :

According to the section 24 of the Banking Regulation Act. Every schedule Bank have to

maintain a minimum of 25% as cash of its total deposits. The Reserve Bank of India is

empowered to change this ratio. As on 21, 1997, it was fixed to 25% of the total deposits of

Banks. It also influences the credit creation capacity of the banks. The effect of bi\both cashreserve ratio and statutory liquidity ratio on credit expansion is similar. Penalties are levied

by RBI for not maintaining these ratios from scheduled banks.

5) Repo rate and Reverse repo rate:

There is two kind of repo and are as under:

I. Inter-bank repo:

Such repos are now permitted only under regulated conditions. Repos are misused by

banks/brokers during the 1992 securities scam.T

hey were banned subsequently with thelifting of the ban in 1995, repos were permitted for restricted, eligible participants and

instruments. Initially, repo deals were allowed in T-bills and five dated securities on the

NSE. With gradual liberalization over the years, all central govt. dated securities, state Govt.

security and T-bills of all maturities have been made eligible for repo. Banks and PDs can

undertake repo deals if they are routed through the SGL, accounts maintained by the RBI.

Repos are allowed to develop a secondary market in PSU bonds, FIs bonds, corporate bonds


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and private debt securities if they are held in demat form and the deals are done through

recognized stock exchange(s). there are no restrictions regarding a minimum period for

inter-bank repo deals. Non-bank participants (i.e., FIs and other specified participants) are

allowed to participate only in the reverse repo, that is they can only lend money to other

eligible participants. The non-bank entities holding SGL accounts with the RBI can enter into

reverse repo transactions with banks/PDs, in all Government securities.

II. RBIRepos:

The RBI undertakes repo/reverse repo operations with banks and PDs as part of its OMOs,

to absorb/inject liquidity. With the introduction of the LAF, the RBI has been injecting

liquidity into the system through repo on a daily basis. The repo auctions are conducted on

all working days except Saturdays and are restricted to banks and PDs. This is in addition to

the liquidity support given by the RBI to the PDs through refinance/reverse repo facility at a

fixed price. Auctions under LAF were earlier conducted on a uniform price basis, that is,

there was a single repo rate for all successful bidders. Multiple price auction was introducessubsequently. The weighted average cut-off yield in case of a multiple price auction is

released top the public. This, along with the cut-off price, provides a band for call money to

operate. The RBI conducts repo auctions to provide banks with an outlet for managing

short-term liquidity; even out short-term liquidity fluctuations in the money market; and

optimize returns on short-term surplus liquid funds. The RBI has switched over from

discriminatory price auction repo to the daily fixed rate repos auction system. Fixed rate

repos are single money market rates, bring about orderly conditions in the forex market

and impart stability to short-term interest rates by setting a floor for call money rates. The

RBI participants actively in the call money market with LAF repos operations conducted

through the year to modulate the surplus liquidity in these market. It also conducts reverserepo operations under the LAF to prevent sudden spurts in the call rates. Both repos and

reverse repo operations play an effective role in imparting stability to the market. The repo

rate has become akin to a singling rate, together with the B/R. the repo rate serve the

purpose of a floor and the B/R, that of a cap for the money market to operate within an

interest corrodor. With the introduction of variable repo rates and daily repo auctions, a

market-determined benchmark is expected to emerge for the call (overnight) rate. As a

result of the conversion of the call/money market into a pure inter-bank call/notice money

market, the repo rate, along with the B/R and CRR, emerged as an important tool of

liquidity and monetary management. To sum up, the RBIs regulation of money and credit

now comprises of

(1) the reactivation of OMOs and introduction of repos,

(2) the introduction of LAF and its emergence as one of the significant operating

instruments,

(3) the reactivation of B/R and the use of repo rate,

(4) the continuation of the use of the CRR.


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The B/R changes, combined with changes in the CRR and LAF repo rates have emerged as

active and important tools of liquidity and monetary management. The LAF has developed

as an effective tool for absorbing/injecting liquidity on a day to day basis in a flexible

manner and for providing a corridor for the call money and other money markets. On 29

July 2008, the Reserve Bank of India increased the repo rate by 50 basis points to 9 per

cent. Banks are aggressively using the repo facility of the RBI since the beginning of July.

They borrowed almost Rs.38,900 crore per day from the RBI through its liquidity

adjustment facility. the hike in the repo rate by the RBI will surely put some pressure on

the cost of funds of banks. As in the year of 2004 CRR was 4.50% and Repo stands at 6%

and reverse repo was 4.50% but at that time inflation was around 4.6%, on September 18,

inflation rate zoom past to 7.9% but Repo and Reverse repo rate remained unchanged and

CRR increases by 0.25 basis point to 4.75% consecutively on October 2, increase in CRR by

0.25 point following high inflation rate then from October, 2004 to july, 2006 there is

continuous increase of 0.25 point each level in Reverse repo rate against which CRR stands

unchanged at 5% and inflation was decreasing at that time, again from December, 2006following high inflation rate CRR was hiked to 0.25 point and Repo rate was at 7.25% while

Reverse repo rate remains unchanged to 6%.on January 2007 inflation rose to 6.4 and CRR

again increased to 5.50 %.

On a review of the current macroeconomic and overall monetary conditions and with a

view to containing inflation expectations, the repo rate under the Liquidity Adjustment

Facility (LAF) was raised by 25 basis points to 8.0 per cent with effect from June 12, 2008.

Consistent with the overall stance of monetary policy set out for 2008-09 in April 2008 in

terms of ensuring a monetary and interest rate environment that accords high priority to

price stability, well anchored inflation expectations and orderly conditions in financialmarkets and on the basis of incoming information and domestic and global macroeconomic

and financial developments, it was decided on June 24, 2008 to increase the repo rate

under the LAF by 50 basis points to 8.50 per

cent with effect from June 25, 2008 and the CRR

by 50 basis points to 8.75 per cent in two

stages of 25 basis points each with effect

from July 5, 2008 and July 19, 2008.


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II. Qualitative Methods of Credit Control

Under section 21 of RBI Act, Reserve Bank is empowered to regulate control and direct the

commercial banks regarding their loans and advances. Qualitative methods are used to

effect the use, distribution and direction of credit. It is used to encourage such economic

authorities as desirable and to discourage those which are injurious for the economy.

Reserve Bank of India from time to time adopted the following qualitative methods of

credit control.

1) Selective Credit Control:

Section 36(1) (a) of the Banking Regulation Act, empowers the RBI to contain or prohibit

banking companies generally or any banking company. The objective of these controls is to

discourage some forms of activities while encouraging others. Such controls are used in

respect of agriculture commodities, which are subject to speculative hoarding and wide

price fluctuation. Under section 21 of the banking regulation Act, 1949, the Reserve Bank isempowered to issue directives to banking companies regarding making of advances. These

directions may be as follows :

1) The purpose for which advances may or may not be made.2) Fixing the margin requirements for advances against each commodity.3) Fixing of maximum limit to be advanced by banks to a particular borrower.4) Fixing of rate of interest and other terms for making advances.5) Fixing of maximum guarantees may be given by the banks on behalf of any firm or

company.

6) Prohibition on grant of credit against book debts and clean credits. Some of the elativecredit controls are as follows:

(a) Differential Discount Rates:

The reserve Bank fixes different discounting rates for the bills of different sectors. The

sector for which more credit is to be made available the exchange bills re discounted at a

lower rate. On the other hand, if RBI wants to discourage credit for a particular sector, it

increases the discount rate for bills or the facility for rediscounting is postponed. (

b) Credit Authorization Scheme:

This scheme was introduced with the objectives of enforce financial discipline on the largerborrowers and ensure that they did not pre-empt scare bank resources. Through this

scheme, the RBI regulate not only the quantum but also the term of credit flows. Under this

scheme, commercial banks are required to obtain RBIs permission before sanctioning any

fresh credit of Rs. Six crore or more to any single borrower. This limit may be changed time

by time.


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(c) Fixation of Margin:

The commercial banks generally advance loans to their customers against some security or

securities offered by the borrowers and acceptable to the banks. The commercial banks do

not lend up to the full amount of the value of a security but lend an amount less than its

value. The margin requirements against specific securities are determined by the Reserve

Bank. RBI changed the margin frequently according to the credit policy. Changes in margin

requirements are designed to influence the flow of credit against specific commodities. A

rise in the margin requirements results in contraction in the borrowing value of the security

and similarly, a fall in the margin requirement results in expansion in the borrowing value of

the security. If RBI desires that more loans should be advanced against particular securities,

it can lower the margin requirement. Similarly, if RBI desires to check the expansion of

credit against particular securities it can raise the margin requirement.

(d) Reserve Bank can also instruct commercial banks charging discriminating rates of

interest on certain types of advances

(e)Reserve Bank from time to time fixes ceiling n amount of credit for certain purposes.(f)Reserve Bank can ban on advances to specific sector to check inflationary pressures.

2) Rationing ofCredit:

In this method the RBI seeks to limit the maximum or ceiling of loans and advances and also

in certain cases, fixes ceiling for specific categories of loans and advances. If the rationing

of credit is done with reference to the total amount, it is a quantitative control, but if it is

done with reference to specific types of credit, it assumes a qualitative control. Reserve

Bank can also prescribe the minimum ratio between capital and total assets.

3) Moral Persuasion:Moral persuasion refers to those cases where the Reserve Bank endeavors to achieve its

object by making suitable representations to the banking institutions concerned and relying

on its moral influence and power of persuasion. Being an apex institution and lender of the

last resort, the RBI can use its more pressure and persuade the commercial bank to follow

its policy. During inflationary conditions it may request the commercial banks not to press

for frequent loans, to refuse loans to the customers and to refrain from investing funds in

the unproductive or less productive occupations.

4) Publicity:The RBI may also follow the policy of publicity in order to make known to the public its

views about the credit expansion or contraction. It may issue warning to the people and

commercial banks, substantiating its views by facts, figures and statements, through the

media of publicity. This method, however, is ineffective in the developing economies where

mass illiteracy exists and people do not understand the implications of the policy.


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5) Direct Action :

Under Banking Regulations Act, the RBI is empowered to initiate direction action against

those commercial banks which ignore its advice. In such cases RBI can impose restriction on

sanctioning of loans and advances of concerned banks. Winding up of Bank of Karad in 1992

because of financial irregularities and putting up of certain restrictions on the working of

Metropolitan Co-operative Bank are the examples of direct action initiated by RBI. The RBI

may refuse rediscounting facilities to the banks who do not cooperative with the policies of

the Bank.


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Understanding of Fiscal Policy

Fiscal policy is based on the theories of British economist John Maynard Keynes. Also knownas Keynesian economics, this theory basically states that governments can influencemacroeconomic productivity levels by increasing or decreasing tax levels and public spending.

This influence, in turn, curbs inflation increases employment and maintains a healthy value ofmoney.

Fiscal policy basically means by which a government adjusts its levels of spending in order tomonitor and influence a nation's economy. It is the sister strategy to monetary policy, withwhich a central bank influences a nation's money supply. These two policies are used in variouscombinations in an effort to direct a country's economic goals.

It refers to the union government's use of its annual budget to affect the level of economic

activity, resource allocation and income distribution. The budget strategy can also influence

the achievement of the government's objectives of internal and external balance and economic

growth.The two main instruments of fiscal policy are government spending and taxation. Changes in

the level and composition of taxation and government spending can impact on the following

variables in the economy:

Aggregate demand and the level of economic activity;

1. The pattern of resource allocation; and2. The distribution of income.

Example ofFiscal Policy

Let's say that an economy has slowed down. Unemployment levels are up, consumer spending

is down and businesses are not making any money. A government thus decides to fuel the

economy's engine by decreasing taxation, giving consumers more spending money while

increasing government spending in the form of buying services from the market such as

building roads or schools. By paying for such services, the government creates jobs and wages

that are in turn pumped into the economy.

The three possible stances of fiscal policy are neutral, expansionary and contractionary.

1. A neutral stance of fiscal policy implies a balanced budget where G = T Governmentspending = Tax revenue. Government spending is fully funded by tax revenue and

overall the budget outcome has a neutral effect on the level of economic activity.

2.

An expansionary stance of fiscal policy involves a net increase in government spending(G > T) through a rise in government spending or a fall in taxation revenue or a

combination of the two. This will lead to a larger budget deficit or a smaller budget

surplus than the government previously had a balanced budget. Expansionary fiscal

policy will lead to an increase in economic activity. Expansionary fiscal policy is usually

associated with a budget deficit.


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3. Contractionary fiscal policy (G < T) occurs when net government spending is reducedeither through higher taxation revenue or reduced government spending or a

combination of the two. This would lead to a lower budget deficit or a larger surplus

than the government previously had, or a surplus if the government previously had a

balanced budget. Concretionary fiscal policy is usually associated with a surplus

The governments handling of its own spending, taxation and government borrowings are the

key components of fiscal policy.

Government Spending

Government spending can be broken down into three main categories:

1. General government expenditure - consists of the combined capital and currentspending of central government including debt interest payments to holders of

government debt

2. General government final consumption - is government expenditure on current goodsand services excluding transfer payments

3. Transfer payments transfers are transfers from taxpayers to benefit recipientsthrough the working of the social security system.


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Expenditures:-

Government expenditure comprises expenditure on economic, social and general services. The

pattern in government expenditure since the Eighties has been mainly influenced by a change

in role of the government in the growth process, financing pattern of the deficits (debt and

interest payments) and the need for fiscal consolidation.

Main areas of expenditures:-

1. Interest payments:-The widening of fiscal deficit and consequent rise in debt stocks during last two decades have

resulted in mounting expenditure on interest payments.

2. Subsidies: -Expenditure on subsidies is a crucial element of government expenditure particularly in the

light of targeting poverty alleviation and the growing need to rationalize expenses for fiscalconsolidation. The total burden of subsidies on government finances should take into account,

in addition to the explicit subsidies, several implicit subsidies in the form of lower user charges

for economic and social services provided by the government.

3. Wages, Salaries and Pensions:-The rising bill in respect of wages, salaries and pensions is considered to be an important

element in the fiscal health of the government, particularly in the recent years. These

components partly represent the committed expenditure obligations of the government.

4. Capital Outlays:-Capital outlays represent the expenditure undertaken by the government to build its

investments. These investments enhance the productive capacity of the economy through

provision of the infrastructure and capital goods. The actual impact of these investments on

the growth process is magnified by the crowding-in impact on private investment.

5. Defense :-The central government also undertakes revenue and capital expenditures for defense

purposes which act as a public good at the national level.


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Methods ofRaising Funds:-

Governments spend money on a wide variety of things, from the military and police to services

like education and healthcare, as well as transfer payments such as welfare benefits.

This expenditure can be funded in a number of different ways:

1. Taxation2. Seignorage, the benefit from printing money3. Borrowing money from the population, resulting in a fiscal deficit.

Taxation:-

I. Income Tax:It is a tax levied on the financial income of persons, corporations, or other legal entities.Various income tax systems exist, with varying degrees of tax incidence. Income taxation can

be progressive, proportional, or regressive. When the tax is levied on the income of companies,

it is often called a corporate tax, corporate income tax, or profit tax. Individual income taxes

often tax the total income of the individual (with some deductions permitted), while corporate

income taxes often tax net income (the difference between gross receipts, expenses, and

additional write-offs).

II. Payroll Tax:-It generally refers to two kinds of taxes: Taxes which employers are required to withhold from

employees' pay, also known as withholding, Pay-As-You-Earn (PAYE) or Pay-As-You-Go (PAYG)tax; or taxes directly related to employing a worker paid from the employer's own funds: these

may be either fixed charges or proportionally linked to an employee's pay.

III. Capital Gain Tax:-It is a tax charged on capital gains, the profit realized on the sale of an asset that was

purchased at a lower price. The most common capital gains are realized from the sale of

stocks, bonds, precious metals and property.

IV. Value Added Tax:-Value Added Tax (VAT), or Goods and Services Tax (GST), is tax on exchanges. It is levied on the

added value that results from each exchange. It differs from a sales tax because a sales tax is

levied on the total value of the exchange. For this reason, a VAT is neutral with respect to the

number of passages that there are between the producer and the final consumer. A VAT is an

indirect tax, in that the tax is collected from someone other than the person who actually bears

the cost of the tax (namely the seller rather than the consumer). To avoid double taxation on


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final consumption, exports (which by definition, are consumed abroad) are usually not subject

to VAT and VAT charged under such circumstances is usually refundable.

V. Sales Tax:-A Sales Tax is a consumption tax charged at the point of purchase for certain goods and

services. The tax is usually set as a percentage by the government charging the tax. There is

usually a list of exemptions. The tax can be included in the price (tax-inclusive) or added at the

point of sale (tax-exclusive).

VI. Stamp Duty:-Stamp duty is a form of tax that is levied on documents. Historically, a physical stamp (a tax

stamp) had to be attached to or impressed upon the document to denote that stamp duty had

been paid before the document became legally effective. More modern versions of the tax no

longer require a physical stamp.

Seignorage:-

It is the net revenue derived from the issuing of currency.

Seignorage derived from coins arises from the difference between

the face value of a coin and the cost of producing, distributing and

eventually retiring it from circulation. Seignorage is an important

source of revenue for some national banks. Seignorage derived

from notes is the difference between the interest earned on the

government's securities portfolio, and the costs of producing and

distributing bank notes.

Funding ofDeficits:-

A fiscal deficit is often funded by issuing bonds, like Treasury bills or Consols. These pay

interest, either for a fixed period or indefinitely. If the interest and capital repayments are too

great, a nation may default on its debts, usually to foreign debtors.


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Implication of Fiscal Policy

Fiscal policy is used by governments to influence the level of aggregate demand in the

economy, in an effort to achieve economic objectives of price stability, full employment and

economic growth.

Keynesian economics suggest that adjusting government spending and tax rates, are the best

ways to stimulate aggregate demand. This can be used in times of recession or low economic

activity as an essential tool in providing the framework for strong economic growth and

working toward full employment. The government can implement these deficit-spending

policies due to its size and prestige and stimulate trade. In theory, these deficits would be

repaid for by an expanded economy during the boom that would follow the basis for the New

Deal.

During periods of high economic growth, a budget surplus can be used to decrease activity in

the economy. A budget surplus will be implemented in the economy if inflation is high, in order

to achieve the objective of price stability. The removal of funds from the economy will, byKeynesian Theory, reduce levels of aggregate demand in the economy and contract it, bringing

about price stability.

Despite the importance of fiscal policy, a paradox

exists. In the case of a government running a

budget deficit, funds will need to come from public

borrowing (the issue of government bonds),

overseas borrowing or the printing of new money.

When governments fund a deficit with the release

of government bonds, an increase in interest rates

across the market can occur. This is becausegovernment borrowing creates higher demand for

credit in the financial markets, causing a higher

aggregate demand (AD) due to the lack of

disposable income, contrary to the objective of a

budget deficit. This concept is called crowding out.

Alternatively, governments may increase government spending by funding major construction

projects. This can also cause crowding out because of the lost opportunity for a private

investor to undertake the same project. However, the effects of crowding out are usually not

as large as the increase in GDP stemming from increased government spending.

Another problem is the time lag between the implementation of the policy, and visible effects

seen in the economy. It is often contended that when an expansionary Fiscal policy is

implemented, by way of decrease in taxes, or increased consumption (keeping taxes at old

level), it leads to increase in aggregate demand; however, an unchecked spiral in aggregate

demand will lead to inflation. Hence, checks need to be kept in place.


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Indian Fiscal Policies

India was a latecomer to economic reforms, embarking on the process in earnest only in 1991,

in the wake of an exceptionally severe balance of payments crisis. The need for a policy shift

had become evident much earlier, as many countries in east Asia achieved high growth and

poverty reduction through policies which emphasized greater export orientation and

encouragement of the private sector. India took some steps in this direction in the 1980s, but it

was not until 1991 that the government signaled a systemic shift to a more open economy with

greater reliance upon market forces, a larger role for the private sector including foreign

investment, and a restructuring of the role of government. The average growth rate in the ten

year period from 1992-93 to 2001-02 was around 6.0 percent, which puts India among the

fastest growing developing countries in the 1990s. This growth record is only slightly better

than the annual average of 5.7 percent in the 1980s, but it can be argued that the 1980s

growth was unsustainable, fuelled by a buildup of external debt which culminated in the crisis

of 1991. In sharp contrast, growth in the 1990s was accompanied by remarkable externalstability despite the east Asian crisis. Poverty also declined significantly in the post-reform

period, and at a faster rate than in the 1980s. However, the ten-year average growth

performance hides the fact that while the economy grew at an impressive 6.7 percent in the

first five years after the reforms, it slowed down to 5.4 percent in the next five years. India

remained among the fastest growing developing countries in the second sub-period because

other developing countries also slowed down after the East Asian crisis, but the annual growth

of 5.4 percent was much below the target of 7.5 percent which the government had set for the

period. Inevitably, this has led to some questioning about the effectiveness of the reforms.

World economic growth was slower in the second half of the 1990s and that would have had

some dampening effect, but Indias dependence on the world economy is not large enough forthis to account for the slowdown. Critics of liberalization have blamed the slowdown on the

effect of trade policy reforms on domestic industry. However, the opposite view is that the

slowdown is due not to the effects of reforms, but rather to the failure to implement the

reforms effectively. This in turn is often attributed to Indias gradualist approach to reform,

which has meant a frustratingly slow pace of implementation. However, even a gradualist pace

should be able to achieve significant policy changes over ten years. This paper examines Indias

experience with gradualist reforms from this perspective. We review policy changes in five

major areas covered by the reform program: fiscal deficit reduction, industrial and trade policy,

agricultural policy, infrastructure development and social sector development. Based on this

review, we consider the cumulative outcome of ten years of gradualism to assess whether the

reforms have created an environment which can support 8 percent GDP growth, which is now

the government target.


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Savings, Investment and Fiscal Discipline

Fiscal profligacy was seen to have caused

the balance of payments crisis in 1991

and a reduction in the fiscal deficit was

therefore an urgent priority at the start

of the reforms. The combined fiscal

deficit of the central and state

governments was successfully reduced

from 9.4 percent of GDP in 1990-91 to 7

percent in both 1991-92 and 1992-93

and the balance of payments crisis wasover by 1993. However, the reforms also

had a medium term fiscal objective of

improving public savings so that essential public investment could be financed with a smaller

fiscal deficit to avoid crowding out private investment. This part of the reform strategy was

unfortunately never implemented. Public savings deteriorated steadily from +1.7 percent of

GDP in 1996- 97 to 1.7 percent in 2000-01. This was reflected in a comparable deterioration in

the fiscal deficit taking it to 9.6 percent of GDP in 2000-01. Not only is this among the highest

in the developing world, it is particularly worrisome because Indias public debt to GDP ratio is

also very high at around 80%. Since the total financial savings of households amount to only 11

percent of GDP, the fiscal deficit effectively preempts about 90 percent of household financialsavings for the government. What is worse, the rising fiscal deficit in the second half of the

1990s was not financing higher levels of public investment, which was more or less constant in

this period. These trends cast serious doubts on Indias ability to achieve higher rates of growth

in future. The growth rate of 6 percent per year in the post-reforms period was achieved with

an average investment rate of around 23 percent of GDP. Accelerating to 8 percent growth will

require a commensurate increase in investment. Growth rates of this magnitude in East Asia

were associated with investment rates ranging from 36-38 percent. While it can be argued that

there was overinvestment in East Asia, especially in recent years, it is unlikely that India can

accelerate to 8 percent growth unless it can raise the rate of investment to around 29-30

percent of GDP. Part of the increase can be financed by increasing foreign direct investment,

but even if foreign direct investment increases from the present level of 0.5 percent of GDP to

2.0 percent -- an optimistic but not impossible target domestic savings would still have to

increase by at least 5 percentage points of GDP. Can domestic savings be increased by this

amount? Private savings have been buoyant in the post-reform period, but public savings have

declined steadily. This trend needs to be reversed. Both the central government and the state


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governments would have to take a number of hard decisions to bring about improvements in

their respective spheres. The central governments effort must be directed primarily towards

improving revenues, because performance in this area has deteriorated significantly in the post

reform period. Total tax revenues of the center were 9.7 percent of GDP in 1990-91. They

declined to only 8.8 percent in 2000-01, whereas they should have increased by at least two

percentage points. Tax reforms involving lowering of tax rates, broadening the tax base and

reducing loopholes were expected to raise the tax ratio and they did succeed in the case of

personal and corporate income taxation but indirect taxes have fallen as a percentage of GDP.

This was expected in the case of customs duties, which were deliberately reduced as part of

trade reforms, but this decline should have been offset by improving collections from domestic

indirect taxes on goods and by extending indirect taxation to services. This part of the revenue

strategy has not worked as expected. The Advisory Group on Tax Policy for the Tenth Plan

recently made a number of proposals for modernizing tax administration, including especially

computerization, reducing the degree of exemption for small scale units and integration of

services taxation with taxation of goods (Planning Commission, 2001a). Theserecommendations need to be implemented urgently. There is also room to reduce central

government subsidies, which are known to be highly distortionary and poorly targeted (e.g.

subsidies on food and fertilizers), and to introduce rational user charges for services such as

passenger traffic on the railways, the postal system and university education. Overstaffing was

recently estimated at 30 percent and downsizing would help reduce expenditure. State

governments also need to take corrective steps. Sales tax systems need to be modernized in

most states. Agricultural income tax is constitutionally assigned to the states, but no state has

attempted to tax agricultural income. Land revenue is a traditional tax based on landholding,

but it has been generally neglected and abolished in many states. Urban property taxation

could yield much larger resources for municipal governments if suitably modernized, but thistax base has also been generally neglected. State governments suffer from very large losses in

state electricity boards (about 1 percent of GDP) and substantial losses in urban water supply,

state road transport corporations and in managing irrigation systems. Overstaffing is greater in

the states than in the center. The fiscal failures of both the central and the state governments

have squeezed the capacity of both the center and the states to undertake essential public

investment. High levels of government borrowing have also crowded out private investment.

Unless this problem is addressed, the potential benefits from reforms in other areas will be

eroded and it may be difficult even to maintain the average growth rate of 6 percent

experienced in the first ten years.


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Industrial Policy

Industrial policy has seen the greatest change, with most central government industrial

controls being dismantled. The list of industries reserved solely for the public sector which

used to cover 18 industries, has been drastically reduced to three: defense aircrafts and

warships, atomic energy generation, and railway transport. Industrial licensing by the central

government has been almost abolished except for a few hazardous and environmentally

sensitive industries. The requirement that investments by large industrial houses needed a

separate clearance under the Monopolies and Restrictive Trade Practices Act to discourage the

concentration of economic power was abolished and the act itself is to be replaced by a new

competition law which will attempt to regulate anticompetitive behavior in other ways. The

main area where action has been inadequate relates to the long standing policy of reserving

production of certain items for the small-scale sector. About 800 items were covered by this

policy since the late 1970s, which meant that investment in plant and machinery in any

individual unit producing these items could not exceed $ 250,000. Many of the reserved itemssuch as garments, shoes, and toys had high export potential and

the failure to permit development of production units with

more modern equipment and a larger scale of production

severely restricted Indias export competitiveness. The Report

of the Committee on Small Scale Enterprises (1997) and the

Report of the Prime Ministers Economic Advisory Council

(2001) had recommended that the policy of reservation should

be abolished and other measures adopted to help small-scale

industry. While such a radical change in policy was

unacceptable, some policy changes have been made veryrecently: fourteen items were removed from the reserved list in

2001 and another 50 in 2002. The items include garments, shoes, toys and auto components,

all of which are potentially important for exports. In addition, the investment ceiling for certain

items was increased to $1 million. However, these changes are very recent and it will take

some years before they are reflected in economic performance. Industrial liberalization by the

central government needs to be accompanied by supporting action by state governments.

Private investors require many permission from state governments to start operations, like

connections to electricity and water supply and environmental clearances. They must also

interact with the state bureaucracy in the course of day-to-day operations because of lawsgoverning pollution, sanitation, workers welfare and safety, and such. Complaints of delays,

corruption and harassment arising from these interactions are common. Some states have

taken initiatives to ease these interactions, but much more needs to be done. A recently

completed joint study by the World Bank and the Confederation of Indian Industry found that

the investment climate varies widely across states and these differences are reflected in a

disproportional share of investment, especially foreign investment.


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Trade Policy

Before the reforms, trade policy was

characterized by high tariffs and pervasive import

restrictions. Imports of manufactured consumer

goods were completely banned. For capital

goods, raw materials and intermediates, certain

lists of goods were freely importable, but for

most items where domestic substitutes were

being produced, imports were only possible with

import licenses. The criteria for issue of licenses were nontransparent; delays were endemic

and corruption unavoidable. The economic reforms sought to phase out import licensing and

also to reduce import duties. Import licensing was abolished relatively early for capital goods

and intermediates which became freely importable in 1993, simultaneously with the switch to

a flexible exchange rate regime. Import licensing had been traditionally defended on thegrounds that it was necessary to manage the balance of payments, but the shift to a flexible

exchange rate enabled the government to argue that any balance of payments impact would

be effectively dealt with through exchange rate flexibility. Removing quantitative restrictions

on imports of capital goods and intermediates was relatively easy, because the number of

domestic producers was small and Indian industry welcomed the move as making it more

competitive. It was much more difficult in the case of final consumer goods because the

number of domestic producers affected was very large (partly because much of the consumer

goods industry had been reserved for small scale production). Quantitative restrictions on

imports of manufactured consumer goods and agricultural products were finally removed on

April 1, 2001, almost exactly ten years after the reforms began. Progress in reducing tariffprotection, the second element in the trade strategy, has been even slower and not always

steady. The weighted average import duty rate declined from the very high level of 72.5

percent in 1991-92 to 24.6 percent in 1996-97. However, after some changes the net result is

that the weighted average duty rate is 29 percent in 2002-03. The government has announced

that average tariffs will be reduced to around 15 percent by 2004, but even if this is

implemented, tariffs in India will be much higher than in China which has committed to reduce

weighted average duties to about 9 percent by 2005 as a condition for admission to the World

Trade Organization.


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Reforms in Agriculture

A common criticism of Indias economic reforms is that they have been excessively focused on

industrial and trade policy, neglecting agriculture which provides the livelihood of 60 percent

of the population. Critics point to the deceleration in agricultural growth in the second half of

the 1990s as proof of this neglect. However, the notion that trade policy changes have not

helped agriculture is clearly a misconception. The reduction of protection to industry, and the

accompanying depreciation in the exchange rate, has tilted relative prices in favor of

agriculture and helped agricultural exports. The index of agricultural prices relative to

manufactured products has increased by almost 30 percent in the past ten years. The share of

Indias agricultural exports in world exports of the same commodities increased from 1.1

percent in 1990 to 1.9 percent in 1999, whereas it had declined in the ten years before the

reforms. But while agriculture has benefited from trade policy changes, it has suffered in other

respects, most notably from the decline in public investment in areas critical for agricultural

growth, such as irrigation and drainage, soil conservation and water management systems, andrural roads.

Infrastructure Development

Rapid growth in a globalized environment requires a well-functioning infrastructure including

especially electric power, road and rail connectivity, telecommunications, air transport, and

efficient ports. India lags behind east and Southeast Asia in these areas. These services were

traditionally provided by public sector monopolies but since the investment needed to expand

capacity and improve quality could not be mobilized by the public sector, these sectors were

opened to private investment, including foreign investment. However, the difficulty in creating

an environment which would make it possible for private investors to enter on terms that

would appear reasonable to consumers, while providing an adequate risk- return profile to

investors, was greatly underestimated. Many false starts and disappointments have resulted.

The greatest disappointment has been in the electric power sector. The results in

telecommunications have been much better and this is an important factor underlying Indias

success in information technology. Civil aviation and ports are two other areas where reforms

appear to be succeeding, though much remains to be done. Two private sector domestic

airlines, which began operations after the reforms, now have more than half the market for

domestic air travel. However, proposals to attract private investment to upgrade the majorairports at Mumbai and Delhi have yet to make visible progress. In the case of ports, 17 private

sector projects involving port handling capacity of 60 million tons, about 20 percent of the total

capacity at present, are being implemented. Some of the new private sector port facilities have

set high standards of productivity.


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Social Sector Development in Health and Education

Indias social indicators at the start of the reforms in 1991 lagged behind the levels achieved in

Southeast Asia 20 years earlier, when those countries started to grow rapidly. For example,

Indias adult literacy rate in 1991 was 52 percent, compared with 57 percent in Indonesia and

79 percent in Thailand in 1971. The gap in social development needed to be closed, not only to

improve the welfare of the poor and increase their income earning capacity, but also to create

the preconditions for rapid economic growth. While the logic of economic reforms required a

withdrawal of the state from areas in which the private sector could do the job just as well, if

not better, it also required an expansion of public sector support for social sector

development. Much of the debate in this area has focused on what has happened to

expenditure on social sector development in the post-reform period. Dev and Moolji (2002)

find that central government expenditure on towards social services and rural development

increased from 7.6 percent of total expenditure in 1990-91 to 10.2 percent in 2000-01. As a

percentage of GDP, these expenditures show a dip in the first two years of the reforms, whenfiscal stabilization compulsions were dominant, but there is

a modest increase thereafter. However, expenditure trends

in the states, which account for 80 percent of total

expenditures in this area, show a definite decline as a

percentage of GDP in the post reforms period. Taking

central and state expenditures together, social sector

expenditure has remained more or less constant as a

percentage of GDP. Closing the social sector gaps between

India and other countries in Southeast Asia will require

additional expenditure, which in turn depends uponimprovements in the fiscal position of both the central and

state governments. However, it is also important to improve the efficiency of resource use in

this area. Saxena has documented the many problems with existing delivery systems of most

social sector services, especially in rural areas. Some of these problems are directly caused by

lack of resources, as when the bulk of the budget is absorbed in paying salaries, leaving little

available for medicines in clinics or essential teaching aids in schools. There are also

governance problems such as nonattendance by teachers in rural schools and poor quality of

teaching. Part of the solution lies in greater participation by the beneficiaries in supervising

education and health systems, which in turn requires decentralization to local levels andeffective peoples participation at these levels. While the challenges in this area are enormous,

it is worth noting that social sector indicators have continued to improve during the reforms.

The literacy rate increased from 52 percent in 1991 to 65 percent in 2001.


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RELEVANCE OF INDIAN FISCAL POLICY

As rightly said by Susan Sontag Existence is no more than the precarious attainment of

relevance in an intensely mobile flux of past, present, and future. Indias well existence in the

top developing counties itself proves the relevance & importance of Fiscal Policy, not just Fiscal

Policy as general but, the INDIAN Fiscal Policy proving it to be the most well planned and sortout schemes of Growth & Development.

To prove a relevance of anything depends upon few important factors which show the core of

it.

Similarly, for a Fiscal Policy to prove its correct it needs to show the following few factors:

1. To Grow.2.

To

Grow wit

hall Sector

sof Economy.3. To Grow with the People of the Country.

4. To become selfsufficient &5. To Serve the World.

Indian Fiscal Policy has been able to satisfy all the above factors up to the mark or almost

there. This can be clearly seen from the below Statistics & Growth Graphs.

1. GDP GROWTH RATE:

5.7

6.9

9.4(Re)


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2. Sector-wise Growth

3. Poverty Reduction:

-

7.2

11(Re)

26

16


33/39


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6. Providing BusinessOpportunities to the World.

7. Investing in Other Countries of the World:

26524 (US Million$)

11008 (US Million$)


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Few other Facts to be known:

12TH

Largest Economy in the World as per GDP in US DOLLARS

3RD

Largest Economy in the World as per GDP in US DOLLAR (PURCHASING POWER

PARITY)

2ND

Fast largest paramilitary force in the world.

Indian Army is the third-largest army in the world.

Indian Air Force is the fourth-largest air force in the world.

Indian Navy is the fifth largest in the world.

India is ranked the 6th Country in the World in Terms of Satellite Launches.

Of the Fortune 500 companies, 220 outsource their Software-related work to India.

There are over 70,000 Bank Branches in India - among the highest in the World.

THE BENCH SETTER:

Indian Railways is the Largest Railway Network in the World under Single Management

employing just over 1.6 million employees Making it LARGEST EMPLOYER.

Restrains to Indian FISCAL POLICY

Systemic Reform is Complex and Difficult, even when done Piecemeal.

Diversity and Regional Inequality create Political Hurdles and Exacerbate Internal

Political Tensions

Need to Build New Political Coalitions for Governmental Reforms.

Several other Simultaneous Developments Heighten the Challenges:

Major Local Government Reform.

Liberalization and move away from Govt. Intervention, including Re-

evaluation ofGovt. Economic Planning.

Red Tape & Corruption.


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BUDGET AT GLANCE: (08 09)

Crucial Estimates:

Economy to Grow at 9.4 (GDP)

Total Revenue to stand at Rs. 6,80,521(Cr.) @ 14.69 % growth.Fiscal Deficit to stand at 1,44,950 (3.13 of GDP) (net) (Rs. Crores)Average Inflation in FY'08 to be 4 4.5 %

Few Suggestions for Allocations of Expenditure & Loans Subsidizing:

1. All Pvt. & Public Sector Banks which have more than 200 Branches necessarily needopen 10 New Branches in Rural Areasof Each State by End Financial year 2010.

2. Allocation forEducation to be Enhanced by 22.5 % (from 19.7 %).3. State Govts. (Combined) need to be given an estimated Rs. 2300 Crores for Water

Management& Special Team for Monitoring to be setup.

4. Ad valorem Duty on Petrol & Diesel should to be brought down from 8 % to 5 % &remain Stable for next 2 Yrs.

5. All Pvt. & Public Sector Banks which have more than 200 Branches necessarily needopen 10 New Branches in Rural Areasof Each State by End Financial year 2010.

6.

Allocation onHealthcare should be Increased by 22.5 % from Previous Year. (50 %Compulsory for Rural Areas)

7. Benefits for Investing in Venture Capital Funds Confined to Heavy Engineering,Manufacturing & Electricity Generation.

8. An Investment of Rs. 275 Crore for R&D in the Field ofAgriculturalResearch.9. Tourism Infrastructure needs to be allotted an Amount of Rs. 600 Crores. (Rs.520 Crore

07- 08)

10.The Quality of Public Expenditures has Deteriorated can rationalize Govt. through:a) Internal Restructuringb) Privatizationc) Subsidy Reduction

11.Better Management of Pay and Pensions.


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12.Coordinated Tax Reform Required:a) Jurisdictions: States and Center have to work together.b) Taxes: Could have Piggy-Backing of States on Income Tax, with

distinction between Agricultural and Non-Agricultural Income removed.

13.New measures on Services Tax are Retrograde:Shift Tax Power to Center.

14.Interest on Loans may be subsidized.15.Loans may be rescheduled.16.Loan Guarantees can serve as a Subsidy also.


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SUMMARY

Global economic activity remained buoyant for the fourth successive year during 2006 and

available information suggests that the growth momentum is likely to continue during 2007,

albeit with some moderation. Global economic growth accelerated from 4.9 per cent during

2005 to 5.5 per cent during 2006, and has averaged 4.9 per cent per annum during the four-

year period 2003-2006. A positive feature of the global economic activity during 2006 was the

broadening of growth across major regions/countries. The moderation of economic activity in

the US since the second half of 2006 has been largely offset by the acceleration of activity in

the euro area and in Japan; emerging and developing countries, led by China and India, have

provided stable support to the global economy with sustained high growth. The rising global

activity is, however, leading to closing of output gaps in many countries; strong demand, in

conjunction with strong gains recorded by global commodity prices, was reflected in

inflationary pressures in major economies. With headline inflation crossing the targets/comfort

zones in major countries, many central banks pursued monetary tightening to containinflationary expectations.

In an environment of strong global growth, the Indian economy continued to exhibit robust

growth during 2006-07. Real GDP growth accelerated to 9.4 per cent in 2006-07 from 9.0 per

cent in 2005-06, boosted by the double-digit growth in the services and industrial sectors. Real

GDP growth, thus, averaged 7.6 per cent per annum during the Tenth Five Year Plan period

(2002-03 to 2006-07) the fastest pace of expansion in any Plan period so far significantly

higher than that of 5.7 per cent per annum during the 1980s and the 1990s. Growth in per

capita income (i.e., per capita net national product at factor cost) accelerated from 7.4 per cent

in 2005-06 to 8.4 percent during 2006-07. Per capita income growth averaged 6.1 per cent per

annum during the Tenth Plan period and 7.1 per cent per annum during the last four years(2003-04 to 2006-07), more than double of 3.4 per cent per annum recorded during the 1980s

and the 1990s. The acceleration of economic activity is being supported by a significant rise in

domestic savings and investment, and productivity gains. A notable feature of the economic

growth during 2006-07 was the further strengthening of the manufacturing activity.

Consequently, in view of the sustained high growth since 2003-04, capacity utilization has risen

in a number of industries which, along with supply shocks from primary articles, were reflected

in a rise in the various measures of inflation during 2006-07. The Reserve Bank, accordingly,

took a series of pre-emptive monetary measures to contain inflationary expectations. The

monetary measures were also accompanied by fiscal and supply side measures.The sustained strengthening of domestic economic activity over the past few years has been

underpinned by proactive policy measures to improve the productivity and competitiveness of

the Indian economy. A number of steps covering the various sectors of the economy real,

fiscal, external, monetary and financial sectors were taken during the year to sustain the

current growth momentum, and make it more inclusive in an environment of macroeconomic

and financial stability.


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REFERENCES

www.indiabudget.nic.in

www.indiastat.com

www.wikipedia.org

www.google.com

www.googlescholar.com

http://fincomindia.nic.in

http://planningcommission.nic.in

http://econstats.com

http://www.censusindia.gov.in

http://www.indexmundi.com

www.worldbank.org.in

www.rediff.com

http://www.hinduonnet.com/fline/fl1718/17181090.html

http://imf.org/external/np/seminars/eng/2004/fiscal/pdf/heller.pdf

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