|Review of Developments|
|GDP, Saving and Investment|
|Money and Prices|
|Balance of Payments|
|Issues and Priorities|
Review of Developments
Introduction1.1 The Indian economy is expected to grow by 5.9 per cent in 1999-2000. More importantly, an industrial recovery seems finally to be underway from the cyclical downturn of the previous two years. Growth of GDP from manufacturing will almost double to 7 per cent in 1999-2000 from 3.6 per cent in 1998-99. The growth in GDP from the construction sector is expected to accelerate to 9.0 per cent in 1999-2000 from 5.7 per cent in 1998-99. The performance of infrastructure sectors improved markedly. The inflation rate dropped to international levels of 2 to 3 per cent for the first time in decades. The balance of payments survived the twin shocks of the East-Asian crisis and the post-Pokhran sanctions with a low current account deficit and sufficient capital inflows. This was demonstrated by the continuing rise in foreign exchange reserves by over US $ 2.4 billion during the year until the end of January, 2000 coupled with a relatively stable exchange rate. Export performance has improved on par with the better performing emerging economies. The restoration of confidence in industry has been best reflected in the rise in the stock market during 1999. Primary issues have increased by almost half during the first nine months of 1999-2000. 1.2 Inflation dropped dramatically in 1999, surprising many observers by remaining at low levels. As of January 29, 2000, the annual inflation as measured by the WPI was 2.9 per cent (point to point), down from a peak 8.8 per cent on September 25, 1998 (Table 1.1) . The inflation rate has been less than 4 per cent since April 1999, with the result that the average (52 week) inflation was 3.3 per cent (provisional) as on January 29, 2000. The decline in inflation as measured by the CPI for industrial workers has been even more dramatic, falling to zero in November 1999 from a peak of 19.7 per cent in November 1998. The strong agricultural growth in 1998-99, the increasing openness of the economy to manufactured imports along with the fall in international prices has contributed greatly to this decline. With the removal of import and export controls on agricultural products and their replacement by a rational, stable tariff structure, sharp fluctuations in agricultural prices arising from domestic supply shocks could also be greatly moderated. 1.3 Exports showed a strong recovery in 1999, growing by 12.9 per cent in April-December 1999 in US $ value (DGCI&S customs data). Software exports, which are not captured in the customs data, also continued to show vigorous growth of over fifty per cent during April-September 1999. Despite a 57.8 per cent growth in the US $ value of oil imports in April-December 1999, overall import growth remained at a manageable 9.0 per cent. As a result the trade deficit was lower in value (US $) during April-December 1999 as compared to April-December 1998. Non-oil imports, however, grew by only 1.1 per cent in this period, as prices of non-fuel primary commodities were projected to fall in 1999 by over 11 per cent and unit values of manufactures by about half a per cent. The downturn in gold and silver imports and the sharp fall in imports of capital goods (by about 30 per cent for April-November 1999) also contributed to the slow growth of non-oil imports. 1.4 The current account deficit, which defied gloomy forecasts based on the presumed after effects of the Asian crisis and the economic sanctions, ended at 1 per cent of GDP in 1998-99. This was because international price declines affected both imports and exports. With the sharp rise in oil prices the current account deficit is expected to revert to a more normal level in 1999-2000. During April-September 1999 the current account deficit was higher than in the first half of 1998-99 and is expected to end the year at about 1.6 to 1.8 per cent of GDP. During the same period net capital flows have grown by over one-third. This suggests that the increase in the current account deficit will be financed quite comfortably. Both portfolio investment and non-resident deposit inflows have shown significant improvement. FDI flows, however, continue to be lower, and this is a source of serious concern, particularly given the medium term target of US $ 10 billion of FDI inflows. An expansion of the "automatic route" coupled with further liberalisation should help reverse this trend next year. ECB inflows also remain sluggish, but this is mainly due to weak domestic demand and easy liquidity available for corporations in the domestic market.
GDP, Saving and Investment 1.5 There was a sharp upturn in GDP growth in 1998-99, which reversed the deceleration in growth seen in 1997-98. GDP (at factor cost) growth accelerated to 6.8 per cent in 1998-99 from 5 per cent in 1997-98 (Table 1.2) . The primary supply side factor for the recovery was agriculture. GDP from the agriculture and allied sectors, which had fallen by 1.9 per cent in 1997-98 recovered dramatically to grow by 7.2 per cent in 1998-99. GDP from agriculture & allied sectors hence contributed 1.9 per cent points to the overall growth rate of 6.8 per cent in 1998-99. As in the previous year GDP from "public administration & defence" contributed 0.7 per cent point to the overall GDP growth rate in 1998-99. This was primarily because of the wage increase for government employees consequent to the Fifth Central Pay Commissions recommendations. The wage increase was largely implemented by the Central Government in 1997-98 and by the Sate Governments in 1998-99. 1.6 Unlike in 1997-98, when the GDP from manufacturing had led to a substantial decline in GDP growth; the growth rate of manufacturing at 3.6 per cent in 1998-99 was only 0.4 per cent point less than the year before. GDP from electricity, gas and water supply and from trade, hotels and transport grew faster in 1998-99 than the year before, while mining and quarrying suffered decline, construction and financial services showed marked deceleration. 1.7 On the demand side, private consumption recovered in 1998-99 from its slump in 1997-98, with real consumption growth doubling from 2.6 per cent in 1997-98 to 5.1 per cent in 1998-99 (Table 1.3) . Recovery in agricultural income clearly contributed to this growth as indicated by the lower saving rate in terms of household saving in physical assets. Perhaps the windfall income of government servants, which was initially saved also started getting spent. Growth of government consumption expenditures in real terms has accelerated to 14.5 per cent in 1998-99 from 10.6 per cent in 1997-98. This provided an even greater stimulus to demand than in the previous year and contributed 1.6 per cent points to overall demand growth in 1998-99. 1.8 A sharp slump in investment, however, had a deflationary impact and countered part of this stimulus. Total investment (at 1993-94 prices) declined by about half a per cent in 1998-99 after increasing by over 13 per cent the year before. This deceleration in investment was linked to the deceleration in manufacturing and the slump in agriculture in 1997-98. Average real interest rates, as measured by the cut-off yield on 364-day treasury bills (adjusted by the WPI inflation), declined by 1 per cent point in 1998-99. Though this followed a decline in the real rate by 2 per cent points over the previous year, it was not sufficient to counter the negative factors. 1.9 Gross domestic saving declined sharply in 1998-99 to 22.3 per cent of GDP (Table 1.4) . The 2.4 per cent points of GDP decline in the saving rate resulted from a 1.4 per cent point decline in public saving and a 1 per cent point decline in household saving in physical form (i.e. direct investment). The corporate saving rate also declined to 3.8 per cent of GDP in 1998-99 from 4.3 per cent of GDP in 1997-98. Though household financial saving increased as a proportion of GDP, the overall private saving rate declined by 1 per cent of GDP. The decline in saving rate of the government and households is a counterpart of the higher consumption growth during 1998-99. Though in the short run, growth in government consumption may have had a positive effect on aggregate recovery, government dis-saving (mainly reflecting high revenue deficits) will have to be reduced if aggregate investment and growth of the economy is to increase. 1.10 Real gross domestic capital formation in 1997-98 at 26.9 per cent of GDP (constant price) was only marginally less than the previous peak rate (Table 1.5) . It however declined in 1998-99 to 25.1 per cent of GDP, marginally less than the five-year average. About half of this decline was due to a fall in household investment, as it reverted back to its earlier trend after a sharp rise the previous year. Lower investment in the trade sector was a factor in this decline. The lagged effects of poor agricultural performance contributed to this decline. The other significant factor was a halving of the errors & omissions component of gross capital formation. It was quite encouraging, however, that despite two years of rather slow growth in manufacturing, corporate investment edged up to 8.8 per cent of GDP (constant prices) in 1998-99. It suggests that companies are responding to the challenges of competition by upgrading their plant and machinery. 1.11 Gross fixed capital formation (GFCF) declined by only 0.3 per cent point to 23 per cent of GDP (constant price) in 1998-99. This is around the same as the five-year average. The decline in GFCF was attributable to a 0.6 per cent point of GDP decline in household fixed investment to 7.7 per cent of GDP (in 1998-99). Both the corporate and public fixed investment rate increased marginally. Corporate fixed investment at 8.7 per cent of GDP (constant price) in 1998-99 was close to its peak of 8.9 per cent in 1996-97. Public fixed investment rose from its previous year trough of 6.4 per cent to 6.6 per cent of GDP (constant price). An important factor from the perspective of future productivity improvement was that growth in investment in machinery and equipment (in 1993-94 prices) accelerated to 4.9 per cent in 1998-9. It had decelerated sharply in 1996-97 and declined further in 1997-98 to almost nil. 1.12 Inventories as a proportion of GDP (constant prices) after a build up of 0.7 per cent in 1997-98 declined by 0.4 per cent of GDP in 1998-99. One fourth of this was in the public sector and three-fourth in the private sector (Table 1.5). 1.13 As direct data on capital formation is not available for 1999-2000 we have to look at various indicators. These present a very mixed picture. Though growth of domestic capital goods production remains reasonably good, it is decelerating. Imports of capital goods have, on the other hand, fallen sharply. Growth in disbursements by development finance institutions has decelerated, while that by Investment Institutions has accelerated. Growth of sanctions has, however, decelerated for both sets of institutions. While primary issues have reversed the declining trend of several years by a 46% rise, foreign direct investment (FDI) has declined for the second year in succession. The average real interest rate as measured by the 364-day treasury bills cut-off yield (using the WPI) is about 5 per cent points higher during the first 9 months of 1999-2000 than it was in 1998-99. Investment growth is likely to revive with the recovery of private aggregate demand. Sustaining high growth will, however, require a steep rise in FDI, a structural reduction in inflationary expectations, reduction of the fiscal deficit and the elimination of remaining interest controls and rigidities in financial markets.
Agriculture1.14 The century ended with the countrys foodgrains output crossing 200 million tonnes. Foodgrains production in 1998-99 was 203 million tonnes (Table 1.1) . The country has also emerged as a marginal exporter (2 to 4 million tonnes) of foodgrains. 1.15 Even though 1999 was the twelfth successive normal monsoon year and the countrywide seasonal rainfall was 96 per cent of long-term average, some states (Gujarat, Haryana, Kerala, Rajasthan, Tamil Nadu etc.) received lower than normal rainfall. The volatility in agricultural production is therefore likely to persist. The 1998-99 output level is unlikely to be achieved in 1999-2000 because of inadequate or erratic rainfall in some states. Production of pulses this year is expected to be 13.5 million tonnes, a decrease of 1.3 million tonnes over last year. Higher output of rice in 1999-2000 is unlikely to offset the decline in production of coarse cereals and wheat. Hence estimated food-grains output of 199.1 million tonnes in 1999-2000 could be lower by about 4 million tonnes, representing a decrease of 1.9 per cent over 1998-99. However, the good rains in late January and early February could lead to a better rabi production and thus raise total foodgrains output in 1999-2000 to a higher level than presently estimated. 1.16 With a very good sugarcane crop in 1999-2000, production is likely to be much higher than previous year. Sugar output is therefore likely to attain a new peak of 16.5 million tonnes. The oilseeds production is expected to be 21.6 million tonnes as compared to 25.2 million tonnes produced last year. The cotton production at 12.1 million bales is likely to be about the same as last year. In all other crops, particularly vegetables and fruits, the country has fared well this year. This is reflected in their low prices during the year. Because of the setback in oilseeds, pulses and coarse cereals, the GDP from agriculture and allied sectors is expected to grow by only 0.8 per cent in 1999-2000. 1.17 Real private investment (GCF) in agriculture has been rising over the nineties. From Rs. 9056 crore in 1993-94 it has risen to Rs. 12581 crore by 1998-99 (1993-94 prices). Public investment in agriculture has, however, declined during the same period so that the growth in total investment is only 21.7 per cent during this period. There is a need to shift the emphasis of public support for agriculture from subsidies to investment in rural and agricultural infrastructure and effective research and extension. 1.18 In agriculture a major initiative in crop insurance called National Agricultural Insurance Scheme was introduced in late 1999 which would cover all farmers and all food crops, oilseeds, horticultural and commercial crops. Incentives given in the budget for agriculture and rural development included :
lCold chain for agricultural produce set up any where
in the country will be entitled to five years tax holiday and
30 per cent deduction from profit for the subsequent five years. Besides, a new credit linked subsidy scheme for
construction of cold storages and godowns was announced in the Budget.
l Increased funding for Watershed Development and Accelerated Irrigation Project Programme.
Industry1.19 Industrial growth (as per the Index of Industrial Production) has shown a firm recovery this year with 6.2 per cent growth in April-December 1999, as compared to only 3.7 per cent in April-December 1998 (Table 1.1) . The cyclical downturn in industrial growth, which started in 1996-97, showed some signs of recovery in 1997-98. This was however prematurely aborted by political uncertainty followed by the twin effects of the Asian crisis, (including its aftermath of the Russian and Brazilian contagion) and the post Pokhran sanctions. It reached its nadir in 1998-99 with a growth rate of 4 per cent. Underlying the cycle in industrial growth is a manufacturing growth cycle, which also reached its lowest point of 4.3 per cent in 1998-99. Manufacturing growth this year at 6.7 per cent during April-December 1999 was 1.7 times the 3.9 per cent witnessed in the corresponding period of last year. The improved performance of the electricity sector also contributed to the industrial recovery. 1.20 The broad-based nature of the recovery is apparent from the use-based classification. Basic goods, intermediate goods, and consumer goods have all shown an up turn in growth. During April-December 1999 (April-December 1998) their growth rates were 5.1 per cent (1.9 per cent), 8.7 per cent (5.2 per cent) and 4.9 per cent (2 per cent) respectively. Within the consumer goods sector growth has recovered in both non-durable and durable sub sectors, to 2.9 per cent (from 1.6 per cent) and 11.9 (from 3.8 per cent) respectively. Though the sharpest recovery has been in basic and consumer goods neither of these have yet attained the growth rate attained in 1997-98. This indicates the scope for continued recovery. The cyclical nature of the downturn has been most closely reflected in the consumer durable sector. The sharp recovery to 11.9 per cent growth for April-December 1999, well above the 7.8 per cent growth rate for 1997-98 is therefore encouraging. 1.21 Capital goods production has in contrast followed a different growth pattern than for overall manufacturing. The growth rate of 6.6 per cent for April-December 1999 is lower than the 11.3 per cent recorded last year when it remained immune to the overall downturn. The decline in imports of capital goods, which started in 1996-97, has further accelerated in 1999. Imports of capital goods during April-November 1999 were about 30 per cent lower than their US $ value in April-November 1998. This followed three years of declining imports. The proportion of imported capital goods in the total investment (machinery & equipment) has therefore declined sharply since 1995-96. For the same reason, investment in machinery & equipment has grown slower than the IIP for capital goods, which measures domestic production. 1.22 Non-metallic mineral products, machinery & equipment, wool, leather, paper and basic chemicals are some of the industries growing at more than 10 per cent in the current year. Six core industries (i.e. electricity, crude oil, refinery, coal, steel, and cement), having a weight of 26.7 per cent in overall IIP, grew at 8.2 per cent in April-December 1999, as compared to 2.8 per cent in April-December 1998. The cement sector has recovered from the slowdown, with a sharp rise in production by 15.9 per cent. The growth in oil sector improved with refinery throughout showing a high positive growth of 21.9 per cent in April-December 1999. Finished steel has recorded significant improvement in production (Table 1.6) . 1.23 The autonomous slow-down in consumption seen last year appears to have been reversed. All the potential negative factors identified last year have been reversed. A good harvest and record production of food grains in 1998-99, resulted in consumer rebound through higher rural incomes and consequent greater demand for industrial products. Strong revival of capital markets, as reflected by the bullish trends in the stock exchanges has put the wealth effect into positive gear. The introduction of a new regulatory regime for NBFCs in 1998-99 has gradually restored this market to health. The stronger NBFCs, which have met the new prudential norms, have resumed their consumer credit activities, thus contributing to recovery. The elimination of domestic political uncertainty and reduction of international economic uncertainty will also bolster confidence, demand and investment. There is also enhanced overseas demand for industrial products due to strong pick-up of exports, arising from higher world import demand and revival in East Asian economies. 1.24 The far-reaching indirect tax reforms introduced in the 1999-2000 budget have the potential for promoting efficient industrial growth and productivity change (Box 1.1) . Recognising this potential, industry and capital markets responded positively. Among the important indirect tax reforms from this perspective were,
Infrastructure1.28 Infrastructure performance has improved substantially during 1999-2000. Electricity production increased by 7.4 per cent in April-December 1999 compared to 7 per cent in the corresponding periods of 1998 (Table 1.6) . The turn-around was due to a significant acceleration of the growth rate in thermal power generation to 9.7 per cent for April-December 1999 from 5.2 per cent in the corresponding period of 1998. The 2.2 per cent fall in hydel generation had a dampening effect on total generation. The thermal plant load factor has also improved to 65.1 per cent in April-November 1999 from 61.6 per cent in April-November 1998. Financial performance of the State Electricity Boards however continued to deteriorate with all financial parameters such as losses & subsidies worsening. 1.29 The telecommunications sector continued its fast growth. New telephone connections provided (Direct Exchange Lines) increased by 33.4 per cent in April-December 1999 compared to 26.1 per cent in April-December 1998 (Table 1.6) . This was faster than the growth rate of 27.1 per cent in 1997-98. Revenue earning goods traffic on railways showed a sharp upturn of 8 per cent in April-December, 1999 after having fallen by 2 per cent in 1998-99. Cargo handled at major ports showed a similar turn around with a growth of 9.2 per cent in April-December, 1999, compared to zero growth in 1998-99. 1.30 Reforms relating to the infrastructure sector included the following :
Money and Prices1.34 Financial year 1999-2000 was characterised by low inflation and a comfortable supply position of most items of daily consumption. The downtrend in the annual rate of inflation, which began in the middle of 1998-99 continued in 1999-2000. Inflation touched a record eighteen-year low of 2.0 per cent at the end of July 1999. This downtrend was maintained through November and December, except for the 40 per cent increase in diesel prices in October which nudged the annual inflation rate close to the 3 per cent level. The annual inflation (point to point) for the week ending January 29, 2000 is 2.9 per cent, while the 52 week average rate for this period was 3.3 per cent. 1.35 The Wholesale Price Index (WPI) of all commodities increased by 3.3 per cent during the first 44 weeks of the current financial year. Amongst the sub-sectors, WPI of primary articles increased by 3.2 per cent, while the WPI of manufactured products rose by only 1.4 per cent. The WPI of the fuel group however increased sharply by 12.2 per cent. This was largely due to the 40 per cent hike in diesel prices announced by the Government on October 6, 1999 necessitated by near doubling of international prices of crude oil during 1998. 1.36 Retail prices as reflected in the most commonly used CPI (IW) registered the lowest ever inflation rate recorded so far under the current CPI (IW) series with base 1982. In fact, the index did not register any movement for the month of November 1999 over the corresponding month last year, probably one of the rare times in history of CPI (IW) series. In December it was still at a low of 0.5 per cent. 1.37 Structural changes in the Indian economy are beginning to have an effect on the historically substantial gap between Indian and world inflation. The most important factor has been de-control in the manufacturing sector covering both domestic (prices, production, investment) and international (import, export) aspects. Along with tariff reduction over the last decade, these policy changes have narrowed the inflation differential between domestic and international inflation. As a result average inflation as measured by the WPI has been about 6 per cent during 1995-96 to 1999-2000. With the removal of the remaining quantitative restrictions on imports by April 2001 the gap will tend to narrow down further. 1.38 The sharp fall in inflation during calendar year 1999 has resulted in a sharp rise in real interest rates given the still substantial segmentation and rigidities in the markets. Though a similar episode occurred in 1997 the current episode appears different. In 1997 inflation as measured by the WPI remained below 5 per cent for only 8 months. In 1999 the current (monthly) inflation has already remained below 5 per cent continuously for 11 months and below 4 per cent for 8 months. Continuance of high real interest rates suggests that expectation formation mechanisms based on historical experience have not fully taken account of the structural effects of economic liberalisation on the inflationary process. 1.39 Broad money (M3) growth was 16.6 percent (annual point to point) on January 14, 2000. Growth of M3 during the financial year till January 14, 2000 at 12 per cent was lower than the 13.7 per cent in the corresponding period of last year. Reserve money growth during this period was negative as against an increase of 10.7 per cent in the corresponding period of the previous financial year. The negative growth of reserve money was due to the much lower growth in net RBI credit to Government, which grew by only 1.3 per cent till January 14, 2000 compared to 13.4 percent in the corresponding period of 1998-99. The decline in RBI credit to the commercial sector and slower growth in net foreign exchange assets also contributed to negative growth in reserve money. The higher money multiplier reflected the impact of cash reserve ratio (CRR) reduction to 10 percent in May 1999 and to 9 percent in November 1999. 1.40 The fact that inflation has been moderate during the year despite increased supply of money suggests that demand for money has gone up. It is possible that precautionary demand for money increased sharply during 1998-99 because of heightened perception of uncertainty. As the uncertainty persisted during the first half of 1999-2000 and only got resolved in the second half, any such precautionary demand effect will only start weakening towards the end of 1999-2000. 1.41 The growth in non-food credit has picked up in the second quarter in response to increase in demand for credit arising from acceleration in industrial growth. During the financial year upto January 14, 2000, non-food credit had grown by 10.6 per cent, as against 7.2 per cent in the corresponding period of the previous year. Inclusive of investment, the flow of funds from banks during this period increased by 11.6 percent as against 10.0 percent in the corresponding period of last year. Net bank credit to Government increased by only 14.1 percent till January 14, 2000 in contrast to 15.9 percent in the corresponding period of the previous year. 1.42 Interest rate deregulation measures included permission to Banks :
Fiscal Developments1.43 The 1999-2000 Budget was formulated against the backdrop of continuing global economic turbulence, fiscal slippage in 1998-99, weak performance of industrial and export sectors, and post-Pokhran economic sanctions. The constellation of adverse factors strained Central Government finances during 1998-99. The gross fiscal deficit (GFD) rose from 4.5 per cent of GDP in 1998-99(RE) to 5 per cent (provisional un-audited for 1998-99). 1.44 The 1999-2000 Budget indicated a medium-term fiscal correction target of eliminating the revenue deficit and reducing the fiscal deficit to below 2 per cent of GDP in four years. Given the committed nature of certain Government expenditures it is not easy to reduce them in the short run. An Expenditure Commission is to be set up to review the entire gamut of expenditures from an overall perspective, free of departmental interests. To promote transparency and curb the growth of contingent liabilities, the budget constituted a Guarantee Redemption Fund with an initial corpus of Rs.50 crore. State Governments would also be encouraged to set up similar funds. 1.45 The Budget for 1999-2000, switched over to a new accounting practice from April 1, 1999 whereby States share in small savings will be credited to a "National Small Savings Fund" under the Public Account and loans to States made from it. The fiscal deficit under this system will be 4.1 per cent of GDP in 1999-2000 as against 5.4 per cent under the old system. Revenue deficit, which is small savings transactions neutral, is budgeted at 2.8 per cent of GDP. 1.46 The primary deficit (fiscal deficit net of interest payments), a better indicator of the current fiscal stance of the Government, is budgeted to improve from 0.6 per cent of GDP in 1998-99 to -0.4 per cent of GDP in 1999-2000 (Table 1.7) . 1.47 Revenue receipts (net to Centre) are budgeted to grow by 21.5 per cent in 1999-2000, as a result of a 25.9 per cent growth in the tax revenue. A ten per cent surcharge was imposed on corporate tax and on all other categories of assesses (except non-residents and those residents in 10 per cent slab). Also a ten per cent surcharge was imposed on basic customs duty (excluding certain categories). Long-term capital gains tax for resident Indians on shares and securities was, however, reduced to 10 per cent (from 20 per cent). Individual income from mutual funds was made tax-free subject to a final withholding (or dividend) tax of 10 per cent. The latter was, however, exempted for open-ended equity-oriented schemes with 50 per cent or more investment in equity. 1.48 The intention to curb expenditure growth is reflected in a budgeted growth of 11.3 per cent in total and 9.6 per cent in revenue expenditure (over the provisional un-audited data for 1998-99). This compares with a 1998-99 growth rate of 17.9 and 19.9 per cent in total and revenue expenditures respectively. In contrast, capital expenditure is budgeted to increase by about 21 per cent in 1999-2000. Fiscal Results in 1999 1.49 The fiscal parameters for the nine months of the current fiscal year reveal a worrisome trend. Revenue receipts have increased by 15.4 per cent in April-December, 1999 as compared to growth of 4.7 per cent in same period of last year. Other receipts (mainly dis-investment receipts) were Rs. 1383 crore only against a budgeted target of Rs. 10000 crore. Total expenditure during this period of the current fiscal year has grown by 17.8 per cent. The borrowings and other liabilities have shown a high growth of about 21 per cent over the comparable level achieved in the same period of the last year. 1.50 The data available for gross collections from major direct and indirect taxes for the first nine months (April-December, 1999) of the current year show a recovery in indirect tax collections. Collections from personal income tax and corporation tax increased by 15.3 per cent and from excise & custom duties by 19 per cent during AprilDecember 1999. This compares with an increase of only 1.9 per cent in the latter during April-December 1998. Tax Reform 1.51 The 1999-2000 Budget undertook a major overhaul of indirect taxes by reducing the multiplicity of rates, rationalising the rate structure and drastically curtailing the scope for discretion by abolishing the power to grant ad hoc duty exemptions. Budget also signalled governments intention to move towards a single rate, full-fledged VAT in the near future and to phase down customs duty to Asian levels in five years. The former was followed up by an agreement among all states to move to a VAT by April 2001. Excise tax reform involved reduction of eleven major ad-valorem duty rates to three, namely, a central rate of 16 per cent, a merit rate of 8 per cent and a demerit rate of 24 per cent. The cap on MODVAT credit of 95 per cent of the admissible amount was lifted and restored to 100 per cent. The excise tax on capital goods was brought to the central rate of 16 per cent (from 13%). An Authority for Advance Rulings for Excise and Customs was set up. This will not only inject greater transparency but also provide binding rules, which will go a long way in helping intending investors about their duty liability in advance. 1.52 Reduction of the peak protective customs duty resumed after a hiatus of two years, with a reduction of the peak tariff from 45 per cent to 40 per cent. The seven major ad-valorem rates of basic customs duty were winnowed to five (5%, 15%, 25%, 35% and 40%). To reduce dispersion a basic duty of 5 per cent was imposed on a number of commodities (including project imports) which earlier enjoyed duty exemption (but were exempted from the 4 per cent special additional duty). This will also provide some minimal protection to these items. 1.53 The pass-through provisions for Venture Capital Funds and Venture Capital Company were improved. Stock options and Sweat equity offered by management to employees of sunrise sectors, are to be taxed as perquisite at the time of exercise of option and later as capital gains at the time of sale of security. The existing provisions relating to amalgamation of companies were rationalised by relaxing the existing conditions for carry forward and set off of accumulated losses and unabsorbed depreciation. The new provisions make de-merger of companies tax-neutral. The profits and gains arising from sale of a running business is to be taxed as capital gains. With a view to expand the tax base, "One-by-Six" criteria introduced in the 1998-99 budget for identifying potential tax assessees was extended to 19 more cities (from 35) having population of more than 5 lakh. 1.54 Furthermore major decisions were agreed in November 1999 to harmonize State sales tax system and move towards VAT. In addition, the Central Government supported fiscal reforms by States through a special facility.
Financial DevelopmentsDevelopments 1.55 Trends in disbursement of development financial institutions (DFIs) seem to reflect the investment slowdown in corporate industry. Disbursements grew by only 11.8 per cent during April-December 1999 compared to a growth of 14 per cent in April-December 1998. The picture is reversed if we include the Investment Institutions. Disbursements by All-India Financial Institutions (AIFIs) increased by 17.2 per cent during April-December 1999 as against 13.6 per cent during the corresponding period of 1998. Growth of Sanctions by DFIs has decelerated to 9.7 per cent in April-December 1999 from 27.5 per cent in April-December 1998, while that of AIFIs has decelerated to 15.5 per cent from 26 percent in the corresponding period. 1.56 Despite the industrial slowdown in the last few years, fears of sharp deterioration of non-performing asset (NPAs) in 1998-99 have not materialised. Net NPAs of Scheduled Commercial Banks declined marginally from 3.0 percent of their total assets on March 31,1998 to 2.9 per cent on March 31,1999. This was due to a decline of net NPAs of public sector banks from 3.3 percent to 3.1 percent and of foreign banks from 1 percent to 0.8 percent. The net NPAs of private banks, however, increased from 2.3 per cent to 2.8 per cent. 1.57 The stock market started picking up in January 1999, even before the Budget. It was strongly boosted by the Budget. This reflected increasing confidence in the recovery in industrial growth, which started in the last quarter of 1998-1999, and the policies and provisions in the budget. Despite the political uncertainty created by the dissolution of Parliament and the usual market fluctuations, stock prices have maintained a clear uptrend in 1999. The phenomenal spurt in Information Technology stocks witnessed in international markets was mirrored in the Indian market and contributed greatly to sustaining the rising trend. Market improvements such as the expansion of dematerialised scrips to 200 and the high proportion of deliveries in this form (90 %) has contributed to the rise. Primary issues have also started recovering, with a growth of 46 per cent in April-December 1999 over the corresponding period of last year. 1.58 During April-December, 1999, gross inflows into Mutual Funds were Rs.35915 crore as against Rs.16,288 crore in April-December 1998. Net inflows into mutual funds amounted to Rs.12194 crore over the same period as against an outflow of Rs.950 crore during the whole of 1998-99. Sector funds emerged for the first time, covering sectors such as information technology, pharmaceuticals, and fast moving consumer goods. Dedicated Gilt Funds with 100 percent investment in Government securities were introduced, increasing the accessibility of the gilt market to small investors. Reforms 1.59 The Insurance Regulatory and Development Authority Act 1999 was passed by Parliament. This is a major milestone in liberalisation as it opens the way to private entry into the insurance business, which has been a government monopoly for decades. It also provides statutory backing to the Insurance Regulatory and Development Authority. Under this act foreign equity will be restricted to 26 per cent. 1.60 An ordinance was issued to amend the Recovery of Dues to the Banks and Financial Institutions Act, so as to strengthen the provisions for recovery of dues owed to them. A bill to amend the SIDBI Act 1989 was passed by the Lok Sabha. This bill proposes to de-link SIDBI from IDBI for greater functional autonomy and flexibility in operations. It also provides for enhancement of SIDBIs authorised capital. 1.61 Prudential norms for banks were strengthened by requiring a risk weight of 2.5 per cent in all investments in approved securities (including securities outside the SLR), with effect from the year ending March 31, 2001. 1.62 Measures of de-control in credit and money markets included the following :
Balance of Payments1.64 The East Asian crisis, which loomed as a large black cloud over the world at the beginning of 1999, seemed to disappear as quickly and unexpectedly as it had arrived. Its after effects, in terms of negative and positive lessons, are likely to linger for some time. The affected countries (with one exception) recovered as quickly as they had collapsed replicating the V shaped pattern seen in the earlier Mexican crisis. This recovery contributed to the recovery of world output and trade volumes in 1999. Output growth accelerated from 1.9 per cent in 1998 to 2.6 per cent in 1999, while world trade volume growth accelerated from 4.2 per cent in 1998 to 5 per cent in 1999. Even though global oil prices increased by 37.8 per cent in 1999 reversing the fall of 31.9 per cent in 1998, other traded goods prices continued to fall. Unit value indices of manufactured exports (G5) declined by 0.6% in 1999 following a decline of 3.9 per cent in the previous year. Non-fuel primary commodity prices declined by another 11.2 per cent in 1999 after a fall of 15.7 per cent in 1998. All these are however projected to show a growth of 2.5 to 2.8 per cent in 2000. Current Account Deficit 1.65 The deficit in the current account of the balance of payments declined significantly to $ 4.0 billion in 1998-99 from $5.5 billion in 1997-98. This current account deficit was only 1 per cent of GDP in 1998-99. With the sharp increase in oil prices, the current account deficit is expected to widen to between 1.6 to 1.8 per cent of GDP in 1999-2000. Total net capital inflows had declined by about $1.5 billion in 1998-99 largely because of the sharp drop of $ 148 billion in net private capital flows to emerging markets between 1996 and 1998. Though India was largely immune from the direct effects of the Asian crisis, the uncertainty created by post-Pokhran sanctions reduced this immunity. Capital flows have recovered with the decline in such uncertainty, as reflected in the reversal in portfolio flows from negative to positive. As private capital flows to emerging markets remain at reduced levels ($ 68 billion in 1999) there is still some continuing impact, with FDI inflows declining in 1999-2000. External Commercial Borrowing is sharply down because of lower demand from corporations. The net effect is, however, an increase of total net capital inflows to $ 4.2 billion in April-September 1999, from $ 3.1 billion in the first half of 1998-99 (Table 1.8) . Trade Deficit 1.66 The $ 1.5 billion decline in the current account deficit in 1998-99 was driven by an even larger ($ 2.3 billion) decline in the trade deficit. The decline in payments on account of imports by 7.1 per cent far exceeded the 3.9 per cent decline in receipts on account of exports. The most important contributor to the import decline was oil, driven largely by sharply lower prices. With the dramatic reversal in oil prices, the payments on account of oil imports have already jumped by 53.3 per cent in April-September 1999 (over April-September 1998). As a result total import payments have risen by 2.7 per cent during this period. The recovery in growth of export receipts, at 7.8 per cent, has however been robust, with the result that the trade deficit has narrowed down by about $ 600 million during this period (over corresponding period of last year). 1.67 The sharp rise in world oil prices has also led to a substantial increase in the Oil Pool Account deficit, despite the increase in diesel prices in October, 1999. 1.68 From an international comparative perspective, the export performance of India in 1998 (decline of about 4 per cent in US $ value) was worse than Chinas (0.4%) and the Worlds
Social Sectors1.79 The Presidents address to the Parliament on October 25, 1999 has spelt out the governments strategy and policy approach to employment generation and social development. This policy is presaged on rapid and multi-sectoral growth through a bold strategy of economic reforms. The latter will be based on a triad in which the Government provides a strong policy and regulatory leadership; the private sector brings the dynamism and efficiency of the competitive environment; and local democratic institutions and the civil society brings enthusiastic participation by the people. 1.80 Elements of the social policy include :
Issues and Priorities1.85 More effective management of public finances continues to be the central challenge facing all levels of government in India. In some ways the challenge has become more daunting in recent years pursuant to the sharp increase in government wage bills resulting from the Fifth Pay Commission. The gross fiscal deficit of the Centre and State Governments together, which reflects the net borrowing requirements of government, had declined from 9.2% of GDP in 1991 to 6.2% in 1996-97. In recent years it has climbed back up to 8.5% in 1998-99 (RE) and is expected to rise further in the present year. The adverse effects of large fiscal and revenue deficits on virtually every important dimension of macro-economic performance are well known. They range from low savings and investment, high real interest rates and reduced growth, to adverse pressure on inflation, financial markets and the external sector. Furthermore, the continuous series of large deficits lead to inexorably mounting interest payments, leaving a declining share of government expenditure available for essential functions such as defence, law and order, social services and public investment in infrastructure. The recently published estimates of a significant decline in domestic savings and investment in 1998-99 is primarily traceable to burgeoning revenue deficits of Central and State Governments. Similarly, the high level of real interest rates prevailing in recent times is largely due to high fiscal deficits. 1.86 Quite clearly, the prospects for accelerating economic growth depend crucially on the success in managing the fiscal challenge confronting the economy. Equally clearly, as long experience has shown, the challenge can only be surmounted through hard decisions on many fronts. While the specific issues and remedies differ between Central and State Governments and across State Governments, there are several common themes for an effective strategy. They include: a redefinition and narrowing of government responsibilities to those functions that only government can discharge effectively, with a view to down-sizing government; systematic efforts to reduce subsidies by targetting them to the poorest segments of society; a vigorous drive to divest commercial undertakings such as power utilities and transport undertakings; a concerted programme to deploy user charges for economic services rendered by government; systematic induction of information technology tools and modern management practices to enhance efficiency of governance; resource generation through transparent sale of under-utilised public properties such as land; and, above all, a determined political commitment to truly effective expenditure management. 1.87 Many of our administrative practices and methods have not changed since colonial times. We need to introduce urgently modern management practices in departments which provide well-defined services such as Posts or have well defined objectives like tax collection. The social and economic returns to public investment and expenditure can be greatly enhanced through wider application of techniques like programme evaluation and review technique (PERT) and critical path method (CPM), which became common in developed countries several decades ago but remain under-utilised in our public sector. The availability of relatively economical information technology tools provides new opportunities to reap gains from public expenditure through application of modern management information systems and practices. 1.88 A medium-term programme of fiscal consolidation will also entail systematic efforts to reverse recent declines in the ratio of tax revenues to GDP. There has been considerable progress with tax reform at the Central Government level in the 1990s. Recent agreements by States to harmonise their sales tax systems and move towards VAT in a time bound manner also augur well. However, tax reform cannot and should not be synonymous with reductions in tax to GDP ratios. Sound tax reforms entail effective broadening of the tax base at all levels of government, including through checking evasion and avoidance. 1.89 Several countries have experimented with fiscal responsibility legislation as an instrumentality to assist fiscal consolidation. We should also consider this option. 1.90 Successful management of public finances is closely linked to institutional reforms necessary to nurture modern economic growth. Effective functioning of the market economy requires legal and administrative structures which ensure the basics of law and order and provide for effective implementation of economic laws, such as law of contract, which encourage growth of the market economy and the creation of income and wealth. Many people feel that our legal system is creaking, if not collapsing, under the burden of too many laws and too little enforcement. Experts have identified several economic laws as redundant. A start should be made by abolishing these redundant laws. A major effort is also necessary to modernise, integrate and simplify the rest of the laws, regulations and associated rules which govern and influence economic transactions. 1.91 The delays in our legal system are also legendary. In many economic cases decades pass before final resolution, with enormous loss of time, effort and resources. Observers have noted that government or government agencies are often part of the problem of delays in our legal system. A National Law School study estimated that government was plaintiff, defendant, appellant or respondent to appeals in 60 per cent of all the suits filed. Most government cases were in five areas of taxation, credit, rent control, urban land ceiling and labour relations. Clearly, repeal or reform of laws and regulations in these areas could help greatly. 1.92 Laws and institutions constitute the "software" of the state and society. Their reform and effective operation will be crucially important for successful economic performance in the new millennium. 1.93 The restoration of fiscal health, especially of State Governments, is also a critical pre-requisite for more effective implementation of policies and programmes for primary education, public health care, other social services, rural infrastructure and programmes for alleviation of poverty and employment creation. The main operational responsibility for implementing these programmes lies with State Governments. At present, several State Governments are struggling to find resources to meet their wage bills and have little left over for economic and social development. The fiscal strategy outlined earlier is essential for the reduction of deficits and, debt service burdens and the release of resources for commitment to areas which really matter for social and economic uplift. After more than 50 years of independence our achievements in regard to life expectancy, literacy, health, and poverty alleviation compare unfavourably with many other developing countries. The record is very uneven across States. Furthermore, there are disquieting trends in regional disparities with respect to overall economic development, which need to be addressed by a combination of Central Government policies and more determined efforts by lagging States to avail of opportunities for faster development. Effective public programmes implemented through local participation and accountability must become the norm for future progress. 1.94 Faster social development and reduction of regional disparities is also predicated on more rapid, sustainable and broad-based economic growth, especially in rural areas. State and local governments must accord high priority to rural infrastructure, including minor irrigation, soil conservation and rural roads. The massive subsidies presently sunk in state road transport undertakings should be released for improving the network of State highways and rural feeder roads. The goal must be to connect every village to the State highway system through all weather roads. 1.95 Similarly, effective public programmes for irrigation, agricultural research and rural credit are an essential ingredient for more rapid growth of agriculture and allied activities. But existing policies must also be reformed to encourage more private investment and participation in many of these areas, including irrigation, storage and transportation. For example, both experience and studies suggest that greater reliance on water user associations can bring about substantial improvement in the efficiency and quality of supply of irrigation water. Furthermore, they could facilitate a faster increase in water charges to economic levels, if such associations have greater responsibility for collection of user charges and maintenance of irrigation distribution networks. 1.96 More rapid development of agriculture also requires continued reform of policies for agricultural trade, pricing and marketing. Removal of remaining controls on agricultural exports should accompany the removal of import controls already announced over the next 15 months so that farmers can benefit from integration with world markets. Forward markets should be encouraged in all agricultural commodities whenever regulatory requirements are met. The plethora of State level laws, regulations and rules, which constrain private investment and participation in agricultural marketing, storage and transportation need urgent review. 1.97 Infrastructure, including power, roads, ports, telecommunications and civil aviation, continues to be a serious constraint on the countrys economic growth potential. Recent years have witnessed substantial progress from the old paradigm of public monopoly provision of infrastructure services to the new paradigm which also encourages private investment and provision of infrastructure services within a stable, predictable and commercially viable regulatory framework. But we still have a long way to go. The unsustainable under pricing of electric power has to be phased out sooner rather than later. The reform of the State Electricity Boards must be accelerated. No amount of guarantees and counter-guarantees can substitute for the systematic application of commercial principles in the generation, transmission and distribution of power. While regulatory authorities have been established in most infrastructure sectors, their ambit and independence often need to be strengthened. The key objective of a modern regulatory system should be to promote competition to the greatest extent possible and to regulate the "natural monopoly" elements where competition is not feasible. Where "natural monopoly" elements exist (such as local distribution networks for electricity and telecommunications, roads, rail lines and canals), the goal must be to assure non-discriminatory access to service providers and cost-based pricing. For the rest, the regulator should promote competition by freeing entry and exit and eliminate artificial barriers between different types of services. 1.98 The Information Technology (IT) revolution sweeping across the world provides tremendous opportunities for India, especially in view of the proven successes of many of our IT entrepreneurs and specialists. But our early lead in this area will not last if we do not move swiftly to banish existing bottlenecks to further growth and development of this sector. This includes rapid progress in telecommunications (without which the information technology revolution will remain confined to a few pockets in the country), strong encouragement of venture capital finance and a liberal policy approach to laws and regulations for electronic commerce. 1.99 The early success of our IT industry owes a great deal to the relative absence of government controls and the availability of highly skilled manpower. If this success has to be extended to other knowledge-based industries, such as pharmaceuticals and biotechnology, we must work to remove pricing, financial and administrative controls and bottlenecks in these sectors and encourage generation of educated manpower. 1.100 Given the severe fiscal constraints on the government, private entry into higher education will be critical to ensure that supply keeps pace with demand. Dedicated, high quality, long-term private investment in higher education and skill generation will only occur if there is rational and stable policy framework in place. Excessive controls and interference in private education institutions could encourage fly-by-night operators. There is an urgent need for developing a modern regulatory framework which focusses on development of standards and certification procedures, generates and disseminates information about quality of various higher education institutions and provides for independent rating and testing agencies. Other elements of this framework would include scholarships, student loans and tax incentives within a basic context of economic pricing of higher education services. Sustained growth of knowledge-based industries requires an expanding base of economically viable, quality education. 1.101 To sustain the on-going recovery in industry we must also look beyond the knowledge-based industries. The financial sector, especially banking, needs to be strengthened. Difficult decisions have to be taken in respect of problems of weak banks, structural rigidities of the banking system and continued problems with non-performing assets. The East Asian crisis has taught the world that there is no viable alternative to a strong domestic financial sector. Industrial dynamism also needs good industrial relations and flexible labour markets. Our laws in this area need urgent review and revision to promote greater employment in organised industry. Our small-scale industries have contributed greatly to the growth of our economy, employment and exports. But to meet the challenges of the future some of the existing policies need to be reframed to emphasize positive promotional programmes of credit supply, technological improvement and marketing assistance, while phasing out inefficient protectionist policies. 1.102 Since the crisis of 1991 there has been substantial and sustained reform in Indias external economic policies relating to foreign trade, investment, external debt and currency convertibility. We have reaped the rewards of such progress in the form of higher exports of goods and services (including software), higher foreign investment, greater inflows of technology, much lower exposure to foreign debt and the absence of currency crises and balance of payments difficulties. The relative ease with which our external sector has absorbed the doubling of our oil import bill this year testifies to the strength and resilience of this sector and our strategy of calibrated integration with world trade and financial markets. Confronted by the continuing challenges of globalisation the central lesson of the nineties is to persevere with the thrust of our economic reforms. This includes continued liberalisation of our foreign trade, reduction of customs tariffs, clear and decisive policies to encourage foreign direct investment, continued prudence on external debt, carefully calibrated expansion of convertibility on capital account and continued reliance on a market-determined exchange rate policy. 1.103 At the dawn of the new millennium, the world around us is changing fast. To sustain and accelerate the growth of our economy and employment, while ensuring low inflation, our economic policies must combine fiscal discipline with rapid economic reforms wherever necessary.