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Indian Economy

The economy of India is the fourth-largest in the world as measured by purchasing power parity (PPP), with a GDP of US $3.36 trillion. When measured in USD exchange-rate terms, it is the tenth largest in the world, with a GDP of US $691.87 billion (2004). India was the second fastest growing major economy in the world, with a GDP growth rate of 8.1% at the end of the first quarter of 2005–2006. However, India's huge population results in a relatively low per capita income of $3,100 at PPP. The country's economy is diverse and encompasses agriculture, handicrafts, industries and a multitude of services. Services are the major source of economic growth in India today, though two-thirds of the Indian workforce earn their livelihood directly or indirectly through agriculture. In recent times, India has also capitalised on its large number of highly educated people who are fluent in the English language to become a major exporter of software services, financial services and software engineers.

India has adhered to a socialist-inspired approach for most of its independent history, with strict government control over private sector participation, foreign trade, and foreign direct investment. Since the early 1990s, India has gradually opened up its markets through economic reforms by reducing government controls on foreign trade and investment. Privatization of public-owned industries and opening up of certain sectors to private and foreign players has proceeded slowly amid political debate.

The socio-economic problems India faces are a burgeoning population and lack of infrastructure, as well as growing inequality and unemployment. Poverty also remains a problem although it has seen a decrease of 10% since the 1980s.

Economic history of India 

India's economic history can be broadly compartmentalised into three eras, beginning with the pre-colonial period lasting up to the 17th century. The advent of British colonisation of the Indian subcontinent started the colonial period in the 17th century, which ended with the Indian independence in 1947. The third period is the post-independence period after 1947.


The citizens of the Indus Valley civilisation, a permanent and predominantly urban settlement that flourished between 2800 BC and 1800 BC practiced agriculture, domesticated animals, used uniform weights and measures, made tools and weapons, and traded with other cities. Evidence of well planned streets, a drainage system and water supply reveals their knowledge of urban planning, which included the world's first urban sanitation systems, and the existence of some form of municipal government.

Much of the population of the region constituting present-day India resided in villages,[1] whose economies were largely isolated and self-sustaining, with agriculture being the predominant occupation of the populace. It satisfied the food requirements of the village and also provided raw materials for hand-based industries like textile, food processing and crafts. Although many kingdoms and rulers issued coins, barter was still widely prevalent. Villages paid a portion of their agricultural produce as revenue, while its craftsmen received a part of the crops at harvest time for their services.


The colonial rule brought along an institutional environment that guaranteed property rights, ensured free trade, had fixed exchange rates, uniform currency system, metric weights and measures, open capital markets, created a well developed system of railways and telegraphs, a bureaucracy free from political interferences and a modern legal system. It also coincided with major changes in the world economy - industrialization, growth in trade and production, and new thinking on economic policies followed by states. By the end of the colonial rule, however, India inherited an economy, which was one of the poorest in the world and stagnant, with industrial development stalled, agriculture unable to feed a rapidly accelerating population, who were subject to frequent famines, had one of the world's lowest life expectancy, suffered from pervasive malnutrition and was largely illiterate.

An estimate by Cambridge historian Angus Madison reveals that, India's share of the world income, reduced from 22.6% in 1700, comparable to Europe's share of 23.3 %, to a low of 3.8% in 1952. While Indian leaders during the Independence struggle and left-nationalist economic historians have blamed the colonial rule for the dismal state of India's economy, a broader macroeconomic view of India during this period reveals that there were segments of both growth and decline, resulting from changes brought about by colonialism and a world that was moving towards industrialization and economic integration.


Indian economic policy after independence, influenced by the colonial experience (which was seen by Indian leaders as exploitative in nature), and by their exposure to Fabian socialism, became protectionist in nature, implementing a policy of import substitution, industrialisation, state intervention in labour and financial markets, a large public sector, overt regulation of business, and central planning. Jawaharlal Nehru, the first prime minister of India, along with the statistician Prasanta Chandra Mahalanobis, formulated and oversaw the economic policy of independent India. They expected favourable outcomes from this strategy since it involved both the public and private sectors and was based on direct and indirect state intervention instead of a Soviet-style central command system. The policy of concentrating simultaneously on capital and technology intensive heavy industry and subsidising hand based and low-skilled cottage industries was criticised by economist Milton Friedman, who thought it would not only waste both capital and labour, but also retard the development of smaller manufacturers.

India's low average growth rate up to 1980 was derisively referred to as the Hindu rate of growth, because of the contrasting high growth rates in other Asian countries, especially the East Asian Tigers. The economic reforms that surged economic growth in India after 1980 can be attributed to two stages of reforms. The pro-business reform of 1980 initiated by Indira Gandhi and carried on by Rajiv Gandhi, eased restrictions on capacity expansion for incumbents, removed price controls and reduced corporate taxes. The economic liberalization of 1991, initiated by then Indian prime minister P. V. Narasimha Rao and his finance minister Manmohan Singh in response to a macroeconomic crisis did away with the License Raj (investment, industrial and import licensing) and ended public sector monopoly in many sectors, thereby allowing automatic approval of foreign direct investment in many sectors. Since then, the overall direction of liberalization has remained the same, irrespective of the ruling party at the center, although no party has yet tried to take on powerful lobbies like the trade unions and farmers, or contentious issues like labour reforms and cutting down agricultural subsidies.

Government Intervention

State Planning

After independence, India opted to have a centrally planned economy to ensure an effective and equitable allocation of national resources for the purpose of balanced economic development. After liberalisation, the emergence of a market economy with a fast growing private sector, planning has become indicative, rather than prescriptive in nature. The process of formulation and direction of the Five-Year Plans is carried out by the Planning Commission, headed by the Prime Minister of India as its chairperson.

Mixed economy

India is a mixed economy combining features of both capitalist market economies and socialist command economies. Thus, there is a regulated private sector (the regulations have decreased since liberalization) and a public sector controlled almost entirely by the government. The public sector generally covers areas which are deemed too important or not profitable enough to leave to the instability of capitalistic markets. Thus such services as railways and postal system are carried out by the government.

Since independence, various phases have seen nationalisation of such areas as banking, thus bringing them into the public sector, on one hand, and privatisation of some of the Public Sector Undertakings during the liberalisation period on the other.

General budget

The Finance minister of India presents the annual union budget in the Parliament on the last working day of February. The budget has to be passed by the House before it can come into effect on April 1, the start of India's fiscal year. The Union budget is preceded by an economic survey, which is released on the eve of the budget and outlines the broad direction of the budget and the economic performance of the country for the outgoing financial year.

Currency System

The Rupee is the only legal tender accepted in the India and is also accepted as legal tender in neighbouring Nepal and Bhutan, the latter's currency value being pegged to the rupee.

The rupee is divided into 100 paise. The highest currency note printed is the 1000 rupee note, and the lowest denomination in circulation is the 10 p coin.

Exchange Rates

Under the fixed exchange rate system, the value of the rupee was linked to the British pound sterling till 1946 and after independence, 30% of India's foreign trade was to be determined in pound sterling. In 1975, as per the Floating exchange rate system, the value of the rupee was pegged to a basket of currencies and was tightly controlled by the Reserve Bank of India. In recent years its value has depreciated with respect to most currencies with the exception of the US dollar.

Since liberalisation, the rupee is fully convertible on trade and current account. The former has enabled Indian businessmen and workers to convert their earnings abroad into rupee at market rates, while the latter has removed all restrictions on foreign exchange for current business transactions as well as travel, education, medical expenses, etc., India has committed to gradually move towards full convertibility, albeit with some restrictions on capital accounts, in order to encourage two-way flow of capital and investment.

Major Sectors of Indian Economy


Agriculture and allied sectors like forestry, logging and fishing accounted for 25% of the GDP, employed 57% of the total workforce in 1999-2000 and despite a steady decline of its share in the GDP, is still the largest economic sector and plays a significant role in the overall socio-economic development of India. Yields per unit area of all crops have grown since 1950, due to the special emphasis placed on agriculture in the five-year plans and steady improvements in irrigation, technology, application of modern agricultural practices and provision of agricultural credit and subsidies since the green revolution. However, international comparisons reveal that the average yield in India is generally 30% to 50% of the highest average yield in the world.

Illiteracy, general socio-economic backwardness, slow progress in implementing land reforms and inadequate or inefficient finance and marketing services for farm produce. 
The average size of land holdings is very small (less than 20,000 m˛) and are subject to fragmentation, due to land ceiling acts and in some cases, family disputes. Such small holdings are often over-manned, resulting in disguised unemployment and low productivity of labour. 
Adoption of modern agricultural practices and use of technology is inadequate, hampered by ignorance of such practices, high costs and impracticality in the case of small land holdings. 
Irrigation facilities are inadequate, as revealed by the fact that only 53.6% of the land was irrigated in 2000-01 , which result in farmers still being dependent on rainfall, specifically the Monsoon season. A good monsoon results in a robust growth for the economy as a whole, while a poor monsoon leads to a sluggish growth. 


Concerted efforts at industrialisation by the government, aiming at self-sufficiency in production and protection from foreign competition, for nearly four decades since independence, have encouraged a broad industrial base, both in the public and private sectors. They together account for 28.4% of the GDP and employ 17% of the total workforce. Economic reforms bought foreign competition, led to privatisation of certain public sector firms, opened up sectors hitherto reserved for the public sector and the small scale sector and led to an expansion in the production of durable consumer goods.

Post-liberalisation, the Indian private sector, which was usually run by old family firms and required political connections to prosper was faced with foreign competition and the threat of cheap Chinese imports. It has, since handled the change by squeezing costs, revamping management, focusing on designing new products and relying on low labour costs and technology.


India has set up Special Economic Zones and software parks that offer tax benefits and better infrastructure to set up business. Pictured here is the Tidel Park in Chennai, one of the largest software parks in India.The service sector, providing employment to 23% of the work force, is the fastest growing sector, with a growth rate of 7.5% in 1991-2000 up from 4.5% in 1951-80. It has the largest share in the GDP, accounting for 48% in 2000 up from 15% in 1950. Business services (including information technology (IT) and IT enabled services), communication services, financial services, hotels and restaurants, community services and trade (distribution) services are among the fastest growing sectors contributing to one third of the total output of services in 2000. The growth in the service sector is attributed to increased specialisation, availability of a large population of highly-educated and fluent English-speaking workers on the supply side and on the demand side, increased demand from domestic consumers resulting from growth in personal incomes and from foreign consumers interested in India's service exports or those looking to outsource their operations. India's IT industry, despite contributing significantly to its balance of payments, accounted for only about 1% of the total GDP or 1/50th of the total services.

Banking and Finance

The Indian money market is classified into: the organised sector (comprising private, public and foreign owned commercial banks and cooperative banks, together known as scheduled banks); and the unorganised sector (comprising individual or family owned indigenous bankers or money lenders and non-banking financial companies (NBFCs)). The unorganised sector and microcredit are still preferred over traditional banks in rural and sub-urban areas, especially for non-productive purposes, like ceremonies and short duration loans.

Indira Gandhi nationalised 14 banks in 1969, followed by seven others in 1980 and made it mandatory for banks to provide 40% (since reduced to 10%) of their net credit to priority sectors like agriculture, small-scale industry, retail trade, small businesses, etc. to ensure that the banks fulfil their social and developmental goals. Since then, the number of bank branches have increased from 10,120 in 1969 to 98,910 in 2003 and the population covered by a branch decreased from 63,800 to 15,000 during the same period. The total deposits increased 32.6 times between 1971 to 1991 compared to 7 times between 1951 to 1971. Despite an increase of rural branches, from 1,860 or 22% of the total number of branches in 1969 to 32,270 or 48%, only 32,270 out of 5 lakh (500,000) villages are covered by a scheduled bank.

Since liberalisation, the government has approved significant banking reforms. While some of these relate to nationalised banks (like encouraging mergers, reducing government interference and increasing profitability and competitiveness), other reforms have opened up the banking and insurance sectors to private and foreign players.

External trade and investment

Global trade relations

Until the liberalisation of 1991, India was largely and intentionally isolated from the world markets in order to protect its fledging economy and achieve self-reliance. Foreign trade was subject to import tariffs, export taxes and quantitative restrictions, while foreign direct investment was restricted by upper limit equity participation, requirements on technology transfer, export obligations and government approvals, which were needed for nearly 60% of new FDI in the industrial sector. These restrictions ensured that FDI averaged only around $200 million annually between 1985-1991 and a large percentage of the capital flows consisted of foreign aid, commercial borrowing and deposits of non-resident Indians.

India's exports were stagnant for the first 15 years, due to the predominance of tea, jute and cotton manufactures, whose demand were generally inelastic. Imports in the same period consisted predominantly of machinery, equipment and raw materials due to the nascent industrialisation. Post-liberalisation, the value of India's international trade has become more broad based and gone up to Rs. 63,080,109 crores in 2003-04 from Rs.1,250 crores in 1950-51. India's major trading partners are China, United States, UAE, UK, Japan and the European Union.

India is a founder-member of General Agreement on Tariffs and Trade (GATT) since 1947 and its successor, the World Trade Organization since its inception. While participating actively in its general council meetings, India has been crucial in voicing the concerns of the developing world. For instance, India has continued its opposition to the inclusion of such matters as labour and environment issues and other non-tariff barriers into the WTO policies.

Balance of Payments

Since independence, India's balance of payments on current account has been negative for most of the years, owing to a larger share of imports vis-ŕ-vis exports. Since liberalisation, incidentally precipitated by a balance of payment crisis, India's exports have been consistently rising, covering 80.3% of India's imports in 2002-03, up from 66.2% in 1990-91. Although India is still a net importer, since 1996-1997, India's overall balance of payments (current account balance + capital account balance) has been positive, largely on account of increased foreign direct investment and deposits from non-resident Indians, which until then, was occasionally positive on account of external assistance and commercial borrowings. As a result, India's foreign currency reserves stood 141 billion USD as on 2005-2006.

India's reliance on external assistance and commercial borrowings has decreased since 1991-1992 and since 2002-2003, it has been repaying them. Declining interest rates and reduced borrowings have decreased India's debt service ratio to 14.1% in 2001-02 from 35.3% in 1990-91.

Reserve Bank of India

The Reserve Bank of India (RBI) is the central bank of India, and was established on April 1, 1935 in accordance with the provisions of the Reserve Bank of India Act, 1934. Since its inception, it has been headquartered in Mumbai. Though originally privately owned, RBI has been fully owned by the Government of India since nationalization in 1949.

RBI is governed by a central board (headed by a Governor) appointed by the Central Government. The current governor of RBI is Dr.Y.Venugopal Reddy (who succeeded Dr. Bimal Jalan on September 6, 2003). RBI has 22 regional offices across India.

The Reserve Bank of India was set up on the recommendations of the Hilton Young Commission. The commission submitted its report in the year 1926, though the bank was not set up for nine years.

Main objectives of RBI:

  • Monetary Authority: 
    • Formulates, implements and monitors the monetary policy. 
    • Objective: maintaining price stability and ensuring adequate flow of credit to productive sectors. 
  • Regulator and supervisor of the financial system: 
    • Prescribes broad parameters of banking operations within which the country's banking and financial system functions. 
    • Objective: maintain public confidence in the system, protect depositors' interest and provide cost-effective banking services to the public.
  •  Manager of Exchange Control: 
    • Manages the Foreign Exchange Management Act, 1999. 
    • Objective: to facilitate external trade and payment and promote orderly development and maintenance of foreign exchange market in India. 
  • Issuer of currency: 
    • Issues and exchanges or destroys currency and coins not fit for circulation. 
    • Objective: to give the public adequate quantity of supplies of currency notes and coins and in good quality. 
  • Developmental role 
    • Performs a wide range of promotional functions to support national objectives. 
  • Related Functions 
    • Banker to the Government: performs merchant banking function for the central and the state governments; also acts as their banker. 
    • Banker to banks: maintains banking accounts of all scheduled banks. 
    • Owner and operator of the depository (SGL) and exchange (NDS) for government bonds. 

There is now an international consensus about the need to focus the tasks of a central bank upon central banking. RBI is far out of touch with such a principle, owing to the sprawling mandate described above.

Bombay Stock Exchange Limited

The Stock Exchange, Mumbai; popularly called The Bombay Stock Exchange, or BSE) is located at Dalal Street, Mumbai. Established in 1875, it is the oldest stock exchange in Asia. There are around 3,500 Indian companies listed with the stock exchange, and has a significant trading volume. As of July 2005, the market capitalization of the BSE was about Rs. 20 trillion (US $ 466 billion). The BSE SENSEX (SENSitive indEX), also called the BSE 30, is a widely used market index in India and Asia. As of 2005, it is among the 5 biggest stock exchanges in the world in terms of transactions volume. Along with the NSE, the companies listed on the BSE have a combined market capitalization of US$ 125.5 billion.

History of Bombay Stock Exchange Limited

An informal group of 22 stockbrokers began trading under a banyan tree opposite the Town Hall of Bombay from the mid-1850s, each investing a (then) princely amount of Rupee 1. This banyan tree still stands in the Horniman Circle Park, Mumbai. The informal group of stockbrokers organized themselves as the The Native Share and Stockbrokers Association which, in 1875, was formally organized as the Bombay Stock Exchange (BSE).

In January 1899, the stock exchange moved into the Brokers’ Hall after it was inaugrated by James M Maclean. After the First World War, the BSE was shifted to an old building near the Town Hall. In 1928, the plot of land on which the BSE building now stands (at the intersection of Dalal Street, Bombay Samachar Marg and Hammam Street in downtown Mumbai) was acquired, and a building was constructed and occupied in 1930.

Premchand Roychand was a leading stockbroker of that time, and he assisted in setting out traditions, conventions, and procedures for the trading of stocks at Bombay Stock Exchange and they are still being followed.

Several stock broking firms in Mumbai were family run enterprises, and were named after the heads of the family. The following is the list of some of the initial members of the exchange, and who are still running their respective business.

In 1956, the Government of India recognized the Bombay Stock Exchange as the first stock exchange in the country under the Securities Contracts (Regulation) Act.

The BSE moved into its current premises - the Phiroze Jeejeebhoy Towers - in 1980. The Bombay Stock Exchange followed the familiar outcry system for stock trading up until 1995, when it was replaced by an electronic (eTrading) system. In 2005, the status of the exchange changed from an Association of Persons (AoP) to a full fledged corporation under the BSE (Corporatization and Demutualization) Scheme, 2005 (and its name was changed to The Bombay Stock Exchange Limited).

This article is licensed under GNU Free Documentation License. It uses material from the Wikipedia article "Economy of India"
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